This concentration of performance has created a significant valuation gap between these megacap stocks and the broader market. While the S&P 500’s price-to-earnings (PE) ratio is currently at 26.9, the equal-weighted version of the index, which doesn’t prioritize larger companies, has a significantly lower PE ratio of 20.9. This 6 percentage point difference is the widest seen in the past decade.
This discrepancy in valuation presents a potential opportunity for investors in today’s stock market. The current AI-driven frenzy may be causing many undervalued companies to be overlooked. In fact, the average PE ratio of an S&P 500 stock today is comparable to levels seen in early 2017. This suggests that there may be significant value to be found outside of the top-performing companies.
Furthermore, the high valuations of today’s leading stocks could make them more susceptible to losses if the market experiences a downturn or if negative news emerges. While high valuations don’t always indicate an imminent decline, they do increase the risk associated with these investments. Diversifying into smaller-cap and value-oriented stocks could provide a buffer against potential losses in the top-heavy segments of the market. These often-overlooked areas of the today stock market may offer compelling return potential for investors willing to explore beyond the current market leaders.
