Investors are observing a lot of anniversaries this week, notably the failure of Lehman Brothers 10 years ago, the signal event in the financial crisis.
But Doug Ramsey, the chief investment officer of the Leuthold Group, is looking back farther, to the bursting of the dot-com bubble in 2000. Contrary to the conventional wisdom that things aren’t nearly as nutty as back then, he sees markets as riskier now.
There are parallels between the concentration of gains in the FAANG stocks— Facebook(ticker: FB), Amazon.com(AMZN), Apple(AAPL), Netflix(NFLX), and Google parent Alphabet(GOOGL)—these days with the internet stocks around the turn of the century. But what’s supposedly different this time is “today’s Technology titans are ‘real companies’ with massive revenue underpinnings—rather than page clicks and eyeballs, as during the original Technology mania,” Ramsey writes in the firm’s monthly report to clients, known simply as the Green Book to its fans for the cover color.
But rich valuations actually are more pervasive now, he avers.
By conventional measures, the broad market was never as overvalued as it was in those heady dot-com days. The S&P 500 sold at 25.7 times 12-month trailing earnings at its March 2000 peak, compared with 20.9 times currently.
Based on the price-to-sales ratio, however, the S&P 500 has matched the peak of 2000 to trade at 2.3 times that measure. Yet that gauge is skewed by the rich valuations of the biggest stocks, which dominate the capitalization-weighted S&P 500.
As measured by the median S&P 500 stock, the price-to-sales ratio is even higher, at 2.7 times currently. By contrast, the median S&P 500 stock traded at 1.2 times sales back in 2000, far lower than the cap-weighted 2.3 times.
Bottom line: The average stock now is valued more richly now than in 2000, when a relatively few kooky dot-coms distorted the market’s overall measures.
Investors who wanted to seek shelter from the overall market’s exalted valuations in 2000 also had more places to hide, Ramsey points out. Bonds back then were significantly higher-yielding, offering 6.42% on a 10-year Treasury note, more than double the 2.96% yield offered on the benchmark bond Wednesday.
Looking at numbers, an investor could have locked in that yield on a 10-year zero-coupon bond priced at about $540, which would have paid back the full $1,000 face value in 2010. Over that span, the Invesco QQQ Trustexchange-traded fund (QQQ), which tracks the biggest Nasdaq stocks, was more than cut in half, from $109.50 in March 2000 to $48.16 a decade later.
That’s a lesson in diversification learned the hard way. Or not, in the instance of this possibly apocryphal tale: When the CEO of some dot-com wunderkind went public with an outrageously priced IPO, his wise wife demanded a portion of his highflying shares be put in tax-free municipal bonds, in part for their newborn twins’ college fund. Like so many tech stocks of the time, this one crashed, but the kids were all right.
Even cash was a better alternative to stocks at the peak in March 2000, Ramsey continues. If you had moved totally into Treasury bills then, you would have remained ahead of the S&P 500 for the next 13 years.
That’s not the current view, however. “While many valuation measures are now comparable to those seen at Y2K highs, there’s practically no suggestion that cash could compete closely with stocks for even a two or three-year period, let alone for a decade or longer,” he writes.
“Once again, the monetary authorities have conspired to make even this last-ditch portfolio option as unappealing as possible,” the result of central banks’ low-interest-rate policies, Ramsey says. Real Treasury bill yields—what they pay over inflation—have been negative for the past nine years, “a feat only previously matched during the 1940s,” he observes. Financing the war effort, of course, then took precedence over any other policy consideration.
T-bill yields have moved above inflation, at least according to the Federal Reserve’s favorite gauge, the core deflator for personal-consumption expenditures, which was up 2% in the 12 months through July. The three-month bill yields a bit more, 2.15% as of Wednesday.
While not terribly exciting, that 2.15% yield is not that far below Leuthold’s annualized S&P 500 total-return estimate of 2.50% for the next decade, according to Ramsey. “Cash is not trash,” he concludes.
Cash also is necessary to take advantage of opportunities if, or more likely when, equity prices do come down. Future returns are low because prices now are higher. If they get marked down, future returns will be more attractive. That’s not a forecast, that’s arithmetic.
The experience of the decline after the dot-com bubble shows the cost of buying high. By Leuthold’s measures, prices are even higher now.
Write to Randall W. Forsyth at firstname.lastname@example.org