What History Tells Us About Today's Stock Market Valuations

The most expensive market in living memory

The S&P 500 isn't just expensive. By one important measure, it's more expensive than it's been in nearly all of its 150-year history.

The Shiller CAPE ratio — cyclically adjusted price-to-earnings — sits near 37 as of early 2026. The long-term average is closer to 17. The only sustained periods that exceeded today's level were the dot-com peak around 1999 and a brief stretch in late 2021.

That doesn't mean a crash is coming. It does mean something more useful — the starting valuation gives us a reasonable estimate of what the next decade probably holds.

That's Warren Buffett, quoting Benjamin Graham in his 2008 letter to Berkshire shareholders. Valuation isn't a timing tool. It's gravity.

Why CAPE matters more than the regular P/E

Most P/E ratios use a single year of earnings. That single year gets distorted by recessions, one-time charges, or unusually fat profit margins. Robert Shiller's version — built on his Nobel-winning work on asset prices — uses a 10-year inflation-adjusted earnings average. That smooths out the cycle.

Here's what the historical record shows:

Across 150 years of U.S. data, the starting CAPE has explained roughly a third to a half of the variation in 10-year forward returns. Higher starting valuation, lower forward returns. Lower starting valuation, higher forward returns.

We're sitting in the bottom row.

What today's level implies for the next 10 years

The major capital market forecasters — Vanguard, GMO, Research Affiliates, AQR, BlackRock — publish 10-year expected return models. They use slightly different methods, but their conclusions cluster:

• U.S. large cap: 2–5% real returns
• International developed: 5–7% real
• Emerging markets: 6–9% real
• U.S. small-cap value: 6–8% real
• Investment-grade bonds: 2–3% real

For context, U.S. large caps have delivered roughly 7% real over the long run. The forecasts aren't predicting catastrophe. They're predicting mediocrity from the most expensive segment of the market — the segment most American investors are heaviest in, often without realizing how concentrated their U.S. exposure has become.

The full equity market, weighted globally, looks much healthier than the S&P 500 alone.

The case for staying invested anyway

If forecasts are this modest, why not raise cash and wait?

Because the historical record on market timing is unambiguous, and not in the timer's favor. A J.P. Morgan study found that missing just the 10 best days in the S&P 500 over a 20-year period cuts your returns roughly in half. Miss the 20 best days and you would have been better off in Treasury bills.

The kicker: the best days almost always happen right next to the worst days. They cluster during periods of extreme volatility — exactly when people sell.

Even at today's elevated valuations, the path forward for the patient investor is the same one we walked through in Staying Rational When Markets Drop. Valuation tilts the odds, but only over long horizons. Behavior decides whether you actually capture that long-horizon return.

That's Peter Lynch, who ran Fidelity Magellan to a 29.2% annualized return over 13 years and watched investors in his own fund lose money by panicking.

What it doesn't mean

It doesn't mean sell. It doesn't mean stocks are doomed. Earnings could grow into the multiple. Margins could stay elevated. Productivity gains from AI could justify some of what looks rich today. None of that is guaranteed, but neither is reversion.

It also doesn't mean the index is uniformly expensive. The S&P 500's CAPE is dragged up by a handful of mega-cap technology names trading at extreme multiples. The median stock in the index is materially cheaper than the cap-weighted average. That distinction matters when you decide where to direct new money.

What it should change

Three things, mostly.

1. Expectations

If you're modeling 10% nominal returns from U.S. large caps over the next decade, your savings rate is doing more work than your portfolio. Build the plan around that, not around hope.

The math on savings rate versus returns is unforgiving in a low-return decade. A 25% savings rate at 4% real returns builds wealth faster than a 10% savings rate at 8% returns over most realistic working horizons. When market returns shrink, your contribution rate becomes the lever that matters.

For investors approaching or in retirement, the stakes are different. Starting decumulation in a high-valuation, low-expected-return environment introduces a real sequence of returns risk — the danger that early withdrawals compound the damage of a flat or declining decade. Retirees should plan for that environment now, while there's still time to adjust.

2. Diversification

International stocks, small-cap value, and emerging markets are priced to deliver materially better expected returns than the cap-weighted U.S. index. That isn't a prediction — it's math from a lower starting point.

The companion to this article, Where Smart Capital Goes When U.S. Stocks Look Expensive, walks through the specific buckets and how to rebalance into them without triggering a tax bill.

3. Behavior

A high-CAPE market is one where the gap between the patient investor and the panicked one widens. You won't outperform by trading. You'll outperform by not selling when the next 20% drawdown comes — and at this valuation, one is statistically more likely than usual.

Markets have historically dropped 10%+ about once a year, 20%+ every 3–5 years, and 30%+ once a decade. From an elevated starting valuation, those declines tend to be slightly more likely and slightly deeper. Plan for them now, while you're calm.

A reasonable response to expensive markets

If you accept the data, the response writes itself:

1. Keep contributing. Don't try to time the cycle. Dollar-cost averaging through an expensive period is what generations of disciplined investors have done.

2. Rebalance toward better-priced assets in your retirement accounts (no tax cost) and through new contributions in taxable accounts.

3. Raise your savings rate if you can. In a 3–5% real-return decade, the savings rate is the lever that matters most.

4. Don't sell appreciated U.S. positions in taxable accounts purely on valuation. The tax bill is certain. The valuation correction is not. Direct new money to the underweight buckets instead.

5. Track your allocation, not just your balance. A 60/40 U.S./international portfolio drifted to 80/20 over the last decade for most investors. The drift happened silently. The check-in is what catches it.

The bottom line

Valuation matters, but it doesn't matter the way most people think. It doesn't tell you when to get out. It tells you what to expect — and where the better-priced opportunities live while you wait for the cycle to turn.

The investor who outperforms over the next decade probably won't be the one who timed the top of the S&P 500. It'll be the one who:

• Kept contributing through the boring middle
• Diversified globally before it was popular again
• Raised their savings rate when forecasts dropped
• Held through whatever drawdown shows up

That's not glamorous. It's also not a coincidence — it's how almost every long-horizon track record worth studying actually got built.

That's Charlie Munger, on the discipline that actually compounds. Track your net worth monthly. Watch your allocation. Keep contributing. The valuation environment will change. The discipline that gets you through it won't.