The S&P 500 trades at its most expensive valuation in decades, with the Shiller CAPE ratio at levels last seen before the Dot-Com Bubble. History suggests a pullback is more likely than not, though the index has still delivered strong gains over the long run after past shakeouts.
The S&P 500 has more than doubled since the start of 2023, and that rally has pushed valuations to their most expensive point in decades. Many investors are now bracing for a correction, and history offers both a warning and some reassurance.
Valuations flash a dot-com-era warning
The Shiller CAPE ratio, which divides the S&P 500 by its average 10-year, inflation-adjusted earnings, shows the market as expensive as it has been since before the Dot-Com Bubble. A correction, in which the market falls 10%, is fairly common and happens more often than investors think, but stretched valuations raise the odds of a deeper reset.
Between 1995 and 2000, the Nasdaq Composite surged about 500%, then lost 77% of its value by October 2002 once the bubble burst. It recovered some of that ground, only to take another hit during the Great Recession.
AI supercycle echoes the internet boom
Given the parallels between the internet-fueled Dot-Com Bubble and today's AI supercycle, Motley Fool's Bram Berkowitz says investors should brace for a significant pullback. But a drop so widely anticipated may not arrive soon, or it could be triggered by an unforeseen event instead, and any sell-off could also unfold and reverse faster than past cycles did.
Long-term picture stays intact
The market has historically kept climbing over the long run, and there is little reason to expect that pattern to break. Internet stocks were crushed in the early 2000s, yet many companies that recognized the internet's potential early eventually thrived, and a similar split between winners and losers could define the AI era.
Investors worried about a sell-off can diversify into sectors less exposed to AI or into an equal-weight S&P 500 fund, which is not market weighted. Those nearing retirement may prioritize capital preservation, while investors with a 10- to 20-year runway ahead can afford to stay more aggressively invested.
Source: The Motley Fool
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