Questioning the Wisdom of Investing in Stocks with the S&P 500 Reaching an Unprecedented Peak, History Offers a Definitive Response
Navigating the decision of when to invest your hard-earned money in the stock market can be a tough nut to crack. The common mantra "time in the market beats timing the market" may sound appealing but isn't always easy to fold into your strategy, especially when the market is performing exceptionally well, as shown by the S&P 500's (GSPC -1.71%) impressive run, surging more than 70% since hitting a bear market bottom in 2022. It's unsurprising that some might see another bear market coming, given that all bear markets originate after the market records a new high.
Those who missed the previous market's incredible rally might be holding back, waiting for the bear market to kick in to jump back in. Conversely, those who have managed to stay invested might be second-guessing their choices and considering taking a step back.
But what if we told you that history has some compelling answers for investors pondering the idea of putting their money in stocks right now?
What history has to say about the stock market post-all-time highs
The core principle behind investing, especially in broad-based index funds, is that stocks, as a collective, tend to increase in value over time. Economic progress might not always progress in a smooth line, but it generally moves forward. In turn, the companies making up the economy see their profits rise, which leads to their stock prices climbing higher.
Even when stocks are trading at an all-time high, the expectation should be that they will set even further records in the future. Unless there's a compelling reason to anticipate a major slowdown in the economy that would negatively impact the businesses operating within it, the stock market should continue to advance in the near term.
As a matter of fact, new all-time highs frequently cluster together. Over the past 13 months, the index has closed at a new all-time high more than 50 times, demonstrating that hitting a new record high is not an unusual occurrence.
So, if you had invested in an S&P 500 index fund when it hit a new all-time high in 2024, your fund would have surged approximately 26% to this point. And while that's a substantial return for just 13 months, it could merely be the tip of the iceberg for this market. The median length of a bull market is about 46 months, placing us around the halfway mark.
Moreover, bull market gains of this sort are not an anomaly. The average bull market gain is about 110%, with the majority of those gains happening in the first half of the recovery from the previous bear market. This suggests that the S&P 500 could potentially surge another 23% from its current record high, and this wouldn't even constitute an average bull market.
Crucially, there's no need to wait for even a slight downturn in stock prices to invest. In fact, holding off might adversely impact your returns. Data compiled by J.P. Morgan found only a minor difference in the returns achieved by investors investing in the S&P 500 on all-time high days compared to other days since 1970. However, those investing at an all-time high earned an average return of 20% over the subsequent two years versus an average return of 18% for investment on nonspecific days.
Keep in mind that those returns are average. The returns from investing at earlier all-time highs will be significantly higher, while the returns from the most recent high point might end up in negative territory. Generally speaking, investors should expect returns of more than 40% from the first all-time high in a series, and the S&P 500 is still only up about 26% from its all-time high set in January of last year.
How to invest when the stock market is at an all-time high
Investing when stocks are at an all-time high can be more challenging compared to investing during more challenging market conditions. With more opportunities available in a bear market, patient investors have a broader pool to select from. Narrowing down choices in a bull market requires special consideration and a more thoughtful process.
That's especially true in this bull market, where stocks have risen faster than their underlying fundamentals for many of the largest companies. The S&P 500 has a forward price-to-earnings ratio of about 22.2, which is quite a bit above its historical average valuation. The biggest companies, like the "Magnificent Seven," trade at a much higher P/E ratio, posing potential risks and upsides.
However, there are still several investment options to consider. Investing in a simple S&P 500 index fund like the Vanguard S&P 500 ETF (VOO -1.70%) is an excellent choice. Its historical performance has been strong, and with a low expense ratio and outstanding track record of closely following the S&P 500 index, it delivers a fair share of the market's returns.
Alternatively, if the valuations of the biggest companies in the market are a cause for concern, you could invest in an equal-weight S&P 500 index fund like the Invesco S&P 500 Equal Weight ETF (RSP -1.40%). This fund invests an equal amount in each of the S&P 500 components, thus minimizing the concentration in the big, high-value stocks that have driven the market over the past couple of years. Historically, this approach has outperformed over the long term. However, it may fall short at times when compared to a traditional cap-weighted index.
Ultimately, the choice is yours. The stock market has a history of rewarding patience and prudence in its long-term behavior. While past performance is no guarantee of future results, the odds are firmly in favor of those ready to invest, absent any compelling reason to hold back.
- In the context of investing at an all-time high, history suggests that stocks, especially broad-based index funds, tend to increase in value over time due to economic progress and rising company profits.
- Not waiting for a slight downturn in stock prices to invest can potentially have a positive impact on returns, with data showing that investors who invest at all-time highs have achieved higher returns in the subsequent two years.
- Investing in an S&P 500 index fund during a bull market, such as the Vanguard S&P 500 ETF, can be a good choice due to its strong historical performance and low expense ratio.
- For those concerned about high valuations of the largest companies, investing in an equal-weight S&P 500 index fund, like the Invesco S&P 500 Equal Weight ETF, could be an alternative, as it minimizes concentration in high-value stocks and has historically outperformed over the long term.
