History Says the S&P 500 Will Make a Big Move in 2026. Here's How Warren Buffett Is Preparing.

Warren Buffett has long advised against market timing. After all, over time, markets tend to go up. Every time you take your money out of the market, therefore, the odds say that you'll be missing a profitable day. But all of this doesn't mean that Buffett stays fully invested all of the time. In fact, right now, Buffett's portfolio is more cautiously invested than it has been in decades. With a record $381.6 billion in cash, roughly one-third of Berkshire Hathaway's (NYSE: BRK.A)(NYSE: BRK.B) entire market cap is now tied up in cash.

Buffett isn't just holding on to record amounts of cash. He's also selling down some of his top holdings. And last quarter, he refused to repurchase any Berkshire stock -- a practice he has often done in recent years.

It's not hard to see what is making Buffett so nervous. Just look at the S&P 500. Based on three different key metrics, the stock market appears grossly overvalued -- a possible warning of a coming market correction.

1. The S&P 500's dividend yield is nearing all-time lows

Monitoring the S&P 500's dividend yield can lead to surprising observations. Right now, the market is fascinated with artificial intelligence (AI) stocks. In general, these stocks don't pay very high dividends. Instead, they retain their earnings to reinvest back into their businesses, businesses that are growing very rapidly.

Today, AI stocks represent a huge percentage of the S&P 500's value. The top five companies in that index now represent roughly 30% of its entire value. All five are tech giants heavily exposed to AI. Because these companies pay minimal dividends, the overall dividend yield for the S&P 500 is near all-time lows. Right now, the dividend yield for the entire index is around 1.17%. The last time its dividend yield was this low was during the peak of the dot-com bubble, when yields bottomed at 1.11%.

But there's another reason why the S&P 500's dividend yield is so low: a historically high valuation on earnings.

2. Marketwide price-to-earnings ratios are looking very pricey

If stocks are priced cheaply, typically, marketwide dividends are high. Consider a company that earns $2 per share and pays out $1 per share in dividends. If the stock trades at a price-to-earnings ratio of 10, the stock would be valued at $20 per share, with a dividend yield of 5%. But if shares were priced at 30 times earnings, the stock would be valued at $30 per share, with a dividend yield of just 3.3%.

Right now, the S&P 500 trades at roughly 30 times earnings -- nearly double its long-term trading average. Even if you just consider the last two decades of data, the S&P 500 now trades at a price-to-earnings multiple that rivals only the 2020 pandemic market rally, the 2008 financial crisis, and the 2000 dot-com bubble.

Simply tracking the market's price-to-earnings ratio, however, has some limitations. That's why it's important to monitor lesser-known metrics like the data discussed below.

Image source: The Motley Fool.

3. This lesser-known metric is also sounding the alarm

Robert Shiller is an economist and professor at Yale University. He is famous for his Shiller P/E ratio. This ratio is based on the average inflation-adjusted earnings over the previous decade. It's also known as the Cyclically Adjusted PE Ratio, or CAPE Ratio. It basically tries to smooth out earnings by using a 10-year, inflation-adjusted average so you're not fooled by one unusually good or bad year.

According to Shiller's adjusted price-to-earnings ratio, the stock market looks even more expensive than by using traditional metrics. This ratio currently stands at 39.34. The last time it reached such heights was during the peak of the dot-com bubble.

To be certain, no one knows when the next market correction will come. But several key metrics are sounding the alarm. Warren Buffett's response has been to build up cash, sell down key positions, and decline to buy back shares of the company he understands best: Berkshire Hathaway. If you're worried about the future, it may be time to get more defensive with your investment strategy.

Ryan Vanzo has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Berkshire Hathaway. The Motley Fool has a disclosure policy.