US stocks are now “an epic bubble,” according to Jeremy Grantham, the bearish financial manager who has built a reputation for his timely forecast of imminent market dips.
Mr Grantham, co-founder of GMO LLC, a fund manager in Boston, wrote in a note on Tuesday: “It is very likely that we are in a major bubble event in the US market, the type that we usually have every several decades. and for the last time in the late 90s.
Its warning highlights the potential risk that accompanies the extreme monetary policies put in place to deal with the pandemic.
In recent months, the US Federal Reserve, Bank of Canada and other central banks have injected large amounts of liquidity into their economies and cut interest rates to some of the lowest levels in history. Their actions have helped propel global stock prices to record highs despite persistent lockdowns and new waves of infection.
“But this bubble will burst in due course, no matter how hard the Fed tries to support it, with consequent adverse effects on the economy and on portfolios,” Grantham wrote. “Make no mistake – for the majority of investors today, this could very well be the most important event of your investing life. “
For now, Mr Grantham’s grim view is clearly in the minority. Recent surveys of institutional investors by Bank of America and Absolute Strategy Research show extremely optimistic levels about the future of stocks.
The bull case hinges on the assumption that vaccines will limit the novel coronavirus over the next few months, allowing economies to return to normal. If so, the huge stimulus measures already rolled out by governments and central banks could fuel further gains in stock prices.
However, the numbers suggest that many happy thoughts are already embedded in stock prices. Global stocks are now at their most expensive levels relative to global gross domestic product (GDP) since late 2007.
The joy on Wall Street is particularly striking. When U.S. stock prices are measured against most fundamentals – from underlying income to long-term earnings to replacement value of assets – they are at or above peaks of exuberance. they hit during the dot-com bubble of the late 1990s.
The prevailing dizziness manifests itself in the renewed bitcoin craze, the staggering share price of Tesla Inc., and the insatiable appetite for initial public offerings.
Mr Grantham is not the only prominent warning of the problems to come. Howard Marks, co-founder of Oaktree Capital Management and a widely followed authority on distressed debt, told the Financial Times this week that financial markets have far outpaced economic fundamentals.
Mr. Grantham agrees. At 82, he built up an impressive background in identifying bubbles from the start. Over two decades ago, he sounded the alarm bells about the dot-com mania and pulled his company out of tech stocks in 1998, two years before the bubble burst. Likewise, it was early to spot the US real estate bubble and urge caution in the face of market euphoria before the 2008 financial crisis.
Equally impressive, he wrote an optimistic letter to investors in March 2009, as the S&P 500 bottomed out during the crisis. In that letter, he argued for the wisdom of “reinvesting when terrified”. His case to return to the market was ideally timed. Those who listened benefited from the multi-year boom that followed.
Of course, Mr. Grantham is not perfect. Its approval of resource stocks in 2011 did not go well. Its adoption of emerging market equities in recent years has produced poor results. Yet his record as an observer of bubbles deserves respect.
He cautions that it’s never possible to tell exactly when a bubble will burst. However, he sees the classic “delicate” characteristics of a late frenzy. One is the growing hostility of customers to bearish views; they just don’t want to hear the negatives. Another is the rapid acceleration in stock prices, which is characteristic of the final burst that occurs in the later stages of many bubbles.
The current market craze is unique in a way, he adds. Most bubbles occur when investors take advantage of a near-perfect economy and assume that it will continue to grow indefinitely. In contrast, the current Wall Street euphoria takes place despite the havoc COVID-19 is wreaking on Main Street.
“Today the [price-to-earnings] The ratio is in the top few percent of the historical range and the economy is in the worst percent, ”writes Grantham. “It’s completely unprecedented.”
So where can investors look for shelter? Mr. Grantham suggests that emerging market stocks are now as cheap as US stocks as they have been for the past 50 years. Value stocks are also cheap, having just completed their worst decade against growth stocks.
Don’t be fooled by the surge in growth stocks over the past few months, he says. “This is precisely what you should expect from a late bubble: an accelerated, almost vertical stage of unknown length – but usually short.”
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