The S&P 500 has been on fire in recent years. Since the March 2020 pandemic low, the index has returned an astonishing 158% (excluding dividends).

There have been many reasons for this surge, ranging from artificial intelligence (AI) excitement and falling interest rates to bullishness about the US election results.

The S&P 500 is now in the third year of its current bull market.

But valuations have been stretched and a growing number of market watchers are sounding the alarm. Given all of this, would it be pure madness for me to invest in the S&P 500 right now?

Bull market cycle

Growth investors Sir John Templeton once said: “Bull markets are born on pessimism, bred on skepticism, mature on optimism and die on euphoria.”

Taking a step back, I think we can broadly see these stages play out:

• Pessimism: at the end of 2022, the bull market started after the devastating economic and public health effects of the pandemic.
• Skepticism: In 2023, concerns about high inflation, supply chain disruptions and geopolitical tensions remained. Still, the S&P 500 continued to rise.
• Optimism: The S&P 500 hit a new high in early 2024, driven by the “Magnificent Seven” tech stocks and the revolutionary potential of AI.
• Euphoria: Donald Trump is elected and promises pro-growth policies, deregulation and tax cuts. The S&P 500 shoots above 6,000 for the first time in history.

Raging bulls

But are we really in late stage euphoria? After all, the average bull market lasts longer than two or three years (about five, on average, actually).

No one really knows for sure what will happen next. But the index price-to-profit The (P/E) ratio is now approaching 30. This is not far from the peak reached during the dot-com bubble, a period of excessive speculation in tech stocks that did not end well.

The FTSE 100 index is not an apples-to-apples comparison to the S&P 500 because it lacks giant technology companies that have higher valuation multiples. Still, a P/E ratio of nearly 30 seems extreme next to the FTSE 100’s 15.

Looking around I see some crazy individual values. Palantir Technologiesis traded, for example, on a price for sale (P/S) ratio of 54 and a forward P/E multiple of 128.

In the meantime, Tesla The stock has jumped 41% in one month, giving it a forward P/E ratio of 93. Even Tesla bulls are scratching their heads at the magnitude of this rapid rise!

Total madness?

The Vanguard S&P 500 UCITS ETF (LSE: VUSA) is the most popular exchange-traded fund (ETF) among investors on Hargreaves Lansdowne. Given the index’s stellar performance, this is hardly surprising.

About a third of my portfolio is invested in S&P 500 companies, and I’m happy with that allocation.

If this were not the case, I don’t think it would be foolish for me to buy a small piece of this S&P 500 tracker right now. But only assuming I was determined to invest for years rather than months.

After all, a sharp pullback could be just around the corner given the historically high valuation.

Longer term, however, I think the tech stocks that dominate the index have plenty of potential. We are living through a powerful digital/AI revolution, and the companies at the center of it are all in the S&P 500.