Hi, guys.
I know that Grantham is sort of a divisive figure here, with a bunch of folks describing him as some combination of failed and a perma-bear. There are two drivers of his failure to join the recent party. His firm's discipline is driven by mean-reversion. Their argument is, first, that stock valuations can be weird for years, but not weird forever. They keep reverting to about the same p/e they've held in the long-term. Why do they revert? Because stocks are crazy-risky and, unlike The Donald, most investors aren't willing to risk multiple bankruptcies on their way to great returns. Expensive stocks are riskier, so their prices don't stay permanently high. And, second, that profit levels can be weird for years, but not weird forever. Why do they revert? At base, if you're making obscene profits, competitors will eventually come in and find a way to steal them from you. More companies competing to provide the same goods or services drives down prices, hence profits.
Sadly, it hasn't worked that way for a long while. Grantham's argument is that price reversion has been blocked by the Fed since the days of Alan Greenspan. What happens when the market begins to crash? The Fed rushes in to save the day. In effect, they teach investors that pricey stocks aren't all that risky which encourages investors to keep pursuing higher priced stocks. Leuthold noted, for instance, that valuations at the bottom of the 2007-09 crash were comparable to those at the peak of most 20th century cycles. The problem with relying on the Fed is that pretty clear. And he argues that profit reversion has been blocked by a shift in executive compensation: executives are personally (and richly) rewarded for short-term stock performance rather than long-term corporate performance. If an executive had a billion to spend on a new warehouse distribution system that might payoff in five years or on dividend checks and a stock repurchase that plumped the price (and their bonus) this year, the choice is clear. In 2015, S&P 500 corporations put over $1 trillion into stock buybacks and dividends - economically unproductive choices - while is more than double what they'd done 10 years before.
Both of those factors explain Grantham's observation that stocks have been overpriced about 80% of the time over the past 25 years. His current estimate is that US stocks are overpriced by 50-60% right now.
Good news: that's not enough to precipitate a market crash, though "a perfectly ordinary" bear market is likely underway. Vanguard's Extended Market Index Fund (VIEIX) hit bottom on February 11th, down 25% from its June high. That matched, almost to the dollar, the decline in the emerging markets index. Both have rallied sharply over the past 10 days. Regardless, most stocks have been through a bear. Really catastrophic declines, though, rarely occur until market valuations exceed their long-term average by two standard deviations. The current translation: the S&P 500 - about 1900 as I write - at 2800 would be bad, bad, bad.
Bad news: you're still not going to make any money. GMO's model projects negative real returns on bonds (-1.4%), cash (-0.3%) and US large caps (-1.2%). Vanguard's most recent white paper on valuations, using different methods, leaves bonds at zero real return, stocks modestly positive.
Better news: the best values are in the riskier assets, which I hinted at above. US small caps are projected to make 1.5% real, emerging debt is at 2.8% and emerging equity at 4.5%.
For what that's worth,
David
Comments
(Click On Article Title At Top Of Google Search)
Regards,
Ted
https://www.google.com/#q=Grantham:+Economy+Will+Beat+Consensus+View+barron's
May it continue.
Question: If the suggested overvaluations are confined to US equities, then wouldn't value investors have turned en masse to an alternative and presumably more accurately priced market, Europe, for instance?
Granted, the EU central bankshave more or less paralleled the Fed with respect to trying to stabilize the markets since 2008 or so, but surely not prior to that? And is Grantham suggesting that short-sighted management is also responsible for elevated valuations of major European stocks also? That's surely a whole lot of world-wide short sightedness.
How do we explain the near equivalency in value/pricing for European stocks "since the days of Alan Greenspan"? Surely Greenspan's influence didn't significantly drive the European markets, yet their price/value ratios were and are comparable to ours.
Uhhh, I would imagine that investors rather like investing in a market that has an airbag. That might be quite enough to keep them home.
As to valuations, perhaps they're not all that comparable? See, for instance, http://www.starcapital.de/research/stockmarketvaluation. To the extent there's convergence, perhaps the fact that markets are global leads to broadly similar valuations? Perhaps the fact that 2500 foreign stocks trade on US markets as ADRs has a similar effect?
Just pondering,
David
Tech is nearly impossible to value anyway. If you're building 8-track decks you're overvalued. If your aeorspace division is about to receive a big contract from NASA to supply the space station or ferry payloads to the moon, you might be undervalued.
Central banks and lawmakers will do what they will do. But it would be rare indeed for a paper currency to maintain or increase in purchasing power over extended periods. This begs David's question a bit I suppose. But, even nominal gains in equities are preferable to little or no gain in cash.
Jeremy Grantham: Train Wreck Spotter
http://www.cxoadvisory.com/3200/individual-gurus/jeremy-grantham/
Thank you for reminding MFOers of the CXO Advisory Group Guru Grades study. It is one of the few easily accessible research works that carefully scores specifically named market forecaster accuracy. It is a treasure.
The Guru Grades demonstrate that “The only value of stock forecasters is to make fortune-tellers look good”. That’s not my bit of wisdom; it comes from Warren Buffett.
I am a Jeremy Grantham fan. Over the years, I have attended at least a half-dozen of his market projection presentations. These lectures were very professionally researched, organized, and delivered. My impressions of Grantham are that he is smart, logical, honest, and humble. He is soft-spoken.
All of these fine personal attributes contribute to him being accepted as a trustworthy market expert. I believed his market forecasting record would be superior to most of his competitors in that field.
Therefore, the reference that you provided is both informative and shocking. Based on that record, it certainly appears that Mr. Grantham is a run-of-the-mill market forecaster. I made the mistake of not checking his performance scorecard. That’s a cardinal sin for any investor; verification is a mandatory task.
According to the CXO ratings, Grantham is graded at the 44% accuracy level. That’s below a coin flipping probability. His record is slightly below the CXO Guru group average of 47%. That’s a major disappointment given my long-standing impressions of his talent.
It seems that when the hard statistical data is revealed, yet another of my perceptions of a market wizard’s super-forecasting abilities is shattered. Market forecasters can’t forecast, even Jeremy Grantham. Persistent excellence in that discipline simply does not exist.
I made the mistake of only trusting my gut instincts in this instance. It’s not that gut instincts are always wrong. In fact, they are right a large percentage of the time. The problem is that they are not always right. I should have taken time to verify his accessible prediction accuracy. I thank CXO for doing that arduous task.
I also thank you for referencing that and other useful research.
Best Wishes.
The statement “The probable winning bet [is] a very mean reversal … for the next few years” is assessing by six-month performance of the S&P. Uhhh ...
That doesn't defend Grantham's record as a forecaster. He entirely agrees that as long as the Fed sees itself as the market's savior, the historical forces on which their market projections rely are largely unreliable. That's a separate issue from asset class projections, whose question is "in the intermediate term, is small or large likely, as a class, to do better than what we've come to expect from the market as a whole."
As ever,
David
Indeed Jeremy Grantham is famous for his long-term market segment predictions.
Initially, he formulated his judgments for the upcoming decade; more recently he has shortened the timeframe to seven years. Initially, his projections seemed highly prescient; more recently his projections have proved less prescient. Like most of what happens in the marketplace, a reversion-to-the-mean iron law seems to be exercising its power.
Any prediction worth scoring must be accompanied by a well defined timeframe. Certainly, Grantham’s long-term forecasts meet that standard. A fine organization such as the statistically oriented CXO Advisory Group are well aware of that requirement.
Grantham not only made his more famous longer-term estimates, but he also made shorter-term predictions. The time scale of those predictions ranged from a single month to more than a year. CXO sorted his predictions based on their various time-spans and scored them accordingly. The 40 Grantham forecasts that CXO evaluated were done so consistent with the appropriate timeframes.
I scanned those 40 test items to confirm the timeliness of the prediction/measurement compatibility. They appear to be properly assessed on a time basis. The CXO testing excluded, and therefore did not address, Grantham’s long-term 7 year forecasts.
Dependent on what subject is being addressed, some long-term forecasts are feasible with the likelihood of reasonable accuracy; others are not. The marketplace appears to be in this latter category.
To support my contention, just review the annual checkerboard patterns that have been registered by the various investment categories and are summarized by any Periodic Table of Annual Investment Returns. Here are Links to several examples:
https://investment.prudential.com/util/common/get?file=1D065355D2CC360385257B7D00536F8A
https://www.americancentury.com/content/dam/americancentury/ipro/pdfs/flyer/Periodic_Table.pdf
These are just sample tables. The second reference even shows the drastic movements of various bond categories.
Chaos is supreme. I surely do not see any pattern. Category leaders quickly descend to the bottom of the heap. Standard deviations are huge, especially when contrasted against average annual returns. I doubt many folks have the talent and/or the luck to persistently capture this chaotic behavior in any forecasting model.
Super-forecasters do exist, but in very small numbers. Phil Tetlock’s research does establish their existence, although even within this elite group a regression tendency has been observed. Perhaps Jeremy Grantham is a member of this elite group. I hope so; I do like him, but my confidence has been eroded.
Best Wishes.