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Equity Bubble About to Burst?

Stocks and Shares ISA , Choosing funds for ISA's, risk factors for funds etc
Investment strategy discussions not dealt with elsewhere.
vagrantbrain
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Re: Equity Bubble About to Burst?

#424784

Postby vagrantbrain » July 4th, 2021, 8:25 pm

GeoffF100 wrote:
vagrantbrain wrote:I don't agree. The difference I see is between now and the 90s tech boom is that these "bubble" tech companies (with the possible exception of Tesla) are established businesses with real revenue and real growth to support valuations.

Taking Microsoft for example - it's biggest revenue stream is now enterprise cloud computing which has been growing by over 50% per quarter for the last 4 years, and these aren't one-off sales but recurring annual revenue from blue-chip companies who are now heavily invested in the Azure infrastructure. On a P/E less than the S&P500 average (33 v 46) with revenue growth in 14 of the last 16 years. Hardly a speculative punt.

Similar story with Apple - right at the start of a technology curve with Apple Silicon chips which are wiping the floor with their competitors.

What are you disagreeing with?


That there's an equity bubble about to burst

BT63
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Re: Equity Bubble About to Burst?

#424812

Postby BT63 » July 4th, 2021, 10:23 pm

NotSure wrote:I am at the least expecting an extended period of less-than-stellar returns as the real economy catches up with equity prices....


The current cyclically-adjusted P/E for the S&P is at a level only exceeded for a few years in the late 1990s and early 2000s.

Historically, the annual average real (after inflation) return over a longer period of time (10-20yrs) is strongly correlated with valuations at the beginning of the period, or the average over the several years prior to the beginning of the period.

I haven't performed many detailed analyses in the last several years but the last time I looked at valuations, I found:

Where the US average P/E over a several-year period averaged 10x, I couldn't find a subsequent 10-20yr time period where real annual returns were negative, with the median being about 11% real and the maximum being about 16% real.

On the other hand, with starting P/E averaging around 19x it was 50/50 whether the following 20yr time period offered any real returns at all, with the variation being as good as +5% p.a and as poor as -5% p.a.

With a starting several-year average P/E of around 22 or more, the following 10-20 years never gave a positive real return, with some 10-20yr time periods managing as low as -9 or -10% real p.a.

Maybe things are different now and I'm certainly a bit out of touch with modern finance, but with the US being so highly valued I would expect real returns over the next 10-20 years to be zero at best and potentially unpleasantly negative.

But overvalued conditions can plateau until fundamentals catch up, or can decline gradually, or can be masked by high inflation. We don't necessarily have to crash.

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Re: Equity Bubble About to Burst?

#424814

Postby GeoffF100 » July 4th, 2021, 10:32 pm

vagrantbrain wrote:
GeoffF100 wrote:What are you disagreeing with?

That there's an equity bubble about to burst

Some people do not like the term bubble, but, whatever you call it, there is one. Valuations are sky high. The world index has more than tippled in the last ten years. Covid has negatively affected the world economy, but still the index goes up. The cause is clearly printing money and artificially low interest rates. Nobody knows what is about to happen, but they will doubtless say that it was inevitable after it does.

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Re: Equity Bubble About to Burst?

#424816

Postby BT63 » July 4th, 2021, 10:44 pm

Regarding valuations, I forgot to mention in my post a few minutes ago that the FTSE is an interesting proposition, which, based on statistics, has a much higher chance of coming through the next 10-20 years without negative annual real returns, or at least without as much negative real return as the US.

While the US has a most likely outcome of negative annual real returns over the next 10-20 years, the UK has a most likely low- to mid- single digit positive annual real return.

My emotions say to me that surely it can't be possible; FTSE always lags Wall Street. My emotions also tell me to avoid the old dog known as the FTSE because it doesn't go up much and will catch pneumonia if Wall Street sneezes.
However, the historical probabilities suggest FTSE has a better chance of giving reasonable returns going forward, although not stellar returns.

So I'm overweight UK (and gold) and over the last several months have been significantly reducing overseas investments and increasing UK investments.

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Re: Equity Bubble About to Burst?

#424818

Postby Mike4 » July 4th, 2021, 10:56 pm

GeoffF100 wrote:
vagrantbrain wrote:
GeoffF100 wrote:What are you disagreeing with?

That there's an equity bubble about to burst

Some people do not like the term bubble, but, whatever you call it, there is one. Valuations are sky high. The world index has more than tippled in the last ten years. Covid has negatively affected the world economy, but still the index goes up. The cause is clearly printing money and artificially low interest rates. Nobody knows what is about to happen, but they will doubtless say that it was inevitable after it does.


"Sky high" needs defining. There has never been a time in my lifetime I've looked at equities and not considered the valuations 'sky high' in relation to fundamentals, ahead of the market and best avoided. Yet they still seem to keep on climbing......

I like your suggestion the market is more than 'tippled' lol.

Agree with you too about whatever happens, someone will pop up saying "I told you so", with evidence to prove it.

My view is yes printing money and artificially low base rates are the cause, but the pain of correcting these is so great TPTB will go to great lengths to keep the pot boiling.

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Re: Equity Bubble About to Burst?

#424820

Postby BT63 » July 4th, 2021, 11:13 pm

Mike4 wrote:.....My view is yes printing money and artificially low base rates are the cause, but the pain of correcting these is so great TPTB will go to great lengths to keep the pot boiling.


That's why I like gold (mentioned above).

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Re: Equity Bubble About to Burst?

#424823

Postby Mike4 » July 4th, 2021, 11:22 pm

BT63 wrote:
Mike4 wrote:.....My view is yes printing money and artificially low base rates are the cause, but the pain of correcting these is so great TPTB will go to great lengths to keep the pot boiling.


That's why I like gold (mentioned above).


Like property, investing directly in gold seems messy. Where do you keep yours? In a shoe box under the bed? Or do you invest in derivatives like the miners?

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Re: Equity Bubble About to Burst?

#424829

Postby torata » July 4th, 2021, 11:53 pm

Mike4 wrote:
BT63 wrote:
Mike4 wrote:.....My view is yes printing money and artificially low base rates are the cause, but the pain of correcting these is so great TPTB will go to great lengths to keep the pot boiling.


That's why I like gold (mentioned above).


Like property, investing directly in gold seems messy. Where do you keep yours? In a shoe box under the bed? Or do you invest in derivatives like the miners?


gold etfs are easy enough to buy.

torata

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Re: Equity Bubble About to Burst?

#424852

Postby Wuffle » July 5th, 2021, 8:05 am

An adjustment (upwards) in the serviceable average p/e ratio isn't beyond my imagination.
High margin software companies with no legacy obligations to ex employees (they have neither a lot of employees, none are of a certain age and most got stock options over final salary pensions as is the modern way) can just funnel cash into buybacks, even when investable options dry up.
I tend to think the government are going to be the last mass employer with such obligations and the markets will be the home for the structurally leanest companies.

W.

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Re: Equity Bubble About to Burst?

#424895

Postby NotSure » July 5th, 2021, 10:04 am

BT63 wrote:
NotSure wrote:I am at the least expecting an extended period of less-than-stellar returns as the real economy catches up with equity prices....


....Maybe things are different now and I'm certainly a bit out of touch with modern finance, but with the US being so highly valued I would expect real returns over the next 10-20 years to be zero at best and potentially unpleasantly negative.

But overvalued conditions can plateau until fundamentals catch up, or can decline gradually, or can be masked by high inflation. We don't necessarily have to crash.


I think thigs are different, for now, in that real (and in some cases nominal) risk-free returns are negative, and we have some huge 'come what may' buyers out there (central banks). Hence higher valuations can be justified. But if this situation changes (real, positive risk-free returns become available), current valuations will look unsustainable.

But what can one do? The current situation may persist for years, indeed risk-free returns may even drop further, justifying yet higher valuations. I just do not see any option to cost averaging into the usual suspects. I initially wondered if a more active approach might be better, but history would suggest not (I'm about 80% global passive, 20% global active, so at least I'll be able to compare in a few years).

As someone with a 15-25 year horizon, I'd be very happy to now move into a true linker - i.e. settle for zero real return and be happy with the gains over the last decade or so). Alas, that is not an option, and by the time it became an option, should it ever do so, the gains of the last decade or so will already have taken a big dent.

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Re: Equity Bubble About to Burst?

#424911

Postby BT63 » July 5th, 2021, 10:50 am

NotSure wrote:I think thigs are different, for now, in that real (and in some cases nominal) risk-free returns are negative, and we have some huge 'come what may' buyers out there (central banks). Hence higher valuations can be justified. But if this situation changes (real, positive risk-free returns become available), current valuations will look unsustainable.

But what can one do? The current situation may persist for years, indeed risk-free returns may even drop further, justifying yet higher valuations.


I think looking back in 10-20 years time most stock markets - especially the US - will see very poor to negative real returns regardless of what governments do.

My attempt at a solution is to stay mostly invested but include a good quantity of gold and an overweight holding in the UK which looks about fairly valued (with a good chance of modest real returns) compared to most overseas markets which look expensive (with a low chance of real returns and a significant risk of negative real returns).

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Re: Equity Bubble About to Burst?

#425467

Postby NotSure » July 7th, 2021, 10:39 am

BT63 wrote:I think looking back in 10-20 years time most stock markets - especially the US - will see very poor to negative real returns regardless of what governments do.

My attempt at a solution is to stay mostly invested but include a good quantity of gold and an overweight holding in the UK which looks about fairly valued (with a good chance of modest real returns) compared to most overseas markets which look expensive (with a low chance of real returns and a significant risk of negative real returns).


I find myself wondering about gold, but I kind of just don't get it. History is on its side, but will the millennials we'd have to sell our gold to want to pay large for it? I'm not saying they won't, but I simply have no idea, so gold just feels like a punt to me, rather than a safe haven. I too am overweight UK, in my ISA, not because I'm British, but because UK felt cheap (I have a UK income fund on a weighted P/E of barely double figures).

On consideration of my own question above, an obvious strategy for myself is to divert a good chunk of my monthly savings from my ISA to mortgage over-payment - that will 'earn' me CPI/RPI, more or less, and put me in good position to switch the flow back into equities, should they look better priced in the medium term future.

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Re: Equity Bubble About to Burst?

#425520

Postby BT63 » July 7th, 2021, 11:55 am

NotSure wrote:I find myself wondering about gold, but I kind of just don't get it.


I don't 'get' why government bonds have been trading at negative yields, other than the 'bigger fool' theory that central banks will buy bonds at any price and the rather convenient legal obligation of pension funds to hold a certain proportion of assets in government bonds.

Nor do I 'get' why anyone would be foolish enough to lend to governments in the very long term due to the eventual tendency for bonds/debts/currency to be inflated away.

One day our central-bank-fuelled bond mega-bubble will pop (I appreciate many on here don't like the word bubble but that is exactly what most bonds are) although bubbles tend to take longer to pop than anyone expected and reach crazier extremes than anyone could predict.

Eventually - maybe a few years, maybe a few decades - the inflation/devaluation monster will decimate bonds.

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Re: Equity Bubble About to Burst?

#425523

Postby SalvorHardin » July 7th, 2021, 12:10 pm

BT63 wrote:I don't 'get' why government bonds have been trading at negative yields, other than the 'bigger fool' theory that central banks will buy bonds at any price and the rather convenient legal obligation of pension funds to hold a certain proportion of assets in government bonds.

Nor do I 'get' why anyone would be foolish enough to lend to governments in the very long term due to the eventual tendency for bonds/debts/currency to be inflated away.

When negative yields appeared after the 2008 financial crisis, a lot of institutions were far more concerned with the return of capital rather than the return on capital. Paying a fraction of a percent in return for having the cast-iron guarantee of being backed by the German state was well worth it at the time. Over time negative yields spread to other countries' bonds.

If you're an institution with several hundred million Euros which you want to keep in risk-free assets, then you've realistically not got much choice other than to take what's on offer. It's impractical (and quite expensive) to take the lot out as cash and store it. It's one thing to have a few hundred quid in cash at home, another thing to have 500 million Euros of cash which will require quite a bit of expensive storage and security arrangements.

Another reason why negative yields are appealing to some investors is that they consider that rather than inflation there might be deflation. Not a valid reason nowadays IMHO, but in the aftermath of the 2008 financial crisis a lot of people were forecasting a major global depression and hence deflation.

Long-term bonds vs. inflation. Many institutions use these to match future liabilities (actual and expected). They're not too fussed about inflation as long as the inflation effect upon their liabilities falls within their projected parameters so their asset-liability matching isn't messed up. Also as you've pointed out many institutions are required to hold a certain proportion of their assets in government bonds regardless of yield (this is a popular way for some European governments to allow them to borrow at below market rates).

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Re: Equity Bubble About to Burst?

#425525

Postby GeoffF100 » July 7th, 2021, 12:13 pm

BT63 wrote:Nor do I 'get' why anyone would be foolish enough to lend to governments in the very long term due to the eventual tendency for bonds/debts/currency to be inflated away.

People buy them because the price usually goes up when the equity markets fall. Anyone who did that in recent years has made a huge profit. Nonetheless, I am not holding any long term bonds. If the world index goes up to really bonkers levels, I might buy some VGOV in my ISA (duration about 13 years). I would nonetheless keep my overall bond duration substantially less than that.

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Re: Equity Bubble About to Burst?

#425548

Postby NotSure » July 7th, 2021, 1:19 pm

BT63 wrote:
NotSure wrote:I find myself wondering about gold, but I kind of just don't get it.


I don't 'get' why government bonds have been trading at negative yields, other than the 'bigger fool' theory that central banks will buy bonds at any price and the rather convenient legal obligation of pension funds to hold a certain proportion of assets in government bonds.

Nor do I 'get' why anyone would be foolish enough to lend to governments in the very long term due to the eventual tendency for bonds/debts/currency to be inflated away.

One day our central-bank-fuelled bond mega-bubble will pop (I appreciate many on here don't like the word bubble but that is exactly what most bonds are) although bubbles tend to take longer to pop than anyone expected and reach crazier extremes than anyone could predict.

Eventually - maybe a few years, maybe a few decades - the inflation/devaluation monster will decimate bonds.


Agreed - I don't like bonds either, especially those issued by Western governments. Hard to see them offering much protection I agree. I hold few, and they are mainly corporate rather than government, but not much better.

Regarding precious metals in general, I do hold some physical for fun. I cannot get exposure through my main pot (work pension) though i do hold resources funds. I must learn more. I agree strongly with your posts on the problems, and I would certainly agree that if major currencies truly go pop, then gold would offer some insurance. What is it they say? Hold gold but hope you never need it?

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Re: Equity Bubble About to Burst?

#425736

Postby JohnW » July 8th, 2021, 12:58 am

BT63 wrote:
Nor do I 'get' why anyone would be foolish enough to lend to governments in the very long term due to the eventual tendency for bonds/debts/currency to be inflated away.

But inflation linked bonds don't get inflated away do they?

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Re: Equity Bubble About to Burst?

#425754

Postby dealtn » July 8th, 2021, 7:18 am

JohnW wrote:
BT63 wrote:
Nor do I 'get' why anyone would be foolish enough to lend to governments in the very long term due to the eventual tendency for bonds/debts/currency to be inflated away.

But inflation linked bonds don't get inflated away do they?


No, but depending on the price you pay for them, they don't maintain their real value.

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Re: Equity Bubble About to Burst?

#425773

Postby BT63 » July 8th, 2021, 8:23 am

JohnW wrote:
BT63 wrote:
Nor do I 'get' why anyone would be foolish enough to lend to governments in the very long term due to the eventual tendency for bonds/debts/currency to be inflated away.

But inflation linked bonds don't get inflated away do they?


US inflation linked bond yields guarantee a real loss of purchasing power with yields as poor as -1.7% for 5yr maturities and -0.3% for 30yr maturities.

And how accurately do they track true inflation anyway? Governments have many incentives to report inflation as low as possible.

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Re: Equity Bubble About to Burst?

#425815

Postby NotSure » July 8th, 2021, 11:29 am

Right on cue, a couple of comments from US central bank, and shares are falling while bonds are rising sharply. Gold up too. Beats me! I am fully aware that a few hours data is utterly meaningless in the scale of things, but today at least, people are selling shares to buy bonds and gold.


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