In the semblance of one of Wall Street’s most famous wolves, the “super bubble” is dangerously nearing its final act after the recent rally in US stocks lured some investors into the market just before a potential tragedy. In good romance, the worst is yet to come. think so Jeremy Granhamthe legendary co-founder of investment manager Grantham, Mayo & van Otterloo (OMG), who has repeatedly warned investors of a bubble in the markets. He recently said in an article that “superbubbles are events like no other” and share some common characteristics.
“One of those features is the bounce back into the bear market after the initial stage of correction, but before the economy has clearly started to deteriorate, as it always does when super-bubbles burst,” he said. Grantham. “This phase, in all three cases above, used a rebound in which more than half of the market’s losses were recovered, luring in unsuspecting investors just in time for the market to turn lower again, only more viciously, and with a weakening economy. So far this summer’s rally (in the northern hemisphere) has fit that pattern perfectly.”
The US stock market crashed during the first half of 2022 as investors anticipated that rising inflation would lead to a more aggressive Federal Reserve. The S&P 500 closed at a low this year of 3,666.77 on June 16, before rising for the summer along with other stock benchmarks amid investor optimism over signs that the highest inflation in decades was brewing. dimming.
It should be remembered that at the last economic symposium in Jackson Hole, Fed Chairman Jerome Powell’s speech ended that rally by erasing the month’s gains by reiterating that the central bank would continue with its monetary policy to control the growing inflationand warned that the Fed will fight inflation until the job is done, even if it may cause problems for households and businesses.
“The US stock market is still very expensive and a rise in inflation like this year has always affected multiples, although this time more slowly than normal,” he said. Grantham. “But now the fundamentals have also started to deteriorate in a huge and surprising way: between Covid-19 in China, the war in Europe, the food and energy crises, the record fiscal tightening and more, the picture is much bleaker than expected. that could have been foreseen in January”.
Grantham had announced in a January report that the US was nearing the end of a “super-bubble” encompassing stocks, bonds, real estate and commodities following massive stimulus during the Covid-19 pandemic.
Now in his latest article (“Entering the superbubble’s final act”), Grantham He said that “the current super-bubble presents an unprecedentedly dangerous combination of cross-asset overvaluation (with bonds, housing and equities all critically overvalued and now rapidly losing momentum), commodity shocks and Fed aggression.”
As explained GranthamSuper bubble bursting has multiple stages. First the bubble forms, and then there’s a “pushback” in valuations, like the one seen in the first half of 2022, as investors realize “perfection” won’t last, he said. “Then there’s what we just saw: the bear market bounce,” before finally “fundamentals deteriorate” and the market drops to a bottom.
Where are we today in this process? Bear market rallies in super bubbles are easier and quicker than any other rallies. Investors assume that these shares that were trading at $100 6 months ago, and today are trading at $50, $60 or $70, must be cheap.
Out of the late stage of a super-bubble, new highs are slow and jittery as investors realize no one has ever bought this stock at this price before: so that’s four steps forward, three steps forward. back, cautiously exploring unknown land. Bear market rallies are the opposite: it sold for $100 before, maybe it could sell for $100 again.
At the intraday peak on August 16, the S&P 500 had recovered 58% of its losses since the June low, according to Grantham. That was “eerily similar to these other historical super-bubbles.” For example, “from the low of November 1929 to the high of April 1930, the market rallied 46%, a 55% recovery of the loss since the peak,” she noted. He also highlighted the “speed and scale” of other bear market rallies.
“In 1973, the summer rally after the initial drop recovered 59% of the S&P 500’s total loss from the peak,” he wrote. More recently, in 2000, Grantham he wrote that “the Nasdaq (which had been the main event of the tech bubble) recovered 60% of its initial losses in just 2 months”.
“Economic data inevitably lags behind major turning points in the economy,” he explains. Grantham. “To make matters worse, in the turn of events like 2000 and 2007, data series like corporate earnings and employment can be revised down massively.”
“It is during this lag that the bear market rally normally occurs,” he says, and now the current super-bubble seems to be “paused between the third and last act”. That’s why he sentences that you have to prepare for an epic ending. “If history repeats itself, the play will once again be a tragedy.”