Is the US stock market in bubble territory?
The writer is co-founder and co-chairman of Oaktree Capital Management and author of Mastering the Market Cycle: Author of Getting the Odds on Your Side.
Many investors are on heightened alert for asset price bubbles these days, worried about a repeat of past booms and busts.
So I’m often asked if there’s a bubble surrounding the few stocks that top the S&P 500 stock index, the so-called Magnificent Seven, the tech companies that have dominated the index in recent years and are responsible for the high : a disproportionate share of its profits.
You can look at assessment parameters to spot the bubble, but I’ve long believed that psychological diagnosis is more effective look for a highly irrational exuberance, an outright adoration of a group of companies or assets that leads to an enormous fear of being left behind if one fails to participate in a bubble, the belief that there is “no price too high” for these stocks. I consider it a sure sign that a bubble is maturing. In short, bubbles are characterized by bubble thinking.
If bubble thinking is irrational, what makes investors think differently? There’s a simple answer. This phenomenon is based on another time-honored investment phrase: “This time is different.” are with new developments, from the recent tulip craze in Holland in the 1630s to the Internet and telecommunications stocks of the late 1990s a historical indicator of what the appropriate valuation of the new might be, so there is nothing to tie it to Terra Firma.
The bubbles I’ve lived through have all involved innovations that were either overrated or not fully understood outperform its predecessors, but investors often fail to understand that even a bright newcomer can be replaced.
In the 1990s, investors were confident that “the Internet will change the world.” It certainly seemed that way, and that assumption created a huge demand for all things Internet-related. The e-commerce stock went public at seemingly high prices and then tripled on the first day. Underlying every craze and bubble is usually a grain of truth. It just goes too far. The Internet absolutely changed the world, but the vast majority of dotcom companies that grew during the bubble of the late 1990s became worthless.
Too much optimism about a new thing leads to pricing errors. Because the participants in bubbles cannot imagine that there is any downside, they often award valuations that imply success. In reality, only a few newcomers can prosper or even survive.
Stocks are sold at a multiple of the coming year’s earnings, reflecting the expectation that they will continue to make money for many years. When you buy a stock, you buy a share of the company’s earnings each year are for companies’ profits, even after giving them credit for significant growth, many decades into the future.
Today’s top S&P 500 companies are, in many ways, better than the top companies of the past companies are treated as if they are sure to maintain their leading positions for decades.Some do and some don’t, but the change seems more is more rule than tenacity.
Is the US stock market too high?It is very rare for the S&P 500 to return 20 percent or more in a row happened In the past two years, with the S&P 500 up 24.2 percent in 2023 and 23.3 percent in 2024, taking us to 2025. What lies ahead?
Warning signs today include the optimism that has dominated markets since the end of 2022, the enthusiasm applied to something new in AI, and the widespread assumption that the top seven companies will continue to be successful. On the other hand, the forward p/e ratio of the S&P 500 is high, but not crazy, at 23.6x.I also don’t hear people saying, “there’s no such thing as overpricing,” and the markets, while overpriced and perhaps frothy are driving me crazy they don’t seem.