Patience and Awareness 

By Gary Gibbs

Often when an asset class enjoys significant relative outperformance, there begins to be talk of a bubble. Whether the asset class is real estate, commodities, or, more recently, domestic stocks, analysts and managers alike begin wondering how long the outperformance can or will last and how and when it will end.

Over the previous ten years ending December 31st 2024, the S&P 500 Index was up 13.1% on an annualized basis, while the Bloomberg Aggregate Bond Index was up 1.3%. Contrast the performance of both indexes with the value of the so-called ‘magnificent seven’ (Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia and Tesla) and the performance disparity widens even further which leads to the question of relative valuation. 

Below is a graph, courtesy of J.P. Morgan Asset Management, which demonstrates forward price/earnings (P/E) ratios and subsequent ten-year annualized rates of return. It plots monthly observations from 1988 to 2024. One reasonable conclusion is that the current P/E is high, and lower returns should be expected. However, several factors over the past few decades may have caused a more lasting change in this relationship.

Gradually but consistently, investors globally have gained greater access to worldwide markets, with trading being done more quickly and more easily than ever before. Gone are the days of physically visiting a broker’s location while watching the ticker tape with a newspaper in hand. Today, anyone in a developing country with internet access has the ability to own US stocks. In addition, the prevalence of defined benefit (pension) plans has given way to defined contribution plans, IRAs & 401(k)s, which further broadens household ownership of stock either directly or indirectly. These savers must also plan for a longer retirement period as life expectancies have increased and many look for an earlier retirement, further increasing the incentive to own stocks.

These factors can then be viewed through the lens of supply and demand. This principle would suggest that with demand rising as supply stays constant at best, the end result could be higher prices. Thus, when given a long-term investment horizon, domestic stocks still warrant a significant weighting in portfolios. 

The most important lesson from these exercises is that asset allocation and diversification are of critical importance. Nearly all our stock positions at Trust Company of Vermont are in global businesses, with revenue generated from around the globe. We are truly stewards of assets, which requires adaptation, awareness and communication. While clearly nobody has the proverbial crystal ball, we continue to focus on high quality stocks (and bonds) which have proven over the long-term to benefit shareholders. As one of my very early mentors used to say, I remain skeptically optimistic