Relative to the earnings generated by their underlying companies, stocks are looking pretty expensive.
We’re talking about the price-to-earnings, or P/E, ratio.
“The current 12-month forward P/E ratio is 16.8,” FactSet’s John Butters said on Friday. “This P/E ratio is above the 5-year average (13.8) and the 10-year average (14.1).”
But just because stocks are expensive relative to their long-term average is no guarantee that prices are doomed to fall immediately. Indeed, there are many instances in history when stock prices continued to rise and valuations continued to stretch for years before they corrected and reverted to the mean.
“Market multiples rarely trade at average levels,” Morgan Stanley’s Adam Parker once said.
Citi’s Stephen Antczak examined the trajectory of the forward P/E ratio in the current and previous three cycles.
“The ‘recovery’ part of the last three business cycles has averaged 7.9 years (trough to peak),” Antczak said. “How far might we be from the peak of the current cycle? A sample of various markets suggest that we are 72% of the way through.”
The S&P 500 is currently trading right around 2,100. But it would have to surge another 1,000 points for this P/E cycle to be “average.”
Now, many folks would point out that the last two cycles were full-blown bubbles. But, that doesn’t mean it won’t happen again.
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