Building A Dividend Growth Portfolio From Scratch In Today’s Expensive Market

Introduction

The stock market as measured by the S&P 500 is at an all-time high. However, that is not what concerns me. What I am worried about is the extremely high relative valuation of the market. To be clear, the market can be trading at an all-time high and still be attractively valued. Moreover, the long-term direction of the stock market has been up. On the other hand, that ascension is interrupted from time to time due to overvaluation eventually instigating the inevitable reversion to the mean valuation.

The following graphic courtesy of Current Market Valuation is an awesome job of illustrating and validating the above paragraph. On the graph you can see the long-term steady increase in the market as described. However, what I really like about the following graph is how they color-coded valuation. When the price line is gray valuation is reasonable, when the price line is green it connotes periods of undervaluation, yellow denotes overvaluation and red reveals extreme or what I call dangerous overvaluation. The reader should note that the S&P 500 has currently entered that dangerous territory.

(Graph courtesy of Current Market Valuation)

S&P 500 Price Correlated With Fundamentals Since 2001

With the following graphic, I will utilize the calculator functionality of FAST Graphs to provide a perspective of the S&P 500’s overvaluation based on a conservative calculation of the index reverting to the normal (mean) valuation since the calendar year 2001. The moral of this story is that the current valuation would suggest that this would be a very poor time to be investing in  S&P 500 index fund. The major issue here is not necessarily the potential loss of capital. Rather, the real issue is the loss of time.

Today’s current valuation suggests that investors purchasing the index today could suffer through negative returns for the next 2 to 3 years or longer. In the long run, which I am suggesting would be a decade or more, they might do okay based on the market’s historical ascension. However, I have found few investors willing to wait patiently for 2 years or more before they start seeing positive momentum.

(Source: FAST Graphs)

It is a Market of Stocks

With the above said I am on record many times of pointing out that it is a market of stocks not a stock market. In summary, this simply means that in every market – whether it be a bull market or a bear market – there will always be value to be found. Obviously, you can find more value in a bear market than you can in a bull market. Nevertheless, there are a lot of individual stocks that can be found at attractive valuations even in today’s expensive stock market.

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Disclosure: Long PFE, T, ABC, OHI, EPD, CVS, ORCL, MCK, ABBV, BMY, OMC at the time of writing.

Disclaimer: The opinions in this article are for informational and educational purposes only and ...

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