There are several warning signs suggest the stock market may be entering an overheating phase, reminiscent of prior late-stage bull markets. It’s certainly more prevalent in the US, but even some UK stocks look a little too hot to touch.
Key indicators include technical metrics, valuation levels, investor behaviour, and macroeconomic signals. The S&P 500 is trading significantly above its 200-day moving average, a pattern often seen near market peaks.
Meanwhile the market has been climbing the so-called Wall of Worry. Market participants have been shrugging off negative news, fuelling elevated investor optimism despite conflicting signals from credit markets and underlying economic risks.
Valuations are looking stretched all over the place, even when accounting for the transformative impact of artificial intelligence (AI). For context, the forward price-to-earnings-to-growth (PEG) ratio for the global IT sector now sits at 1.83, suggesting that growth is more than priced in.
High-performing sectors, particularly technology leaders, have experienced the kind of parabolic rallies that historically precede sharp corrections. Modest rallies are typically more indicative of sustainable price movement.
And many commentator are highlighting that the market will need to acknowledge some of the broader economic challenges we see today. Inflation is stubborn in many parts of the world, geopolitical tensions remain elevated, and US trade policy will have a material impact on global development.
So, which shares would I not want to hold in a stock market crash? Well, stocks with strong momentum that could reverse amid demanding valuations.
| Stock | 6-month price change |
| Arm Holdings | -1.5% |
| BigBear.ai Holdings | 88% |
| Credo Technologies | 25.8% |
| Oracle | 32% |
| Palantir | 96% |
| Quantum Computing Inc | 55% |
| Rightmove | 21% |
| Rocket Lab | 58% |
| SoundHound AI | -24% |
| Tesla (NASDAQ:TSLA) | -24% |
There’s no particular pattern here. However, many trade at multiples far in excess of their averages, display unsustainable share price movements, and have an element of speculation baked in. I even owned some until recently, and continue to own Quantum Computing Inc — this is a short-term trade not an investment. I sadly decided to part with my Rocket Lab shares — up 100%, but I think the gains were unsustainable.
What’s wrong with Tesla?
I like Tesla. I own a Tesla. But I wouldn’t buy Tesla stock at the current price. Simply, at 177 times forward earnings, the stock is detached from its fundamentals and even its prospects. The stock has become so expensive because of the belief that Tesla will dominate the autonomous driving revolution. Indeed, it’s certainly ahead of the game in relative terms, having rolled out robotaxis in limited numbers.
However, there is no guarantee it will dominate in the autonomous era. And there’s no guarantee uptake will be unanimous. And that’s an issue for a company with a price-to-earnings-to-growth (PEG) ratio of eight times. Ironically, Ferrari, the antithesis of autonomous driving, also trades with an outrageous PEG of six times.
Long story short, as much as I like the brand, the valuation is built on a degree of speculation. And when the market goes into reverse, speculators get hurt the most. That’s why I think investors should consider other stocks with stronger metrics for now. Or possibly sell if they hold them. Nonetheless, I still think there are some excellent investment opportunities out there, even in the current market.
