I could spend the entire letter on this chart, the ratio of the Nasdaq 100 versus the Dow Jones which recently broke to new 21yr all time highs. We all know what happened in 2000 with the Dotcom bubble bursting. It took 2yrs for this ratio to bottom and another 19 to get back to its high. Classic lift down and escalator up. Over the last 20+ years we have all witnessed the tremendous growth in technology. All of our lives have been changed, from young toddlers to the elderly. Smartphones & Cloud have been the game changers for me. However the markets are a discounting mechanism for the future. One way of looking at this chart is to say in 2000 the market was discounting 20yrs of technology outperformance of the traditional economy.
Let us quickly take a look at how things are likely to play out from a valuation perspective if history is any guide to the way things play out over time. In order to give valuations context relative to the interest rate environment we are looking at stock yields less bond yields and scatter plotting their 10yr future returns shifted for regression purposes.
If I lost you just look at the green dots which is represents our current era, it is suggesting that we to see negative returns over the next 10yrs. This is why I shared the ratio chart above to highlight that markets can enjoy the fruits well in advance of their picking. Kind of like the current craze of Buy Now Pain Later, I mean Pay Later 😳.
If you look at a chart of inflation adjusted earnings for the S&P500 you will need to go back to 1947 to find yields this low. There have been only 4 historical instances of negative real earnings yield, all of which resulted in bear markets. The only way for these real yields to normalise is for earnings growth to accelerate exponentially or for the S&P 500 to drop in half. What is your bet?
I am a visual person so I thought it might be useful to have a look at the gauge Jerome Powell is supposedly looking at in his Fed office cockpit. Over the last few years, the Fed updated its price stability policy to allow inflation to run higher than 2% for short periods to compensate for prior periods when it was below average. With the current rate at 6.2% and a 2.7% 3yr average Powell must have passed out from lack of oxygen at such market inflation.
I mentioned yesterday about the bond default worries at Evergrande and the Kiasa Group, it didn’t take more than 3hrs from when I wrote the letter for the Kiasa Group to announce their default, but there is more. We are in a too big to fail scenario for Comrade Xi. The State has now taken the majority of seats on a new risk management committee established by the heavily indebted developer. It seems like there is a revolving door on billionaire status these days with the once richest man in China Hui Ka Yan merely acting as a puppet while losing control and most of his wealth. Time for big brother to take the wheel.
Speaking of losing a few billions and a continuation of the costly theme of divorce, spare a thought (not) for Vladimir Potanin, Russia’s second richest man. His wife is claiming a $9.8 billion settlement in English courts after being awarded a “paltry” $40 million following Russian proceedings.
Lastly it seems those backed by SoftBank are even more aggressive with firing than they are with hiring. The CEO of Better.com a mortgage lending site that IPO’d last month fired 900 employees on a Zoom call. Vishal Garg said, “If you are on this call you are part of the unlucky group that is being laid off. Your employment here is terminated effective immediately.” I guess he didn’t want to give too many Christmas bonuses out. At current valuations keeping growth exponential is a messy affair.