After the Covid-induced bear market, when the Standard & Poor’s 500 index lost 34% of its value, share prices recovered swiftly and now trade at nearly 20 times their 12-month reported profits. Suddenly, fears have grown of a stock bubble that’s about to burst.

While no one can predict the next stock-market move with certainty, what’s clear is that the stock market’s valuation metrics have changed with the financial times. Under the current regime of ultra-low bond yields -- a condition not expected to change anytime soon -- a new stock valuation paradigm has taken root.

Low yields on bonds make stocks more attractive to investors, altering the historical relationship in the respective valuations of the world’s two most fundamental investments. With bonds yields low and inflation likely dormant, investors are willing to pay a higher price-earnings multiple for stocks.

Look at how, during the tech stock bubble of 2000, when the Standard & Poor’s 500 price spiked to nearly 30 times trailing 12-month earnings, the yield on a 10-year U.S. Treasury bond was 6%. That compares to the recent 10-year bond yield of only six-tenths of 1%! Bonds in the tech bubble yielded 10 times as much as they do now! Inflation in that period of sky-high stock valuations was more than 2%, versus one-half of 1% currently, and since inflation is not expected to spike higher any time soon, it’s helping keep bond yields from rising.

In addition to a shift in the stock valuation paradigm, modern financial markets differ from the past in another important way: Since the 1970’s, America has undergone a revolutionary expansion of IRAs, 401(k)s, and other federally qualified retirement plans. Incentivized by tax legislation for the past five decades, Americans have grown into a permanent investor class supported by a system designed to encourage staying invested for a lifetime. The modern-era American investor is not so much concerned with the stock market’s short-term gyrations. Hedge funds, Wall Street banks, and professional speculators are the proximate cause of much of today’s stock market volatility, but they are widely ignored by the American investor class, as they recognize the slow but inexorable progress that America’s largest public-company investments represent.

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