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Surging U.S. Stocks Echo Dot-Com Rally With Cheaper P/E

By Lu Wang and Oliver Renick
August 26, 2014 10:59 AM EDT 98 Comments
Traders work on the floor of the New York Stock Exchange on Aug. 22, 2014.
Photographer: Spencer Platt/Getty Images
Traders work on the floor of the New York Stock Exchange on Aug. 22, 2014.

Every day, the American bull market looks more and more like the dot-com bubble of the late 1990s. Except when it comes to valuations.

The Standard & Poor’s 500 Index (SPX) jumped above 2,000 today and the Nasdaq Composite Index is within 10 percent of a record reached in March 2000, a time when Pets.com Inc. was worth more than $150 million. Investors have seen annualized returns of 24.5 percent since March 2009, compared with 27.1 percent over an equal amount of days ending March 24, 2000, the peak of the Internet rally, according to data compiled by Bloomberg.

Stocks are catching up to the pace of more than a decade ago amid record profits, near-zero interest rates and economic growth that’s expected to accelerate. While the dot-com bubble peaked with the S&P 500 trading at close to 30 times annual earnings of its companies, the valuation is about 19 times now, data from S&P Dow Jones Indices show.

“We’re on the expensive side of fair value, but certainly not in the bubble place they were in the 2000 period or in a place that concerns us,” Ed Hyland, an Atlanta-based global investment specialist at JPMorgan Chase Private Bank, said in a phone interview. The firm oversees about $1 trillion. “There is potential for the market to go higher.”

Durable Goods

The S&P 500 rallied 0.3 percent to 2,004.16 as of 10:57 a.m. in New York after a report showed the biggest ever jump in durable-goods orders and consumer confidence unexpectedly increased. The Chicago Board Options Exchange Volatility Index, known as the VIX, added 0.9 percent to 11.81.

Five years of gains have driven the S&P 500 up 195 percent, compared with a 236 percent advance over the comparable period ended in March 2000. With the Federal Reserve calling valuations in smaller biotechnology and social-media companies “stretched” and mega-deals resurfacing, concern that prices are too high is growing.

Over the past three years, investors have seen a flood of technology and Internet companies go public, including King Digital Entertainment Plc, Yelp Inc. and Twitter Inc. Alibaba Group Holding Ltd., the Chinese e-commerce company, is working on an initial public offering that may be the biggest in U.S. history.

The dot-com bubble was marked by unprofitable Internet companies selling shares for the first time, such as Pets.com, which had a sock puppet mascot and raised $82.5 million in February 2000. The company has since gone out of business.

‘Upward Trend’

“At this point, what the market should be doing is debatable,” Brad McMillan, chief executive officer at Commonwealth Financial Network in San Diego, said by phone. His firm oversees about $86 billion. “Right now there’s a clear upward trend.”

This bull market has seen widespread gains across all kinds of companies, unlike the technology bubble when the best performance was concentrated in computer shares. The S&P 500 Equal Weight Index, which strips out biases related to market value, has risen an annualized 28 percent since 2009, almost double the return from the last half of the Internet bubble.

An average of 380 S&P 500 stocks have increased during each of the last five years, compared with 307 in the 1990s, data compiled by Bloomberg show. At the record yesterday, 48 stocks hit a 52-week high, compared with 27 at the peak in 2000.

Being Rational

The “market is being rational, responding to improving domestic economic news, extraordinarily low interest rates, easy monetary policy and limited inflation,” Howard Ward, chief investment officer for growth equities at Rye, New York-based Gamco Investors Inc., which oversees about $47 billion, wrote in an e-mail. “The market’s valuation level is very defensible.”

Options traders are seeking protection against losses after the S&P 500 climbed about 8 percent this year and has gone without posting a decline of 10 percent since 2011.

About 2.2 bearish puts were owned for every call betting on gains in the benchmark equity gauge, near the highest ratio since October 2008, data compiled by Bloomberg show. Puts wagering on a slide to 1,950 by Sept. 20 had the biggest open interest.

Viewed as one long bull market beginning in October 1990, the dot-com bubble is much larger than the current rally. The S&P 500 climbed more than 400 percent over that stretch and the Nasdaq (CCMP) Composite Index increased 15-fold, producing annualized returns of more than 33 percent for almost 10 years.

The Nasdaq peaked at 5,048.62 March 10, 2000, and would have to rise more than 10 percent from its current level of 4,557.35 to surpass that record. Since stocks bottomed five years ago, the gauge’s best annual performance was in 2009, when it rose 44 percent. That’s about half its return in 1999.

“The underlying fundamentals justify the level of U.S. stocks,” Cameron Hinds, regional chief investment officer at Wells Fargo Bank NA in Lincoln, Nebraska, said in a phone interview. “We’re not at the same level of extremes as in 2000, when valuations were clearly excessive and were apparent not just in hindsight but at the time.”

To contact the reporters on this story: Lu Wang in New York at lwang8@bloomberg.net; Oliver Renick in New York at orenick2@bloomberg.net

To contact the editors responsible for this story: Lynn Thomasson at lthomasson@bloomberg.net Michael P. Regan, Emma O’Brien

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