Better Never Than Late
Somewhere in the recesses of my mind, I recall a conversation (or two) from my youth that went something like this.
‘Better make up for lost time. Get a few quick ones into you.’
The situation: Arriving late to a party that your mates had been at for several hours.
Sobriety gave way to playing catch-up.
The next morning, hangovers — big and small — were the order of the day.
In the cold light of day, the rapid obliteration of so many brain cells didn’t seem like such a good idea. A classic case of ‘drinker’s remorse’.
Ah, the joys of youth.
This week, the Australian share market finally decided to join the merrymaking at the global asset-pricing party. The ASX 200 heralded its arrival at the party with a decisive move above the psychological 6,000-point level.
The Australian on 8 November 2017: ‘Surge to 6000 puts GFC to rest’.
According to the article, this was the highest daily close in almost 10 years.
Given this context, you can understand the excitement of the financial press…it really has been a long time between drinks.
But we shouldn’t get too carried away. Our market is still well below the nearly 6,800-point level reached in late 2007.
Whereas the article tells us: ‘…many global markets from Wall Street to Tokyo have hit record highs in recent weeks…’
US markets (run by Wall Street) have been hitting record high after record high on almost a daily basis.
The Nikkei 225 closed yesterday at 22,868 points.
According to Wikipedia: ‘The average [Nikkei 225] hit its all-time high on 29 December 1989, during the peak of the Japanese asset price bubble, when it reached an intra-day high of 38,957.44.’
Oh well, we’re at a party. Don’t let some minor detail on what constitutes a ‘record high’ ruin a good night. Drink up. Have fun. Join in. There’s more where that came from.
Tony Brennan of Citigroup predicts the ASX 200 will rise to 6,400 points by the end of 2018.
And Hasan Tevfik of Credit Suisse forecasts that it will rise to 6,500 in 2018.
Analysts only ever see one half of the wheel in a market ‘cycle’.
The reason it’s called a ‘cycle’ is due to the rotation from ‘over to under and back again’.
Yet the investment industry manages to ‘spin’ a cyclical pattern into a straight line.
Even though we know at some level of consciousness that markets rotate through a valuation range — from cheap to expensive, and back to cheap — this logic is abandoned at the extremities of this range.
When others are drinking to the good times or drowning their sorrows, prudent investors must stay sober. Clear level-headed thinking is required to capitalise on the folly of those who are celebrating their good (but unrealised) fortune or commiserating their bad luck.
Remember what happened to the US market…
John Hussman of Hussman Funds has a sobering message for those who are partying like it’s 1999.
This is what he wrote on 7 March 2000 (at the height of the dotcom boom):
‘Over time, price/revenue ratios come back in line. Currently, that would require an 83% plunge in tech stocks (recall the 1969–70 tech massacre). If you understand values and market history, you know we’re not joking.’
For those who cannot recall, this is essentially what happened to the tech-laden NASDAQ index.
The NASQAQ peaked on 10 March 2000 (three days after Hussman’s report) and, over the next two years, fell around 80% in value.
What’s more, at the time the All Ords index was peaking in November 2007, John Hussman wrote (emphasis is mine):
‘Financial and economic conditions are becoming increasingly strained.
‘The level of my concern should (and is intended to) strike long-time readers of these comments as unusually high.
‘…the financial markets are at a critical point. It’s possible that investors will somehow adopt a fresh willingness to speculate, but my impression is that in the weeks ahead, investors will be forced to recognize that recession risk has tipped.’
While everyone else was partying, he was warning of the perils that come from too much of a good thing. The hangover from subprime lending was only a matter of months away.
The US did indeed dip into recession…something that Bernanke and his colleagues at the Fed failed to see coming.
What is John Hussman saying today? Glad you asked. This is from his most recent newsletter (emphasis is mine):
‘Market valuations, on these measures, presently approach or exceed the 1929 and 2000 extremes, placing U.S. equity market valuations at the most offensive levels in history. Indeed, with median valuations on these measures now more than 2.7 times their historical norms, there is strong reason to expect a market loss on the order of -63% over the completion of the current market cycle…’
The most offensive valuation levels in history are expected to deliver a market loss of 63%.
Hussman’s commentary is US-specific, but whatever happens on Wall Street will be reflected in our market as well.
To support the assertion of most offensive, the ‘median price/revenue ratio’ is one of a number of charts he produces:
Source: Hussman Strategic Advisors
[Click to enlarge]
The price-to-earnings (PE) ratio is what most people are familiar with.
But in recent years, accounting trickery has overinflated US corporate earnings.
Revenue is the money that goes through the till before the accountants work their magic.
A few key dates to note on this chart.
Look at 1987 — the multiple of price to revenue was 1x.
The peak of the dotcom boom in 2000 was a little over 1.5x.
And even at the height of the US housing boom in 2007, the multiple was well short of 2x.
Now it is in a stratosphere where no other market — not even in 1929 — has even been before.
But never fear, the pundits all tell us the market is only going higher from here.
Let’s celebrate. Have another drink. She’ll be right mate.
The GFC may well have been put to rest.
However, I think GFC Mark II is beginning to stir…and this is going to be one angry bear with a very sore head.
In some instances, it’s better to be late than never.
But when it comes to a market that’s on the cusp of losing more than 60% of its value, it’s better to have never invested than to have come to the party too late.
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