My reading of assorted public and specialist media over the last week or two has revealed that many commentators see the current valuation of many US shares in particular as too high on normal valuation bases. I read an article saying a new valuation basis may be needed. The last time I heard an American fund manager talk about a ‘new paradigm’ in stock market pricing was ahead of a market crash so that sort of viewpoint rings warning bells.
But as my readers will recall, I was saying this sort of thing a year ago and yet 2019 was a really good year for equity investors. So maybe this time things are really different?
The end of any bull market is different to previous ones, that much I would concede!
What other actual facts are worthy of examination to help explain what is happening? Markets are going up when really they should not. Here are a few for you to ponder on:
The US Government is about to issue 20 year Treasury stock for the first time since the mid 1980s. This reflects the fact that the US debt is astronomic and tax cuts are being paid for not by GDP growth or public sector savings but by borrowing. That is like you and me maxing our credit cards to give the money to our rich uncle. We know where that would end up.
In a world where populism is rampant, central banks are so afraid of recessions that they will use every tool in their nearly empty box to keep money circulating. This means that they are beginning to own more and more debt securities. This is good for bond prices as there are forced buyers in the market.
In a very simplistic analysis, we can say that Governments are issuing bonds (borrowing) and their own central banks are immediately buying them up. This could be argued to be money printing with no interest cost! Like you borrowing money from your grand-kids piggy bank.
As was proposed by eminent economists when the idea of quantitive easing was first proposed, the eventual consequence of this sort of policy has proved to be inflation in asset prices, so those with assets have become richer. The weakness of labour forces, even in a full employment market plus the application of technology (the real new paradigm) and the globalisation of manufacturing has for now kept the lid on inflation. This is good for equities.
For investors, who own assets (both bonds and equities), this would appear to be very good news – policy is feeding the asset price machine with lots of money and the pipes directing it to benefit the bulk of the population are all closed.
True, if there are hints of the banks wanted to start taking money back out of the system, people get scared pretty quickly, as in mid 2018. But banks trashed their reputations 15 or so years back and no-one objects when they concede to populist government pressure to bump up global credit limits.
It is even possible that some world leaders, fearing elections or even revolutions, are doing what the people that keep them in power (in the media and at the top of the wealth range, or in charge of/supplying their armies) would like them to do, irrespective of the long term consequences – no need to name names.
As long as this continues, investing in equities and bonds will be a nice earner. But I fear that much as happens to the person who pays off one credit card by drawing on another, something that works for many years, the end consequences are bankruptcy and the selling off of assets.
In the global scenario that could actually accelerate the transfer of political power from West to East. It is interesting to note which countries are running surpluses and quietly buying up the assets of debtor nations. If you have grand children, encourage them to learn Chinese.
I have to concede that we probably should stay in the markets for the ride, but if there are any signs of it becoming a train wreck, bailing out sooner rather than later would be essential. Excuse the mixed metaphor!
Of course, asset diversification and hedging risk with adequate cash reserves would be as useful a defence as ever. Personally, I am still retaining a very heavy cash element in my asset base.
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