U.S. Stocks Hit Highest Valuation Since Dot-Com Boom

Stocks listed on Wall Street have reached their most expensive level relative to U.S. government bonds in a generation, raising growing concerns among some investors about the lofty valuations of large-cap tech companies and other U.S. equities.

The recent record highs in U.S. stocks, which hit a new peak on Wednesday, have pushed the projected earnings yield—expected profits as a percentage of stock prices—of the S&P 500 down to 3.9%, according to Bloomberg data. Meanwhile, a major sell-off in Treasury bonds has driven 10-year yields up to 4.65%.

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SPX

Equity Risk Premium Record

This has caused the gap between the two, a measure known as the equity risk premium—representing the extra compensation investors require for holding stocks instead of bonds—to turn negative, reaching levels not seen since 2002, during the rise and fall of the dot-com bubble.

The high valuations of U.S. stocks are largely driven by fund managers seeking exposure to the country’s strong economic and corporate earnings growth, along with a widespread belief among investors that they cannot afford to exclude the so-called “Magnificent Seven” tech stocks from their portfolios.

Stock valuations relative to bonds are just one of several signs of market exuberance cited by fund managers. Others include the price-to-earnings ratio of U.S. stocks compared to historical trends or equities in other regions.

Sustainability and Bubble Impact

Many investors argue that the high multiples are justified and sustainable. “There’s no denying that the [price/earnings] multiple of U.S. stocks is high by historical standards, but that doesn’t necessarily mean it’s too high given the underlying environment,” they claim.

The good news is that earnings continue to grow, and even if valuations remain unchanged, rising corporate profits should help drive stock prices higher.

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ABOUT THE AUTHOR See More
Ignacio Teson
Ignacio Teson
Economist and Financial Analyst
Ignacio Teson is an Economist and Financial Analyst. He has more than 7 years of experience in emerging markets. He worked as an analyst and market operator at brokerage firms in Argentina and Spain.
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