Warren Buffett's favorite stocks gauge is flashing red, markets guru John Hussman says

• Warren Buffett's namesake gauge is sounding the alarm on stocks, John Hussman says.
• The Buffett Indicator is "above every extreme prior to late-2020," the markets guru posted on X.

Warren Buffett's go-to market gauge is ringing alarm bells for one of Wall Street's biggest bears.

The legendary stock picker and Berkshire Hathaway CEO once hailed the so-called Buffett Indicator, which takes the total market capitalization of all actively traded US stocks and divides it by the latest estimate of quarterly gross domestic product (GDP), as "probably the best single measure of where valuations stand at any given moment."

John Hussman, a veteran investor and financial historian, warned the yardstick has surged to worrying levels in a X post this week.

"Say what you will about Buffett's old favorite MCap/GDP - like most measures that are highly correlated with actual subsequent market returns, it's still above every extreme prior to late-2020," he said.

Hussman said he prefers dividing the stock market's total value by gross value added, another measure of economic output, but that metric was "just as elevated." Both measures aim to compare the total value of the US stock market to the size of the national economy.

Buffett wrote in a Fortune article in 2001 that when the indicator soared during the dot-com bubble, it was a "very strong warning signal" of an impending crash. He suggested that stocks would be cheap at a 70% or 80% reading, and offer good value at a 100%, but it would be "playing with fire" to buy when the gauge was around 200%.

Hussman's chart, pulled from the St. Louis Fed's FRED database, puts the Buffett Indicator at over 225%, well below its pandemic peak but higher than at any point prior to 2020. Taking the FT Wilshire 5000's market cap of about $43 trillion, and dividing it by the US government's advance estimate for third-quarter GDP of $27.62 trillion, gives a still lofty 157% reading.

Buffett's namesake gauge isn't flawless by any means. For one, it compares the stock market's current value with an estimate of a single quarter's economic output. GDP also excludes overseas income, whereas companies' market caps reflect the value of both their domestic and foreign operations.

Hussman has previously pointed to the Buffett Indicator as a red flag for the stock market. For example, he cautioned in March 2021 that it had reached its "most extreme level in history," and nodded to Buffett's comment about "playing with fire" by posting a flame emoji when the gauge hit 275% a month later.

The Hussman Investment Trust president has issued other dire warnings. He declared in October that market valuations were at "one of the three great bubble extremes in US history," and said the S&P 500 could potentially crash by over 60% to around 1,600 points.