Stocks are headed for something that hasn’t happened since the days of the dot-com bubble

The S&P 500 is flirting with what would be a rare feat: rising 20% ​​or more in two consecutive calendar years.

At least that was the case as of Tuesday’s close, when the U.S. benchmark saw its year-to-date advance exceed 20 percent for the first time since early 2024, according to Dow Jones Market Data. The achievement happened to coincide with the index’s 41st record close.

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By the close of trading on Wednesday, the S&P 500 had pulled back a bit. But it remains close to the high, and following the Federal Reserve’s enormous interest rate cut, investors have good reason to expect it will get there.

It’s been a while since the index has seen such strong back-to-back years. The last time that happened was in 1998, according to Dow Jones Market Data. In those days, growing public enthusiasm for stock trading and hype unleashed by the advent of Internet trading helped the S&P 500 SPX rise 20% or more for four consecutive years beginning in 1995. The streak continued for nearly fifth year, but the index increased by only 19.5% in 1999.

Prior to that, stocks had not posted such strong gains for two years in a row since 1955, before the S&P 500 was even introduced.

The strength of the stock’s advance helped revive speculation about how much more U.S. large-cap stocks can rise and whether the market’s stunning bull run — which saw the S&P 500 gain 60% from its October 2022 low, according to FactSet. data — could be poised to slow or even reverse.

Some have suggested abandoning large-cap stocks altogether in favor of better deals in the small- and mid-cap space, or even going bargain hunting overseas.

But others insist that large-cap stocks are still investors’ best bet, even as their valuations have reached levels considered high relative to recent history.

Echoes of the dot-com days

The implicit comparison to the dot-com bubble days isn’t exactly an endorsement. Wall Street professionals are quick to point out the differences between now and then, as well as the similarities.

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“It’s interesting that the last time we saw performance like this was in the late 90s,” said Steve Sosnick, chief strategist at Interactive Brokers, during an interview with MarketWatch on Wednesday.

“I don’t want to overdo the Internet-era analogy, because that’s not necessarily right, but what I would say is that it was also a time when the public fell in love with stocks,” he said. “As a result, you know, they were willing to put money into the markets.”

Then, as now, tech stocks dominate the market. Taken together, information technology and communications services — the successor to the telecommunications sector — account for a huge share of the S&P 500’s market value, according to Eric Wallerstein, chief market strategist at Yardeni Research.

Depending on where stocks are trading relative to company sales, the S&P 500 is even more expensive today than it was then, FactSet data shows. The forward price-to-sales ratio for the S&P 500 was 2.9 times at the end of August, compared with 2.4 times at the end of 1999.

But America’s biggest companies today are even more profitable than they were then, meaning prices relative to expected future earnings are actually lower.

Based on Wall Street’s earnings forecasts for the year ahead, the S&P 500 recently traded at 21.6 times forward earnings, compared with just under 24 times at the end of 1999.

The evaluation question

While metrics like price-to-sales are harder for companies’ management teams to manipulate, at the end of the day, profits are what matters to investors, Sosnick said.

Still, some on Wall Street believe high valuations are likely to set the stage for the S&P 500 to deliver below-average returns over the next decade.

See: Investors should brace for lower stock market returns over the next decade, JPMorgan warns

Earlier this month, several analysts at JP Morgan Securities warned that, based on their models, the S&P 500 would see its average return over the next decade fall to 5.7%. That’s lower than the 8.5% average annual return for the S&P 500 since it was introduced in 1957, according to Dow Jones data.

On the other hand, Wallerstein and his colleagues at Yardeni Research believe that S&P 500 gains — and therefore returns — will be supported by stronger-than-expected economic growth through at least 2030.

Improving productivity should help corporate profit margins for the largest companies continue to expand, which in turn should help propel the market higher at an above-average pace.

“I think one of the reasons valuations can be higher today and in the future is that a larger and larger part of the market is the Magnificent Seven or (information technology) and communications services,” Wallerstein said during an interview for MarketWatch.

“We don’t take the valuation argument lightly, but it’s an argument you could have made for the last 15 years,” he added.

Expanding

That’s not to say that tech and tech-adjacent stocks will continue to dominate the market to the extent they did in 2023 and earlier in 2024. Indeed, that has already begun to change since the start of the third quarter.

Wallerstein said he sees plenty of signs that other large-cap stocks are starting to make bigger contributions. As long as former laggards such as financials, industrials and utilities — which are coming off their best quarter since 2003, the data show — continue to grow, there’s plenty of scope for the index to continue climbing into a quick pace.

Earlier this week, the percentage of S&P 500 companies that beat the index was about 34 percent, according to Dow Jones data. That’s up from 29 percent for calendar year 2023. Over the past decade, the average was 46.2 percent, excluding this year.

History suggests that the good times for stocks may continue, albeit at a slower pace. Since 1957, the S&P 500 has averaged a gain of just over 9% over the year, after a 20% return, according to Dow Jones data.

The S&P 500 fell 10.67 points, or 0.2 percent, to 5,722.26 on Wednesday, according to FactSet data. Meanwhile, the Nasdaq Composite COMP edged a marginal gain to close at 18,082.21.

The Dow Jones Industrial Average DJIA lost 293.47 points, or 0.7%, to end at 41,914.75.

Ken Jimenez contributed.

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