Results 201–250 of 451 found.
Losing Velocity: QE and the Massive Speculative Carry Trade
What central banks around the world seem to overlook is that by changing the mix of government liabilities that the public is forced to hold, away from bonds and toward currency and bank reserves, the only material outcome of QE is the distortion of financial markets, turning the global economy into one massive speculative carry trade. The monetary base, interest rates, and velocity are jointly determined, and absent some exogenous shock to velocity or interest rates, creating more base money simply results in that base money being turned over at a slower rate.
Fast, Furious, and Prone to Failure
Though we remain open to the potential for market internals to improve convincingly enough to at least defer our immediate concerns about market risk, we should also be mindful of the sequence common to the 1929, 1972, 1987, 2000 and 2007 episodes.
On the Tendency of Large Market Losses to Occur in Succession
We may wish to believe that a 25-30% market plunge has zero probability since we know that the probability of a one-day loss of several percent is quite low, making a whole series of them seemingly impossible. But that view overlooks the tendency of large losses to occur in succession. It also overlooks the tendency for monetary easing to support stocks only when low- or zero-interest risk-free assets are considered inferior holdings in comparison to risky ones.
Air-Pockets, Free-Falls, and Crashes
Once overvalued, overbought, overbullish extremes are joined by deterioration in market internals and trend-uniformity, one finds a narrow set comprising less than 5% of history that contains little but abrupt air-pockets, free-falls, and crashes.
Dancing Without a Floor
As I did in 2000 and 2007, I feel obligated to state an expectation that only seems like a bizarre assertion because the financial memory is just as short as the popular understanding of valuation is superficial: I view the stock market as likely to lose more than half of its value from its recent high to its ultimate low in this market cycle. In my view, speculators are dancing without a floor.
The Ingredients of a Market Crash
Market peaks often go through several months of top formation, so the near-term remains uncertain. Still, it has become urgent for investors to carefully examine all risk exposures. When extreme valuations on historically reliable measures, lopsided bullishness, and compressed risk premiums are joined by deteriorating market internals, widening credit spreads, and a breakdown in trend uniformity, its advisable to make certain that the long position you have is the long position you want over the remainder of the market cycle.
The Ponzi Economy
When the most persistent, most aggressive, and most sizeable actions of policymakers are those that discourage saving, promote debt-financed consumption, and encourage the diversion of scarce savings to yield-seeking speculation rather than productive investment, the backbone that supports a rising standard of living is broken.
Broken Links: Fed Policy and the Growing Gap Betweeen Wall Street and Main Street
The issue is not whether the U.S. economy does or does not need life support. The issue is that QE is not life support in the first place. How can policy makers help to build the economy from the middle-out, and slow the both the unproductive diversion and the lopsided distribution of resources in our economic system? We should begin by stopping the harm.
Low and Expanding Risk Premiums are the Root of Abrupt Market Losses
Compressed risk premiums normalize in spikes. Day-to-day news stories are merely opportunities for depressed risk premiums to shift up toward more normal levels, but the normalization itself is inevitable, and the spike in risk premiums (decline in prices) need not be proportional or justifiable by the news at all.
Quotes on a Screen and Blotches of Ink
The ratio of market capitalization to GDP, which Warren Buffett (correctly) observed in a 2001 Fortune interview is "probably the single best measure of where valuations stand at any given moment" is now about 150% (not just 50%) above its pre-bubble norm, and beyond every point in history except for the final quarter of 1999 and the first two quarters of 2000. Much of what investors view as "wealth" here is little but transitory quotes on a screen and blotches of ink on pieces of paper that have todays date on them. Investors seem to have forgotten how that works.
The Delusion of Perpetual Motion
The Federal Reserves promise to hold safe interest rates at zero for a very long period of time has not created a perpetual motion machine for stocks. No it has simply created an environment where investors have felt forced to speculate, to the point where stocks are now also priced to deliver zero total returns for a very long period of time. Put simply, we are already here. Investment decisions driven primarily by the question What other choice do I have? are likely to prove regrettable.
This Time is Different, Yet with the Same Ending
The Federal Reserves policy of quantitative easing has produced a historically prolonged period of speculative yield-seeking by investors starved for safe return. The problem with simply concluding that quantitative easing can do this forever is that even speculative assets have to compete with zero. When a safe zero return is above the medium or long-term return that one can estimate for a very risky asset, the rationale for continuing to hold the risky asset becomes purely dependent on expectations of immediate short-term price gains.
Formula for Market Extremes
Market extremes generally share a common formula. One part reality is blended with one part misguided perception (typically extrapolating recent trends as if they are driven by some reliable and permanent mechanism), and often one part pure delusion (typically in the form of a colorful hallucination with elves, gnomes and dancing mushrooms all singing in harmony that reliable valuation measures no longer matter).
We Learn From History That We Do Not Learn From History
Market conditions presently match those that have repeatedly preceded either market crashes or extended losses approaching 50% or more. Such losses have not always occurred immediately, but they have typically been significant enough to wipe out years of prior market gains. Our present views are not built on the forecast that stocks must decline immediately, or that we wont go through some additional discomfort if the market pushes to a higher peak. Still, a century of history strongly warns that whatever transitory gains the market achieves from present levels will be wiped out in spad
Market Peaks are a Process
Market peaks are a process, not an event or an instant. Investors should be thinking very seriously about the extent of potential market losses over the completion of the present market cycle. It is the wrong question to ask where else am I going to put my money with short-term interest rates near zero? The problem with that question is that it carries the implicit assumption that the expected return on stocks is even positive or adequate given the prospective risks.
Cahm Viss Me Eef You Vahn to Live
Taking the broad stock market as a whole, and considering all stocks ? not simply the largest of the large caps ? investors are now making the broadest and most leveraged bet on overvalued equities in U.S. history. Conditions somehow do not feel so dangerous because profit margins are cyclically extreme, but I suspect that this only means that investors will be surprised by the depth of the markets losses, as they were in 2000-2002 and 2007-2009. The lessons on this really are freely available all the way back to the South Sea Bubble.
The Future is Now
The Federal Reserve has stomped on the gas pedal for years, inadvertently taking price/earnings ratios at face value, while attending to ?equity risk premium? models that have a demonstrably poor relationship with subsequent market returns. As a result, the Fed has produced what is now the most generalized equity valuation bubble that investors are likely to observe in their lifetimes.
The Federal Reserve's Two-Legged Stool
In viewing the Fed?s mandate as a tradeoff only between inflation and unemployment, Chair Yellen seems to overlook the feature of economic dynamics that has been most punishing for the U.S. economy over the past decade. That feature is repeated malinvestment, yield-seeking speculation, and ultimately financial instability, largely enabled by the Federal Reserve?s own actions.
Margins, Multiples, and the Iron Law of Valuation
The Iron Law of Valuation is that every security is a claim on an expected stream of future cash flows, and given that expected stream of future cash flows, the current price of the security moves opposite to the expected future return on that security. A corollary to the Iron Law of Valuation is that one can only reliably use a ?price/X? multiple to value stocks if ?X? is a sufficient statistic for the very long-term stream of cash flows that stocks are likely to deliver into the hands of investors for decades to come.
The Other Side of the Mountain
Having witnessed the glorious advancing portion of the uncompleted market cycle since 2009, investors might, perhaps, want to consider how this cycle might end. After long diagonal advances to overvalued speculative peaks, the other side of the mountain is typically not a permanently high plateau.
Shifting Policy at the Fed: Good for Long-Term Growth, Bad for Cyclical Bubbles
The Fed is wisely and palpably moving away from the idea that more QE is automatically better for the economy, and has started to correctly question the effectiveness of QE, as well as its potential to worsen economic risks rather than remove them.
Fed-Induced Speculation Does Not Create Wealth
Fed-induced speculation does not create wealth. It only changes the profile of returns over time. It redistributes wealth away from investors who are enticed to buy at rich valuations and hold the bag, and redistributes wealth toward the handful of investors both fortunate and wise enough to sell at rich valuations and wait for better opportunities.
Restoring the "Virtuous Cycle" of Economic Growth
The so-called ?dual mandate? of the Federal Reserve does not ask the Fed to manage short-run or even cyclical fluctuations in the economy. Instead ? whether one believes that the goals of that mandate are achievable or not ? it asks the Fed to ?maintain long run growth of the monetary and credit aggregates commensurate with the economy's long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices and moderate long-term interest rates.?
Do Foreign Profits Explain Elevated Profit Margins? No.
Foreign profits as a share of GNP have been contracting since 2007, are only about two-tenths of a percent above the 2009 low, and therefore do not have any material role in the surge in overall profit margins we?ve observed in recent years. The surge can be fully explained by mirror image deficits in household and government saving - a relationship that can be demonstrated across decades of historical evidence.
Topping Patterns and the Proper Cause for Optimism
We would dismiss classic topping patterns we observe here if the recent market peak did not feature the "full catastrophe" of textbook speculative features, particularly the same syndrome of extreme overvalued, overbought, overbullish, rising yield conditions observed (prior to the past year) only at major market peaks in 2007, 2000, 1987, 1972, and 1929. Meanwhile, we remain encouraged. Those who follow a historically informed, value-conscious, and risk-managed investment discipline should be among the most optimistic investors in the financial markets.
On the basis of a broad range of valuation measures that are tightly (nearly 90%) correlated with actual subsequent S&P 500 total returns over the following decade, we estimate that stock prices are about double the level that would generate historically adequate long-term returns.
Increasing Concerns and Systemic Instability
The potential collapse of a now-complete log-periodic bubble is best considered something of a physics experiment, and its not what drives our investment stance. Still, the backdrop of steep overvaluation, extreme bullish sentiment, record margin debt, and international dislocations could hardly provide a more fitting context for a disruptive completion to the present market cycle.
Hovering With an Anvil
In my view, the stock market is hovering in what has a good chance of being seen in hindsight as the complacent lull before a period of steep losses. Meanwhile, we would require a certain amount of deterioration in stock prices, credit spreads, and employment growth to amplify our economic concerns, but even here we can say that there is little evidence of economic acceleration. Broad economic activity continues to hover at levels that have historically delineated the border of expansions and recessions.
Estimating the Risk of a Market Crash
A defensive outlook here does not presume, require, or rely on a market crash. Our ongoing discipline is to align our investment outlook with the market return/risk profile that we estimate on the basis of a broad ensemble of evidence that we can test historically and validate in out-of-sample data. That outlook will shift as that evidence shifts, period.
Does the CAPE Still Work?
We feel no particular obligation defend the CAPE ratio. It has a strong long-term relationship to subsequent 10-year market returns. And its only one of numerous valuation indicators that we use in our work - many which are considerably more reliable.
The Coming Retreat in Corporate Earnings
The problem is not simply that earnings are likely to retreat deeply over the next few years. Rather, the problem is that investors have embedded the assumption of permanently elevated profit margins into stock prices, leaving the market about 80-100% above levels that would provide investors with historically adequate long-term returns. An equivalent way to say this is that stocks are currently at levels that we estimate will provide roughly zero nominal total returns over the next 7-10 years, with historically adequate long-term returns thereafter.
The Truth Does Not Change According To Our Ability To Stomach It
The stock market is presently at valuations where not only cyclical but secular bear markets have started. A secular bear period comprises a series of cyclical bull-bear periods where valuations gradually work their way lower at each successive cyclical trough. The past 13 years of paltry overall total returns for the S&P 500 have unfortunately corrected very little of the excess in 2000, largely thanks to yet another round of Fed-enabled speculation. We should have learned how these episodes end.
The Elephant in the Room
Investors will do themselves terrible harm if they ignore the objective warnings of history based on our subjective experience in this unfinished half-cycle. That subjective experience is far more closely related to my 2009 stress-testing decision than many investors recognize.
An Open Letter to the FOMC: Recognizing the Valuation Bubble in Equities
The Fed has done enough, and perhaps dangerously more than enough. The prospect of dismal investment returns in equities is an outcome that is largely baked-in-the-cake. The only question is how much worse the outcomes will be as a result of Fed policy that has few economic mechanisms other than to encourage speculative behavior.
Chumps, Champs, and Bamboo
At bull market peaks, it often seems that the market is simply headed higher with no end in sight, and buy-and-hold appears superior to every alternative. Meanwhile, the reputation of value-conscious investors and risk-managers goes from champ to chump. Then, the bamboo tree suddenly sprouts, and the entire lag is often replaced by outperformance in less than a year. Only after the fact does the reputation of risk-managed strategies surge from chump to champ.
A Textbook Pre-Crash Bubble
Despite the unusually extended period of speculation as a result of faith in quantitative easing, I continue to believe that normal historical regularities will exert themselves with a vengeance over the completion of this market cycle. Importantly, the market has now re-established the most hostile overvalued, overbought, overbullish syndrome we identify.
Results 201–250 of 451 found.