Valve is constantly and consistently working on the Source engine, which is the reason why it continues to look fresh despite the fact it's been in use for seven years now. According to Valve there are 20-30 people working full time on incremental upgrades, which apparently negates the need for a fully blown redesigned engine built from scratch.
According to an interview in Develop magazine, the team are constantly evolving the tech.
“I think that incremental updates model has worked really well for us,” claimed Gabe Newell.
“Does that mean we’ll reach some architectural tipping-point where we’ll need to change? No. I mean, if Larrabee had shipped that would have probably necessitated some fairly dramatic changes in order to take advantage of it. But, so far we’ve been able to keep the engine moving ahead, robustly. I mean, I think it looks great.
“I think, when you see a game like DOTA 2, you’ll see how developers can get a lot more out of Source than most companies can get from a scratch-built engine.”
It's an interesting strategy. I think on some level we would all love to see a Valve game that completely redefines the parameters of what is possible, like Half Life 2 did, instead of having the Source engine merely keep pace - but if it makes sense for Valve to continue this strategy, then it makes sense.
Personally I felt like Portal 2 looked as good as any game released this year, but the constant load screens were jarring, particularly when the action moved out of the testing chambers. If Valve put that at the top of the "incremental upgrades" list, I'll be happy!
Valve: No existing plan for 'Source Engine 2' [develop-online]