What To Do When Markets Look Frothy

Ray Dalio recently warned that there is "definitely a bubble" in markets, even if we haven't yet seen the event that will "prick" it. By "frothy," I mean markets that look stretched or overextended—where optimism is high, valuations are rich, and prices depend more on sentiment than fundamentals. The takeaway isn't to guess when the bubble bursts. It's to prepare for the possibility that future returns may be lower and volatility higher.

What Preparation Looks Like

• Stress-test plans using more conservative return assumptions.
• Revisit spending or distribution expectations that rely on sustained growth.
• Ensure adequate liquidity so beneficiaries or older adults aren't exposed to sudden cash needs during a market drop.
• Consider the benefits of diversification or defensive positioning without attempting to time the market.

Why This Matters for Fiduciaries

High valuations sharpen fiduciary duties. Under the Prudent Investor Rule, a fiduciary must evaluate risk in light of current conditions—not historical averages. Elevated volatility also raises impartiality concerns if one class of beneficiaries is more exposed than another. And the duty to avoid unreasonable risk means avoiding late-cycle speculation.

A fiduciary doesn't have to call the top. But they do have to build a portfolio—and a plan—that can withstand turbulence if today's froth turns into tomorrow's correction.