Jeremy Grantham says stocks could be heading for a ‘melt-up'

Famed US investment strategist Jeremy Grantham says stocks could be heading for a ‘melt-up’

Stephen Vines
PUBLISHED : Wednesday, 10 January, 2018, 11:04am
UPDATED : Wednesday, 10 January, 2018, 11:06am

Jeremy Grantham, the famous fund manager, vividly describes world markets as being at a ‘melt up’ stage, leading to a spectacular stock market melt down within six months to two years. Grantham is worth listening to, having correctly called both the 2000 and 2008 busts.

The chief investment strategist for GMO in Boston is generally known as a market bear and so some believers in the current strength of the markets have taken his remarks as a remarkably bullish view of the near term.

“As a historian of the great equity bubbles, I recognise that we are currently showing signs of entering the blow-off or melt-up phase of this very long bull market,” Grantham wrote in a letter to investors.

More details in http://www.scmp.com/business/companies/a...ocks-could

Well, it is now beginning 2021, dow is breaking new records.

I am not sure where we are now in the mkt cycle, but I am less inclined to get into new positions at this point in time.

-----------------------------------------------------
WAITING FOR THE LAST DANCE
By Jeremy Grantham

Executive Summary

The long, long bull market since 2009 has finally matured into a fully-fledged epic bubble. Featuring extreme overvaluation, explosive price increases, frenzied issuance, and hysterically speculative investor behavior, I believe this event will be recorded as one of the great bubbles of financial history, right along with the South Sea bubble, 1929, and 2000.....

https://www.gmo.com/asia/research-librar...ast-dance/

The 2000 bubble was still bigger, while interest rates were 6x higher (10 year ~6%, today 1%); for reference, Microsoft PE back then was 70 at it's peak and Cisco was 200.

https://seekingalpha.com/article/2986486...ely-priced

Also, for context, in 2000 Bill Gates stepped down, followed by 15 years of mismanagement by Ballmer. Although profit and revenue grew, we all know Microsoft missed many big trends during that time (search, social media, mobile etc.), as well as botched many big product releases (original Xbox, Vista, Windows 8, Windows Phone, Nokia write-off). Hence, they experienced both multiple contraction, as well as, slowed growth, compared to previous years. Net income in 2000 was circa 10bil, while net income in 2010 was 20bil, only 7% cagr in 10 years; they obviously did not deserve a 70 PE. Hence, stock price was flat for 16 years.

Companies today are stronger, with more cash on their balance sheet, and growing faster, due to much more developed internet penetration and infrastructure (including active mobile devices, broadband, cloud services, delivery, payments networks etc.); interest rates are much lower; hence, it makes sense that valuations in general are elevated as some future growth are baked in.

Whether or not, we are in a bubble in general, or a bubble of any single stock/asset class, is yet to be seen.

Good summary of Microsoft history under “Bummer” 

I do agree that it doesn’t feel as crazy as Y2K but when reputable people say VC fund is safer than treasury, you know something is wrong

Greenspan famously say you can’t identify a bubble. I disagree. I think you roughly can sense or point out the glaring mismatch in expectations. I think VC has been and still in a multi year bubble while property bubble had been tamed in many countries. Crypto and Tesla had deflated and roared back on risk taking environment

But you can’t identify when the bubble WILL BURST. So one either avoid it totally or play along until the fat lady sings.

I don't believe in crypto, but I'm not ready to call it a bubble. I just choose to avoid it completely (although some of my equity positions do have exposure). It was a cult that's slowly becoming a religion by some of the richest hardcore believers, with many interesting innovations and institutional adoptions lately, and speculators recently; pushing up the price.

As for stocks, depends on where you look, right? I don't think many SG investors are ready to call SG market in a bubble. Tech in general is expensive, many will likely fail, but individual companies? Hard to say. I'd say, Google is fairly valued today, given the cash on their balance sheet, and the growth prospect in Youtube, and Google cloud (among others). 

Quoting Peter Lynch: "Far more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves." Quoting Jack Bogle: "Waiting for the market to crash is a terrible strategy".

I personally, gave up timing the market years ago, and choose to stay through market cycles.

2c.

I’m not a fan of crypto because fundamentally there is no substantiation. The crypto that’s structured cunningly is Bitcoin with scarcity premium. And the idea of blockchain it brought that is viable for some low volume high value conveyance applications

Only Amazon remains as mega cap tech stock from Y2K fever. Looking forward next 20 years I’m not sure say Tesla will remain at the top as well, but yes there will be other tech stocks to take the place. The age of tech unlikely will go away as fast as the age of rails

@dreamybear, while we are unable to know where the Market is heading, but we better know where we are in the stage of the Market - Well, take don't take this from me because this advice came from Howard Marks. His advice was pretty apt for me to figure out what is within my control, and what isn't. Specuvestor has also spelt out the same thing in different terms with Alan Greenspan as the figurehead.

@Wildreamz, similarly, i have gave up on timing (or making calls) the market some time back. At that same time, I also gave up on reading about anyone's call (regardless of how decorated their investment credentials are) on the future. Finally, I have also gave up on trying to justify current market prices, because I know how easy it is for me to commit the error of confirmation bias. Well, it seems like I have given up on alot of things .... BUT I HAVEN'T given up on value investing! - the principles of margin of safety and looking at a stock like it is a business (I always find it offending when people use the word "counter" to describe a stock)

(08-01-2021, 07:48 AM)specuvestor Wrote: I’m not a fan of crypto because fundamentally there is no substantiation. The crypto that’s structured cunningly is Bitcoin with scarcity premium. And the idea of blockchain it brought that is viable for some low volume high value conveyance applications

Only Amazon remains as mega cap tech stock from Y2K fever. Looking forward next 20 years I’m not sure say Tesla will remain at the top as well, but yes there will be other tech stocks to take the place. The age of tech unlikely will go away as fast as the age of rails

Don't forget, some of the darlings today (Microsoft, Apple etc.) existed since then too. Gotta give it to the long term investors.

As for Tesla, there are surprisingly not much true tech name in the Transportation and Energy space. They would dominate for at least a few more years, because Elon do seem to know what he is doing (Tesla has one of the more credible, and scalable Self-Driving business out there; and they are riding the cost decline of battery price to almost perfection). Whether or not current valuation is justified in the long run is to be seen.

(vested in Tesla)

(08-01-2021, 08:57 AM)weijian Wrote: @dreamybear, while we are unable to know where the Market is heading, but we better know where we are in the stage of the Market - Well, take don't take this from me because this advice came from Howard Marks. His advice was pretty apt for me to figure out what is within my control, and what isn't. Specuvestor has also spelt out the same thing in different terms with Alan Greenspan as the figurehead.

@Wildreamz, similarly, i have gave up on timing (or making calls) the market some time back. At that same time, I also gave up on reading about anyone's call (regardless of how decorated their investment credentials are) on the future. Finally, I have also gave up on trying to justify current market prices, because I know how easy it is for me to commit the error of confirmation bias. Well, it seems like I have given up on alot of things .... BUT I HAVEN'T given up on value investing! - the principles of margin of safety and looking at a stock like it is a business (I always find it offending when people use the word "counter" to describe a stock)

@Weijian: I have given up trying to guess which stage we are in the market cycle. It would probably do more harm than good to me, if I'm determined that I'm not going to act on it. That said, I am still going to sell long term positions if I can replace them with better ones.

I still regard myself as a value investor, though I focus on high valuation, high quality names (quasi-monopolies, or future quasi-monopolies). That said, one less discussed topics are portfolio positioning strategies (how much diversification, how much cash to hold, when to buy, when to sell, position sizing etc.), behavioral finance etc. I would argue that these are just as important, if not more important to long term performance, as simply knowing how to estimate company valuations.

Depends on how you define a bubble. I like to structure my thinking alongside these 3 greats in different fields of finance:

1. Robert Shiller: a bubble is excessive optimism
   
2. Cliff Asness: in a bubble, no future outcome can justify prices
   
3. Eugene Fama: a bubble must be predictable
   

To me, definition 1 is useless to a practitioner. You make extra returns by knowing when the bubble pops. Knowing that you are in an excessively optimistic environment does not help in that sense. Many great investors were calling the top to the 2000 bubble since the late 1997. While they were eventually proven right, SP500 was 800-900 when they made the call, and went on to 1400-1500, before crashing back to 800-900. They would have made very little money even though they were right about the excessive optimism.

Definition 3 is the most robust definition, but it's pretty much unachievable. If a bubble is predictable (i.e. you know when it forms and more importantly, when it pops), the predictability itself would prevent the bubble from forming. You would have big players coming in to take advantage of the predictability to bring prices back to more normal levels.

To me, definition 2 is the most practical for true blue value investors. I think Asness explained it best, and I will not butcher his elegant explanation, but will instead just quote it in full:

…To have content, the term bubble should indicate a price that no reasonable future outcome can justify. I believe that tech stocks in early 2000 fit this description. I don’t think there were assumptions – short of them owning the GDP of the Earth – that justified their valuations.

Tech bubble was crazy because risk-free rate was ~6% while normalized earnings yield was more like 2-3%. So the implied equity risk premium was actually negative.

Using definition 2, I don't think any equity market (in aggregate) is in a bubble right now. US is relatively expensive (but not a bubble), while SG is relatively cheap. Some pockets of the market seems bubbly, but overall aggregate valuation isn't too crazy when you take into account that 1) corporate profit margins are structurally higher than before, and 2) rates are really low (go change your risk-free rate from 6% to 0.5% and see the impact on your DCFs, especially for businesses with significant cash inflows from the distant future).

Nonetheless, I don't need to invest in US simply because it's not a bubble. Higher valuations, over the long term, will lead to lower expected returns. I can just avoid the expensive markets, and invest in the more undervalued ones. In that regard, I'm very similar to what GMO is doing (they've been allocating away from US towards EM for many years already), only that they market their decision as avoiding a bubble, while I simply think of it as avoiding a relatively expensive market.