The S&P 500 and stock markets in general continue to set record highs, leading many to ask: “Are we in a bubble or are stocks overpriced?” Unfortunately, the answer only becomes clear with hindsight. Historically, stock market bubbles, characterized by significant overvaluation followed by steep downturns, are only obvious after they’ve burst. A sustained rise in the market, often justified by underlying fundamentals, does not necessarily signal a bubble.
A major theme in investing is the principle known as mean reversion. The real question is the timing for when this might take place for the U.S. stock market. Recently, international equities have started to outperform, due to concerns over US tariffs and other factors. Nevertheless, U.S. large-cap growth stocks have dominated returns for several years.
For the S&P 500, more than half of its remarkable 58% cumulative return over 2023 and 2024 can be attributed to the extraordinary gains of just seven companies—the “Magnificent Seven”: Apple, Microsoft, Alphabet (Google’s parent), Amazon, Meta Platforms (Facebook’s parent), Nvidia, and Tesla.1 All these are great businesses. They’re all woven into almost every part of our lives, and together, they now comprise about one-third of the index’s total market value. This is a level of concentration that’s unprecedented.
As seen below, never before has the S&P 500 been so dominated by its top ten companies, which currently make up almost 40% of the index.
Concentration in the S&P 500 Rising Again
As of August 8, 2025, the S&P 500’s forward price-to-earnings (P/E) ratio was ~22.1, higher than the 10-year average of 18.52. According to a Morningstar article, the S&P 500 price to sales ratio is at one of the highest levels ever3. Another metric, Warren Buffett’s favored measure, the ratio of total U.S. stock market capitalization relative to U.S. GDP, is also at a historic peak4.
Finally, there’s increased focus on so-called “meme stocks”, which are popular with online retail traders who don’t analyze companies based on the fundamentals. These are just some of the factors that may lead one to conclude that U.S. stocks are due for a correction.
It’s All About Tech
A deeper look shows that the valuation of the S&P 500 is being skewed by the very high price‑to‑earnings (P/E) ratios of the large U.S. technology stocks mentioned above. Those top five tech companies highlighted above represent 28% of the S&P. By contrast, the financial and energy sectors accounted for only 16% combined in August 20255.
This matters because tech stocks generally command higher valuations than sectors such as financials or energy. For this reason, comparing today’s S&P 500 overall P/E ratio with its long‑term average can be misleading.
When analysts assess individual companies with lofty valuations, they often weigh the P/E against return on equity (ROE), which reflects profitability. As of January 2025, the tech sector exhibits ROE in the 30% range. In comparison, the rest of the S&P 500 hovers around 16%6.
The takeaway is that higher valuations for U.S. tech stocks, and U.S. stocks in general appear justified given their strong profitability. Even as U.S. economic growth has moderated, technology earnings remain resilient, largely driven by heavy investment in artificial intelligence infrastructure. Massive market share, robust profit margins, and durable competitive positions could justify the rich valuations these tech stocks maintain. However, if the U.S. economy faces a sharp downturn, even the biggest tech companies could scale back their aggressive spending and suffer reduced profitability.
Could We See a Reversion to the Mean for US Stocks?
It may be baffling that markets are booming despite what many see as negative trends. How, for instance, did the S&P 500 climb 15% in the four months from April 1, even as new tariffs are expected to boost inflation and slow growth? A couple of possibilities: Economists might just be flat-out wrong about the consequences of the above. (It wouldn’t be the first time economists’ predictions turned out incorrect.) A second reason is investor optimism. Investors, especially those in equities, must possess optimism to have money invested for the long-term, and this mindset is difficult to shake.
When sentiment is upbeat, investors have a tendency to interpret uncertain events positively and ignore bad news. It hasn’t been since the last market crash in 2008-2009, that the market truly punished risk-takers or failed to reward those buying during dips. Consequently, most younger investors have never encountered a lengthy bear market, and veterans may have grown complacent over time.
In the end, however, valuations do matter and can come back down to reality. Currently, the US Shiller CAPE (cyclically adjusted price-to-earnings) ratio stands near record levels compared to markets outside the US, indicating that future returns may be limited unless earnings growth exceeds expectations7.
Currency movements also play a critical role. Between late 2008 and 2024, the US dollar gained almost 29% against the euro, rising from about 0.70 to 0.90. This strong dollar period limited international gains for American investors. However, a weakening dollar can flip this, providing a boost to global stocks. Factors such as US trade talks, tariffs, and a growing fiscal deficit led the dollar to slip slightly, helping foreign markets beat the US in 2025.
The prolonged outperformance of US equities since 2008 lead many to expect it will continue, but a long-term historical perspective implies mean reversion is more probable after such extended strength, although predicting when that will occur is impossible.
How History May Give Us a Clue to What Comes Next
During the internet boom, the NASDAQ’s price-to-earnings (P/E) ratio climbed beyond 150. Compared to that era, today’s broader market appears less expensive, even though some companies, like those focused on artificial intelligence, are trading at extremely high valuations. But this doesn’t mean the whole market is in a bubble.
A particular stock or industry may seem pricey for a long time before facing any real pullback. For instance, during the dot-com boom, many believed technology stocks were overpriced, yet the rally persisted for almost ten years before the downturn in 2000. We can compare this to the widespread adoption of AI, which is still in its early phases. This will cause significant disruptions and changes to both businesses and everyday life. Seeing how drastically this tech can change the world, some of these lofty stock valuations might be warranted, while many other stocks could eventually crash as the industry consolidates into a handful of dominant players.
It’s also important to note that the signs of a market bubble differ from one period to another. The 2008 global financial crisis stemmed not so much from overvalued equities, but from massive leverage and risky mortgage-backed securities. By comparison, today’s leading growth narratives, particularly around AI, don’t seem to be driven by such large-scale risky borrowing.
What’s a Good Strategy for Investors Going Forward?
Diversification remains the wise course of action. Heavy concentration in U.S. stocks, particularly technology, leaves portfolios vulnerable to sharp reversals in valuation.
Both economic research and market history point to the benefits of spreading investments globally, even if it feels counterintuitive when one region has dominated for an extended period. With U.S. stock valuations elevated, it’s prudent to maintain a broader and more balanced allocation.
Rebalancing is important to prevent excessive dependence on a single region, sector, or style. As we talked about above, the U.S. CAPE ratio is hovering near record levels, implying weaker future returns unless earnings growth far exceeds expectations. Any return of valuations to historical norms could trigger a long stretch of relative weakness for U.S. markets.
The truth is that market declines are inevitable, though the timing is always uncertain. (It’s an exercise in futility to predict when declines can occur.) Still, history shows that over decades, markets have risen despite dramatic setbacks like wars, natural disasters, pandemics, and bubbles.
However, complacency with how your portfolio is exposed isn’t good either. Many in the younger generation of investors have gotten used to strong markets and low rates and show little concern about bubbles. Having never endured the dot-com bust or the 2008 financial crisis, they’ve mostly benefited from holding steady through volatility. But history also demonstrates that equities can go through prolonged slumps. During such times, maintaining exposure to a wide range of assets is critical. (Equities, fixed income, alternative investments, etc.)
Stay committed to a diversified portfolio that aligns with your long-term strategy, even in downturns. Attempts to time the bottom often backfire, as selling in fear can mean missing the eventual recovery. As long-term investors, fleeing the market due to bubble worries is rarely a winning strategy. Keeping a well-diversified portfolio across many sectors and geographies is the best strategy for investors going forward.
1 Yahoo Finance, Magnificent Seven Stocks Dominate S&P 500 Gains in 2024, January 2025.
2 FactSet Insight, S&P 500 Earnings Season Update: August 8, 2025, August 2025.
3 Morningstar, The S&P 500 is at its most expensive by this measure. These stocks have bucked the trend. August 2025.
4 Current Market Valuation, The Buffett Indicator, June 2025.
5 Investopedia, Top 25 Stocks in the S&P 500 by Index Weight for August 2025, August 2025.
6 NYU, Return on Equity by Sector (US), Data used as of January 2025.
7 Shiller PE Ratio, Accessed in September 2025.
Next Steps:
- Rerun your financial plan and compare it to your investment portfolio to assess if you’re taking a proper amount of risk.
- Review your investment holdings and asset classes to see if there are any others that might enhance your portfolio.
- Take a deeper dive into your overall financial situation using our free Financial Blueprint.
Data as of September 2025.
Intended for educational purposes only. Opinions expressed are not intended as investment advice or to predict future performance. Past performance does not guarantee future results. Neither the information presented, nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Consult your financial professional before making any investment decisions. Opinions expressed are subject to change without notice.
