Is the US stock market at bubble levels? Poll

[TwoCitiesCapital]

There is zero correlation between equity values and interest rates over the long-term. While the "yield" relative valuation argument makes sense theoretically, it has never held true and continues to not hold true today. Plenty of places of have lower yields than the U.S. AND lower P/Es.

 

You're disagreeing strongly with Buffett (among many others here).

 

Of course, interest rates are not the *only* factor, but they're a big one. Lower P/E's elsewhere also have to do with other kind of risks (ie. political, demographic, or just the opportunity cost between markets with different prospects), so that worse markets need higher equity-risk premiums over the risk-free rates (or if the local interest rates are even risk free -- don't trust Venezuela's central bank!), but there's not doubt in my mind that all else equal, as Buffett says, interest rates "act like gravity" on stocks.

 

Anyone here who is an active manager tends to disagree with Buffett. Buffet doesn't take his own advice, so why should I? Do as Buffett does - not as Buffett says.

 

His comments on interest rates is an over-generalization. There have been times where lower interest rates were good for stocks. There have also been times where higher interest rates were good.

 

These things occur in long cycles - the last cycle started in the 80s when both stocks and bonds were at secular lows in valuations. Of course you're going to get positive correlation between bond and stock returns when both are starting at secular low valuations! But, the 20 years before that was the opposite story. And the 20 years before that it flip flopped again.

 

This "law" has NEVER held true for the long-term. It holds true for two or three decades and then gets turned on its head and is the opposite for two or three decades. To use it as justification for the the second highest equity valuations ever, as if the relationship can never changes, seems absolutely insane. We've seen it change! We know it changes!

 

Think of a moderate recessionary scenario where we get regular deflation of 1-2% a year for a handful of years. With a negative inflation premium, long-term bond yields could reasonably go to 0% and still provide a positive real return, but do you REALLY believe that would type of environment would be supportive of equities?

 

What about an environment where long-end rates rise to 4% because the economy is banging on all cylinders and inflationary pressures are picking up slightly because consumers are spending - do you think that would be BAD for equities?

 

Further, this entire "law" is based on the pre-supposition that bonds are a reasonable alternative to equities. This is simply NOT true for a large number of investors out there. They are entirely different from a risk exposure perspective. If U.S. equities get expensive, I don't tend to flip to bonds. I tend to move to international equities that appear cheaper. If bonds are expensive, pensions don't go all in on equities - they trade interest rate risk for spread risk by moving further out on the risk spectrum within fixed income.

 

Equities and bonds are NOT very good alternatives to one another for MOST investors. To base the valuation of one on the other as a relative value statement to justify extremely high valuations just seems unreasonable. Sure you can use it to make tactical changes to YOUR asset allocations, but the market isn't going to use that relative valuation to provide a floor on another asset class when something goes wrong.

 

[Guest]

I don't see how anyone could argue that the US market isn't at bubble levels. A large set of valuation metrics are at or near all time highs. However, when those valuations happened, interest rates around the world weren't as low as they are now.

 

I don't think low interest rates are healthy long term but I wouldn't be surprised if they market continued up from here or took a big downfall. There are a lot of real world risks that could cause havoc but, if those don't play out, things could keep on going as they have. There is still fair amount of fear out there (though nothing like it was a few years ago). I do wonder, long term, how this loose monetary policy will play out (it didn't work the last couple times for any lasting period).

[kab60]

I think part of the market is bubbly, whereas other parts aren't. With interest rates this low it doesn't seem expensive to pay a P/E of 10-20 for a quality biz if you add in 5-10% yearly growth and expect margins to hold steady or improve, but that's what worries me; margins. Corporate margins are freaking high across the board, and that has a lot to do with the lack of wage inflation since the GFC. Workers across the globe have said goodbye to yearly raises (while CEO's and investors have had a party) due to fear of losing their jobs, but the labor market is getting tight a lot of places, and that'll affect different companies in different ways. If you have margins compression, you might get multiple compression, and then you've been served a double whammy.

[mttddd]

I think parts of the market are overpriced and others under but as a whole I dont see any one part in a full on bubble. I think tech is expensive but at the same time some of these new IPOs (Snap, Blue Apron etc) are generally falling flat.

 

Whether you think it is a bubble or not one thing I look for and i dont see yet is a catalyst as for why it would collapse. Assuming all else chugs along as is (ie people dont go crazy buying luxury condos on arms) I think the next crash will be triggered by something outside of the US. Maybe it will be housing markets outside of the US (Canada Australia etc) or some political upheaval in China.

[james22]

Whether you think it is a bubble or not one thing I look for and i dont see yet is a catalyst as for why it would collapse.

 

You might consider "fingers of instability."

 

http://www.mauldineconomics.com/frontlinethoughts/fingers-of-instability-mwo082506

[rb]

I don't see how anyone could argue that the US market isn't at bubble levels. A large set of valuation metrics are at or near all time highs. However, when those valuations happened, interest rates around the world weren't as low as they are now.

 

I don't think low interest rates are healthy long term but I wouldn't be surprised if they market continued up from here or took a big downfall. There are a lot of real world risks that could cause havoc but, if those don't play out, things could keep on going as they have. There is still fair amount of fear out there (though nothing like it was a few years ago). I do wonder, long term, how this loose monetary policy will play out (it didn't work the last couple times for any lasting period).

Well isn't this how it always was? Back in 2012 I took for myself a huge helping of BRK around 80. It was a screaming buy. It begged you to buy it. But what were people debating then? They were wondering whether it was a good time to buy BRK. They were thinking it may be left behind because WEB wasn't buying gold which was tipping upwards (does anyone remember gold?). Now at a significantly higher multiple people are convinced BRK is cheap.

 

Now you have comments from people saying that well some pockets may be overvalued but overall market is well priced with S&P at 2,477. At about the same time I was gorging on BRK the S&P was somewhat below 1400. BRK was cheap but so were most other things. Where these people "pockets of overvaluation" people vacuuming up stocks back then? After all they were a bargain compared to what we see today. The answer is no. They were debating risk on, risk off back then. So give me a break with the "pockets theory" or the extended Goldilocks stuff or the indexing... this is version 2.0 of the great moderation. How did that work out?

 

Remember late 2015? The S&P had a 10% freakout because China essentially passed a fart. Earnings are not in a much better place today than they were back then. If we were to revisit the early 2016 lows we're looking at a 25% drop in the S&P. But we're ok because what? Trump's gonna save us? Not much has changes since then. You have massive instability in the US. The EU is off the ledge because they've had a couple of better prints, but they're not far off. And China is not in such a great post either, definitely not much has changed since the 2015 fart. So where is this great confidence coming from?

 

I get back to my original question on this thread that nobody bothered to answer... what is a bubble? 20% overpriced? 30? or are we ok deluding ourselves until we go to 50% overvaluation?

[Paarslaars]

I wonder what this poll would have given in 2007...

[LongHaul]

I think the S&P 500 (along with other US indexes) is in a huge bubble.  I would define a bubble as prices for assets that are far above intrinsic value.  The S&P 500 is trading ~25x normalized ltm eps (reported not fantasy #'s).  I think it is worth far less than that.  Perhaps 14x if I am being generous.  The only time in the last 100 or so years that the DJIA or S&P have traded higher was ~ 1929 and the early 2000 time period.  Both ended badly.  There are always various rationalizations when prices go to the moon but the biggest reason is crowd psychology and people going nuts. 

[LC]

I think the S&P 500 (along with other US indexes) is in a huge bubble.  I would define a bubble as prices for assets that are far above intrinsic value.  The S&P 500 is trading ~25x normalized ltm eps (reported not fantasy #'s).  I think it is worth far less than that.  Perhaps 14x if I am being generous.  The only time in the last 100 or so years that the DJIA or S&P have traded higher was ~ 1929 and the early 2000 time period.  Both ended badly.  There are always various rationalizations when prices go to the moon but the biggest reason is crowd psychology and people going nuts.

 

I wouldn't call it a huge bubble. Here's the historical SP500 P/E back to 1928:

 

http://www.macrotrends.net/2577/sp-500-pe-ratio-price-to-earnings-chart

 

Frothy? Yes.

[Jurgis]

Here's the historical SP500 P/E back to 1928:

 

http://www.macrotrends.net/2577/sp-500-pe-ratio-price-to-earnings-chart

 

Wow, look at that bubble in June 2009!

[tede02]

Bubbles really are hard to define with any precision.  Looking back to 2007, were stocks in bubble territory?  Seems like a tough case to make in comparison to residential real estate at that time.  An easier case to be made for that period is many companies were over-levered. 

 

I view stocks as generally expensive today.  To me that just means there is more risk in the market place and thus, one must be that much more cautious. 

 

The significant rise in prices over the last year is interesting considering what I perceive as moderate confidence in both the economy and financial markets by the public.  What is driving the rally?  I do worry about all the money pooring into index funds.  I think the public wrongly equates index funds as being "safer" investments. 

[Uccmal]

Probably,  Does it really matter? 

 

At some point, something (see Mauldin article above) that has nothing to do with anything particularly important, will be the trigger to fix all this.  By all metrics US markets are expensive.  They are drunk on cheap oil, cheap debt, too much indexing, and phony EPS numbers. 

 

2007/08 was an interesting case because markets were not that frothy.  The correction came from a totally different direction.  The ensuing panic had little to do with the S&P as a whole, or its valuations.  The financial sector was obviously unsustainable (in retrospect) but we didn't have any idea of the extent of the damage until we were well into it. 

 

So, put me in the category of who knows.  But when I start thinking I should be buying Amazon, Goog, Facebook, Apple and so forth maybe thats a sign we are nearing a top. 

[Jurgis]

But when I start thinking I should be buying Amazon, Goog, Facebook, Apple and so forth maybe thats a sign we are nearing a top.

 

When Buffett is buying Apple that's a sign ...

 

 

[Jurgis]

https://www.gsam.com/content/dam/gsam/pdfs/us/en/articles/know-how/2017/Q3/mkh-2017-q3-standalone-know-how-1.pdf?sa=n&rd=n

Rich equity valuations such as today’s have often presaged returns of less than 10%

 

Drop the mic.

 

Maybe I'm the only one who agrees with Vampire Squid.  8)

 

Anyway, assuming total market returns going forward to be 2-6% (haha let me be more conservative than GS/VS) and potential drawdown 20-40% in the meantime (but with 40% being relatively low prob), what do you guys propose to do with your portfolios?

 

Some ideas:

 

1. The easy alternative: huge percentage into BRK and go to the beach. Gives possibly ~8-10% return with possibly similar drawdown as the market (don't expect Buffett to buyback support the price on large market drop). Still not a bad choice perhaps.

 

2. The cash alternative: huge percentage in cash, rest in whatever. Even if the rest outperforms market X0%, you still are likely to get market returns due to cash drag. But lower drawdown. And if-nimble, you might get market beating return by buying during the drop (if...).

 

3. The "great cheap your-special-insight investments" alternative: pick the stocks, outperform the market, ... , profit!!! Clearly gives outsized return (or at least that's what investor expects). May give lower drawdown, may give higher drawdown than the market. Since market is "expensive", likely the "special-insight" investments are not so cheap either. Or they have warts. Or both. At least that's what I see both in my portfolio and in the ideas other people suggest. So maybe outperform the market, maybe not. Maybe lower drawdown, maybe not.

 

4. All kind of macro, long-short, etc: not my pony, no comments.

 

Edit: 5. Non-US investments. Some markets may be cheaper. International has underperformed for years (but not this year AFAIK). Go there, beat US.

 

I'm in the mix of 1-3 and a bit of 5. Some BRK (but possibly not much enough). Some cash (but not that much). Some (a lot) of investments that I won't sell (even though they are not so cheap). Some international investments, but not really so cheap either.

 

Or should I start a different thread about this?

[Jurgis]

 

'Go not to the elves Howard Marks for counsel, for he will say both no and yes.'  8)

 

 

Am I the only one who thinks that dissing FAANG and not even mentioning that Apple was cheap enough for Buffett to buy makes the argument rather superficial...

 

Oh right Howard says he does not diss FAANG... though he does... but not in bold ... so it does not count?  ::)

[gjangal]

Stating the obvious but I think there are pockets of undervaluations still. US Banks are an area where you can get decent returns with dividend (12 to 15% total). A basket of wfc, bac and c can outperform

[james22]

Anyway, assuming total market returns going forward to be 2-6%...

 

AQR expects 4.2%, Research Affiliates .5%, Hussman zero or negative, GMO -3.9%.

 

The cash alternative: huge percentage in cash, rest in whatever. Even if the rest outperforms market X0%, you still are likely to get market returns due to cash drag.

 

What cash drag?

 

With expected returns so low, my Stable Value fund might outperform the market.

 

Very little opportunity cost to sit this out.

 

And if-nimble, you might get market beating return by buying during the drop (if...).

 

This board is all about identifying buying opportunities, yes?

[John Hjorth]

... Am I the only one who thinks that dissing FAANG and not even mentioning that Apple was cheap enough for Buffett to buy makes the argument rather superficial...

 

Oh right Howard says he does not diss FAANG... though he does... but not in bold ... so it does not count?  ::)

 

I'm in the same camp as you, Jurgis, after a quick read late last night. I will have to reread Mr. Mark's memo in depth in the weekend to come. I ended up very confused by doing the quick read.

[John Hjorth]

Probably,  Does it really matter? 

 

At some point, something (see Mauldin article above) that has nothing to do with anything particularly important, will be the trigger to fix all this.  By all metrics US markets are expensive.  They are drunk on cheap oil, cheap debt, too much indexing, and phony EPS numbers. 

 

2007/08 was an interesting case because markets were not that frothy.  The correction came from a totally different direction.  The ensuing panic had little to do with the S&P as a whole, or its valuations.  The financial sector was obviously unsustainable (in retrospect) but we didn't have any idea of the extent of the damage until we were well into it. 

 

So, put me in the category of who knows.  But when I start thinking I should be buying Amazon, Goog, Facebook, Apple and so forth maybe thats a sign we are nearing a top.

 

I had to read your post three times, Uccmal, to get it it right. [Hopefully I got it right after the third reading.]

 

It is about being prepared for the next downturn. [ref. your separate topic about that.]

 

- - - o 0 o - - -

 

Welcome back posting. If you're still in France, please enjoy your stay onwards with your family. If you're back in Toronto right now, welcome to reality. [ : - ) ]

[Guest 50centdollars]

IMO, its a bubble if there is a lot of speculation in the marketplace.

 

Recap of the dot com bubble

 

 

 

[Uccmal]

Probably,  Does it really matter? 

 

At some point, something (see Mauldin article above) that has nothing to do with anything particularly important, will be the trigger to fix all this.  By all metrics US markets are expensive.  They are drunk on cheap oil, cheap debt, too much indexing, and phony EPS numbers. 

 

2007/08 was an interesting case because markets were not that frothy.  The correction came from a totally different direction.  The ensuing panic had little to do with the S&P as a whole, or its valuations.  The financial sector was obviously unsustainable (in retrospect) but we didn't have any idea of the extent of the damage until we were well into it. 

 

So, put me in the category of who knows.  But when I start thinking I should be buying Amazon, Goog, Facebook, Apple and so forth maybe thats a sign we are nearing a top.

 

I had to read your post three times, Uccmal, to get it it right. [Hopefully I got it right after the third reading.]

 

It is about being prepared for the next downturn. [ref. your separate topic about that.]

 

- - - o 0 o - - -

 

Welcome back posting. If you're still in France, please enjoy your stay onwards with your family. If you're back in Toronto right now, welcome to reality. [ : - ) ]

 

John, I guess I should work on my writing.  Back home, alot poorer, and a little time lagged. 

 

Further to my commemt above: 

For every 10 dollar increase in the oil price the US spending economy loses: 17 million x $10 per day = 170 mpd x 365= 62 B per year. 

Bring the oil price up to 78 per barrel = 190 B per year.  Thats larger than any proposed stimulus from Trump.  Obviously, oil producers and their shareholders make money but cars, housing, and travel, all suffer which effects the greater population and economy. 

 

A similar but greater effect will come from interest rate increases. 

They have been so low for so long, any change may shock the economy.  A 1/4 point increase up here (Canada) already has me looking at where I can trim my assorted non-locked in borrowings. 

 

Of course the end result of a market correction, and economic correction, is that interest rates will get dropped again.  We are caught in a Japan cycle.  It appears asset bubbles take a couple of generations to work themselves out. 

[John Hjorth]

Thank you for your elaboration, Uccmal, - It's much appreciated.

 

- - - o 0 o - - -

 

On the 1st August I decided to do calls on basically all cash in time deposits in the family for liquidation, thereby pushing the cash into being investable at our investment bank, where the cash will pull nothing, the opportunity cost below 1 per cent. I will do the calls next week.

 

I expect to add a bit more to Berkshire in 4th quarter, if it does not run up too much. There are a few positions, that I also would like to reduce, because I consider them fragile in a correction or crisis. The rest of the long term positions I'm reasonable satisfied with, however not all positions are yet the size I want going forward, but the prices offered by the market right now are not reasonable to me, so I'll let that go for now.

 

After that my expectation is to do nothing - just to wait.

 

I don't know yet if I can do that. I will find out. I think it's time for me to learn to do so, to be prepared.

[rb]

After that my expection is to do nothing - just to wait.

 

I don't know yet if I can do that. I will find out. I think it's time for me to learn to do so, to be prepared.

Doing nothing is one of the hardest things to do in investing. I suggest picking up a book or picking a hobby. It's summer... go outside.

 

Most importantly DO NOT watch money TV like CNBC and Bloomberg. They're full of it and don't know much of anything.

[John Hjorth]

It's actually great advice, rb. Thank you. [: - ) ]

[Uccmal]

After that my expection is to do nothing - just to wait.

 

I don't know yet if I can do that. I will find out. I think it's time for me to learn to do so, to be prepared.

Doing nothing is one of the hardest things to do in investing. I suggest picking up a book or picking a hobby. It's summer... go outside.

 

Most importantly DO NOT watch money TV like CNBC and Bloomberg. They're full of it and don't know much of anything.

 

Yeah, Its hard.  I am really working on doing nothing...that doesn't sound right.  I look at ideas posted on the board and elsewhere but am pretty much not buying or selling at all.  I stopped watching business TV years ago, and very rarely watch any business video online.  I found 15 years ago that video and sound seem to have a greater effect on my perceptions than reading.  Its much easier to be skeptical with reading.  I am trained in that from my education. 

 

This is actually the same reason I stopped going to Prem's AGM a few years ago.  He is such a compelling saleman that I had trouble seperating his message and rationale from the reality that I operate in which has a very different set of conditions.