The S&P 500's forward price/earnings-to-growth ratio has fallen to about 0.7, the lowest level in at least 31 years, even as the index trades near an all-time high. The drop reflects analysts' unusually high earnings growth forecasts rather than a real decline in valuation, and those forecasts carry significant risk of falling short.
The S&P 500 trades close to an all-time high, yet its price/earnings-to-growth (PEG) ratio sits around 0.7, a level the index has touched just four other times since 1995. Famed investor Peter Lynch wrote in One Up On Wall Street that a PEG ratio below 1 signals the market undervalues a stock, and the current reading suggests investors may be undervaluing the entire U.S. large-cap market by the widest margin on record.
A gap between price and growth expectations
Other valuation measures point the opposite way. The Buffett indicator, which compares total U.S. stock market capitalization to GDP, is off the charts, and the CAPE ratio sits at levels last seen at the height of the dot-com bubble. The PEG ratio tells a different story because it weighs the forward P/E ratio against expected earnings growth rather than price alone.
The index's forward P/E ratio is about 19.2, below its five-year average of 19.8 but above its 10-year average of 19 and well above its 25-year average of 16.7. Unlike past periods when a rising P/E pushed the PEG ratio higher, today's forward P/E is actually falling even as prices climb, because analysts' earnings growth expectations are rising faster than prices.
Analysts expect outsized earnings growth
Consensus estimates call for 26.8% earnings growth in Q4 2026, 15.4% growth for calendar 2027, and average annualized earnings growth of 27.3% over the next five years — the figure used to calculate the PEG ratio. That five-year estimate is up from about 18% at the start of 2025. Those expectations are driven largely by optimism over artificial intelligence's potential to lift productivity and earnings, particularly at the largest U.S. companies.
The risk behind the forecasts
The PEG ratio's biggest flaw is that it depends on an accurate earnings outlook, and the 27.3% annualized growth figure sits well outside the S&P 500's ordinary growth range. Analysts tend to be an optimistic group: in the late 1990s, earnings growth expectations kept climbing just ahead of the index's lost decade. Since 1995, long-term earnings expectations have dipped below 10% only once, during the Great Recession, yet actual earnings have compounded at an average rate of just 7.5% over the last 31.5 years.
That gap means analysts are likely overestimating future earnings growth. Still, with the PEG ratio at 0.7, there is room for those estimates to miss by a wide margin before stocks stop looking like good value, and it remains rare for prices to prove this cheap relative to the growth companies ultimately deliver.
Source: The Motley Fool
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