of S&P500 (^GSPC 0.03%) It soared 24% in 2023, and investors have bid the benchmark index to multiple all-time highs this year. Factors contributing to this upward momentum include slowing inflation, economic resilience, rebounding corporate profits, and expectations that the Federal Reserve will cut interest rates in the near future. Interest in artificial intelligence has also driven many stocks higher in recent months.
However, the S&P 500 index currently trades at 20.4 times forward earnings estimates, a significant premium to the 10-year average of 17.7 times. As a result, some Wall Street analysts believe a drawdown is near. for example, JP Morgan Chase has set a target for the S&P 500 at 4,200, implying a decline of about 15% from current levels.
Investors wondering whether it's safe to buy stocks after a market rally should consider this advice from Warren Buffett.
Investors can always find buying opportunities in the market
Warren Buffett is one of the most successful investors in American history.he started buying shares in berkshire hathaway Under his leadership, Berkshire grew from a struggling textile mill to one of the most valuable companies in the world, with its stock price rising twice as fast as the S&P 500 over a period of more than 55 years. did. Year.
Buffett's patient, value-oriented investment philosophy played a key role in fostering that evolution. Berkshire's current value is $880 billion, with a significant portion of that value coming from its $370 billion stock portfolio. Buffett manages a large portion of that sum, making him (and Berkshire) a great case study for investors.
Buffett once wrote, “My purchases are guided by a simple rule: Be fearful when others are greedy, and be greedy when others are fearful.'' This widely cited advice calls attention to the idiosyncrasies of human nature. Stocks are often overvalued in bull markets and undervalued in bear markets because people overreact to both good and bad news.
But Buffett and co-investment managers Todd Combs and Ted Weschler have found buying opportunities in every market environment, including the current one.they bought shares in SiriusXM Holdings, western oiland chevron Despite increasingly strong S&P 500 valuations, Berkshire's portfolio declined significantly in Q4 2023.
Buffett's blueprint for stock market success
Buffett buys companies with durable economic moats, but only if the stock trades at a discount to its intrinsic value. Buffett also chooses stocks that he feels comfortable holding for the long term. All investors should follow this blueprint.
- Understand the business before buying shares: Knowledge is the basis of good investment decisions. There is no point in buying stocks without understanding the business. Doing so is tantamount to gambling, and investors who treat the stock market like a casino are inviting trouble for themselves. In the end, the house will win.
- Look for businesses with a competitive advantage. Economic moats come in many shapes and sizes, but generally correspond to pricing power and cost advantages. These qualities can arise from intellectual property, network effects, switching costs, and scale. for example, Nvidia and apple We have pricing power due to our patented technology. Similarly, visa and coca cola Enjoy the cost advantages created by our extensive scope of operations.
- Consider valuations with future growth in mind. Determining the intrinsic value of a stock is more art than science. Buffett once quoted economist John Barr Williams: “The value of every stock, bond, and company today is determined by cash inflows and outflows, discounted at the appropriate interest rate, over the remaining life of the company.'' “It is expected that this will occur during the outbreak,” he said. assets. ” This estimate refers to the discounted cash flow (DCF) model, which is a mathematically complex process of valuing a business based on its future earnings. Although there are DCF calculators online, investors can't rely on cash flow growth. This methodology is not foolproof because it requires making assumptions about the discount rate and the discount rate.
- Hold blue-chip stocks for the long term: Investors should purchase stocks with a buy-and-hold mentality. In Buffett's words, “If you're not willing to own a stock for 10 years, you shouldn't even think about owning it for 10 minutes.'' That means holding on to a stock even after investors have lost faith in the business. That doesn't mean you should. However, many investors trade based on momentum and emotion, so markets can become irrational in the short term. Time tends to weed out deviations from intrinsic value, and fundamentally healthy companies typically perform better over the long term.
The conclusion is: The S&P 500 index has risen significantly over the past year, and the index is trading at a premium to its historical valuation. This means that many stocks are probably overvalued at their current prices. In other words, the current market environment is more greed than fear, so investors should be cautious, but not too cautious and miss out on opportunities.
Berkshire bought stocks in the fourth quarter, allowing Buffett and his team to find what they thought were good companies trading at reasonable valuations. Investors who follow that blueprint stand a chance of profiting in the long run.
JPMorgan Chase is an advertising partner of The Motley Fool's Ascent. Trevor Jennewine has positions at Nvidia and Visa. The Motley Fool has positions in and recommends Apple, Berkshire Hathaway, Chevron, JPMorgan Chase, Nvidia, and Visa. The Motley Fool recommends Occidental Petroleum. The Motley Fool has a disclosure policy.
