Rudi’s View: How Expensive Is Expensive?

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How Expensive Is Expensive?

By Rudi Filapek-Vandyck, Editor

Equity markets look “expensive”.

There’s virtually nobody around who will fiercely dispute that statement, but does this by definition mean we should all worry about the next sell-off forthcoming?

Recent client conversations by analysts at Morgan Stanley appear to suggest investors have –sort off– given up on the ongoing valuation/over-valuation debate.

On the analysts’ observation, there is now a “genuine fatigue” among investors when conversations migrate towards things like average and historic PE levels and equity valuations versus inflation and bond yields.

As far as Morgan Stanley’s experience goes, local investors are way more interested in identifying companies that source their earnings locally and offer quality and defendable earnings stories.

Clearly, this year’s context has put tariffs and tariff risk on everyone’s mind.

Banks Loom Large In Australia

This also tells us a lot about why Australian banks refuse to “come down to earth”, so to speak, despite just about every sector analyst and his pet (dog/cat/parrot) calling the sector overvalued by double digits.

The world remains uncomfortable with what can possibly be decided at the White House tomorrow.

Australian banks might not offer the same excitement and growth potential as the likes of Nvidia and Microsoft in the US, or try defense companies in Europe, but viewed through this year’s specific risk assessment, they are solid enough havens that don’t keep investors awake at night.

At some point, one would assume, either underlying fundamentals will need to catch up, or today’s share prices will revert back to much lower levels.

According to analysts at The Intelligent Investor, the sector in Australia awaits in all likelihood another lost decade, just like the first ten years after the GFC delivered no net gains for loyal shareholders.

Except it lasted more than ten years, and CommBank ((CBA)) has been the stand-out exception (as I have pointed out time and again).

Banks remain the largest index constituent in Australia, and with none of them still trading below consensus target (outside of Judo Bank ((JDO)) and Macquarie Group ((MQG)), it goes without saying today’s key indices in Australia all look inflated, pricey and bloated.

One can see why so many investors and market commentators feel nervous and uncomfortable, also because May yet again delivered outsized returns for local investment portfolios.

Ord Minnett Is Bearish

Last week, Head of Asset Allocation at Ord Minnett, Malcolm Wood released a valuation update for the Australian market and made his conclusions clear from the get-go: valuations in Australia are “extreme” no matter the angle from which an assessment is made.

On Wood’s sector comparisons between the US and Australia, five out of 11 sectors locally look “expensive” against a direct comparison with the US, where valuations equally look richly priced. Those five sectors are Financials (of course, and mostly the banks within), as well as Healthcare, Info Tech, Communication Services, and Utilities.

Underneath such generalised assessments, there’s plenty of material for hours-long debate. Wood himself acknowledges even in an “extremely” overvalued market, there are parts in sectors and the share market generally that look “attractive”, “compelling” or “undervalued”, including inside the five sectors highlighted.

One additional observation to make is Wood’s historical PE comparison is 14.6x. With the local PE now sitting around 18.5x, this suggests overvaluation by two standard deviations, which sounds very scary and no doubt is one reason why the term “bubble” is so commonly used these days.

But maybe a more accurate observation to make is that equity valuations have been higher over the decade past than in the decades prior and in Australia this means a more apposite comparison might be the ten year-average multiple of 16x. It still means today’s valuations are well above average, but a whole lot less than suggested off the 14.6x multiple.

In simple terms: Wood’s analysis is suggesting the local market looks overpriced by some 26.5%, but against the ten year benchmark this percentage shrinks to 15.5% — admittedly, that still remains a sizeable distance from “cheap”.

UBS Remains Positive

Strategists at UBS are significantly less worried than Ord Minnett. Following this year’s sharp sell-off and equally steep recovery, markets look due a breather for the time being, also because economic momentum is likely to weaken globally and in the US, but UBS has its focus firmly pinned on more upside for equities by year-end.

This view mainly centres around plenty of supportive factors keeping investor sentiment net positive, including lower tariffs, more rate cuts from central banks, fiscal easing in Europe and China, and, eventually, lower bond yields. UBS is also positive on AI and how investments made will result in leaner businesses with increased margins, which justifies higher multiples.

RBC Capital Is Cautious

Strategy peers at RBC Capital would agree with the general assessment that the outlook for US equities has improved recently post a quarterly results season that, all else remaining equal, quelled market fears about AI not living up to expectations.

RBC’s year-end target for the S&P500 has thus lifted by 3% to 5730, which remains below where the index is trading in early June.

Too much uncertainty keeps RBC strategists apprehensive to turn bullish, also explaining why they limit their forecast to year-end, but a more constructive scenario could well see the index topping 6400. In case of a much more dire outcome, the downside could be in the 4200-4500 range.

We shall find out in hindsight, proclaims RBC, expecting a choppy pathway for markets in the six months ahead.

Corporate Results In Australia

Australian investors will soon be confronted with another tsunami in corporate market updates as the August results season is now but two months away.

Fears about series of profit warnings hitting local market sentiment have been proven unfounded throughout April and May, though there have been plenty of negative updates nevertheless, mostly from cyclicals and smaller cap companies.

Think Brickworks ((BKW)), Elders ((ELD)), and Nufarm ((NUF)) but also James Hardie ((JHX)), and ANZ Bank ((ANZ)) and Westpac ((WBC)).

There are probably only two more financial results left for the year-around FNArena Results Monitor (Collins Foods and Metcash) but the numbers for the 52 companies that updated post February continue to highlight a tough environment for many local businesses.

More than 40% (21 companies) have disappointed against 18 only (34.6%) that managed to genuinely outperform against analysts’ projections.

This makes the current ‘season’ the worst since 2018, as the highest percentage in ‘misses’ had been the 37% registered in the same period of 2019, and that percentage then was matched by an equal percentage of ‘beats’. Today, the number of beats is lower.

Only two seasons outside of February and August ended with a lower percentage of corporate results beating expectations; post-August last year with 27% and March-June 2018 with 34%.

In Australia, corporate reporting in between February and August is not necessarily representative of the share market at large, but the February season too had been among the worst since FNArena’s Monitor started back in August 2013.

The hope is, of course, that RBA rate cuts and less negative scenarios globally might finally inject some oomph into Australian businesses that thus far have not been able to keep up with the likes of TechnologyOne ((TNE)), or QBE Insurance ((QBE)), or Telstra Corp ((TLS)).

On current consensus projections, the ASX200 will record its third consecutive financial year of net negative EPS growth. While part of that story can be related back to miners and energy companies, fact remains the banks and large segments of the Australian market are equally operating inside a zero to low growth environment.

Thus far and yet again prominently outperforming in February as well as in the current season, are many of the ASX favourites your average ‘value’ investor likes to hate with a passion; think Xero ((XRO)) and TechOne, but also Catapult International ((CAT)), Life360 ((360)), and Tuas ((TUA)).

The situation in the US is fundamentally the same. The danger from this set-up, the above-mentioned UBS strategists would argue, is not that equity markets are at risk of a large sell-off but of the opposite occurring; more money flowing into those stocks and sectors that are performing, which can take indices a lot higher from today’s level, but that would genuinely become the next bubble to burst.

 As things stand right now, those UBS strategists believe the probability of the next bubble forming is greater than worst-case scenarios happening.

That does not fill my investor heart with a lot of joy, so I will be keeping my fingers crossed for a broadening out of the earnings momentum, both locally and offshore.

Maybe the fact more and more businesses have started to mention AI in recent market updates, including Telstra, Webjet Travel ((WEB)) and BHP Group ((BHP)), could be a sign of better times ahead for more companies?

FNArena’s Corporate Results Monitor: https://fnarena.com/index.php/reporting_season/

List of All-Weathers and other curated selections: https://fnarena.com/index.php/analysis-data/all-weather-stocks/

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This section appears from now on every Thursday morning in a separate update on the website. See Rudi’s Views for the archive going back to 2006 (not a typo).

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(This story was written on Monday, 2nd June 2025. It was published on the day in the form of an email to paying subscribers, and again on Wednesday as a story on the website).

(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions. All views are mine and not by association FNArena’s see disclaimer on the website.

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