Not yet partying like it’s 1999
Posted on May 8, 2007 by Richard Beddard
Filed Under Markets |
To recap. Ken Fisher explained the mechanism driving the bull market to me. Readers demanded more doom. As a stop-gap I dug up a newsletter by Jeremy Grantham that predicted the bursting of a bubble “across all countries and all assets“.
Naturally I emailed Ken to ask if Mr Grantham’s doom-laden observation that all assets (property, shares, and bonds) are overvalued shot a hole through his argument; that shares are cheap relative to bonds. The consequence of Ken’s line of thought is money must flow into shares, inflating the stockmarket as surely as air pumped into a tyre. This is his response:
There are three constants in life: 1) death 2) taxes, 3) Jeremy being bearish and thinking things are overvalued.
Jeremy could well be right that declining profit margins could do the job [of triggering a bear market] since the only ways to close the earnings yield/bond yield gap and end the game are for bond rates to rise, earnings fall, or stocks rise or some combo of the three [see the original interview for an explanation]. But the profit margins have to start falling before that can begin and we haven’t gotten there yet. Earnings keep rising globally right now. The gap that needs to be closed is huge and will take a good long time.
Ken could have added a fourth constant, which is that all bull markets end. That’s why I find his analysis so compelling, because in the earnings yield/bond yield gap he describes a mechanism for monitoring the bull market and estimating how close we are to the point at which it tips into a bear market.
Many bloggers are pondering the longevity of the bull run. Random Roger asks, “Is M&A Bullish Or Bearish?” I have a plausible answer to that one too, from a previous conversation with Ken.
A takeover is a bullish sign when it’s paid for in cash. That’s because shares (belonging to the shareholders of the company that is acquired) are removed from the market.
Takeovers are a bearish sign when they’re paid for in shares. That’s because the buyer must create enough shares to pay to the shareholders of the target company. Because a buyer typically pays a premium, it must create more equity than that which is extinguished when it takes over the target.
Reducing the supply of shares is, all other things being equal, likely to push up prices. Increasing the supply is likely to push them down.
At this stage of the bull market companies are taking advantage of low interest rates to borrow money to fund takeovers. That’s bullish, unless the M&A dealmakers start partying like it’s 1999. Then technology media and technology companies paid for takeovers with overpriced shares, not cash. That was a bearish sign!
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7 Responses to “Not yet partying like it’s 1999”
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I think I am following this train of thought. Still, the thing about a bubble bursting across all countries and all assets is - what happens to the money?
There is an enormous amount of liquid cash out there by all accounts, and it is constantly sloshing around the world seeking a profitable home. The baby boomer generation is still the richest generation ever, and it has not retired yet, so it is still saving.
The third world is coming up fast, creating markets and wealth, and the number of billionaires is increasing daily. Lots of them live in London.
In the past when one asset class fell, another picked up the slack. Are we to believe this will end? Is Roman Thingyvitch going to stuff all his money under the bed for lack of an investment?
Even in the Great Depression, people who held their money in land and buildings maintained their wealth.
So, any ideas? Inflation perhaps?
“But the profit margins have to start falling before that can begin and we haven’t gotten there yet.”
The commodity bull market will/is pressuring margins. It has happened in the past.
I love the way Ken thinks and I agree with him. Keep in mind that he may be speaking more globally than on a U.S only basis.
Hi Angela and Nick,
Nick - absolutely right. He is talking globally although perhaps the same global fundamentals are driving other major stockmarkets, there are certainly huge parallels here in the UK.
Where does all the money go? It’s a brilliant question, another to add to the list of unresolved things I need to follow up in my quest to understand the state of the market now. Sorry I can’t be more helpful
I will blog when I have some answers. Hopefully others will too.
Both sides the bear/bull arguements have good points. I personally think there will always be assets looking for investments and therefore believe money can be made irrespective of bull/bear market. Sometime its actually easier during the bear.
Regards to UK I personally think we are heading ‘towards’ a nasty surprise. We have become a greedy/materialistic community where only the best will do irrespective of costs or corresponding consequences. As a result we are in a situation where most think assets will increase forever (e.g property) and therefore service a heavy debt . With interest rates/cost of living on the up I believe we could see a property crash of 20 to 30% before end of 2008
I think azzi is right about the property market - but then I thought so four years ago too, and where are we now? The housing market generally moves slowly and is up to a year behind the larger economy. That is because the average house transaction takes about six months or more to go through. The property market is a follower not a pace-setter for the larger economy.
Look at the stock market for a current or future picture. Are company’s over-valued or not?
Well, the private equity groups could not make money unless they were. When the asset strippers close for business we will know that there are no bargains left.
My maths skills are’nt good enough to follow the analyst’s calculations of company value, and anyway the professionals can justify any old tripe with numbers. I figure a Footsie 100 company, with a solid and growing place in its market, comfortably in profit and growing its profits year on year, and paying dividends of around 5% is not over-valued by much.
That is actually the picture for a lot of UK companies. So I come down on the side of Yes - a crash - but not yet.
Of course that is only the UK market, and when the rest of the world goes bottom up we will go with it, no matter how solid fundamentals may be.
The gold bugs think we should all be getting into gold as a store of value, but I am not so sure. This is’nt the 19th century. I think other rare but genuinely useful metals may prove a better store of value. Of course that is the argument for the commodities bull market, but I am pretty confident that the demand for natural resources will not fall much. Even in a worldwide industrial slump, our needs for diminishing resources will not cease.
That will drive us in the direction of developing and utilising Alternatives. So that, in my view, is where the money will go - into commodities and Alternatives.
The third world is coming up fast, creating markets and wealth, and the number of billionaires is increasing daily.
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