In this segment from Market Foolery, Chris Hill and Matt Argersinger discuss the broad market and the bullish momentum building for some of the biggest companies out there. But when the market is already trading at unusually high levels by any measure, it makes picking winning stocks harder -- and raises some red flags, too.
A full transcript follows the video.
This video was recorded on April 25, 2017.
Chris Hill: A lot of companies reporting earnings today, but I think we have to start with the market in general. You have the Nasdaq hitting 6,000, which is of course making headlines because it's a big round number. But how about this for a list of companies: Home Depot, Lowe's, McDonald's, John Deere, Honeywell, UnitedHealth, 3M, Mastercard, PayPal, Adobe, Electronic Arts, Activision Blizzard, Microsoft, Alphabet, and Facebook, they are all, all of them, hitting all-time highs today.
Matt Argersinger: That's pretty much everything, I think.
Hill: Yeah. That's not just tech, it's healthcare, it's home improvement, it's restaurants.
Argersinger: Across the board.
Hill: It's across the board. And I'm wondering, how problematic is this for someone in your position, whose job is to go out and look for companies -- we talk about upside, and yes, these companies are hitting all-time highs today. Let's go ahead and stipulate that all of them will go up from here, which means this is not the only all-time high they're going to have.
Argersinger: It shouldn't be.
Hill: But, for someone in your position, I don't know, this seems like a little bit of a problem.
Argersinger: You feel two ways about it. One way, you're saying, this is great. You are an investor, you like equity --
Hill: This is why we invest.
Argersinger: This is why we invest, we invest for companies to hit all-time highs, we invest for the stock market as a whole to hit an all-time high, we invest for the Nasdaq 6,000 and 7,000 and 8,000 and beyond. The other part of me is an analyst, an equity analyst, and I'm constantly looking for those excess returns. And if everything is going on and hitting all-time highs, it gets really hard. Especially if you look at the overall market, we're using certain historical measures at really high valuations. You don't want to get excited when you look at companies -- and, we'll talk about one that I think is overvalued -- we look at a lot of companies that are maybe going to grow revenue in the single-digit range, which is fine. But they're trading at 20 , 25, 30 times earnings multiples. It's hard to get excited about companies like that. The other thing, I think, that's working, and we've talked about this on the show, how the really big secular shift that we've seen toward passive investing, ETFs, what that's done is sent a lot of money to very broad indexes in the market that are essentially, because capital is coming in, they have to keep buying. I'm not surprised that a lot of the blue chip companies you named out are hitting all time highs. That's sometimes a function of the fact that money is coming into the market, it's coming into these passive strategies, it's coming in through people's 401(k)s, all various sources. Until that changes, until there's some kind of major dislocation in the market that changes that, or changes people's perception, it's very hard to keep up with all these companies.
Hill: Some of the companies we just went through, particularly Facebook, Alphabet, Microsoft, those are three of the five or six biggest companies in the public markets. Do you think that, as these stocks rise, as the big get bigger, does that increase the likelihood of buyouts of smaller companies? If you're Facebook or Mastercard, are you taking your all-time high stock and putting it to use in the form of buying out smaller competition -- not necessarily competition, but like, "We could use our all-time high stock to go out and buy that company over there."
Argersinger: I think that's a great point. If you're a capital allocator -- that's what a CEO is, at his or her core, a good capital allocator. As a capital allocator, if I saw my stock trading at what I thought was a very lofty valuation, I wouldn't be buying back my stock, I would absolutely be either issuing stock, if that was the cheapest form of capital, or like you said, I would be looking at competitors out there and saying, "Wow, if I could use my equity as a cheap form of capital and buying power, I'm going to go buy a competitor." The big getting bigger is a great point as well. I think, if you look at Facebook, Alphabet too, the amount of capital that these companies can put to work, it makes it very hard. As big as Snap is already, Facebook can go in there and pour $1 billion. Amazon is another example of a company that's pouring something like $3 billion in India, whereas Flipkart is a company that's been operating in India for a long time, over a decade now. Amazon can go in there in a few years and probably knock them out of the market, just because of their sheer size and access to capital. The big getting bigger is a pretty interesting thing to watch.
Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Teresa Kersten is an employee of LinkedIn and is a member of The Motley Fool’s board of directors. LinkedIn is owned by Microsoft. Chris Hill owns shares of Amazon. Matthew Argersinger owns shares of Activision Blizzard and Amazon. Matthew Argersinger has the following options: short December 2017 $800 puts on Amazon. The Motley Fool owns shares of and recommends Activision Blizzard, Alphabet (A shares), Alphabet (C shares), Amazon, Facebook, Mastercard, and PayPal Holdings. The Motley Fool recommends Adobe Systems, Electronic Arts, Home Depot, Lowe's, and UnitedHealth Group. The Motley Fool has a disclosure policy.