Katie and I having been staying in Venice Beach, Los Angeles for a while and as I sit on the deck outside our Airbnb I see countless, driverless Waymo cars cruising past. It feels like the future is already here.

Think about it. No drivers. You order the car through the Waymo app, it drives to pick you up, it drops you off. It is uber but without the awkward conversations!

How does that change jobs, insurance, logistics and energy use?

Transport is just one of many industries AI could completely transform. This level of disruption is what excites investors and huge potential profits attract capital fast. But while some see opportunity, others fear the power of AI and warn that the stock market is in bubble territory.

Is it a bubble? What even is a bubble?! And if AI is driving this frenzy, what does that mean for those of us investing in global index funds? These are the questions the media are driving us to ask, and mostly Katie and I try to avoid and get on with living our lives!

Read on to find out what we think.

What People Mean by a “Bubble”

A bubble is when prices rise far beyond what the underlying business results support. The usual signs are:

• Valuations stretched compared to history. The measure of valuation that people tend to use is Price to Earnings Ratio or Shiller Cape Ratio. Jargon alert! Keep reading for an explanation…
• Narrow leadership where a small group of companies dominates the returns for the whole stock market, this is happening right now with the magnificent 7, Apple, NVidia, Amazon, Tesla, Meta, Google & Microsoft
• Story beats numbers – “This time is different” is a classic phrase during bubbles. This is where we as humans buy into the story and forget about the fundamentals of the businesses.

Famous bubbles from history include the Tulip Mania of the 1600s, the South Sea Bubble of 1720, the dot‑com boom of 2000, the 2008 housing and credit bubble, and the 2017 cryptocurrency craze.

Let’s see if this is a bubble or not… but before we do that we need to explain some jargon as promised! I am going to try to break down and make sense of it all for you so you can understand what different “experts”, that don’t have a clue what is going to happen next, are waffling on about!

P/E Ratio Explained in Donegan English

P/E stands for Price to Earnings. It tells you how many pounds or dollars investors are willing to pay for one pound or dollar of a company’s yearly profits.

Analogy: Imagine buying a coffee shop. Last year it made £50,000 profit. If the seller wants £1,000,000 for it, you are paying 20 times last year’s profits. That is a P/E of 20. If you pay £2,500,000, that is a P/E of 50. The higher the P/E, the more the future has to be amazing to justify the price.

Two common versions:

• Trailing P/E: uses the last 12 months of profits. Simple but can be noisy as profits go up and down all the time!
• Forward P/E: uses analysts’ estimates for next year. Looks ahead but can be wrong. Ever know someone to predict the future incorrectly?

When you hear people saying the stock market is overvalued they will usually be talking about the P/E ratio. We have been hearing people say the stock market is overvalued since we started investing in 2014. They have been telling us how everything is overvalued and can’t continue this way.

First bit of jargon explained. Are you still with me? Let’s explain the next term…

Shiller CAPE Explained Simply

Shiller CAPE is the Cyclically Adjusted Price to Earnings. The ratio was invented by American economist Robert J. Shiller and is used to look at the relationship between price and earnings over time. It takes the price of the market and divides it by the average of inflation-adjusted earnings over the past 10 years.

That was a mouthful wasn’t it! Basically it is a more complex version of price to earnings ratio.

Analogy: Judging a footballer by one match can fool you. A 10-year season average is a better guide to true form.

This is the purpose of the CAPE – to smooth out booms and recessions to give a calmer view of value over a longer time period. It still compares the two elements of the P/E ratio (share price and profits) but it adapts the way it calculates it to smooth it out.

Historically, lower CAPE has meant higher long-term returns and higher CAPE has often meant lower long-term returns. It is useful for context, not prediction.

Are you with me so far? Thoughts? Questions? Please put them in the comments if anything isn’t clear! This stuff isn’t easy to explain!

Let’s see what the Shiller Cape looks right now. Yes the thing you have been waiting for, CHART TIME! This chart compares the S&P 500’s performance with its CAPE ratio over the past five years.

This chart uses a logarithmic scale so that percentage changes are shown consistently across time.

In a normal (linear) chart, early moves look tiny and later moves look huge, even if both are the same percentage. A log scale fixes that by spacing the axis so equal percentage changes appear equal, making long-term trends easier to compare.

I never imagined I would be trying to explain logarithmic versus linear scales on the blog.

The first thing I noticed on the chart is that both lines move quite closely together. Makes sense as the orange line is the S&P500 price and the blue line is the Shiller Cape which use price as one of it’s factors.

You can see the end of the chart heading upwards, but the Shiller Cape is not much higher than it was in 2021.

Does that mean we’re in bubble territory? Not necessarily, high CAPE can persist for years, and earnings growth could justify these levels. But it’s a useful reminder that markets aren’t just about price. they’re about what you pay for the share of a companies profits.

What the Numbers Say Right Now

You know Katie and I love numbers and maths! Here is what the data currently says (November 2025):

• The S&P 500 (Standard and Poor 500, which the 500 biggest companies in the USA) has nearly doubled in five years (+99%), closing around 6,840 points in early November 2025. You will have benefitted from this if you hold a USA or global index fund (since the USA is dominant in the global fund).

• The S&P 500 is weighted by size of company and the Magnificent Seven – Apple, Microsoft, Alphabet, Amazon, Meta, Nvidia, and Tesla – now account for about 37% of the S&P 500, a record level of concentration.

• If you own VT or the FTSE Global All Cap you have a global fund and you own companies in other countries so your exposure to the Magnificent Seven is far lower at around 15% of the total fund. You are FAR more diversified when you own a global fund rather than just the S&P 500.

• Valuations:
  • S&P 500 trailing P/E: ~28 (vs historical median ~18–19)
  • Magnificent Seven average P/E: 45
  • Rest of S&P 500: 20

• Globally, valuations:
  • Global P/E: 22
  • Global CAPE: 26 (long-run average 19)

• The US Shiller CAPE sits at 40, a level last seen during the dot-com bubble in 2000.

We do have high valuations according to these measures currently. And very high valuations of the Magnificent seven stocks, which have created most of the returns recently for the stock market.

Mr Money Mustache wrote about the numbers in relation to this potential AI Bubble back in February 2025. Interesting to see we are still having the same conversations 9 months later…

What This All Means If You Own Global Index Funds

If you hold a simple global index fund you already own AI leaders and thousands of other companies. The global index funds available to investors varies by the country you live in. Examples are:

• If you’re in the UK: Vanguard FTSE Global All Cap
• If you’re in the US: Vanguard Total World (VT)
• If you’re in NZ: You can own VT through the InvestNow Foundation Series Total World Fund

That single fund is very diversified by country and sector. The US and large cap tech have been a big slice, so a tech wobble will be felt. Diversification is your built-in shock absorber.

If there is a AI Bubble that bursts you will own thousands of other companies in other countries and sectors that will continue to trade and generate profits.

These funds are a lot more diverse than the S&P500 which is just the 500 biggest companies in the USA. In the global fund you own 7000 companies across 50 countries and all sectors.

For Katie and I this is all noise on the journey for an index investor. We find it interesting and then stick to our long term plan, holding 1 simple global index fund and letting it do the heavy lifting for us.

Two Competing Stories Investors Hear

Right now there are two conflicting stories in the media and society. One of optimism and one of pessimism.

Story 1: The AI Productivity Boom

• AI helps people do more with less. Think coding co-pilots, customer support, design, logistics, medicine, driverless cars like the Waymos at the start of the article.
• Big Tech is investing at massive scale in data centres and chips and building capacity.
• If earnings grow fast, today’s high P/Es can fall naturally as the “Earnings” rise.
• AI will deliver on a life changing future helping us to be more productive, increasing profitability and driving change across the globe, or it takes over (who knows!)

Story 2: The Bubble That Must Burst

• Valuations are stretched and leadership is narrow with the magnificent 7 leading the market.
• Any earnings miss, regulation, or rate shock could hit the leaders hard. An earnings miss is when one of the big companies doesn’t hit it’s own targets and has to report to Wall Street that they aren’t going to make as much money as they had forecast.
• Media bias: fear grabs attention. “If it bleeds it leads.” A scary bubble headline gets more clicks than a boring productivity story. Expect more doom than boom coverage. If people buy into this message and sell then it could trigger the very thing they were afraid of in the first place! Human beings create what they fear.
• Even if AI is real, prices can still overshoot and correct in the future. Maybe it is just too early like it was in the dot com bubble? There was real potential but the investment was too early.

The biggest difference between now and the dot com bubble is that the companies driving the higher valuations are actually profitable, highly profitable. In the dot com bubble the valuations were high and not based on any underlying earnings.

I don’t believe this is the same as the DotCom Bubble, but I do know that fear sells newspapers so expect to read a lot about that!

The Donegan Plan

• Stay diversified: One simple global index fund is already diversified across thousands of companies and many countries.

• SoRR: If you are in or around retirement: consider holding some cash, bonds or protecting yourself from sequence of returns risk so you can rebalance and cover spending without panic. Watch week 10 of the course again if none of this makes sense.

  SoRR is a real risk if you are about to retire.

• Rebalance: on your chosen schedule or when allocations drift. Simple and rules-based beats guessing. This is not something you need to do if you are invested in one simple global index fund, it will readjust for you and you just need to ride out any potential storms by doing nothing
• Keep adding: through the cycle with your regular contributions. The best time to buy is during a correction. In fact if you are earning then there is nothing better than a good old crash for you! Just remember not to try and time the market and as soon as you have spare cash get it invested. Time in the market is more important than timing the market!

Quick FAQs

Is a crash imminent?
No one knows. Valuation on its own does not cause crashes. A catalyst like earnings disappointment, regulation, investor panic or a credit event usually does.

Should I sell my global index fund?
Timing tops is very hard. Many sold in 2015, 2018, and 2022 and missed big rebounds. A plan you can stick with has a better track record than guessing. We would NEVER sell our funds based on media speculation and rhetoric. We are going to stay invested through all the ups and downs.

Do high valuations guarantee lower long-term returns?
They might mean lower average returns over the next 10 to 20 years, but it is not guaranteed. People have been saying this since 2015 while markets still delivered strong periods. After you have been investing for a while you start to spot the same stories again and again and again and then eventually tune them out and stick to your simple plan.

Should I tilt away from tech or into value?
To us this is stock picking. You are saying that you KNOW that the big companies won’t continue to perform and that smaller companies will. A broad global fund already holds value and non-US stocks. We don’t believe that anyone can pick stocks over the long term. This is something we will never do. We are going to stick with our one simple global index fund, thank you very much!

What about adding bonds now?
If you are approaching or in retirement, bonds/cash can help fund spending and reduce the need to sell shares in a downturn. Set a simple stock and bond/cash mix you can live with and rebalance when you need to.

Is it safer to wait in cash until the bubble pops?
This approach is crazy, you might be sat on the side-lines in cash as the market soars to new heights! we did this in 2015 scared the market would crash because of Brexit and trump and we missed out on a lot of profits!

If you have a lump sum in most instances you will be far better off investing it all in one go, but you will never know till afterwards. If you are contributing monthly, keep going. The Donegans are not going to be selling to cash right at the point the market is roaring up!

Bottom Line

AI is real. The hype is real. Prices can overshoot or earnings can catch up, no one knows which story will win out. Your best defence is still a simple, diversified plan you can follow in good times and tough times.

The biggest difference between now and the 2001 Dot Com Bubble is that the companies that are leading the AI charge are already the most profitable companies in the world.

In the Dot Com Bubble companies had insane valuations and they didn’t even generate a profit. Effectively having an infinite P/E Ratio!

No one can predict the future.

Our personal AI story:
AI has already changed our work. We took a spreadsheet model and used AI to help us turn it into code we could embed on our website as the retirement calculator.

That used to be developer only territory that would have cost serious money. Now we are doing it ourselves and helping more people faster. That is the kind of quiet productivity gain that does not make headlines but changes lives.

AI has become a daily part of our life, work and fun. We use it to plan trips, coach us on decision making and helping spot where we need to make changes.

This is game changing technology and the people that use it will see a massive advantage and the people that ignore, avoid and denigrate will have tough times ahead.

This is the first in a series of article we are writing. The next ones are:

• How to Prepare for an AI Bubble crash next – The Three Phases of Investing
• Lessons from past Bubbles – what history has taught us
• Could an AI Crash hit your global index fund?

Let us know your thoughts in the comments and if you think we have missed something.

Peace and Pineapples

Alan and Katie