The Great Crash of 2009
Posted on May 4, 2007 by Richard Beddard
Filed Under Markets |
Why does anyone care what Grantham thinks? In addition to outperforming most of his peers, his quarterly letters reveal him to be a smart quantitative investor, who relies on the simple mathematical concept of mean reversion. Based on that thesis, in June 2000, he noted in a Forbes debate with Henry Blodget that markets were still way over-valued:
“We basically believe that, from their highs, the S&P 500 will decline 50%; the Nasdaq, 70%; and the nonearnings Nasdaq, 80%. The safest thing to say is sooner or later. The great bear markets do not hurry. They have often had precipitous decline phases. But basically the 1929 peak didn’t really bottom until 1945. The 1972 peak didn’t bottom until 1982. And, incidentally, in those ten years, the S&P was down close to 40% in real terms.”
That call turned out to be spot on.
Here’s a few grizzly points from the newsletter:
- There are two conditions for a bubble to form: fundamental economic conditions “must look at least excellent”, and it must be easy and cheap to borrow.
- Of 42 countries listed by the Economist magazine, Switzerland’s GDP grew most slowly in the last 12 months at 2.2%, satisfying the first condition.
- Optimism releases “animal spirits“, investors borrow to act on that optimism. Because they do well they borrow more. The behaviour reinforces itself.
- The finance industry profits from the animal spirits, so it encourages it.
- Normally bubbles are confined to countries or sectors (Japan, say or technology) but everybody’s talking this one up.
- Stocks, bonds and property are expensive relative to historical prices and replacement cost, where it can be measured.
What goes up, must go down:
The bursting of the bubble will be across all countries and all assets, with the probable exception of high grade bonds. Risk premiums in particular will widen. Since no similar global event has occurred before, the stresses to the system are likely to be unexpected. All of this is likely to depress confidence and lower economic activity.
Although Mr Grantham admits timing is tricky…
Most bubbles, like internet stocks and Japanese land, go through an exponential phase before breaking, usually short in time but dramatic in extent. My colleagues suggest that this global bubble has not yet had this phase and perhaps they are right.
Here are his bogies:
- Inflation. It makes it harder to lower interest rates, lowers bond markets, destabalises investors, depresses profit margins and puts pressure on property prices.
- High profit margins must revert to the mean at some point, “a couple of years of margin declines should do the job just fine.”
But I’m not sure if the bearish case is so far from the bullish one as explained to me by Ken Fisher. Although Ken says shares are cheap relative to bonds and the bull must go on, he’s not saying there won’t be another bear market. He’s saying it won’t happen soon.
Mr Grantham says forces are amassing that will trigger a global crash but, in his newsletter at least, he’s timid on timing. Ken Fisher doesn’t think it will be this year. Mr Grantham says, “a couple of years of margin declines should do the job just fine.” Ken says, “My view is that there’s a huge gap (between earnings yields and bond yields), it will take a long time to close… It’s not going to happen next month. It’s not going to happen this year. It might take a couple of years.”
I don’t know how to reconcile their differing view on asset prices, but here’s to the crash of 2009 :-(.
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37 Responses to “The Great Crash of 2009”
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That’s a great head-line you have come up with, very apt
Thanks Robin, I was quite pleased with it!
The UK will sufer a crash of great propotions during the mid period of 2008, quickly followed by many European Countries due to the rapid increase in the cost of borrowing and the extent of over exposure of credit to individuals. This will later be seen as ‘The Time of Greed’ and marked in history forever. Beware the prophet of all that sparkles and every individual should own many properties as this will be be the greedy persons downfall.
In the UK, interest rates would need to hit a sustained 8% and the brakes applied to the economy between 6.25% and 8% would be sufficient to cool things down gradually without a sudden bust effect. I believe the masses are reigning in their debt exposure as we speak whilst OAP’s are rubbing their hands whilst reviewing their savings accounts - overall the UK citizen can be quite adept at exploiting both low and high interest rates!
Thankyou, firstly I had not thought of the current global expansion in terms of a global bubble, i had always assumed such bubbles were localised. I will look at the market very dfifferently as a result. Secondly, with the annual May sell off looming, does this mean that it may not occur this year? And how has the recent china correction affected the liklihood of the may sell off occurring again this year?
Hi Richard, thanks for your comment. It’s one of the many things the bulls and bears seem to agree on - the bull/bubble is global.
As for the May sell off I wrote about this recently - it depends on who you listen to!
I’d just make the observation, and I’m not a market pundit so take this with a pinch of a salt, that the M&A/Private equity bandwagons show no signs of slowing so far in May (look at Thomson’s bid for Reuters) and that’s the engine behind this bull market according to Ken Fisher.
Many thanks for the feedback Richard.
It seems to me that a crash is inevitable due to a combination of higher interest rates and the disproportionate influence of hedge funds.
The basic stability of the market is being undermined by the sheer weight of speculative positions.
I’ve been anticipating a property crash in the UK for the last 7 years but it never seems to come. Prices seem to go ever higher. I think this is an indication of the general lack of respect for the value of money and if anything this seems to me that it will lead to serious pressure on inflation for many years to come.
Are there any asset classes that might be insulated from the meltdown…precious metals for instance?
During one of the peak trough examples:
“The 1972 peak didn’t bottom until 1982.”
The price of gold rose from $63.84 to $447.00
I don’t want bears or bulls just pussy cats so what should I do to help my savings surpass inflation during these crash years and provide a pension for my future, for as a housewife I’ve not got much else to sustain me in my “pay for yourself” years to come!
Energy imports are already greatly impacting US trade deficit and will soon add to UK’s already large deficit as N Sea production continues its terminal decline. Of even more concern is the peaking of oil output globally followed by irreversible declines against a background of increasing demand from India, China etc. Many petroleum geologists now believe we will experience the global peak within a few years….and a number believe peak has already occurred, in 2005. Higher energy prices are enforced reductions in energy use are inevitable, definitely a recipe for a major market correction!
is 2009 a threat or a promise?
Like many others I am nervous about the market, but since the majority of my investments are in tax wrapped PEPS it is difficult to know what to invest in to keep within the PEP. I believe five year maturity gilts are permitted, but the interst rate hikes do not bode well for this strategy. Sell in May and go away- but where do we go?
Michael.
If the ‘bubble’ bursts and the ‘freebies’ dry up due to economic difficulties, will the illegal immigrants desert the sinking ship? If they do/would , I suppose it would help to put us back on track? Apart from that, Mr. Average just has to keep on smiling and take what comes - here’s to a long wait for the down and a short wait for the ups. I can’t take it all too seriously.
The 1972 peak down to the 1982 bottom (if that is so) saw a period of massive inflation in the UK - which was of some benefit to borrowers, but ultimately destroyed savings and jobs.
Sure some assets (like shares) may be in a bubble, but economics are governed partly by supply and demand - and demand for goods and services by the massive populations of India and China is not going to disappear in a hurry.
Some stock markets may ‘crash’, some currencies may weaken, individual sectors might find themselves overstretched, some borrowers too - but emerging economies are likely to carry on growing and consuming anyway.
Michael Talbot, Where do you go? Well as someone else mentioned, traditioanly you may have bought into gold, but with probably all metals having had a good run, my thinking is to spread your capital across assets that are going to fall by the least. Not an easy undertaking, e.g. cash is devalued by inflation, and normal inflation proof assets such as stocks and commodities may fall.
Perhaps holding some Yen wouldn’t be a bad idea? given that Japan seems to be one of the few places in the world not experiencing a bubble.
there is a wall of money out there not yet invested and the global economy is changing fundamentally. excessive fear can be paralysing. nice headline but will probably be wrong. be positive
The asperations of the Chinese and all Asians has been raised to such a level that they will do everything thing they can to maintain their lifestyles and this momentum will carry markets forward for some years to come— stay invested!!!
This is what will happen in the UK - as the present Government enters its dying days pre Election the City will be jumping for joy with the prospect of a Conservative Government coming in. This will drive the markey upwards . . . . this will be the time to get out of shares . . . . because when the Conservative Govt are installed they are going to find that the “strong” economy never was . . . that is the real bubble. The economy can only be sustained by high taxes which is anathema to Tory policy. Thus, down we go, Up go the interest rates, Up go the bankruptcies, Up goes the debt, Up goes the Repossessions.
Direction . . . . go for Cash and Gold . . . Get your timing right but I’ll be in front of you.
What all of the above prove is that there is positive uncertainty in investing. Everything can fall but this is a whole new ball game - we never had India/China as an alternative to USA troubles. So predict a crash at your peril!!
A stock market crash will be a great ’selective buying opportunity.
Increasingly countries such as India and China are moving away from being reliant on supplying the west, albeit gradually. Whatever happens, china and other emerging markets will continue growing regardless.
What investors need to focus on is the next china. No not india, but Brazil !
And NO, i am not a perma bull ! :p
I feel the property market is going to go up exponentially and anyone still holding on to it will prosper like weeds- indestructable. The rich will become richer and the poor will still be quite as poor. People need place to live in and thus the lower end market will be bullish, and the higher end market will stay stagnant until a time with the low end equals the high end then the former will stay stagnant and the latter increase again. And the whole cycle will continue until such time that the Green Peace takes over the economy that we shall all revert back to living in c ages.
I have just (literally) discovered this site and am most impressed. My eyes are being opened. Many thanks to all subscribers.
Thanks to everyone who has commented. There are loads of points here that I will research and write about in time on the blog but I just wanted to make a couple of quick observations.
Pip: It’s not a threat or a promise, it’s a guess!
Having stirred up all those emotions I feel I should explain why discussions like this are important to me as an investor, and how they might influence my investment plans.
I just like to know what’s going on. Making sense of the rumours and fears pummeling the market gives me the confidence to go on investing in companies that look undervalued. I’m not going to sell shares in a perfectly good business because of these worries, unless perhaps I think there is an element of bull-market hype in the price.
Top-down investors, market-timers, and people with lower pain thresholds will see things differently of course, it takes all sorts to make a market
OK - so everyone has mixed feelings to the future, but here is my take:
Housing - I like many others have been predicting the crash, but the market seems to just keep on growing, however what is different for the current economic cycle is the ‘buy-to-let’ investor adding stability and excluding the important first time buyer from the market (generating his income), this will only last until the house prices level (so no capital appreciation on your investment) and interest rates rise such that return on your investment is equalled (or bettered) by leaving your cash in the bank - this time is near!
So the economic housing cycle is nearing the end, but like all bubbles, there needs to be a trigger to burst the bubble…. will this be the rise in interest rates?
The UK debt mountain is huge, made possible due to the low interest rates and relaxed lending rules, allowing many to take on a huge mortgage to buy a house. This mortgage until recently was realitively cheap, however the rising interest rates have added £150/month on a £100k mortgage over the past year + inflation on the cost of living and people are feeling the pinch - indeed repossessions are on the up and this will only worsen as people struggle to make ends meet or service the buy-to-let thats empty.
The market continuing to rise appears to be distorted due to the city bonus spending spree forcing prices up in London/South, while the property market in the rest of the country lies stagnant/fall as people struggle to sell?
At the moment, people are coping, but over the coming months as the incresing weight of the mortgage repayment takes bite people will realise the cost burden, resulting in houses becoming ‘expensive’, but will sellers begin to lower their expectations in terms of house prices in the need to sell? reality takes a long time to bite?
So where does this leave housing market, except on the edge of a fragile cliff? - many people have predicted falls of 30-40%, however a more realistic ‘correction’ in real terms is 20% (over 12+ months) on the cost of the house and the rest made up by inflation of wages (making that big loan easier to service)!
But what has to be remembered is that the higher things go, the further they have to fall, which brings me onto the UK economy.
To prevent the UK following the global economic slowdown following the tech bubble, the UK lowered interest rates (bottoming in 2003), making money cheap to borrow and therefore fueling the economy (high street spending and house prices). The US did a similar thing, although for them it didn’t work so well and although house prices have risen, in the last 9 months they have been falling (rapidly).
So can the same thing happen here? there is a saying that when the US sneezes, the world catches a cold - and now that the global economies seem to be aligned, it would seem inevitable.
But as so many of you point out, the down turn will not be the same everywhere, indeed in the eastern countries (China, Thialand, India etc) which are currently growing on the back of cheap exports, things will slow as we import less, but there own markets will develope, such that a downturn does not end in recession.
As such those worried about selling stocks must remember that they are to be viewed as a long term investment and that your portfolio should be spread wide to minimise risk, you wouldn’t put everything on the back of a single horse would you?
So spread your portfolio around, invest in the UK, Europe (Russia and the other new EU countires have promise, especially as most of the cash they earn here seems to be sent home!!) and the other global economies, this way when the UK resession bites (2009/2010?) you wont loose your trousers!
And if you have your investment in a PEP or ISA, you can move it without Brown getting his taxing mits on it.
Interesting. Rising interest rates could slow or stall house price inflation leaving the serial spender/borrower/remortgager with nowhere to go. Without equity in their homes to release low cost funds to pay off expensive hp/credit card debt consumer driven growth will falter - and that’s not good.
For Chris Barton
Think you should read this article on oil supplies - http://www.mininginvestor.co.nz/Oil.htm
-oil running out has been a permanent myth repeated every few years since the turn of the century!
My first visit, it wont be my last. Very interesting and eye opening. What to do?
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The thing is that although everyo0ne is saying the housing market is going to crash…historically there have just been corrections in the UK. Roughly every 10 years the prices double (I think it is 11.76 years)irrespective of the economy. Many people bought houses and think they are riding a wave. It is just a correction that has been late to happen. Stocks and shares value and devalue according to so many factors, the only way to invest safely is to spread. It depends on your outlook, quick gain and risk or slow gain and low risk. Notice the word…RISK. It’s all a risk, no-one person or institution can govern what will happen. The scaremongers are out there of course, do the bigger investors listen. NO. They may become cautious and they may take advice, but the economy along with housing, property and the stock market will carry on regardless.
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