Grantham Commits The Cardinal Sin
Authored by Kevin Muir of The MacroTourist
Way back in the 4th quarter of 2015, GMO’s Jeremy Grantham wrote a piece titled “Part II: 2015 and 2016, U.S. Equity Bubble Update, and Yet More on Oil.”
It is easy to forget, but at that point, the S&P was trading around 2,000 and everyone was bearish. QE had ended, the Fed was fumbling with their first hike and “fully valued” were the buzz words used to describe US equities.
Yet Jeremy didn’t write the all-too-easy piece about how stocks were about to crash. Instead, he acknowledged that equities were expensive, but not yet in bubble territory.
“On the evaluation front, the market is not quite expensive enough to deserve the bubble title. We at GMO have defined a bubble as a 2-standard deviation event (2-sigma). We believe that all great investment bubbles reached that level and market events that fell short of 2-sigma, did not feel like the real thing.”
“…I must admit to feeling nervous for this year’s equity outlook in the U.S. But I am not entirely convinced. Sure, we can have a regular bear market. That is always the case. But the BIG ONE? I doubt it.”
So while most everyone else was predicting a U.S. stock market bear market, Grantham postulated the most likely course for equities was to become even more expensive.
“The most important missing ingredient is a fully-fledged blow-off. This should come complete with crazy speculative anecdotes for your grandchildren, massive enthusiasm from individual investors, an overwrought, over capacity economy, and, at minimum, a 2-sigma S&P 500 at 2300. Lacking all of this, I still believe it is ‘likely’ that we will reach Election Day more or less intact.”
With the benefit of hindsight, this call doesn’t seem that outrageous, but think back to the end of 2015. Few were predicting new highs. It took guts for Grantham to write that piece. It was a terrific call.
Therefore I was extremely interested to hear what Grantham thinks now that we have hit his 2,300 target. Was this 2-sigma overvaluation enough for him to write some pink tickets?
But in a recent interview with the WSJ, Jeremy refused to join the parade of crash forecasters.
“Is the U.S. stock market in a bubble, or is it different this time?”
“It doesn’t have the characteristics of a bubble. A simple way of defining a bubble is that it has to have nearly perfect fundamentals which have to be irrationally extrapolated with considerable euphoria. Remember the style from 2000, Japan in ‘89, or the US housing market (house prices will never decline), or 1929 in the old days was a classic. We have none of that euphoria. We also have very imperfect fundamentals.”
“It’s only the other day that people were lining up to commit 10, 20, 30 year money for a guaranteed no real return. This is not a real prescription of mad desire to invest in the stock market.”
“Getting back to your question about whether this time is different. Value managers always say this time is never different. But it is fair to say that this time, it is decently different.”
I can’t say I disagree with my favourite veteran value manager. Asset markets have been squeezed higher through Central Bank financial repression. In the process, all assets have become expensive. But that is a much different phenomenon than the previous bubbles where the public’s imagination ran amok with thoughts of sugar plum fairies and rainbows. The only ones experiencing that sort of disillusion today are the Central Bankers who believe they will be able to control this mad science experiment.
A little more than a year and a half ago, Jeremy Grantham predicted the over valuation of U.S. equities would only become more acute. Today he seems to be sticking to that theme. Don’t dismiss his opinion just because he has committed the cardinal sin of saying “this time is different.” At least he added “decently…”