Being a total chartology geek and lover of anything that tracks the historical record of stock market performance (e.g. supercycles), it’s hard to resist posting these graphics discussing the Q Ratio.

Briefly…

The average (arithmetic mean) Q ratio is about 0.71. In the chart below I’ve adjusted the Q Ratio to an arithmetic mean of 1 (i.e., divided the ratio data points by the average). This gives a more intuitive sense to the numbers. For example, the all-time Q Ratio high at the peak of the Tech Bubble was 1.82 — which suggests that the market price was 158% above the historic average of replacement cost. The all-time lows in 1921, 1932 and 1982 were around 0.30, which is about 57% below replacement cost. That’s quite a range.

Why’s it so important? Because it’s one of the few indicators that correlates reasonably well with multiyear (multidecade) bull and bear markets.

Since any rational investor would want to take a closer look at the Q Ratio after seeing the correlation predicting bull and bear market swings, here’s a more detailed look:

Naturally, it’s not a fix all, buy or sell immediately indicator, but it should be used to give you an idea when the market is overbought vs. oversold, or above vs. below the historical market arithmetic mean. Moreover, the Q Ratio, at least in my opinion, provides additional supporting evidence that those who say the “market is cheap” based on P/E ratio is historically inaccurate.

Source
Doug Short
The Q Ratio Moves Yet Further Into Nosebleed Territory