The CAPE ratio of US stocks is approaching the peak value during the internet bubble. Should we buy at a high or wait for a pullback? Historical data provides the answer.

The S&P 500 index has repeatedly reached historical highs this year, but a key valuation indicator is sending warning signals. Currently, the Shiller Price-to-Earnings Ratio (CAPE) of the S&P 500 has risen to 42.2, the highest level since the peak of the dot-com bubble in November 1999 (44.2). This means that the valuation of U.S. stocks has reached its highest point in 26 years. Valuation Indicators Sound the Alarm The CAPE ratio measures the price investors are willing to pay for every dollar of earnings from S&P 500 constituent companies. This metric looks at the earnings of S&P 500 companies over the past decade, adjusting for inflation while excluding distortions caused by one-time events such as the COVID-19 pandemic lockdowns. A higher CAPE ratio means that the valuation of the S&P 500 index is more expensive. Since 1990, the average CAPE ratio has been slightly above 27, and in comparison to the current level of 42.2, it's clear that the market is significantly above historical averages. While this indicator is not flawless, it provides an important historical reference for assessing market valuation. How Is Today Different from the Dot-Com Bubble? The dot-com bubble was one of the most speculative periods in U.S. stock market history, with investors blindly chasing unproven internet companies. At the peak of the bubble in March 2000, the S&P 500 reached 1527 points, and then plummeted by about 50% over the next two and a half years, with numerous companies going bankrupt and investors suffering heavy losses. The current CAPE ratio approaching dot-com bubble levels does not mean that history will simply repeat itself. The Motley Fool analyst David Dierking points out the essential differences between the two cycles: during the dot-com bubble, many companies had no substantial revenue, let alone profits; whereas the core driver behind the high valuation of U.S. stocks today is the AI (Artificial Intelligence) boom and the surge in valuations of tech giants. Dierking emphasizes that the S&P 500 is heavily concentrated in the "Magnificent Seven" tech giants, for which investors are willing to pay a premium. Although there is debate in the market about whether the current AI boom contains a bubble, the leading companies driving this rally are fundamentally different from the speculative, untested, and unprofitable firms of the dot-com era. Meanwhile, Wall Street institutions are not pessimistic about the outlook for U.S. stocks. At least seven Wall Street firms expect the S&P 500 index to reach 8000 points by the end of 2026. Morgan Stanley and JPMorgan recently stated that the primary driver leading the S&P 500 to continue rising is shifting from valuation expansion to earnings upgrades plus AI commercialization. JPMorgan raised its end-of-2026 target from 7800 to 8000 points; Morgan Stanley increased its 2026 target to 8000 points and its 12-month target to 8300 points. Investors Face a Dilemma The S&P 500 index has risen more than 12% this year and has repeatedly set historical highs, particularly in August. For investors holding cash and waiting to enter the market, the current situation is particularly tricky: buying now might mean purchasing at a peak; waiting for a pullback might mean missing out altogether. Strategy One: Buy at High Prices The long-term trend for the S&P 500 index is upward, and in a healthy bull market, setting new historical highs is common, typically indicating strong momentum rather than an inevitable sign of overvaluation. JPMorgan studied S&P 500 return data since 1970 and found that buying at historical peaks yielded an average return of 9.4% over the next 12 months; in contrast, buying at non-peak moments yielded an average return of 9.0%. Extending the holding period to two years further widened the gap: the average return for purchases at historical peaks was 20.2%, while the average return for purchases at non-peaks was 18.5%. In other words, historical data suggests that buying at the top is not as frightening as investors might think. Strategy Two: Wait for a Pullback Of course, the S&P 500 index could fall at any moment. Currently, U.S. stocks appear expensive across various valuation metrics, and high interest rates, geopolitical uncertainties, and overly optimistic AI expectations could trigger market volatility. Dierking states, however, that waiting for a pullback necessitates making two correct judgments: first, accurately predicting that the target stock will decline below its current price; second, determining the right time to enter the market. Few people can consistently make these two assessments correctly. Historical experience repeatedly demonstrates that timing the market often backfires. One of the wisest choices for investors is to remain invested, as the market is likely to rebound and provide good returns in the long run, even if there are short-term pullbacks. Of course, knowing what to do is easier than executing it. Dierking believes that for investors in the current market environment, a dollar-cost averaging strategy is a worthwhile optionestablishing a fixed investment amount, setting an investment period (weekly, biweekly, or monthly), and adhering strictly to this plan regardless of market fluctuations. The core value of dollar-cost averaging is to help investors overcome the impulse to time the market since the investment plan is predetermined. Investors who maintain long-term investment commitments typically achieve better long-term returns than those attempting to time the market precisely.