"It is difficult as a long-term focused value investor to find meaningfully undervalued investment-grade companies in this environment though.
How do you think about it? How do you parse out how much of a security's rise is due to its own performance versus just multiple expansion due to the perceived cheapness of equities relative to bonds? Is patience the order of the day, or do you continue dollar-cost averaging into your best opportunities in this "lower for longer" macro backdrop?"
My investment process makes no provision for "equities vs bonds relative valuation". I certainly don't factor in any kind of "interest rates lower for longer" thinking, simply because I do not have a high degree of conviction about what interest rates might do over the next 3-5 years, which is my investment time horizon.
Instead, the valuation parameters I apply (be they P/E, EV/EBITDA, FCF Yield, Price-to-NTA, depending on the nature of the company being assessed), are absolutevalues, and and those absolute values which I use as valuation reference points, are barely changed over many years.
In other words, what P/E multiple (or EV/EBITDA or FCF multiple) I am happy to pay for shares in a company having certain financial pedigree (accounting quality, management competence and integrity, ROCE, organic growth history and prospects in the context of industry structure and positioning) is the same today as it was fifteen, and probably even twenty, years ago.
For example, broadly speaking, I am today willing to pay ~8x EV/EBITDA for a 12% ROE company organically growing its operating earnings by 7%pa; and that was also the case when interest rates were three or four times higher than they are today.
The only reason I shared that exercise showing the history of the Earnings Yield over Bond Yield spread was to offer some kind of explanation for why the level of the stock market is where it currently is, and why the odds appear to be stacked against the view suggesting that the market is expected to undergo a meaningful fall.
And the problem - whenever someone opines that "the market is expensive" is that the notion of this entity called "the market" induces a misleading generalisation. As we all know, the market is not a homogeneous thing; it comprises a wide splay of companies of different types, sizes, quality and - most importantly - valuations.
Over all the time that I've been following and researching and investing in publicly-listed companies, I cannot recall a single time that I have not been able to identify at least a handful of companies sufficiently under-valued to warrant buying.
(And undervalued in absoluteterms, and not merely relativeto other asset classes, such as bonds.)
So sure, on average, the stocks that make up the overall market might today appear less attractively valued than they have been for some years, but as with any average, there are outliers on the high side, as well as on the low side.
It means that, at some points in time (leg. the 2002/3 global recession, the GFC or the Greek debt crisis in 2012) the number of undervalued stocks are many and investors are spoilt for choice; while at other times (like 2000/01, 2007 and now) there a far fewer obviously undervalued stocks and it requires a bit of work identifying those that are. But they do exist.
So, to answer your question about how I think about it, I do not change the way I think about things when "the market" appears to be frothy: I still try to have as much as my capital as is practically possible invested in shares, by identifying and buying shares in company which I think are undervalued, and selling those that I own which I think are unambiguously overvalued.
Sure, it means that I need to migrate down the size curve (and indeed the quality curve sometimes) but that doesn't preclude me from being fully invested without compromising my long-standing valuation criteria.
As a case in point, in the current market the valuations of technology companies (especially anything with the phrase "SaaS" in its investor presentation) look to be at nose-bleed levels. Ditto for infrastructure stocks. And the resources sector appears to me to be priced from "good news" into perpetuity. And there are also other pockets of extreme valuation.
But, then again, there are a number of stocks in the financial sector that now look fundamentally cheap, and after the poor performance of the shares of companies exposed to the domestic economy (such as building materials and retail stocks) I struggle to believe that all of those domestic cyclical companies are now suddenly magically efficiently priced. And, of greater interest to me, there are a number of small-, and micro-cap companies which have not been recognised by the market.
But to summarise:
How I go about investing is not a function of what the level of the overall market happens to be, or what macroeconomic variables are doing, at any given point in time.
You have to stick with what works for you.
The best defence I have against permanent loss of the value of my capital is by focusing all my efforts on valuation.
