Mean reversion
Plenty of high-profile commentators have suggested that with yields of close to 5 per cent on offer for investors in 2-year Treasuries the US, stock market valuations would need to revert down towards more 'normal' levels.
Source: Bloomberg
But while stock market valuations aren't as high as they were, they haven't really corrected all that much, all things considered.
The Shiller PE or CAPE ratio is running at around 29 today - which is miles above long-run averages - and actually still higher than only a few years back, when all the debate was around whether low interest rates and 'QE' were sustaining a bubbly environment for equities.
Not everyone likes the CAPE ratio for various previously discussed reasons, but there are quite a range of different valuation measures you might choose to look at (PE ratio, earnings yield, price to book, etc.) and none of them has reverted all that much.
In terms of the key stock market indices, the S&P 500 is trading at around the 4,000 level, only about -15 per cent below where it was in late 2021.
The tech-driven NASDAQ has taken a somewhat bigger hit of around -25 per cent since late 2021, but arguably that's barely a flesh wound in the context of the massive run-up since 2009.
Inflation to ease eventually
The interesting question is why?
The bears would say that the correction isn't finished yet, which may be true, though the stock market has been remarkably resilient so far.
The other possible answer is that overall investors are paying more heed to the direction of inflation than interest rates, with the headline rate of inflation in the US down from around 9 per cent to 6 per cent so far, and on balance likely to fall back towards the target in its own time.
In other words, the 5 per cent Treasury yields are obviously far more attractive than they were, but investors are sceptical about how long they might be on offer for.
