To The Moon

$S&P 500(.SPX)$ $ISHARES S&P MID-CAP ETF/AUS(IJH.AU)$ $Invesco S&P 500 Equal Weight ETF(RSP)$

I’m keeping this simple. The spread in forward P/E between U.S. large caps and SMID caps has blown out again. As of 26Sep25, the S&P 500 sits near 22.5× forward earnings while the S&P 400 and S&P 600 are nearer 17.1× and 16.6×. That’s a double-digit multiple premium for size rather than for quality. The Yardeni-style chart makes it obvious; large caps have rerated while SMID has not.

🧩 Why that matters

The JPM data frames it perfectly: the 30-year average forward P/E is 17.0×. Today’s 22.5× means investors are paying a 30%+ premium to history. Add in a CAPE ratio of 38.9× vs a 28.3× average, and we’re back in territory last seen before major market drawdowns. Earnings yield at 4.4% is barely above the 10-year Treasury; the equity risk premium is negative, which makes the asymmetry ugly.

🧠 Historical context that bites

We’ve been here before. When the market was this stretched in 1999 and again in 2021, forward returns were poor. Now, investors are paying for megacap concentration — the Magnificent 7 represent ~34% of $SPX’s weight. That’s a single-factor bet disguised as diversification.

💸 The new problem: CapEx intensity

Markets used to pay up for Big Tech because these were cash machines. That story is breaking down. AI and infrastructure buildouts have pushed CapEx to 50–70% of EBITDA across Microsoft, Amazon, Alphabet, Meta, and Oracle. For perspective, AT&T hit 72% during the 2000 telecom bubble, and Exxon hit 65% during the 2014 energy bubble. Both cycles ended in wealth destruction.

The key point: higher capital intensity historically means structurally worse returns. When you shift from compounding free cash flow into heavy reinvestment, the valuation multiple you can justify compresses. Investors are now paying bubble-level multiples for businesses with bubble-level CapEx intensity.

📰 What is new right now

Street strategists have raised $SPX targets again post-Fed pivot, leaning into rate-cut optimism. But cheaper alternatives exist. Mid and small caps at 16–17× are giving you 6.0% earnings yields, a far healthier spread than large caps. That’s where the probability-weighted returns skew positively.

📊 The simple math of mispricing

• $SPX: 22.5× forward P/E = 4.4% earnings yield

• S&P 400/600: ~16–17× = 6.0%+ earnings yield

That’s a 160 bp gap in your favour if you rotate down the cap structure.

🔄 Playbook into Q4

I’m tilting toward value within quality: equal-weight $RSP over $SPY, and selective SMID exposure via $IJH and $IJR. Add profitability screens to avoid zombie leverage, but otherwise, the trade is clear: rotate where valuation is support, not resistance.

🗣️ One credible voice

Ed Yardeni last week: “It is currently 22.0, not much below the 25.0 peak of the 1999 Tech Bubble.” That frames the risk; upside requires perfect execution, while downside only needs one macro or earnings slip.

📚 Fun fact

CapEx intensity in AI leaders today is already higher than Exxon’s at the shale boom peak. That’s not innovation alpha, that’s bubble math.

🎯 Bottom line

I’m not calling a crash. I am saying the asymmetry is no longer in large caps. You’re paying 22.5× for declining free cash flow machines. You can accumulate durable earnings at 16–17× in SMID with fatter cushions and improving breadth into a rate-cutting cycle. That’s where the reward is.

👉❓Strategic question going forward

If AI-driven CapEx keeps running at 60–70% of EBITDA, can the market really sustain a 22–23× multiple on $SPX, or does history suggest valuation compression is inevitable?

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