An Old School Melt-Up

John Osbon - January 10, 2018

Jeremy Grantham is well known as a value investor and a permabear. He buys only cheap value investments. He has been famous for talking down US investments for years. However, on January 3rd of this year, he wrote “a very personal” view of a possible near-term melt-up. Jeremy is well worth listening, especially when he changes his mind.

The G in GMO

Jeremy Grantham has a lot at stake in the investment world, personally and professionally. He has made hundreds of millions of dollars for himself, and billions for clients of Grantham, Mayo, van Otterloo founded in 1977. He’s a Brit, so you can expect acerbic comments and no-nonsense messages. He is a compelling writer.

What makes a bubble investment

I’ve met Jeremy several times and read his research for many years. His public speaking technique is like Bill Belichick’s – get ready for the grumpy lobster boat captain. In person, I feel like he is talking me out of investing in anything. His writing, on the other hand, is approachable and detailed. That’s where I get the most from him.

What makes a bubble, says Jeremy, is a sudden and enormous rise in value with no fundamental basis. The South Sea bubble of the early 18th century is the standard he cites. It was quick and big – two years. Bitcoin is now the ‘essence of a bubble’ in his view. Other investments, like US stocks, are not in a bubble unless the Dow tops 34,000 in the next two years. According to Grantham, 34,000 is an unsustainable number for the Dow Jones index, and one which would likely lead to instability and decline.

Odd investment happenings during bubbles

Strange things happen as bubbles develop. Small bubbles rise and recede or pop. What looks like a bubble has no end in sight. During such times – like now – quality outperforms. Low beta (low volatility) outperforms. Junk stocks underperform. Housing was bubbly before its collapse and it is nowhere near bubble territory.

Bubbles and Republicans

Jeremy calls this section “just sayin’” as the information speaks for itself. According to the stats, a requirement for a bursting bubble is a Republican president. He calls Hoover nice to bankers, Nixon nice to the Chinese, Bush nice to Cheney, and Trump nice to Russians. He ends the Trump year 2019 with a question mark.

The Fed’s role in bubbles

Three successive Fed chairpersons – Greenspan, Bernanke and Yellen – have pushed rates straight down to zero and thereby increased the risk of moral hazard. Jay Powell is likely to continue the Fed plan. So far there has been no moral hazard behavior. The Fed is raising rates. The other two central banks in Europe and Tokyo have yet to catch up with the US. Jeremy suggests we watch out for a “strong head of steam by next February” and “deal with that when we get there.” No bubble yet.

What Jeremy likes

In his “suggested plan of action for everyone” Jeremy recommends owning as much emerging markets as you can stand. His expectation is that these investments have “more potential than most think.” According to the numbers, he is correct. Growth rates, P/E ratios, and yields all say “buy” emerging markets. Most people are too scared to act on this information because the headline words are scary: coup, dictator, and stealing are just a few examples.

For further consideration

For those who are fascinated with investment cycles and their psychology, you can read the full article here. For the rest of you, that is, the vast majority, do a self-check on your investment portfolio to see if it is ready for a melt-up. Jeremy is suggesting as much.

– John Osbon

You may enjoy reading this article on New Market Highs because it also discusses how to invest during a strong market.






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