Yes, the S&P 500 has soared ahead of the FTSE All-Share, but beware its overstretched valuation ratios. It’s always best to get oﬀ the bull before it turns into a bear
For a long time, the US and UK stock markets were more or less joined at the hip. As the S&P 500 (the main US large-cap index) grew by more than 1,000% over the 20 years from 1980 to 2000, the UK’s FTSE All-Share followed along like an obedient puppy. And when the dot- com bubble burst in 2000, the FTSE All-Share matched the S&P 500’s 50% decline almost exactly.
After that, the UK and US economies boomed, thanks to low interest rates and a massive credit bubble. This helped both the S&P 500 and the FTSE All-Share double between 2003 and 2008. When the credit bubble inevitably burst in 2008, it drove both indices down by (again) almost 50% by early 2009. But thanks to massive banking bailouts, capitalism did not end – and the S&P 500 rallied to new highs, doubling between 2009 and 2013. The FTSE All-Share did the same.
So far so boring. However, the story becomes more interesting after 2013. Back then, several European countries (including Portugal, Italy, Greece and Spain) were going through a sovereign debt crisis, with governments unable to repay their debts without aid from other countries, the European Central Bank or the International Monetary Fund. One side eﬀect of this debt crisis was that the UK’s stock market recovery ran out of steam as global investors avoided European markets. This stopped the FTSE All-Share in its tracks: over the two years from May 2013 to May 2015 the All-Share increased by just5%. Meanwhile, the US remained largely unaﬀected by the eurozone crisis and the S&P 500 marched upwards, rising more than 25% over the same period.
In mid-2015 another external factor appeared in the shape of Brexit. From the time of the Conservatives’ election win in May 2015 to the EU referendum in June 2016, both the S&P 500 and the FTSE All-Share put in poor performances: down 5% and 15% respectively. But it was after the Brexit results came in that things really started to change. The US, again largely unaﬀected by euro-centric events, saw its stockmarket take oﬀ like a scalded cat. As I write, the S&P 500 has just reached yet another record high of 3,040, almost exactly 100% up from its 2008 pre-financial crisis peak. And then we have the FTSE All-Share. Since the 2016 Brexit referendum result, it has risen 25%. That’s not bad, but it’s only 20% above its 2008 high. It’s also lagging a long way behind the US index over one, three and five years.
This is galling for many UK-focused investors. After all, the US was the main culprit behind the global financial crisis and yet its stock market has performed significantly better than most in the post-crisis world.
But there’s another side to this story, which is this: as the fortunes of the US and UK stock markets have diverged, so too have their valuations. This means investors who are gleefully riding the S&P 500’s seemingly endless bull run are investing in an index where key valuation ratios are more stretched than at any time in history.
For example, the S&P 500’s total return cyclically adjusted PE ratio (TR-CAPE, which takes account of the increasing trend for US companies to return cash to shareholders via share buybacks rather than dividends) is 37. That’s higher than it’s been at least 95% of the time over the past century. In fact, the only time it was higher was in the 1929 and dot-com bubbles. This is not a good omen, as the US stock market has always collapsed violently from such lofty valuations.