This indicator just reached 41 points – the second highest level in about 150 years. It had only risen higher once before – in December 1999, just a few months before the peak of the tech bubble.
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US stocks have not been this expensive for a long time, so many investors are tempted to wait for a market correction or withdraw from it altogether. Others, seeing rapidly appreciating stocks, dive headfirst into investing. Both of these decisions can be costly.
Being Right Doesn’t Mean Being Profitable
In December 1996, legendary US Federal Reserve Chairman Alan Greenspan coined the term “irrational exuberance” and clearly warned that asset prices might be excessively detached from fundamentals. He was eventually right. However, the Nasdaq index only peaked in March 2000, having grown approximately threefold during that period.
An investor who, in 1996, would have believed A. Greenspan and exited the market, would have watched for over three years as the market first proved him wrong, and only then – that he was right. Identifying market overheating too early can be dangerous; many investors have lost significant earnings waiting for years for better prices. US stocks have appeared expensive by many metrics for almost a decade, yet their value has grown more than threefold during that time.
Expensive Stocks Don’t Mean an Impending Crash
Relative valuation metrics are a poor guide for short-term investing. They tell almost nothing about returns in the next few years, but they should not be completely ignored either. Studies show that investing in a very expensive market leads to disappointing returns over the coming decade. This often results from a painful bubble burst and a long recovery period.
In 1989, the Japanese stock exchange experienced the peak of a stock market bubble – investors agreed to pay 60-70 times more for a stock than companies earned in annual profit. After the bubble burst, the Japanese stock market lay dormant for decades and only reached its previous peak in 2024. A similar situation occurred after the dot-com bubble – the US technology index “Nasdaq 100” only reached its previous peak level in 2025.
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Staying on the sidelines of the market often costs investors dearly. However, it is no less dangerous to thoughtlessly invest in the most popular areas when the market is already overheated – this can also lead to poor investment returns.
Taking Risk Wisely
Investors face a fundamental problem – no one knows what will happen tomorrow, how long economic cycles will last, and even good analysis can be misleading. As the legendary economist and investor John Maynard Keynes once said: “The market can remain irrational longer than you can remain solvent.” Therefore, both extremes – not investing simply because it seems expensive, or diving headfirst into the market – can be costly.
In the late stage of the economic cycle, diversification and safety reserves become more important than ever. Not all regions of the world are equally expensive, and different asset classes react differently to changes in the economic cycle. An investor who has broadly diversified their portfolio typically experiences smaller and shorter downturns when markets face crises. A larger portion of cash or bonds in the portfolio provides more peace of mind – there’s no need to sell investments at a loss, and one can calmly await market recovery.
A clear plan and discipline best protect a long-term investor from costly mistakes. Periodic investing inherently reduces the risk of investing at the wrong time. This way, investments are made both when the market is expensive and when it is cheap, leading to a good average result over time. If investing not only in stocks but also in other asset classes, it is worth regularly rebalancing the portfolio. For example, if an investor’s goal is 80% stocks and 20% bonds, these proportions can be restored once a year – selling assets that have become more expensive and buying those that have become relatively cheaper.
Diversification across different asset classes, periodic investing, and regular portfolio rebalancing are among the most important factors for long-term investment success. They allow for less speculation about whether the market is currently in a bubble and more focus on consistent long-term asset growth.
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