Every time the equity markets hit a new high, doubts begin to arise if the markets are getting too toppy/frothy. It is usually a good time to take a step back and put things in perspective. A good comparison is usually done by going back in time to when the markets peaked in March 2000. In that light, David Kostin, chief U.S. equity strategist at Goldman Sachs, looked at some data going back to March 2000 when the technology bubble peaked and subsequenty burst. I was really close to this time period, having moved to Silicon Valley to join a team doing late stage, pre-IPO, tech venture investing.
“Veteran investors will recall the S&P 500 and the tech-heavy Nasdaq peaked in March 2000. The indices eventually fell by 50% and 75%, respectively. It took the S&P 500 seven years to recover and establish a new high, but the Nasdaq still remains 25% below its all-time peak reached 14 years ago.”
However, according to Kostin, there are six ways in which the two episodes differ:
Recent returns are less dramatic. Although the trailing 12-month returns are similar (22% today versus 18% in 2000), the trailing 3-year and 5-year returns are much lower (51% vs. 107% and 161% vs. 227%, respectively).
Valuation is not nearly as stretched. S&P 500 currently trades at a forward P/E of 16x compared with 25x at the peak in 2000. The price/book ratio is 2.7x versus 6.Xx. The EV/sales is currently 1.8x compared with 2.7x in 2000.
More balanced market. The reason it is called the “Tech Bubble” is that 14% of the earnings of the S&P 500 came from Tech in 2000 but it accounted for 33% of the equity cap of the index. Today Tech contributes 19% of both earnings and market cap. Top five stocks in 2000 were 18% vs. 11% today.
Earnings growth expectations are far less aggressive. Bottom-up 2014 consensus EPS growth currently equals 9%, close to our top-down forecast of 8%. In 2000, consensus expected EPS growth equaled 17%.
Interest rates are dramatically lower. 3-month Treasury yields were 5.9% in 2000 vs. 0.05% today while ten-year yields were 6.0% vs. 2.7% today. The yield curve was inverted by 47 bp. Today the slope equals +229 bp.
Less new issuance. During 1Q 2000, 115 IPOs were completed for proceeds of $18 billion. In 1Q 2014, 63 completed deals raised $11 billion.
Kostin says based on historical patterns, momentum stocks are unlikely to rebound, but the broader market should still be set for modest returns going forward.
(Sources: Goldman Sachs, Business Insider)
