The stock market has been on an incredible run since S&P 500(SNPINDEX: ^GSPC) hits the bottom of the previous bear market in October 2022. Since then, the index has risen around 70% at the time of writing. Many stocks have delivered even greater returns in that 26-month period.
Most people think those returns are just the beginning of a strong bull market. In fact, 56.4% of consumers expect stock prices to increase over the next year, according to The Conference Board’s most recent U.S. consumer confidence report. While this may not seem like an overwhelming proportion of the population, it is a record number since the survey began collecting this data 37 years ago.
Stock values are influenced by two main factors: financial results and investor sentiment, and many companies driving the bull market have produced incredible financial results over the past two years. But smart investors can’t ignore that more and more people are optimistic about future stock market returns, which has driven prices up.
Warren Buffett has some advice suitable for the situation.
Image source: The Motley Fool.
By October 2008, the S&P 500 had already fallen 40% from its 2007 peak, and many investors thought things could only get worse. In an opinion piece for The New York TimesBuffett wrote: “Fear is now widespread and grips even the most experienced investors.” In fact, American consumers have never been more pessimistic about the future of the stock market, according to The Conference Board survey.
Buffett was forced to remind readers of the simple rule he established in Berkshire Hathaway‘s (NYSE: BRK.A)(NYSE: BRK.B) 1986 letter to shareholders. “We just try to be afraid when others are greedy and be greedy only when others are afraid.”
When Buffett wrote those words in 1987 (to summarize Berkshire’s 1986 financial results), he noted, “There is little fear on Wall Street.” At the time, investors had driven up share prices and, as a result, he was unable to find any suitable capital investments for Berkshire’s portfolio. Instead, he invested about $700 million of Berkshire’s cash in Treasury bonds.
I wasn’t particularly excited about it either. “At best, bonds are mediocre investments,” he said. “They just seemed like the least objectionable alternative at the time.”
In 2008, he applied the exact same idea to the market with opposite results. He moved his personal portfolio from 100% government bonds to 100% US stocks. It turned out to be an extremely fortuitous move for the Oracle of Omaha. The S&P 500 bottomed a few months after Buffett published his op-ed and produced incredible returns in the next 15 years.
In 2024, Buffett appears to again follow his rule of almost 40 years ago. As prices have risen over the past two years, Buffett has steadily sold some of Berkshire’s largest stock holdings. Their selling accelerated in 2024 as investors became increasingly optimistic, driving Berkshire Hathaway’s cash and Treasury bill position to a record $325 billion at the end of the third quarter.
Discussing the growing pile of cash at the 2024 shareholder meeting in May, Buffett echoed his comments from 1986. “I don’t think anyone sitting at this table has any idea how to use it effectively, and therefore, We don’t use it.” Alternatives to Treasury bills simply aren’t very attractive to Buffett right now.
Once again, investors find themselves in a market environment where “little fear is seen on Wall Street.” Stock valuations have risen to levels last seen during the dot-com bubble. Investors are more confident than ever that stock prices will rise a year from now and are putting their money where their mouth is with record inflows into exchange-traded funds (ETFs) this year.
However, that doesn’t mean investors should sell all their stocks and keep their money in government bonds. But it does require careful consideration of your investments.
Another quote from Buffett applies here: “The less prudence with which others conduct their affairs, the more prudently we should conduct ours.” Buffett wrote that in his letter to shareholders in 1988. At the time, he described the market for arbitrage opportunities as an excess of capital that had flooded the market, decreasing potential returns and increasing risk.
Buffett echoed himself in his 2017 letter to shareholders, which he wrote at a time when investors were more confident than ever in the future of the stock market. While the market fell a bit that year, it didn’t quite fall into bear market territory.
Being afraid doesn’t mean running away from the stock market completely. It means that investors must be more judicious than others if they want to guarantee solid returns.
Finding suitable investments for your portfolio will be more difficult as investor confidence tends to drive up share prices, making them less attractive. But Buffett’s recent portfolio moves suggest there are still plenty of investments that could produce big returns for shareholders if they know where to look.
While Buffett has been a big seller of stocks in 2024, he has made several relatively small purchases. Those purchases have one thing in common: They are all close to smaller companies that Berkshire can invest in to boost its massive portfolio.
But an individual could buy a lot for a relatively small portfolio. Buffett’s moves highlight the possibility that there are more opportunities for individual investors in small- and mid-cap stocks than in large-cap stocks, including those represented by the S&P 500.
If you don’t want to take the time to look for great individual stocks, you can buy an index fund or two. He Vanguard Extended Market ETF(NYSEMKT:VXF) offers a way to invest in the entire US stock market, excluding the S&P 500. Investors may also want to consider index funds focused on value stocks as another option.
No one knows if stocks will continue to rise in 2025, but Buffett’s advice has proven invaluable over several decades. His words are worth taking into account when planning your next moves as an investor.
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Adam Levy has no position in any of the stocks mentioned. The Motley Fool has posts and recommends Berkshire Hathaway. The Motley Fool has a disclosure policy.
