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Is the stock market overvalued?

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Author Info

  • Ellen R. McGrattan
  • Edward C. Prescott

Abstract

The value of U.S. corporate equity in the first half of 2000 was close to 1.8 times U.S. gross national product (GNP). Some stock market analysts have argued that the market is overvalued at this level. We use a growth model with an explicit corporate sector and find that the market is correctly valued. In theory, the market value of equity plus debt liabilities should equal the value of productive assets plus debt assets. Since the net value of debt is currently low, the market value of equity should be approximately equal to the market value of productive assets. We find that the market value of productive assets, including both tangible and intangible assets and assets used outside the country by U.S. subsidiaries, is currently about 1.8 times GNP, the same as the market value of equity.

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Bibliographic Info

Article provided by Federal Reserve Bank of Minneapolis in its journal Quarterly Review.

Volume (Year): (2000)
Issue (Month): Fall ()
Pages: 20-40

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Handle: RePEc:fip:fedmqr:y:2000:i:fall:p:20-40:n:v.24no.4

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Keywords: Stock market;

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References

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  1. Annette Vissing-Jorgensen, 2000. "Towards an Explanation of Household Portfolio Choice Heterogeneity: Nonfinancial Income and Participation Cost Structures," Econometric Society World Congress 2000 Contributed Papers 1102, Econometric Society.
  2. Narayana R. Kocherlakota, 1995. "The equity premium: it's still a puzzle," Discussion Paper / Institute for Empirical Macroeconomics 102, Federal Reserve Bank of Minneapolis.
  3. Jermann, Urban J., 1998. "Asset pricing in production economies," Journal of Monetary Economics, Elsevier, vol. 41(2), pages 257-275, April.
  4. Stephen R. Bond & Jason G. Cummins, 2000. "The Stock Market and Investment in the New Economy: Some Tangible Facts and Intangible Fictions," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 31(1), pages 61-124.
  5. Cochrane, John H, 1991. " Production-Based Asset Pricing and the Link between Stock Returns and Economic Fluctuations," Journal of Finance, American Finance Association, vol. 46(1), pages 209-37, March.
  6. Miller, Merton H, 1977. "Debt and Taxes," Journal of Finance, American Finance Association, vol. 32(2), pages 261-75, May.
  7. R. Mehra & E. Prescott, 2010. "The equity premium: a puzzle," Levine's Working Paper Archive 1401, David K. Levine.
  8. Constantinides, G.M. & Donalson, J.B. & Mehra, R., 1997. "Junior Can't Borrow: A New Perspective on the Equity Premium Puzzle," Papers 97-24, Columbia - Graduate School of Business.
  9. repec:fth:calaec:21-98 is not listed on IDEAS
  10. Kurz, M. & Beltratti, A., 1996. "The Equity Premium Is No Puzzle," Papers 282, Banca Italia - Servizio di Studi.
  11. John H. Cochrane, 1988. "Production Based Asset Pricing," NBER Working Papers 2776, National Bureau of Economic Research, Inc.
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