The stock market looks like a 'rubber band poised to snap' as investors crowd into US equities, RBA says

• Stock market valuations look like a "rubber band poised to snap," an RBA analyst said.
• While investors are following hype around the Magnificent Seven, global stocks are undervalued.

US stocks have felt the love from investors this year. Other markets around the world? Not as much.

But the scales are about to tip, according to Richard Bernstein Advisors.

RBA analyst Matthew Poterba said that the glut of capital that has flooded into a handful of US stocks is making the market look like "a rubber band poised to snap."

"Equity valuations tend to behave like a rubber band, heavily influenced by investor psychology and sentiment," he wrote in a note released on Wednesday.

As that sentiment normalizes, it will pare gains in US stocks, and boost the valuations in international markets that have largely been ignored.

"We are meaningfully underweight the US and see significant opportunities outside the US," Poterba added.

The so-called Magnificent Seven tech stocks, including Nvidia, Apple and Microsoft, have done most of the legwork lifting US stock indexes. They're responsible for 76% of the S&P 500's 2023 surge of nearly 20%.

As the AI hype has intensified, so has investor interest. But now, Poterba explained, it's gone so far that it has pushed valuations beyond sustainable levels, leaving less popular markets undervalued.

And it's not just global stocks that are undervalued. It's also the rest of the US equities that are lingering outside the narrow tech limelight, he added, saying the vast majority of US stocks are relatively cheap.

"It's impossible to predict when the valuation rubber band will contract (or snap?)," Poterba warned. "However, the glut of capital rushing to such a small universe of stocks strongly suggests the universe of investment opportunities is much broader than simply 7 stocks."

Not everyone agrees that the prized tech stocks are past their prime. Goldman Sachs' David Kostin wrote in November that the top seven stocks in the S&P 500 are likely to outperform the bottom 493 stocks next year as well.