Thread on valuations 1/ The S&P may seem overvalued at this point, closing in on its pre-pandemic highs but under the surface something interesting is happening.

2/ Everyone agrees that, from a fundamental business perspective the pandemic has been good for many internet / tech companies, and bad for old economy stocks as more commerce and interactions shift online.

3/ The shift that this causes 'under the hood' is quite interesting. Assume lockdowns lead to consumers buying more used cars online so that, as a result, some customers migrate from America's Car-Mart (CRMT) to Carvana (CVNA).

4/ Each $1million of sales produces about $70,000 of earnings at CRMT which gets a 11x forward multiple from the market. So each $1million of sales at CRMT is worth about $770,000 in market cap at CRMT.

5/ Now, due to Covid-19, assume buyers transition from CRMT to CVNA. CVNA is valued at about 4x forward sales. $1million of sales is worth about $4million of market cap at CVNA.

6/ In other words, the value the market ascribes to that $1million of sales has just risen by a factor of 4.2x by transitioning from CRMT to CVNA.

7/ You can probably come up with hundreds of other examples for this (Offline furniture retailer to Wayfair, anything retail to Amazon, etc.) pattern of value migration from old economy stocks valued on an earnings multiple to new economy stocks valued on a sales multiple.

8/ This has implications for the market as a whole. In a situation like this you would expect the S&P's P/E ratio to grow to scary heights, points where any mean-reversion model would be telling you to sell.

9/ The S&P's price/sales ratio would also skyrocket as the weight of high P/S companies increases and low P/S companies decreases. This is roughly true. Forward P/S on the S&P is now higher than before the pandemic (2.33 vs 2.42 P/S).

10/ When a rapidly increasing number of S&P constituents is being analyzed on a price/sales basis or on other metrics, the real question then becomes not whether the P/E ratio or Shiller P/E is too high and should mean revert, but when this trend is overdone.

11/ We know that online markets tend to be more winner-take all, so when a category winner emerges in online used cars, online retail (online banking?) it can become far larger than previous offline competitors competing regionally in every market.

12/ Value migration can also happen from private companies and non S&P constituents to S&P constituents.
The value migration due to Covid into online is real, at least for now, so one question becomes when is all that more than priced in and will this all reverse after Covid.

13/ Thoughts on this or other interesting implications from this?