The market’s exuberance is conspicuous as the S&P 500 Index has set 36 new highs year-to-date through October 7th. According to Reuters, NASDAQ has set 121 new highs year-to-date (more than once a day!) and both Gold and Crypto have also set new highs.
Although every market episode is marked by its own kind of ambiguity in the present tense, we only have the clarity to label them in hindsight. Yes, the Tech Bubble felt frothy in 1999, but the version of “greedy” known as “FOMO” (fear of missing out) obscured clarity. Yes, the Housing Bubble felt frothy in 2007, but the FOMO mentality influenced investors to think tactically.
The market narrative is full of competing views as to whether we are already in an AI-influenced bubble or building a new one. We’ve heard guests on CNBC debate whether the market is reminiscent of 1997 (frothy but years to run) or 1999 (long in tooth, ready to crescendo and crash) and are often asked if we are bullish or bearish; but the question is all about sentiment.
Our preference is not to be a Sentimental Investor, but a Rational Investor, by not making decisions based on emotions like fear or greed. Here is what that means to us:
- Stay out of the froth. Approximately one third of the S&P 500 Index return year-to-date has been derived from a handful of expensive stocks (trading on average at 50 times the 2026 earnings estimates). We regard that kind of valuation as a higher risk characteristic and we are not chasing higher risk for tactical advantage.
- The trend can be a fickle friend. Just because mainstream media has touted that AI “is going to be huge and change everything,” does not mean that the present froth is sustainable. The insight that the internet was “going to be huge and change everything” did nothing to spare investors from the froth when the Bubble burst.
- Focus on asset allocation as your primary and customized risk management tool as opposed to hoping for tactical precision when the music stops. Think of equities as offense and our fixed income as defense, and make your blend align with your risk tolerance.
- There are a group of strategic issues that influence our approach to error on the side of discretion. These include, a potential valuation correction, the risk of recession, the ongoing ticking of the Fiscal time bomb (the scale of U.S. national debt and the ostrich like policy neglect), and the complexity of geopolitical risks. Without any pretense about precise timing, our sense is that there will be a meaningful buying opportunity ahead, and having the appropriate amount of defense in your asset allocation will be advantageous.
- Within our equity strategies, we have conviction that our companies are on track to add value for the long-term. We are bottom-up bullish on our high-quality businesses and we place emphasis on both risk management and investing for opportunity.
- In our fixed income strategies, we are positioned for defense in shorter maturities and good credits.
- We love Charlie Munger’s [paraphrased] statement, “I am 99 and almost dead. I am optimistic and cannot stand these 30-year-old pessimists.” We read that to mean that one should not allow tactical pessimism to obscure the proven record of strategic, selective optimism.
To a remarkable extent, the connections between political outlook and market outlook are, by historical standards, highly correlated. As an antidote, we suggest investment merit and asset allocation, because investment discipline matters.
A Rational Investor adjusts for risk management and focuses on long-term opportunities. Winning a strategic game is more important than winning a tactical inning. Keep your balance and win the long game.
