All this talk about a bubble in the stock market. Is it right?
In a nutshell – no, not yet. But’s let’s not fool ourselves, we’re at historically lofty valuations for most asset classes and it’s not silly to ask the question if things are simply too high.
By most historically useful barometers, we are in the higher registers of reasonable bands. In other words, we’re close to the red line of concern on most metrics, but for the time being we’re still in the higher end of the acceptable ranges.
This is why I’ve been expressing my hope for a pause in the markets with those of you I’ve had the chance to connect with recently. It’s my opinion that the years ahead for the markets will be brighter if we spend a little time treading water now.
Just as a distance runner needs an occasional rest, so too do financial markets. This helps them each stay healthy while not overheating or doing real damage to themselves.
A break in the markets would likely be temporary and not the beginning of a persistent downtrend.
Perhaps my largest concern is if the markets continue higher without a rest. If that were to happen, we will run across the red lines and genuinely be in a bubble. That would force me to change my opinion of things as we look out on the horizon.
Simply put, if the markets rally strongly without a rest first, I will become more conservative in my outlook for the years ahead. We could reach a point where we’ve stolen all the growth of the future and pulled it into current day asset prices. From that point, even great economic news wouldn’t be enough to support things and the markets would have no choice but to suffer.
But we’re not at those levels now. The markets have not fully separated from the economic reality, yet. So if you’re concerned about a bubble, recognize that the best way to avoid a bubble is to pause. The economy is chugging along nicely and corporate earnings are well ahead of most expectations. This means the fundamental value within the markets is growing, and this condition will only improve if stock prices move sideways for a while.
A dip in stock prices now would go a long way to increasing the odds of those same prices being considerably higher a couple years from now. But if we get too far ahead of ourselves now, we run a good chance of seeing a painful drop in prices to wring out the excesses we’d have created.
I wanted to send this note out now not because I am predicting an imminent correction. The truth is, I don’t know when we’ll get our next one; but I genuinely hope it’s soon. I know that might sound counterintuitive. You might think that I am constantly hoping for higher asset prices. I’m not. I know better than that. I’m sure we all do. So today’s message is simply a reminder that, as I wrote in the October 2018 version of this piece – Corrections Happen. And they help.
September and October tend to be seasonally weak times in the markets. And this past year or so has been one of the longest stretches in history without so much as a 5% market dip. Given these factors, it’s not illogical to think we might get a few bumps in the road soon. This also means the financial media will have even more of a desire to exaggerate things.
This is why I wanted to hopefully get ahead of the financial news media’s blitz of negativity. I wanted to put things into proper context before the news tries to do the exact opposite. Remember, they are built to get ratings, not provide sound financial advice. They report with hyperbole, not balance. They exaggerate at every opportunity in the hopes to play on emotions and grab eyeballs. In short, they would want you to outright fear a market correction. On the contrary, I not only want you to tolerate the eventual correction, I want you to celebrate it! It’s that very correction that will set the collective media’s hair on fire that keeps us out of the dangerous bubble territory.
- Please take a few minutes to read (or re-read) the October 2018 issue of Worth Considering. It includes a very simple picture that pretty much says it all!
- If we do indeed see some weakness in the weeks or months ahead, know that I’ll be monitoring things to see if there are any real changes to the underpinnings of the market. I’m not expecting that to be the case, but vigilance is a must. Most likely a dip will be a healthy way to rid some excess and keep us a safe distance away from the cliff.
- As I’ve often said, volatility is the emotional tax investors must pay to outpace inflation over time. At present, we don’t have any meaningful volatility, but just as night follows day, we’ll get it again. So today’s message is hopefully a timeless call for a cool head as the market simply does what it must do to provide the growth we want.
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