"SuperBubble" = Super Trouble

Have a closer look at that bubble. Notice that it is really large, and it seems to include continents that make up part of a globe. What if the financial markets around the world are now in just that same precarious situation. Jeremy Grantham believes that is the case, and so do I.

The following wisdom is from Jeremy Grantham's current viewpoint, January 20, 2022.

Jeremy Grantham,?the famed investor?who for decades has been calling market bubbles, said the historic collapse in stocks he predicted a year ago is underway, and even intervention by the Federal Reserve can’t prevent an eventual plunge of almost 50%.

In a note posted in January, Grantham, the co-founder of Boston asset manager GMO, describes U.S. stocks as being in a “super-bubble,” only the fourth of the past century. And just as they did in the crash of 1929, the dot-com bust of 2000 and the financial crisis of 2008, he’s certain this bubble will burst, sending indexes back to statistical norms and possibly further.

"We know where the market is going to end up, and all the paper in the world will not change that."?- Jeremy Grantham

All 2-sigma equity bubbles in developed countries have broken back to trend. But before they did, a handful went on to become superbubbles of 3-sigma or greater: in the U.S. in 1929 and 2000 and in Japan in 1989. There were also superbubbles in housing in the U.S. in 2006, and Japan in 1989. All five of these superbubbles corrected all the way back to trend with much greater and longer pain than average.

Today in the U.S. we are in the fourth SuperBubble of the last hundred years.

Previous equity superbubbles had a series of distinct features that individually are rare, and collectively are unique to these events. In each case, these shared characteristics have already occurred in this cycle. The checklist for a superbubble running through its phases is now complete, and?the wild rumpus can begin at any time.

In a bubble, no one wants to hear the bear case. It is the worst kind of party-pooping. I doubt speculators in the current bubble will listen to me now; but giving this advice is my job, and possibly the right thing to do. So, once more unto the breach, dear friends.

This time last year it looked like we might have a standard bubble with resulting standard pain for the economy. But during the year, the bubble advanced to the category of superbubble, one of only three in modern times in U.S. equities, and the potential pain has increased accordingly. Even more dangerously for all of us, the equity bubble, which last year was already accompanied by extreme low interest rates and high bond prices, has now been joined by a bubble in housing, and an incipient bubble in commodities.

One of the main reasons I deplore superbubbles – and resent the Fed and other financial authorities for allowing and facilitating them – is the underrecognized damage that bubbles cause as they deflate and mark down our wealth. As bubbles form, they give us a ludicrously overstated view of our real wealth, which encourages us to spend accordingly. Then, as bubbles break, they crush most of those dreams and accelerate the negative economic forces on the way down. To allow bubbles, let alone help them along, is simply bad economic policy.

The bottom line is that in general, the bubbles in multiple assets, not just equities, have continued to inflate, and therefore the potential pain from a break has increased.

What is new this time, and only comparable to Japan in the 1980s, is the extraordinary danger of adding several bubbles together, as we see today with three and a half major asset classes bubbling simultaneously for the first time in history.?When pessimism returns to markets, we face the largest potential markdown of perceived wealth in U.S. history.

The Dangers of Multiple Asset Bubbles at the Same Time

The Japanese case, in particular, made one thing pretty clear: while it is dangerous to have a bubble in equities – for the loss of value can cause a shock through the wealth effect that can get out of control, which was a part of the problem in 1929 and the ensuing slump.?

It is much more dangerous to have a bubble in housing, and it is very much more dangerous to have both together.?

The economic consequences of the double bubble in Japan are arguably still playing out.

How Did This Happen: Will the Fed Never Learn?

As of today, the U.S. has seen three great asset bubbles in 25 years, far more than normal. I believe this is far from being a run of bad luck, rather this is a direct outcome of the post-Volcker regime of dovish Fed bosses. It is a good time to ask why on Earth the Fed would not only have allowed these events, but should have actually encouraged and facilitated them.

The fact is they did not “get” asset bubbles, nor do they appear to today. This avoidance of the issue seemed to us remarkable as long ago as the late 1990s. Alan Greenspan, who I considered then and now to be dangerously incompetent, famously acted as cheerleader in the formation of the then greatest equity bubble by far in U.S. history in the late 1990s and we all paid the price as it deflated.

Bernanke should have been wiser from the experience of this bubble bursting and the ensuing pain, and he might have moved against the developing housing bubble – potentially more dangerous than an equity bubble as discussed. No such luck! It is pretty clear that Bernanke (and Yellen) were such believers in market efficiency that in their world bubbles could never occur.

But everything has consequences and the consequences this time may or may not include some intractable inflation. But it has already definitely included the most dangerous breadth of asset overpricing in financial history. At some future date, when pessimism rules again as it does from time to time, asset prices will decline.?

If valuations across all of these asset classes return even two-thirds of the way back to historical norms, total wealth losses will be on the order of $35 trillion in the U.S. alone. If this negative wealth and income effect is compounded by inflationary pressures from energy, food, and other shortages, we will have serious economic problems.

I invite you to read the entire article, and perhaps read it often. Mr. Grantham has done us all a huge service by presenting a clear picture of what is happening, and how we arrived at such a challenging point economically.

I believe it is vitally important at this time to be sure financial assets are secure, and if you would care for some help in that regard, send us a note.