“Asphyxiation is a condition in which the body doesn’t receive enough oxygen.”

That’s how I started my last column , in which I explained how the recent U.S. equity market highs have been creating “altitude sickness,” or value asphyxiation, for investors. If you look down from 30,000 feet, the market is trading at a significant premium to its average long-term valuation, especially if you normalize earnings for sky-high profit margins.

The view from the trenches is not much different. I spend a lot of time looking for new stocks, either by screen or by reading or talking to other value investors.We are all having a hard time finding many stocks of interest. In fact, we’ve been doing a lot more selling than buying.

I often get asked a question: Are we in a bubble? Bubble is a word that has been thrown around a lot lately. There may be an academic definition of what a bubble is — probably something to do with valuations at least a few standard deviations from the mean — but I don’t really care what it is. (Only academics believe in normal distributions.)

From the practitioner’s perspective, a bubbly valuation occurs when the price-earnings ratio of a company is so high that its earnings will have a hard time growing into investors’ expectations. In other words, the stock is so expensive that investors holding it will find it difficult to realize a positive return for a long time (think of Cisco Systems, Microsoft and Sun Microsystems in 2000).There are some bubbly stocks in the market today. Most years you see some, but today there are probably a few more than usual.

We see a lot of overvalued or fully valued stocks. Expectations (valuations) of those stocks have already more than priced in rosy earnings growth scenarios. If these scenarios play out, investors will likely make very little money, as earnings growth will merely offset P/E compression. But here is where it gets interesting: The line between overvalued and bubbly stocks is often very murky.If the economy’s growth is lower than expected or corporate profit margins revert toward the mean (or, in the situation we have today, decline), the return profiles of these stocks will not be substantially different from those of the bubbly ones. Unfortunately for the value-asphyxiated investor, there are a lot of stocks that fall into this overvalued bucket.

It is very hard for investors to remain disciplined and stick to an investment process. Selling overvalued stocks is hard, because every sell decision brings consequent pain as overvalued stocks that are not aware you’ve sold them keep on marching higher. Just as Pavlov’s dog responded to a bell, the pain of selling teaches us not to sell.

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Vitaliy N. Katsenelson, CFA, is CIO at Investment Management Associates in Denver, Colo. He is the author of The Little Book of Sideways Markets (Wiley, December 2010). To receive Vitaliy’s future articles by email or read his articles click here.

Investment Management Associates Inc. is a value investing firm based in Denver, Colorado. Its main focus is on growing and preserving wealth for private investors and institutions while adhering to a disciplined value investment process, as detailed in Vitaliy’s book Active Value Investing (Wiley, 2007).