High valuations in the U.S. stock market have become the new normal! Wall Street analysts call for a rethinking of P/E ratio perceptions

According to Zhitong Finance APP, the recent surge in U.S. stock valuations to new highs has sparked dissatisfaction among market skeptics, who warn that now is not the time to buy. However, the strategy of avoiding stocks simply because they appear "expensive" has not stood the test of time, which undermines the effectiveness of relying on traditional valuation metrics as market timing tools. An increasing number of Wall Street analysts suggest that it may be time to abandon old perceptions of price-to-earnings ratios, especially in the context of steadily rising average valuation multiples over the past few decades.

For example, a recent analysis by veteran Wall Street strategist Jim Paulsen shows that the average valuation range has significantly jumped since the beginning of this century, indicating that attempts to compare with the past are flawed. According to his analysis, the average price-to-earnings ratio of the S&P 500 index over the past 30 years was about 14 in the early 1990s, and is now around 19.5. Prior to that, from 1900 to the mid-1990s, this ratio remained within a narrow range of 13.5 to 15.5. Jim Paulsen stated, "Stock valuations are somewhat strange compared to the past—namely, the valuation range has shown an upward trend."

The rise in U.S. stock market valuation multiples over the past 30 years may partially counter the arguments of bears—who believe that the current artificial intelligence frenzy is destined to collapse like the internet bubble of the late 1990s.

Jim Paulsen pointed out that this shift raises two questions: How should investors assess a valuation target that has long been in flux? And will this trend continue to rise at a similar pace, entering "uncharted territory"?

He listed several possible reasons for the rise in valuation multiples and why a more expensive stock market may simply be the new normal. First, the frequency of U.S. economic recessions has decreased from about 42% before World War II to only about 10% over the past 30 years. Meanwhile, the U.S. has transitioned from an industrial economy to a technology and service-oriented economy, with the market itself leaning more towards growth stocks that enjoy higher valuations.

Additionally, market liquidity has improved due to the development of electronic trading and the widespread participation of individual and international investors. The long-term increase in what Jim Paulsen refers to as "profit productivity" (the actual profit generated per job) has also created a long-term upward bias in valuations. Finally, innovation cycles have historically accelerated.

Notably, Jim Paulsen is not the only market observer to accept the view that modern stock market high valuations may be reasonable. Bank of America strategists also presented the same viewpoint last week. The bank's strategists stated that the current structure of S&P 500 constituents—including lower financial leverage, smaller earnings volatility, higher efficiency, and more stable profit margins than in previous decades—supports the expansion of valuation multiples.

Savita Subramanian, head of U.S. equity and quantitative strategy at Bank of America, wrote in a client report on September 24: "The S&P 500 has undergone significant changes compared to the 1980s, 1990s, and 2000s." "Perhaps we should view the current valuation multiples as the new normal, rather than expecting a return to past averages."

Jonathan Golub, Chief Equity Strategist at Seaport Research Partners, stated that one reason for the extremely low valuation multiples in the 1970s and 1980s was that high interest rates at the time raised capital costs in a way that threatened normal business operations. While he believes this risk does not currently exist, if borrowing costs were to rise significantly in the future, valuation multiples could revert to the average levels of decades ago. He said, "I do not believe we are in a phase where valuation multiples are continuously drifting upward—I think we are experiencing a re-anchoring of valuation multiples at higher levels."