With cash yields near zero and safe bonds paying little more, many U.S. investors say they have no choice but to take more risk if they want to grow their money. While that may be true, investors also appear to be chasing the same investments in their quest for higher returns, stretching valuations and ratcheting up risk.
Notably, junk bonds, real estate and U.S. large-capitalization growth stocks are overrun with investors. Yields on junk bonds and real estate investment trusts are the lowest on record (yields and prices move in opposite directions). The U.S. stock market, which is dominated by large-cap growth stocks, is by most valuation measures more expensive than at any time except the peak of the dot-com bubble in 1999 — and by some measures it’s even more expensive.
The danger is that record high valuations have a habit of tumbling from their perch. There’s not much investors can do about junk bonds and REITs other than limit their exposure. But when it comes to stocks, there are many alternatives to large growth companies in the U.S., including small companies, value stocks and foreign markets. They’ve been horrible performers in recent years, leaving them cheap and unloved — which is precisely why they merit another look.