Everyone keeps asking me if this is the 1990s. If, by that, they are asking if I still listen to Alice in Chains, watch 90210, and yell, “Wassup!” when I see my friends, then the answer is, unequivocally, yes. However, my Z. Cavaricci pants don’t fit anymore, I lost my mixtapes, and my Tamagotchi hasn’t been fed in years.
In truth, the answer depends on the context. Taking a wider lens, does the current environment have things in common with the late 1990s? Sure. A special prosecutor is investigating a sitting U.S. president. There is saber rattling between the U.S. and North Korea. Our politicians threaten to shut down the government. Inflation and wage growth are persistently low despite a low unemployment rate. The Simpsons still airs on Sunday nights. As Talking Heads sang a decade before the start of the 1990s, “Same as it ever was.”
But I think the crux of the question is whether the U.S. stock market has become so overvalued that it resembles the 1990s technology bubble. Or, more specifically, are the valuations of a handful of Internet retail, and software and services companies setting the stage for the next big market drawdown?
Let’s take each question separately using analysis from our latest paper How It Ends (Spoiler Alert: We’re Not There Yet):
1. U.S. Equity Valuations
By almost any valuation metric—price-to-book, price-to-sales, price-to-earnings, price-to-cash flow—U.S. equities are not cheap in relation to their historical averages. For example, this past month the S&P 500 price-to sales reached a cycle high of 2.1x, a 47% premium to its long-term average. However, U.S. equities are still cheap in relation to bonds. The S&P 500 Index’s earnings yield is 4.5%, compared to the 10-Year U.S. Treasury rate of less than 2.5%. Simply put, S&P 500 companies earn more when compared with their current price than the interest earned on 10-year government bonds.
For all of the concern that the current environment is reminiscent of the late 1990s, remember that at the end of 1999, the S&P 500 Index’s earnings yield was 3.41%, compared with a 10-Year Treasury rate of 6.44%, for a spread of 3.03%. Back then, equities weren’t only more expensive than they are today, they were also expensive compared with bonds.
2. Valuations and Relative Performance of FAANG Stocks
Comparisons between today’s FAANG stocks (comprising Facebook, Apple, Amazon, Netflix and Google) and the high-flying, overvalued technology stocks of the 1990s are hyperbole. Companies such as Pets.com, Webvan.com, eToys.com, GeoCities.com and Kozmo.com do not bear any resemblance to the FAANG companies which, in our opinion, have strong fundamentals and are disrupting multiple industries.
Even when compared to companies with sustainable business models, such as Intel, Cisco, Microsoft and Oracle, the FAANG stocks are currently trading at significantly lower valuations on a price-to-sales basis than did those technology and telecom companies in 1999 (5x price-to-sales for FAANG versus 16x for the tech bubble basket).
Further, FAANG stocks’ relative performance isn’t in the same ballpark as these technology companies. If we compare performance versus the S&P 500 Index over a five-period for FAANG stocks (starting after Facebook’s IPO in June 2012) and their tech bubble counterparts (starting with the cycle’s inception in June 1992), the FAANGs have underperformed by about 250%.
So is it the 1990s? Not if you look at it from the perspective of U.S. equity valuations, which aren’t a very good predictor of short- to intermediate-term performance of the market anyway. To those investors who have remained on the sidelines throughout this cycle, or to those unsuccessfully trying to time the next big drawdown, I offer some advice from Jerry Seinfeld: “If every instinct you have is wrong, then the opposite would have to be right.” Remember, it’s time in the market, not timing the market. Now, if you’ll excuse me, I’m off to binge watch new episodes of X-Files and Gilmore Girls.
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