Why a new Market High does not mean stocks are overvalued

On Friday the S&P 500 Index, which tracks the largest 500 publicly listed stocks in the US, reached an all-time high. That is nearly 1% higher than the previous record reached on 3 January 2022.

Some investors may think a market high is a signal stocks are overvalued. However, they may be surprised to find the average returns 1, 3 and 5 years after a new month-end market high are similar to those of months that ended at any level.

In looking at all monthly closing levels between 1926 and 2022 for the S&P 500 Index, 30% of them were new highs. After those highs, the annualised returns ranged from 14% one year later to more than 10% over the next 5 years, which were close to average returns over any period of the same length.

Source: Dimensional Fund Advisors

Stocks are priced to deliver a positive expected return for investors, so reaching record highs regularly is the outcome one would expect.

Author: Rick Walker