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Here how to build a cushion against the frothAuthor of the article:Last updated 59 minutes ago You can save this article by registering for free here. Or sign-in if you have an account.In the immortal words of economist John Maynard Keynes, markets can remain irrational for longer than you can remain solvent. Photo by Michael Nagle/Bloomberg via Getty ImagesThe United States equity market, with the S&P 500 hovering near all-time highs, is expensive. This isn’t controversial. Depending on which measure you use, U.S. stocks have arguably been overpriced for several years.Subscribe now to read the latest news in your city and across Canada.Exclusive articles from Barbara Shecter, Joe O'Connor, Gabriel Friedman, and others.Daily content from Financial Times, the world's leading global business publication.Unlimited online access to read articles from Financial Post, National Post and 15 news sites across Canada with one account.National Post ePaper, an electronic replica of the print edition to view on any device, share and comment on.Daily puzzles, including the New York Times Crossword.Subscribe now to read the latest news in your city and across Canada.Exclusive articles from Barbara Shecter, Joe O'Connor, Gabriel Friedman and others.Daily content from Financial Times, the world's leading global business publication.Unlimited online access to read articles from Financial Post, National Post and 15 news sites across Canada with one account.National Post ePaper, an electronic replica of the print edition to view on any device, share and comment on.Daily puzzles, including the New York Times Crossword.Create an account or sign in to continue with your reading experience.Access articles from across Canada with one account.Share your thoughts and join the conversation in the comments.Enjoy additional articles per month.Get email updates from your favourite authors.Create an account or sign in to continue with your reading experience.Access articles from across Canada with one accountShare your thoughts and join the conversation in the commentsEnjoy additional articles per monthGet email updates from your favourite authorsSign In or Create an AccountorBut now, the S&P 500 may be at never-before-seen levels of overvaluation, according to recent research from analyst Joachim Klement of Panmure Gordon.The benchmark index is currently trading not far from the 44 level it reached during the dot-com bubble in 2000 based on a cyclically adjusted price-to-earnings (CAPE) ratio, which compares the index price to average earnings over 10 years rather than one.Canada's best source for investing news, analysis and insight.By signing up you consent to receive the above newsletter from Postmedia Network Inc.A welcome email is on its way. If you don't see it, please check your junk folder.The next issue of Investor will soon be in your inbox.We encountered an issue signing you up. Please try againKlement says the CAPE ratio is closer to 68, or higher than it has ever been, when adjusted for the fact that earnings are also well above their long-term trend. In short, the United States is experiencing a price bubble on top of an earnings bubble.The obvious culprit is artificial intelligence. A small group of technology-focused stocks dominate the investment indexes as companies compete to outspend each other on AI infrastructure. We have seen variations of this story before, from railroad booms to the dot-com bubble, and we know how it typically ends.However, the trouble with bubbles is that while they aren’t always hard to spot, it’s nigh on impossible to predict when they will pop (if it was easy, they wouldn’t form in the first place). Timing the market is a fool’s errand.In the immortal words of economist John Maynard Keynes, markets can remain irrational for longer than you can remain solvent.But there’s a difference between flipping to 100 per cent cash and trying to guess when to get back in (a bad idea) and ensuring that you are sufficiently diversified so that you don’t sacrifice too much on the way up and have a cushion on the way down. So how might you do that?“One of the advantages of all the market oxygen being drawn into a small number of AI-related hardware stocks is that it means the relative value in several other corners of the market looks pretty good,” said Alexander Chartres, fund manager at United Kingdom-based Ruffer LLP.One such area of relative value is big Chinese tech stocks. Driven partly by political risk and partly by the country’s subdued economic backdrop, Chinese tech stocks trade at far lower valuations than their U.S. counterparts.“If you think about who provides cloud computing globally, it’s basically the U.S. and China, with a handful of names in both countries,” Chartres said.Chinese tech companies are fundamentally attractive businesses, with decent revenue growth and plenty of “optionality” in terms of exposure to AI, Chartres said. They have simply been beaten down by weak sentiment, in contrast to their U.S. peers, he said.While Ruffer owns individual tech stocks, investors looking for a straightforward way to get exposure to the broad theme may want to consider an exchange-traded fund such as the iShares MSCI China Tech ETF (CTCE LN) whose top 10 holdings include e-commerce and cloud-computing giant Alibaba Group Holding Ltd.; gaming, social media and cloud company Tencent Holdings Ltd. and search engine and cloud services giant Baidu Inc. The ETF has an annual total expense ratio of 0.45 per cent.Another option is to avoid tech altogether and focus on markets and sectors that may have been neglected in the rush to invest in AI.In a discussion with the Association of Investment Companies, Tomiko Evans, chief investment officer at Crossing Point Investment Management, said she sees the United Kingdom — and U.K. equity income in particular — as a good diversifier if your portfolio feels a little too tilted towards tech.“The U.K. market has a very different sector composition from global equity indices, with greater exposure to financials, energy, healthcare, consumer staples and other cash-generative businesses,” she said.Specifically, she highlighted the Murray Income Trust (MUT LN). The closed-end fund, which focuses on finding companies that will enable it to sustain and grow dividends over time, has recently changed management, “bringing a more flexible and cash flow-focused approach to the portfolio.”The fund’s 10 largest holdings at the end of May included U.K. high-street banks Lloyds Banking Group PLC, Barclays PLC and NatWest Group PLC, insurer Aviva PLC and pharmaceutical giant GSK PLC. The trust trades at a discount to net asset value (the value of the underlying portfolio) of about six per cent and offers a dividend yield of roughly four per cent.In terms of crash risk, from a portfolio resilience point of view, Chartres notes that it can be tricky to find assets that offer genuine diversification in a world where inflation volatility means that “bonds are an unreliable hedge.”One asset that fits the bill for this new world is energy, according to Chartres. While “the recent Gulf War reminds us of the potential for energy spikes to cause both equities and bonds to sell off more broadly,” the fossil-fuel sector tends to benefit, he says.Chartres says it’s not just the oil majors. Oil services companies also may prosper in the longer run as nations invest in energy infrastructure to cope with current and future potential disruptions in the Gulf. “Of course, the oil market could be soggy for a long time,” but that’s the point of diversifying, he says.Again, Ruffer owns individual oil stocks, but those looking for an ETF to play the theme could consider the iShares Global Energy ETF (IXC US), whose top holdings include ExxonMobil Holdings Corp., Chevron Corp. and Shell PLC. The ETF has an annual total expense ratio of 0.4 per cent. Join the Conversation This website uses cookies to personalize your content (including ads), and allows us to analyze our traffic. Read more about cookies here. 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