How big is the US stock market bubble? UBS provides seven indicators.

Author: Ye Huiwen Source: Wall Street News

As US stock valuations remain high, discussions about whether the market has entered a bubble phase are intensifying. Despite strong corporate earnings, Wall Street executives have begun to warn of potential pullback risks.

According to TrendFocus, a recent report from UBS proposes a framework comprising seven indicators, concluding that the current market is in the early stages of a potential bubble and has not yet reached its dangerous peak.

They point out that technology stocks' price-to-earnings ratios are close to normal levels relative to the overall market, their earnings revisions and growth prospects are better, and their capital expenditure cycle is in its early stages. Most importantly, the current market is far from exhibiting the excessive signs seen at the peak of historical bubbles.

UBS concludes that if a bubble exists in the market, it may be reflected in the high profit margins of technology giants.

As capital intensity and competition intensify in the industry, these high profit margins may face downward pressure in the future. However, for now, the market is still far from a truly dangerous moment.

Seven Prerequisites for Bubble Formation

UBS equity strategist Andrew Garthwaite and his team proposed in a report that the formation of market bubbles typically requires the fulfillment of seven prerequisites. They believe that if the Federal Reserve's interest rate cut path aligns with UBS's predictions, all seven conditions will be triggered.

• Buy-on-dips mentality: Over the past decade, stocks have outperformed bonds by 14% annualized, far exceeding the 5% threshold required to form this mentality.

• The "This Time Is Different" Narrative: The rise of generative artificial intelligence (Gen AI) provides a powerful new technological narrative.

Intergenerational Memory Gap: Approximately 25 years have passed since the last tech bubble (1998), making the new generation of investors more likely to believe "this time is different." Overall Profit Pressure: In the US, excluding the top 10 companies by market capitalization, the 12-month forward earnings per share (EPS) growth for the remaining companies is close to zero, similar to the profit situation during the dot-com bubble. High Concentration: The current concentration of market capitalization and revenue in the US stock market is at historical highs. Active Retail Investor Entry: Retail trading activity has increased significantly in many regions, including the US, India, and South Korea. Loose Monetary Environment: Current financial conditions are already loose, and if the Federal Reserve cuts interest rates as expected, the monetary environment will further ease. Three Signs of a Bubble Peak: Although the conditions for a bubble are gradually being met, UBS believes that the market is still quite far from its true peak. The report analyzes the key signals that indicate a market top from three dimensions: valuation, long-term catalysts, and short-term catalysts. 1. Clear Overvaluation: Historically, bubble peaks are usually accompanied by extreme valuations. For example, in previous bubbles, at least 30% of companies by market capitalization would have seen their price-to-earnings ratios rise to 45 to 73, while the current forward P/E ratio of the "Big Seven" (Mag 6) is 35. Meanwhile, the equity risk premium (ERP) has not fallen to the extreme lows of around 1% seen in 2000 or 1929.







2. Catalysts for Long-Term Peaks: The report points out that multiple long-term indicators also do not show signs of peaking.



Lessons from the Post-TMT Era

UBS reviewed the experience following the bursting of the technology, media, and telecommunications (TMT) bubble in 2000, offering several lessons for investors. First, after a bubble bursts, value may flow to non-bubble sectors; in the initial sell-off, non-TMT stocks initially rose. Second, the market may exhibit an "echo effect" or a double-top pattern.