Is Warren Buffett behaving like the US stock market’s overheating?

In 2001, Warren Buffett devised an indicator which he described as “probably the best single measure of where valuations stand at any given moment”. He also warned that if it approaches 200%, an investor is “playing with fire”. In the US, it’s currently (29 August) at 214%.

Expressed as a percentage, the Buffett indicator compares the gross domestic product of a particular economy with the value of that country’s stock market. It’s really a market-wide price-to-earnings ratio.

And driven by the artificial intelligence (AI) boom, it’s never been higher.

So what?

Its present elevated level could be an indication that a market correction is coming. And as they say, when America sneezes, the world catches a cold.

If an investor thought the stock market was overheating, they might consider selling equities and moving into other asset classes, most notably cash. I’ve been looking at Berkshire Hathaway, Buffett’s investment vehicle, to see whether this is the case.

During the quarter ended 30 June, the group sold more stocks than it purchased. And as the chart below shows, this reflects a recent trend towards holding more cash and Treasury bills (a proxy for cash).

At the same time, Buffett’s indicator has been steadily rising.

For the statistically-minded, the two variables have been 69% correlated since the end of 2021.

Nothing to see here

But in his 2024 letter to shareholders, the American pointed out that “the great majority of your money remains in equities”. He also said that “Berkshire will never prefer ownership of cash-equivalent assets over the ownership of good businesses…”.

I suspect Buffett is being cautious.

Over his long career, he’s seen plenty of market corrections — and some crashes, too. History tells us that, inevitably, there will be another pullback but nobody knows when. However, when this does happen, Berkshire Hathaway will be in a strong position to pick up some bargains. I’m sure it has a list of potential stocks that it could buy with some of its $350bn of cash when the time is right.

Something to consider

One company on my watchlist is RELX (LSE:REL). Its stock isn’t cheap but I think its strong valuation can be maintained. That’s because it’s incorporating AI into its information-based analytics and decision tools across its four divisions.

Impressively, its customer base includes many of the world’s largest companies. These tend to be less price sensitive than their smaller rivals. Indeed, the group achieved a gross profit margin of 65% in 2024.

Compared to a year earlier, during the first six months of 2025, the company’s adjusted earnings per share increased by 6.7%. And it remains bullish. It says it’s expecting “another year of strong underlying growth in revenue and adjusted operating profit”.

But there are challenges. It’s vulnerable to a cyber attack and a global economic slowdown.

Also, a dividend yield of 1.8% isn’t particularly generous although I’m sure the company will point to its current £1.5bn share buyback programme as evidence of it looking after its shareholders.

However, brokers appear to believe in the group’s growth story. They have a 12-month price target of 4,443p. That’s around a quarter higher than today’s share price. Investors with a similar view of RELX’s prospects could consider adding the stock to their portfolios.