Stock market stretched to double tech bubble highs, one measure shows

Reuters / Brendan McDermid

• Leuthold Group has sounded the alarm on a valuation
  metric that shows the S&P 500 is twice as expensive as it
  was at the peak of the tech bubble.
• This development could have large implications for
  stock investors of all types, particularly value traders who
  make their living by finding discounts in the market.

With the stock market within shouting distance
of a new all-time high, traders are readying their champagne
bottles.

Just don’t tell them about the eye-popping statistic just
published by reputed research outfit Leuthold Group, lest you spoil their fun.

Leuthold has taken a fairly traditional valuation measure — the
price-to-sales ratio (P/S) — and added a twist. Rather than take
the market cap-weighted P/S for the benchmark S&P 500, the firm has calculated
the median P/S for every company in the index.

And as you can see from the red line below, the historical chart
is jarring. Going by the median P/S measure, the S&P 500 is
actually twice as expensive as it was at the
peak of the tech bubble.

Leuthold
Group

Leuthold has already sounded the alarm in the past about the blue
line, which is the market cap-weighted version of the P/S metric.
The firm previously considered it the “scariest chart in our
database” — but it appears to be a distant number two now.

“The addition transforms an already alarming chart into one
that’s almost unfit for a family-friendly publication,” Doug
Ramsey, Leuthold’s chief investment officer, wrote in a client
note. “The nature of this market’s overvaluation is very
different than in 2000.”

It’s different in the sense that the overvaluation is more
widespread — and the implications of that fact are potentially
devastating. When the stock market does face its next armaggedon
stage, there will be nowhere to hide.

When the broader market got crushed in the dotcom era after the
tech bubble burst, that was largely because of the massive
concentration of positions in the sector. Traders could’ve
theoretically protected themselves by hiding in more fairly
valued industries. Investors today have no such luxury.

“Overvaluation in 2000 was highly concentrated,” said
Ramsey. “Today it is pervasive.”

The lack of comparatively cheap opportunities in the market right
now is a particularly troublesome development for so-called value
investors, who are left searching for bargains that simply don’t
exist.

In a more concentrated market, value investors could position
themselves to outperform by patiently waiting in cheaper areas
for the more crowded, pricy segments to collapse. With no
inexpensive areas to speak of, that strategy becomes much more
difficult.

“This breadth of overvaluation certainly helps explain today’s
level of despondence among value managers,” said Ramsey. “The
long period of penance has not rewarded them with any truly cheap
pockets of the stock market — like it did in 1999 and 2000. They
still stand to lose serious money in the next bear market, but
their results should be much better than the throngs who’ve
decided to put their equity investing on auto-pilot.”