The current median Price-to-Sales and Price-to-Cash Flows for U.S. stocks are now at record highs. They’re higher than in 1929 and higher than in1999 which preceded epic stock market crashes. While I don’t expect another catastrophic stock market crash, current levels do suggest a rather frothy market and an imminent correction.
The PEG ratio currently sits at 1.7 for the S&P 500. This is the highest it’s been since 1995. The average stock in the S&P 500 trades at 18.1 times forward earnings. This ranks in the 98th percentile of historical valuation since 1976.
With market valuations at such lofty levels, I continue to find it extremely difficult to find stocks that fit my value criteria for market beating returns. Most financial models show low single digit returns at best for domestic stocks over the following five to ten years…IF everything goes right. If profit margins start to slide or the economy continues to cool down, current valuations will be vastly over stated.
While I fully expect stock valuations to be higher during extended periods of low interest rates and loose monetary policy, it appears that valuations are stretched beyond what is reasonable in those environments.
I have not strayed from my opinion when I mentioned in the January 2015 issue that I relate this situation to Warren Buffett’s decision in 1969 and the late 1990’s to sit out the market due to high valuations. He was proven right. I hope to also be proven right – time will tell.
For that reason, my newsletter has been closed to new subscribers since earlier this year. Until things change in the market, I’ll be spending some much needed time with my family. Until then, there’s nothing to do.
“The line separating investment and speculation, which is never bright and clear, becomes blurred still further when most market participants have recently enjoyed triumphs. Nothing sedates rationality like large doses of effortless money. After a heady experience of that kind, normally sensible people drift into behavior akin to that of Cinderella at the ball. They know that overstaying the festivities — that is, continuing to speculate in companies that have gigantic valuations relative to the cash they are likely to generate in the future — will eventually bring on pumpkins and mice. But they nevertheless hate to miss a single minute of what is one helluva party. Therefore, the giddy participants all plan to leave just seconds before midnight. There’s a problem, though: They are dancing in a room in which the clocks have no hands.” Warren Buffett