Table of Contents
Key Takeaways:
- Jeremy Grantham, the 83-year-old founder of Boston-based money manager Grantham Mayo van Otterloo, cites a rapid rise in “parody” cryptocurrencies like dogecoin, as well as huge gains in otherwise dubious “meme” stocks like AMC and GameStop, as instances of out-of-control supposition that’s fueling the bubble.
- The great superbubbles’ last aspect has been an ongoing market shrinking and unusual lack of performance of speculative stocks, many of which have fallen as the blue chip market has risen. This happened in 1929, again in 2000, and again presently.
- The Fed and most of its counterparts around the world do not appear to view all of the economic and financial hazards that are presently accumulating as a result of multiple large bubbles to be particularly severe.
One of Wall Street’s most influential voices, the British billionaire Jeremy Grantham sees a boulder barreling toward global financial markets. A “superbubble” is his word for what he sees as a growing threat to U.S.S. investors.
Some predict a more severe reversal, comparable to the dot-com bust of the late 1990s.
The underappreciated damage that bubbles bring as they deflate and markdown our wealth is one of the key reasons why Jeremy despises superbubbles – and detests the Fed and other financial authorities for tolerating and aiding them. When bubbles form, they give us an absurdly exaggerated picture of our true riches, encouraging us to spend accordingly. But then, as bubbles burst, most of those dreams are crushed, and the negative economic pressures increase on the way down.
Allowing bubbles to form, let alone assisting them, is simply miserable economic policy. Nobody seems to mention that higher-priced assets are inherently wrong than lower-priced assets. You feel richer when farms or commercial forests, for example, double in price, resulting in yields falling from 6% to 3%.
However, your wealth accumulates considerably more slowly at bubble pricing, and your income lags.
“We are in the fourth huge bubble of the last hundred years in the United States,” Grantham claimed, claiming that the S&P 500 index of the largesU.S.U.S. stocks may collapse 45% from current levels. However, he didn’t say when he thinks the bubble will burst, only that
markets are in the latter stages of a superbubble, making them vulnerable to a dramatic drop at any time.
The great superbubbles’ ultimate element has been a continuous market narrowing and unusual underperformance of speculative stocks, many of which have fallen as the blue-chip market has risen. This happened in 1929, again in 2000, and again presently.
The most crucial and challenging element of a late-stage bubble is the expressive aspect of wild investor behaviour. But there’s no denying that we’ve seen a lot of insane investor behaviour in the previous two and a half years – even more than in 2000 – particularly in meme stocks and EV-related stocks, cryptocurrencies, and NFTs.
Investment bubbles at GMO:
For over 20 years, G.M.O..O. has defined investment bubbles using a scientific measure of extremes — a 2-sigma divergence from the trend. a 2-sigma event should occur once every 44 trials in each direction for a random, customarily distributed series, such as the sum of fair coin tosses.
The available data revealed more than 300 2-sigma swings across all asset classes throughout financial history.
1 Every occurrence of a 2-sigma stock bubble in developed equity markets over the last 100 years has finally entirely deflated, with the price reverting to the trend that prevailed before the bubble emerged.
Market extremes, on the other hand, do not stop at 2-sigma. A superbubble is a 3-sigma occurrence, in my opinion. That would happen once per 100 occurrences in a universe of fair coin tossing, yet it appears to happen two or three times more frequently in actual life.
Whether the bubble reaches 2-sigma, 3-sigma, or even higher, it will still go back to trend, resulting in massive asset value losses.
The critical thing to remember is that two statements are connected:
- As you move higher, the predicted future return decreases.
- The higher you climb, the longer and more unpleasant it will be to return back on track.
First, in the current scenario, from whatever high point the market might hit, to a trend value of around 2500 on the S&P 500, adjusted for the passage of time (currently at nearly 4700).
A number of reasons have contributed to the markets’ troubles, but three, in particular, have been extremely crucial:
1) The Federal Reserve is removing the “punch bowl”-
As of now, the United States has seen three major asset bubbles in the last 25 years, significantly more than is typical. Jeremy feels that this is not a case of bad luck but rather a direct result of the dovish Fed bosses’ post-Volcker policy.
When the minutes of the Federal Reserve’s December policy-making meeting was released on January 5, the S&P 500 lost its high. According to those papers, given the tightening labour market and continuing inflation, the central bank anticipated hiking interest rates three times in 2022. As a result, many traders modified their portfolios due to the higher rate of monetary tightening than they had anticipated.
The Fed’s notes did not, on their own, cause a frenzy to the exits. However, it had a long-term impact on investor sentiment. Additional data revealed that December had seen the greatest pace of inflation in four decades, further reinforcing the pessimistic mood. Moreover, central bank policies always influence stock market values. Equities and bonds battle for the world’s savings.
Furthermore, the COVID-era boom was fueled by tech companies because the epidemic damaged in-person service and retail firms more than digital titans. Apple, Microsoft, Amazon, the business formerly known as Facebook, Alphabet, Tesla, and the chipmaker Nvidia accounted for more than half of the S&P 500’s worth at the end of 2021.
2) In recent weeks, the chances of inflation dissipating in 2022 have decreased-
Inflation, they believe, will be “transitory.” As a result, demand was sure to temporarily outstrip supply when the economy reopened, especially in sectors affected severely by the pandemic.
Inflation has remained rather narrowly distributed, albeit more persistent than the Fed intended. For example, energy, new vehicle, and used vehicle price hikes accounted for more than half of December’s C.P.I.C.P.I. increase.
On the other hand, markets can no longer have much faith in impending price stabilisation. If the epidemic subsides by spring, some supply-side issues in the automotive industry may be alleviated.
Meanwhile, private demand is expected to stay strong through 2022, as newly hired workers will have more disposable income, and middle-class Americans will still have plenty of money to spend.
If inflation continues to exceed the Fed’s predictions, interest rates could be raised much more than the December minutes suggested. This would not only weaken the relative attraction of stocks versus bonds, but it would also threaten to disrupt the broader economic recovery, lowering profits.
3) Corporate profits have been a hit or a miss-
Finally, corporate profits have not been strong enough to assuage investor concerns. That implies that this year’s earnings season has been abysmal. About one-fifth of the S&P 500 corporations have reported fourth-quarter results, and 82% of these companies outperformed analysts’ estimates. Stock valuations, on the other hand, are prospective. And firms’ earnings guidance to investors, that is, their public projections for earnings in the months ahead, has been lower than expected, with only one S&P 500 company, Micron Technology, exceeding earnings estimates and upping its future profit expectations.
In an interview with Bloomberg, Mr Grantham reaffirmed his bearish forecast.
“I wasn’t quite as sure about this bubble a year ago as I was about the tech bubble in 2000, or the Japanese bubble, or the housing bubble in 2007,” he told the publication.
“I had a strong feeling that it was likely, but not certain.” Today, I believe it is very close to certainty.”
Mr Grantham went into alarming detail in his note, which made headlines worldwide, for individuals without a background in finance about why bubbles are so dangerous.
In his note, which made headlines worldwide, Mr Grantham went into alarming detail about why bubbles are so dangerous.
Mr Grantham placed the blame entirely on the authorities, slamming U.S.e U.S. Federal Reserve’s current and earlier policies, asking “…why on Earth would the Fed not only have tolerated but should have encouraged and aided this eveG.M.E.?”
2020 projections on extraordinary bubble anecdotes:
- GME and AMC — two firms in weakening industries further ravaged by Covid-19 – managed to rise 120x and 38x, respectively, from their post-pandemic lows to their 2021 highs, propelled by message board sentiment, momentarily pushing GME to 20% of the Russell 2000;
- Since Elon Musk kept joking about it, the dogecoin phase, in which a cryptocurrency intended as a spoof of the crypto frenzy soared up over 300x to a market cap of $90 billion;
- After Hertz (one of 2020’s meme stock stars) enjoyed a quick stock spike after saying it would purchase a fleet of Teslas, Avis very plaintively commented, “Hey dudes, we might buy electric cars too,” and tripled in a day!”
Final “narrowing market” phase of a great bubble:
G.M.E., A.M.C., dogecoin, and more than a third of all NASDAQ equities have now lost more than 50% of their value since their highs. Bitcoin is down over 40%, and my Quantumscape, worth G.M.G.M.han G.M. 13 months ago (1929 had numerous crazy speculations but none on this magnitude), is down 83% from its December 2020 top.
What Should an Investor Do?
To summaU.S.U.S.oid U.S. equities and focus on developing market value stocks and a few inexpensive developed countries, most notably Japan. Jeremy recommends having some cash on hand for flexibility and resources to hedge against inflation and a small amount of gold and silver.
Navigating bubbles entails various risks, including absolute, relative, and career-related risks. This time is no exception: the start of mean reversion is fundamentally unpredictable. However, just as in 1987, 1999, and 2008, there are still numerous chances to make money and reduce risk in today’s market.
