Is the S&P 500 playing an April Fool’s joke on investors?

The S&P 500 has been the world’s best-performing stock market for the past 15 years, making “diversification” seem like an outdated concept. Despite returns far in excess of their historical averages, investors can’t seem to get enough of the U.S. stock market.

Net flows into U.S. stock funds eclipsed their previous records in 2024, with investors adding nearly $600 billion last year. More than one-third of that total went into just two S&P 500 exchange traded funds. What’s more, sixty percent of Goldman Sachs’ clients believe the S&P 500 will be the best market region in 2025. That’s nearly double the percentage of any past survey the firm has conducted.

But what if the market is playing the ultimate April Fool’s joke—tricking investors into believing that chasing recent returns is, in fact, a sound strategy?

Have investors forgotten the lost decade?

It’s been nearly 15 years since the so-called “Lost Decade,” the period between January 2000 and December 2009 when $1 invested in the S&P 500 Index turned into 91 cents. That same dollar invested in emerging markets small cap stocks grew to $2.77, as did a dollar invested in U.S. real estate investment trusts (REITs). It’s no wonder investors were clamoring for more international, emerging market, and REIT stocks back then—anything “but” large cap U.S. stocks.

Those who resisted the temptation to abandon U.S. stocks after the Lost Decade were rewarded with one of the best 15-year runs the S&P 500 has ever experienced. And yet, here we are in 2025, and investors have been again piling into the asset class that has done the best most recently—as if history hasn’t taught us anything.

If we look back thirty-five years, we can see just how unpredictable asset class performance can be by breaking results into shorter 5-year time periods.

The graphic below illustrates that no single asset class has dominated every period, and market leadership rotates in ways that often surprise investors. Emerging market value (EMV) stocks, for example, topped the charts in the early 1990s and mid-2000s yet have lagged significantly in recent years. The S&P 500 soared in the late ’90s then suffered through the Lost Decade. Meanwhile, small cap value stocks topped the charts just once yet delivered the strongest returns over the full period.

Why do investors chase returns?

Investors have short memories. Our view of the future is clouded by results from the recent past. While we all know market returns don’t work this way, let’s face it: our behavior is perfectly normal.

Why? Because we’re human! Psychologists have documented several of our behavioral biases, three of which are particularly relevant to investors:

• Loss Aversion—The pain we feel with losses is about twice as aggravating as is the joy associated with gains. This means we need to win about $200 to offset the pain of losing $100. So, ditch those losers and load up on past winners!

• Recency Bias—We believe what’s done well/poorly in the past will continue to do well/poorly. The Lost Decade illustrates the perils of “rear-view investing” are real. Will history repeat?

• Hindsight Bias—The inclination to believe, after an event has occurred, that we could have foreseen it. With all the attention that’s been paid to the S&P 500 over the past fifteen years, it’s natural to fool ourselves into believing we “saw it coming” or “knew it all along.”

Expensive valuations = lower future returns?

These biases may be partly to explain for the extreme valuations at which U.S. stocks—particularly large cap growth stocks– are trading. Earlier this year, U.S. stocks were trading at roughly four times their net asset value, which is roughly the same multiple Japanese stocks commanded at the height of the 1980’s. On a trailing price to earnings (PE ratio) basis, the S&P 500 is still trading above 28. Consider that the median price-to-earnings ratio since the 1920’s has been about 15.

What do high valuations like this portend for future returns? While no one knows for certain, let’s just say history has not been kind to high prices. While there is always a positive expected return on embracing market risk, high valuations have historically led to lower than average future returns, while lower valuations have led to higher long-term returns.

The good news is, there are plenty of asset classes within our globally-diversified portfolios which are trading at much more attractive valuations, namely international stocks.

Don’t get fooled again: diversify & stay disciplined

The key to long-term investing success isn’t found in riding the hottest trend or betting everything on last decade’s winner. Instead, investors should:

• Invest Globally – Diversification is said to be the only “free lunch” in investing—the opportunity to increase return without increasing risk.
• Rebalance regularly – Trim winners and buy underperforming assets to manage risk.
• Avoid emotional biases – Don’t let recent performance dictate long-term strategy.

The temptation to chase recent returns will never go away—it’s human nature. But the best-performing asset class of the last ten years is rarely the best choice for the next ten. Tune out the noise and let the April Fool’s joke be on those who insist on chasing recent winners.

Related:

• Beyond borders: the benefits of international diversification
• The cost of behavioral bias in investing
• Caution: side effects may include underperformance