Howard Marks: The S&P500 Is a Bad Bet Right Now

Key Concepts:

• S&P 500: A stock market index representing the performance of 500 of the largest companies listed on stock exchanges in the United States.
• PE Ratio (Price-to-Earnings Ratio): A valuation metric that compares a company's current share price to its per-share earnings. A higher PE ratio generally indicates that investors are paying more for each unit of net income.
• Negative Correlation: A relationship between two variables in which one variable increases as the other decreases, and vice versa.
• Annualized Return: The average annual rate of return over a specified period, typically longer than one year.
• Scatter Diagram: A type of plot or mathematical diagram using Cartesian coordinates to display values for typically two variables for a set of data.

Analysis of S&P 500 PE Ratio and Future Returns

A comprehensive analysis by JP Morgan, published around the end of 2024 (likely referring to late 2023 or early 2024), investigated the historical relationship between the S&P 500's Price-to-Earnings (PE) ratio at the time of purchase and the subsequent annualized return over the next 10 years.

• JP Morgan Research Methodology and Findings: The study utilized a scatter diagram to visualize this relationship over many years. It conclusively demonstrated a negative correlation, meaning that the higher the PE ratio an investor paid for the S&P 500, the lower the annualized return they should expect over the subsequent decade. This finding aligns with fundamental valuation principles.
• Specific Historical Data Point: A critical insight from the research was that historically, if the S&P 500 was bought when its PE ratio stood at 23, the annualized return over the following 10 years consistently fell within a narrow range of 2% to -2%. This observation was presented as an absolute rule, with "no exceptions" noted in the historical data.
• Current Market Implications: The current S&P 500 PE ratio is approximately 24-25. Based on JP Morgan's historical findings, this suggests that investors entering the market at these valuation levels should anticipate annualized returns over the next 10 years to be in a similar low range, potentially between 2% and -2%. This elevated current PE ratio is attributed to the recent rise in stock prices.

Long-Term S&P 500 Performance Characteristics

The discussion also provided additional context on the S&P 500's long-term performance trends, highlighting a key characteristic often overlooked.

• Historical Average Return: Over a span of 100 years, the S&P 500 has delivered an impressive average annualized return of 10% per year.
• Volatility of Annual Returns: Despite this robust long-term average, a significant and counter-intuitive observation is that the S&P 500's annual return is almost never between 8% and 12%. Instead, annual performance tends to be highly volatile, either significantly exceeding this range ("it kills it") or falling substantially below it ("it gets destroyed").

Synthesis and Conclusion

The core message emphasizes the profound impact of initial valuation, specifically the PE ratio, on future long-term investment returns in the S&P 500. The JP Morgan analysis provides compelling historical evidence of a negative correlation, indicating that current high valuations (PE 24-25) strongly suggest a period of potentially low annualized returns (between 2% and -2%) over the next decade. This insight is crucial for investors, as it contrasts sharply with the S&P 500's impressive 100-year average return of 10%, underscoring that the entry point valuation can significantly alter individual investment outcomes over a 10-year horizon. Furthermore, the S&P 500's annual performance is rarely "average," tending towards extremes rather than consistent, moderate growth.