Stock Market Valuations Have Never Been Higher

By Dean Barber

January 29, 2021

Stock Market Valuations Have Never Been Higher

Key Points – Stock Market Valuations Have Never Been Higher:

  • Developments in January 2021
  • Record Stock Market Valuations
  • Stock Market Performance Year to Date
  • 5 minute read | 7 minutes to watch

Welcome to 2021! I’m glad all of you are with me today, and I hope you’re all staying healthy and safe. Today, I’m going to look at 2020 and what’s to come in 2021.

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January is just about behind us as of writing this monthly economic update. I hope everybody is doing well so far this year. 

Developments in January 2021

All right, some interesting developments. It’s no secret that we have a new administration. There will be regulations put in place, and there may be higher taxes. How is will that impact the market? Where are we today? Should your investment strategy have changed since 2020? 

We’re nearly into February of 2021. So let’s take a look at a couple of different things. I want to keep this short and sweet for you right now. Because there’s so much that’s unfolding from a political environment, regulation, environment, tax environment, energy environment. We’re going to keep a close eye on things as they unfold throughout the year. But a couple of things I want to point out to you. 

Stock Market Valuations by Different Measuring Techniques

The average of these four, as we measure valuations, have never been higher in the history of the market.

– Dean Barber

Figure 1 | Source: Advisor Perspectives

What we’re looking at in Figure 1 are valuations of the stock market as measured by four different measuring techniques, the Crestmont PC, the Cyclical PE 10, the Q ratio, and the S&P 500 from its regression. So we’re going back to 1900. And you can see the peaks and the troughs and under-evaluated or over evaluated stocks measured using an average of those four metrics. 

Historical Overvalued Stock Markets

So a couple of timeframes standout here. There is 1929, where equities were 84% overvalued. By the time the 1929 crash hit back into the 1930s, the market was 56%, undervalued. 

Those of you who have been with Modern Wealth Management, you’ve seen these before. Before we get to where we are today, let’s go here to the right side of the chart at the 164%, overvalued. That was the Dot Com Bubble. When that came crashing back down, we were still overvalued.

When we look at the average valuations over time, the 73% overvaluation was just before the Great Recession of 2008 into early 2009. 

We Are at Record High Stock Market Valuations

Look at where we are today. The average of these four, as we measure stock market valuations, have never been higher in the history of the market. We are sitting right now at 184% above fair value. So that in and of itself is enough to scare you. But we have to back up and say all right, “What are these valuations measuring? Are we in a different time today? Can these valuations be justified?” 

There’s Nowhere Else to Go

Some people on Wall Street say the valuations can be justified because there’s nowhere else to go. The 10-Year Treasury, as we record this video, is sitting at just almost 1%. Exactly, which means that if you put your money into a 10-Year Treasury, you’re going to tie it up for ten years, with the promise of a 1% per year return, or a total return over ten years of 10%. We all know inflation is going up at a faster rate than that. So that’s a guaranteed loser for you. 

If you look at just the S&P 500 index, it’s got a higher dividend yield, even at the current valuations, a higher dividend yield than the yield on the 10-Year Treasury. So as long as interest rates stay low, these valuations can be sustained. 

Don’t Panic, but Pay Attention

This isn’t hit the panic button, you know, pull the parachute and say I’m out of here. It’s just something that we’re saying we have to watch this very, very closely. And we have to understand what’s happening. And there could be a triggering event sometime in the next 12, 18, or 24 months that causes those valuations to come back down in the form of falling stock prices. 

Stock Market Performance Year to Date

Now, let’s switch it up here just a little bit. And let’s look at where is the performance in the markets so far this year? If you’ll recall, in 2020, the technology stocks were the big winner. But if you go back and look at the video, the last video that I did, I pointed out that the small and mid cap stocks we’re starting to gain ground on technology stocks. 

Stock Market Valuations - Stock Market Performance 2021 Year to Date

Figure 2 | Source: Chaikin Analytics

This year, what’s happening so far is the S&P 600 small cap is up by 10.21% year to date, followed by the Russell 2000, followed by the mid cap up 5.32%. The NASDAQ, or QQQ, is up 4.73%. At the very bottom of the pile, we see the Dow Jones Industrial Average up 1.18%. Of course, the S&P 500 as of this recording up 2.65% year to date.

Are Small Caps Short Term?

So we have clearly seen the small and mid cap sectors begin to dominate as far as performance. The question becomes, will that hold out for the balance of the year? Is this a short term phenomenon that small cap stocks are doing better? I can tell you for certain that small caps have lagged big time if we go back over the last five years. 

So there is some room to win there. You could just be seeing a shift in sentiment in where big money is going. The institutional investors are looking for better valuations, and there are better valuations in the small cap sector right now. 

So those small cap stocks that you have inside your portfolio that have maybe been in there for the last two or three or four or five years, well, now you know why they’re in there. 

Season Change in Investing Too

Look, the seasons of investing change, and the sectors that are doing the best also change. It’s always crucial for us as your financial advisors to step back, make sure that we’re visiting with you about where your portfolio is today. 

Does it still fit within the confines of your overall financial plan and making sure that we’re never taking on any more risk than we absolutely have to for you to accomplish your long-term objectives? Until next month, we’re going to keep a close eye on everything that’s going on economically and politically. 

If something comes up where we feel like we need to share with you between times, we’ll be sure and send out a special notice thanks for joining me for this monthly economic update. Everybody, enjoy your day, and here’s to a happy 2021!

Dean Barber Founder & CEO

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