Stock market bears are perennially worried about whether the market’s valuation is “expensive." The latest Wall Street concern is about seemingly expensive Tech stocks, which are up +19% year-to-date and happen to be our favorite S&P 500 sector. Stock market bears are fond of saying, “I’ve seen it all before. I'm not buying Tech stocks. This is just like the Dot Com bubble.”
Let’s dissect that a bit.
At 22 time trailing twelve month earnings, the S&P 500 appears expensive. “But if you’re selling stocks at some ‘magic level’ on fears of valuation, you’re going to be wrong until growth slows or at least until the acceleration in growth slows,” Hedgeye CEO Keith McCullough said on The Macro Show recently. “That’s the most important lesson you can learn from studying macro market history.”
Consider what happened during the Dot Com bubble. There were plenty of stock market bears calling for a correction in 1996. These investors also thought the market looked expensive, trading right around 20 times trailing twelve month earnings (similar to where we are right now). But the stock market kept going up, getting a heck of a lot more expensive in the ensuing years before the “bubble” finally burst. The trailing twelve month P/E peaked at more than 30 times earnings in 1999.
So is 30 times trailing earnings the new magic “danger zone” in which to sell stocks? No. The catalyst that pricked the Dot Com bubble was a slowdown in U.S. growth in 2000, says McCullough. “It wasn’t that God called with a multiple.”
Fast-forward to today. Our call is for U.S. growth to accelerate throughout 2018. In other words, Tech shares could get even more expensive from here. For more, watch the video above in which McCullough breaks down these valuation implications for specific stocks within the index.
