• Elevated 22x PE multiples prices in strong future growth
• Investor returns can drop to single digits despite earnings growth.
• Valuation normalization typically happens through sideways time, not crashes

At the time of writing the S&P 500 trades 7674.

Many leading analysts remain bullish – with some raising their forecasts for the S&P 500 to be north of 8,000 next year.

For example, UBS lifted its S&P 500 earnings and index targets in a note this week, citing a stronger profit outlook and growing confidence that growth can hold up through next year.

The bank now expects S&P 500 earnings per share of $350 in 2026 and $400 in 2027, up from prior estimates of $335 and $375, representing growth of 25% and 14% respectively.

The bank lifted its S&P 500 targets to 8,100 for December 2026 and 8,400 for June 2027.

And they are not alone.

Goldman Sachs Research raised its S&P 500 forecast for year-end 2026 to 8000, up from 7600, projecting a 6% return (as of May 26).

GS strategists raised their earnings per share forecasts to $340 for 2026 (representing 24% annual growth) and $385 for 2027 (13% growth).

By way of example, if we assume earnings of $350 for 2026, it implies the S&P 500 is trading around 22x current earnings; or 19.2x forward 2027 earnings.

That sounds like good news.

But as I"ve written repeatedly over the past few weeks, I"m less interested in where the market is trading than in what that price is asking investors to believe.

A Thought Experiment

Before I begin – I want to stress that when I step back and look at the earnings forecasts — they are perfectly reasonable.

What"s more, I don"t see a market that is necessarily about to crash (unlike Michael Burry).

However, I see something potentially more frustrating for investors.

My concern is we experience a market where earnings can continue to grow (e.g., 12% or more per the forecasts) – while shareholder returns remain mediocre.

To demonstrate my thinking – it"s helpful to add some numbers.

Rather than trying to cherry pick dates – let"s go back to January 1990 — allowing us to factor in a few major economic cycles.

At that time, the S&P 500 stood at approximately 354.

If we look at capital appreciation only (where we exclude dividends) — and apply an 8% annual growth rate for 37 years (taking us through early 2027), we arrive at an index level of approximately 6,105.

Aug 22 2026

This 37-year chart helps dimension the stellar returns we"ve seen – and particularly – the once-in-a-generation returns over the past 17 years (i.e., a ~13% CAGR exc dividends)

With the market trading around 7500 today – it"s ~25% above the implied 8% long-term capital appreciation trajectory.

For clarity – I am not suggesting that 8% capital appreciation CAGR is some immutable law of investing returns.

It isn"t.

For the sake of the thought experiment only — I"m using 8% simply as a reference rate based on over 100 years of average capital returns.

And if we include dividends – the total return rate for the S&P 500 is closer to 10%.

In addition, I want to stress that this should not be used as a forecast of where the S&P 500 "should" trade. And similarly, I am not suggesting the S&P 500 "should" revert to a level of around 6,100.

Nor am I implying that a "15% to 20%" plus correction would be considered "fair"

That"s not what I am implying.

For example, if earnings continue growing at 8% or more (which seems likely in the short-term) – the market can remain elevated while the underlying businesses gradually grow into today"s price.

And this is where the distinction between price and value becomes important.

If the businesses inside the S&P 500 continue growing their earnings, intrinsic value can continue rising even while the share price goes nowhere.

In that scenario, nothing has fundamentally gone wrong with the underlying companies.

The problem is simply that investors paid too much relative to the earnings (e.g. 22x) those businesses were generating at the time.

The adjustment doesn"t necessarily have to happen through price—it can happen through time.

What I"m suggesting is that this calculation gives us a simple, long-term reference point—free from short-term (e.g. less than 10 years) market noise.

And when a simple long-term compounding exercise and today"s valuation multiples both point toward elevated expectations, it"s worth asking the question.

Multiple Compression

From mine, the most important piece of the puzzle when buying a stock is the valuation you are being asked to pay.

What is the multiple?

As demonstrated in my preface, the S&P 500 is currently trading at roughly 22× its 2026 earnings (or around 19.2x expected 2027 earnings pending what number you use for the E in PE).

By comparison, the 10-year average for the S&P 500 multiple sits closer to 18×, and over the past century, the long-term historical mean has hovered closer to 15.5×.

When you buy an index—or a stock—your future returns are governed by three simple variables:

• Future Return ≈ Earnings Growth + Multiple Expansion / Compression + Dividend Yield

An example:

Suppose earnings grow at a solid 8% annually over the next three years, and the dividend yield holds at ~1%.

These assumptions are quite plausible and if anything conservative.

Imagine how two scenarios play out depending entirely on what happens to the multiple:

• Scenario 1 – Multiple stays at 21×: Earnings grow at 8%, the multiple stays pegged at 21×, and you collect a 1% dividend — earning roughly 9% a year. That is a good outcome.
• Scenario 2 – Multiple contracts to 18×: Earnings still grow at that same healthy 8% per year. But over three years, the forward multiple quietly drifts back toward its 10-year average of 18×. That shift from 21× to 18× represents a 14.3% reduction in valuation. Spread over three years, that multiple contraction is a drag of roughly 5% per year. Your 8% earnings growth plus 1% dividend yield suddenly produces something closer to a 4% annualized return.

Think about that for a moment…

Nothing went wrong with corporate earnings. Companies delivered on their growth targets, profits expanded, and revenue surged. Great news.

Yet the investor"s annualized return falls by more than half because they paid 21× earnings upfront instead of 18×.

Now, take it one step further.

What if the multiple over a longer horizon contracts toward the historical norm of 15x (which can happen during times of recession or a major credit event)

A move from 21× to 15× is a 28.6% drop in valuation.

That 28.6% reduction in the multiple more than offsets three years of 8% earnings growth.

Corporate profits rise by roughly 26%, yet the investor still ends up with a capital loss of around 10% before dividends.

That is the hidden danger of paying elevated multiples when expectations are already high.

A "Time Correction"

I think what"s important is that the market doesn"t need a violent crash for this to happen.

In fact, I would argue a time correction is the more likely scenario.

Whenever analysts discuss market overvaluation, the commentary almost always defaults to apocalyptic predictions of a sudden 1987 crash or 2000 dot.com event. Michael Burry – of The Big Short fame – recently doubled down on his near-term bearish bets:

And while crashes can always happen – it is not how markets typically behave.

There are actually two distinct ways for valuation multiples to normalize:

1. Price Correction: The index falls quickly (e.g., a 15% to 20% decline taking the index from 8,000 down to 6,400–6,800 — Burry"s bet)
2. Time Correction: The index goes sideways for two, three, or four years while earnings grow into the price.

The second path—a time correction—is often overlooked.

In a time correction, nobody rings a bell announcing a bear market. There are no dramatic red headlines across Bloomberg or CNBC – and no panic on trading floors.

The market simply fluctuates in a broad range while corporate earnings compound underneath.

Over time, earnings rise, the forward multiple drops from 21× down toward its 10-year average of 18× (or lower) and valuations can gradually move closer to their long-term historical range.

The underlying businesses successfully grow into their valuations—but the investor who bought the index at 21× earns mediocre, range-bound returns for years while waiting for reality to catch up.

Where AI Fits Into the Numbers

And this is where AI becomes relevant.

Even though the transformational technology is real and will prove enormously valuable to society over time (despite some short term pain) — it can still produce mediocre investment returns if too much of that future is already reflected in the price.

I"ve explained this in past posts.

The internet was real as was Cisco"s 57% annual revenue growth. Society benefited greatly from the internet however the mistake was paying a valuation that assumed too much of the future economic value would accrue to shareholders.

At ~22× current earnings, investors are paying today for a meaningful portion of future earnings growth that may take years to materialize.

If you pay today for five years of future growth, you don"t get that growth as your future return. You"ve already bought it.

Putting It All Together

The question to ask is not what the Index will be in one, two or three years – it"s what return am I likely to earn from today"s price?

That is a very different question.

Earnings are almost certain to keep growing in the absence of a recession or a major credit event. I also think the earnings forecasts from UBS and Goldman Sachs are not unrealistic.

Corporate profits are likely to keep hitting new records and AI will transform the economy over the long run.

Despite this – it"s possible that the S&P 500 may deliver mediocre returns if the future is already baked into today"s asking price.

Expectations are high — evidenced by today"s asking price (e.g., a multiple over 20x)

The problem with that is they leave little room for surprise.

You don"t need the market to crash to earn a poor return. Sometimes, you simply need to pay too much and wait.

Regards,
Adrian Tout