The current market situation is far from ideal. Yesterday's market saw the S&P 500 decline by over one percent, the Dow Jones by a similar margin, and the Nasdaq fall by almost 2%. In contrast, the VIX volatility index has climbed over 9%, indicating that the market's instability is ongoing.
TL;DR
- Wall Street valuations are at historically extreme levels despite recent market declines.
- CEOs from Morgan Stanley and Goldman Sachs anticipate a market downturn of up to 20%.
- AI investment is a key factor driving current valuations, with questions about future growth.
- Some experts believe current high valuations are justified by AI's potential and profit growth.
Even so, Apollo's lead economist, Torsten Sløk, stated this week that the S&P is at “historically extreme valuations.” In a memo to clients on Tuesday, Sløk illustrated the “Warren Buffett indicator” (U.S. The market capitalization to gross domestic product ratio compared to the Shiller cyclically adjusted price-to-earnings ratio.
Consequently, and as might be expected, the Buffett indicator has gradually risen to an extreme level, mirroring the trend in price-to-earnings ratios. Nonetheless, 2025 is notably an exceptionally prolonged exception.
Recent figures reinforce a widespread apprehension among observers that a market correction is imminent. This week, the CEOs of both Morgan Stanley and Goldman Sachs indicated they anticipate a substantial market downturn, with potential declines of up to 20% within the coming two years.
According to UBS's chief investment officer, Mark Haefele, in a client note released yesterday, elevated valuations alone don't automatically indicate an impending market downturn. He said that on the whole there is “no doubt” that valuations are above average but the market is unlikely to correct itself based purely on this fact.
Instead, he argues, declines will come “when corporate profit growth disappoints, with forward returns more correlated with changes in earnings expectations over the next 12 months.”
He stated: "This earnings season's outcomes have been robust, with the scope and scale of earnings surprises thus far surpassing typical historical figures." We forecast S&P 500 earnings per share to grow 10% this year, and see upside to our expectation of a 7.5% growth next year. Additionally, we believe current valuations are justified, as the increased weighting of higher-multiple sectors (such as IT) in equity benchmarks should help sustain higher valuations.”
AI is a key factor driving valuations, and it's worth noting. Capex on the revolutionary technology isn’t only pumping valuations in markets, it’s so huge that it’s a key driver for the U.S. The entire economy. The level of funds being pumped into AI and its infrastructure has led to (arguably inevitable) bubble questions about whether the technology can live up to its promise.
“Given aggressive valuations, however, investors must be asking where the fuel for 2026 gains will come from,” chimed Lisa Shalett, chief investment officer at Morgan Stanley in a note on Monday. “In essence, portfolio positioning hinges on whether the AI capex boom will deliver as modeled. Our view remains 50/50, given that implementation may take longer than hoped for, with productivity gains limited to a few scaled companies.”
Of course, valuations also comes down to timing: When does the market see companies finally delivering the results they are being valued on?
This is the argument of Mary Callahan Erdoes, CEO of JPMorgan’s asset and wealth management business, who acknowledged that while in some stocks there is “a little too much concentration,” argued at Coins2Day’s Global Forum last month: “AI has not even been deployed anywhere to the extent that it will be. Less than 10% of companies actually say that it’s embedded in the services and the products that they deliver today. There’s an enormous amount of opportunity.”
She added: “That’s why you’re seeing the multiples are the way they are. And the question is, how fast will we grow into those multiples? It’s not that the multiples are wrong, they will eventually be right; they may not be right for every company.”
Here’s a snapshot of the markets ahead of the opening bell in New York this morning:
- S&P 500 futures are up 0.17% this morning. The last session closed down 1.12%.
- STOXX Europe 600 was flat in early trading.
- The U.K.’s FTSE 100 was down 0.48% in early trading.
- Japan’s Nikkei 225 was down 1.19%.
- China’s CSI 300 was up 0.31%.
- The South Korea KOSPI was down 1.81%.
- India’s NIFTY 50 is down 0.1%.
- Bitcoin was down to $100.9K.