It may not have the buzz factor of Miley Cyrus’ twerking escapade at the VMA awards, but Tobin’s Q has recently bubbled up as a popular metric of conversation among market watchers. A recent article in the Financial Times shined a spotlight on Tobin’s Q. And David Blitzer, chairman of the index committee at S&P Dow Jones Indices recently took a spin through Tobin’s Q in a blog post.
The financial metric developed by Nobel laureate James Tobin is a non-earnings driven way of divining if the markets are over or undervalued. It divides the stock market’s aggregate value by the aggregate replacement cost of the underlying assets. A ratio above 1.00 signals that the market value is more than the replacement cost of the underlying assets (read:overvalued) and below 1.00 is a signal that the market is undervalued.
The reason for the all the chatter of late is the fact that Tobin’s Q for the overall market has inched back over its pre-crisis high and was above 1.0 at the end of the first quarter. (The metric uses Federal Reserve data, thus the lag.)
Blitzer notes that the current reading is nowhere near the tech bubble high of nearly 1.8 but he also points out that the average reading over the past 60 years has been just shy of 0.74. If you believe in mean reversion, that suggests there’s room for stocks to reprice downward.
At YCharts you can also check the Tobin’s Q for individual stocks. Among the largest stocks in the S&P 500, only Chevron (CVX) has a current Tobin’s Q ratio below 1.0. The five largest S&P stocks:
But all those market cap big boys are relative values compared to the Tobin’s Q of some household names in the S&P 500 whose valuations seem to defy gravity.
Granted, no single metric should ever be used in isolation; but Tobin’s Q is worth adding to your financial research process. Both the absolute value and the trend line can paint a telling picture of a stock’s valuation.
Carla Fried, a senior contributing editor at ycharts.com, has covered investing for more than 25 years. Her work appears in The New York Times, Bloomberg.com and Money Magazine. She can be reached at firstname.lastname@example.org. Read the RIABiz profile of YCharts. You can also request a demonstration of YCharts Platinum.
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