Stock market investors have had an incredible run this year. The Canadian stock market has more than recovered all its losses from the height of this year’s crisis. Meanwhile, technology and healthcare stocks are now trading at record highs. Investors have collectively generated hundreds of billions in additional value this year.
So, is the market overheated? When valuations rise this quickly, it’s usually a sign that the stock market is in a so-called bubble. And bubbles inevitably pop, destroying shareholder value at a blistering pace. If you’re an investor, here’s what you need to know.
Stock market valuation
By conventional measures, yes, the stock market does indeed look overheated. One of those conventional measures is the Buffett Indicator — a ratio of the stock market’s total value over the nation’s economy. If the ratio is above 100%, it indicates overvaluation. At the moment, the indicator is 127% — a historic high.
However, the Buffett Indicator may be a bit too broad. After all, it considers the combined value of all listed stocks against the combined value of the nation’s entire economy. This year’s crisis has been uneven. Some sectors have suffered immensely while others have flourished.
Sales in technology, healthcare, and essential retail sectors have been boosted. Meanwhile, energy, real estate, and leisure stocks have languished. Since these stocks are already trading at bargain valuations, they won’t drop much even if the stock market bubble pops.
Protect yourself
Rotating your portfolio from overhyped, overvalued stocks to these beaten-down sectors could be a way to protect yourself.
Stock like Restaurant Brands International (TSX:QSR)(NYSE:QSR), for instance, is a great value play. My Fool colleague Joey Frennette calls it a “super-obvious recovery stock.”
The fast-food giant, which operates well-known brands, including Tim Hortons, Popeyes Louisiana Kitchen, and Burger King, has had a rough year. After the stock price dropped 58% in March this year and is gradually recovering, it’s still lower than the start of 2020.
Now, Restaurant Brands trades at 17.7 times earnings per share. That modest valuation represents an opportunity for investors willing to bet on a recovery. One such investor is billionaire hedge fund manager Bill Ackman. QSR is one of the largest holdings in Ackman’s portfolio.
Ackman’s bet hinges on the long-term strength of a good brand in the fast-food industry. He’s had similar success with Chipotle Mexican Grill. That stock is up 372% over the past three years. Perhaps Restaurant Brands can do the same.
Even if the returns are not that impressive, investors can expect a steady return over the next few years. Restaurant Brands offers a 2.9% dividend yield at its current price.
Bottom line
The stock market certainly seems overvalued. However, the “bubble” is unevenly spread. Tech and healthcare stocks may be far more overvalued than restaurant or airline stocks at the moment.
Investors looking for a safe place to park their cash in 2021 should take a closer look at Restaurant Brands International.
