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JPM Warns The Biggest Risk To The "Bull Market" Is... Growth?
'Another week, another high for equities' is the resigned way JPMorgan's Jan Loeys begins his discussion of "bubbles" this week - the massive gains in equity markets, in a month and a year of lower economic growth and earnings expectations, are raising a warning flag for many investors that easy money and liquidity are creating serious asset bubbles that threaten future growth and investment returns. Simply put, "a bubble view is a view that the Fed will stay easy for too long" and will then have to stamp on the brakes when growth and inflation suddenly react to easy money; and "a sudden spurt in growth is the biggest risk to asset reflation."
Via JPMorgan's The View,
What is a bubble? Bubbles are extreme asset price inflation and overvaluations; typically as easy money leads to exaggerated price gains on initially positive fundamentals that leverage then brings to a boil, before a reversal of conditions induces a crash as everyone tries to sell at the same time. The easy money is surely here this time, and so are the big price gains. The question is now whether markets are truly overvalued to fundamentals and whether conditions could reverse soon. We would like to say No to both. And we do not see that much evidence of leverage, either, at least not in DM, while recognizing that it is the unseen or underappreciated leverage that has done the most damage in past bubbles.
Starting with basic finance, a high asset price means high expected future cash flows and/or a low discount rate (low internal rate of return). An overvaluation must thus mean that cash flow expectations are too optimistic, or that they are discounted at too low a discount rate. Over the past two years, global growth and earnings expectations have been falling, and look realistic to us. Higher asset prices can thus only come from a lower discount rate. The most important market participants in setting this discount rate are the central banks, as they set the return on cash, which is the benchmark for everything else. The US Fed is most important here, as USD assets make up half the global security universe and a number of other central banks keep their currency close to the USD and thus follow the Fed’s policy.
Other asset discount rates, or IRRs, on equities and bonds are greatly affected by the Fed, but do not seem too low to us. The charts above show the risk-return trade off line of USD assets, and the slope of this line over the past 60 years. The average risk premium of bonds and equities over cash remains one standard deviation above its historic mean, and seems high relative to our judgment of future uncertainty. But the all-in IRRs on bonds and equities can only stay low, and prices high, if the Fed holds the return on cash near zero. A view that assets are in a bubble is thus a view that the Fed is keeping interest rates too low, relative to the outlook for growth and inflation.
By our measures, global growth is set to cruise at a trend pace of near 3% over the next year. A trend-like growth rate pace does not imply that policy rates should also be at neutral, though, as the world economy continues to operate well below capacity. Our economists judge that the DM economies are operating 3% below capacity, while EM is only 0.5% below capacity. A bubble view is a view that the Fed will stay easy for too long and will then have to stamp on the brakes when growth and inflation suddenly react to easy money.
There is little in US data that suggests a serious risk of a sudden spurt in private sector growth beyond the fading in fiscal drag from the public sector. But we cannot dismiss such risk as funding is extremely easy. The best we and the Fed can do is to monitor economic conditions and to adjust strategy and policy if growth were to accelerate suddenly. Investors should continue to overweight assets whose IRRs are least dependent on easy money. That supports our strategy since mid 2009 of overweighting equities versus bonds.
Paradoxically, low growth does not contradict higher asset prices, but is at its roots, as a weak recovery induced policy easing, which boosted asset prices. This summer's taper-talk crisis highlights that a sudden spurt in growth is the biggest risk to asset reflation. A gentle grind up is our preferred scenario.
ZH: So there you have it - the biggest risks are "unseen and under-appreciated leverage" (margin debt at all-time highs, rehypothecation at extremes, ETFs enabling it) and the catalyst for a popping bubble "growth" - once again good news truly is bad news...
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But.....but......but this time is different......right? (Fat wallets make for short memories.)
Why is growth the risk? Because the FOMC Will taper, and tapering will deflate the equity bubble to real values, and here is the math and statistics of why I say this:
The correlation between the weekly (end Wed) values of the S&P500 and the total balance sheet of the Federal Reserve went from -0.66 to +0.93 for the periods pre and post QE, starting in January 2007, when I first have accurate balance sheet data.
If anybody says anything even close to: "the market increase has not been caused by the FED QE", they are lying their butts off.
Correlation is not causation, but when a change in behaviour creates a clear change in correlation, like changing the slope sign!!!! and magnitude with a p value of less than 0.0000001. The proof of lack of causation is on the other side of the table. Meaning that those who say it is not the cause, must prove it, and not the reverse! If anybody interested in the data sources or the math, send me a personal request and I will mail the spreadsheet with the links to the data sources (more than what we get in ZH).
Edit: Note:
I didn't delve into the meaning of the causal association between the FED balance sheet and the changes in the stock market, but it is clear from the historical graph that when the FED balance sheet stops growing the market subsequently crashes. So, the point is, if the FED balance sheet is not going to keep on growing at the same rate, meaning QE is an extraordinary policy, an exception, then the market is in a huge and clear bubble, if the FED balance sheet is here to stay and its growth rate is maintained and/or increased (read hyperinflation at the end of the tunnel, with deflation on the way), then the market will continue on its current trajectory, but there is NO evidence in the data that even suggests there is an intermediate stability poin
Excuse me. I'm having a little difficulty understanding part of your comment.
Please explain the part after, "Why is growth the risk?"
Thanks!
Because in the new normal bad news means more QE, and good news means less QE. But sadly we won't have good news and even if we did they would never fully stop QE anyway.
If the FED can monitor growth in the economy and "taper" to the extent (more or less) of growth in the economy, then why would growth in the economy necessarily be negative? It seems to me that all we can say is that for the foreseeable future, there may be a different weight of organic growth to monetary growth, but the aggregate would be about the same. Of course, this presumes that there is ever going to be a taper, in earnest, and if you believe so, then I've got a bridge to sell you. In short, stagnation for as far as the eye can see.
Macho you are forgetting that the market is forward looking. People would perceive real growth as negative because presumably the fed would tapper reducing liquidity in many markets, where as negative growth and continued "deflation" would imply increased monetary stimulus. Therefore the fed is in a box if they don't want to allow markets to determine price structure. The only thing the fed can do is continually increase asset purchases in order to maintain some level of positive asset price appreciation. It of course will destroy the economy but who gives a fuck.
The market is forward looking? Shouldn't it be factoring in the insolvency of the country? Demographic problems? Resource depletion? Exponential functions? The market is a just a porno theater where the trench coats go to beat off.
They are forward looking but not how should I say, understanding fully of reality. Take interest rates in relation to Central Bank asset purchases. If you had any sense at all you would not purchase bonds if you knew the central bank of said currency was going to be debasing the currency by buying bonds of the country in question. However in reality that is not the case. Instead you see an exodus when people fear for the insolvency even though that is healthy. The central bank intervenes to suppress interest rates and you get people who try to front run the central bank adding to the momentum. Hence you get people selling naturally to reach a bottom and thus find a reasonable price but instead the Central Bank destroys that mechanism and thus up becomes down, good becomes bad, and solvency is no longer a question, only Central Bank action determines price movement as it becomes the fundamental market mover, and if their goal is to pump money in the system every time the economy takes a dump then bad news is good and good news is worse.
The market might have existed in a bygone era... at present, there is no market, in any real sense of the term. A few fundamental requirements of a market are independence and conflicting interests of market participants... we lack those. All you're telling me is that the central banks intervene until the point the market no longer exists. The investment strategy then is not predicting the behavior of a broad basket of market participants, but rather predicting what uncle sugar, via the FED, will do.
To state it a different way, the market might be forward looking, but the effect of its projections is net nothing when the FED steps in to command the market in the direction it sees fit... as a result, practically speaking, the forward looking mechanism of the market is broken and, thus, it is no longer forward looking... the market doesn't exist.
PS, we've been doing the "monitor and muddle through" routine for 5 years and counting... giving you the benefit of the doubt, whatever the forward looking market decides to do is still counterbalanced by the FED. You let me know when the market wants to actually fight the tape (as best I can tell, there is nothing but capitulation on the part of the investment community).
'Sudden growth spurt'? Wow these Wall St guys must not get out in the real world much.
If there was such an observed growth spurt today, it will obviously have been staged.
And ... don't think for a second that folks don't/won't know who to blame. This time Wall Street and DC will get the pleasure of taking it on the chin.
Moral hazard is a bitch. When you fail you have to go to the back of the line. No more mulagans
Then we all have nothing to worry about..... Party on !!!
Yellen intends to bring truckloads more of alcohol and drugs once she takes charge.
Indeed, it's party on!
So they prefer low growth where the few people with money can afford to buy assets at inflated prices vs assets coming down to true market value where people people with little money and value investors can buy them. These morons are screwed up.
The growth can't accellerate because the velocity of money is declining.. We all know the reasons > QE is nothing more than a mechanism of transferring the wealth of the nation from the many to the few... So there is really NO significant chance of growth accellerating because in the advanced economies house hold income after taxes and inflation is declining for the majority of people.
Please, real growth would require that the energy available for consumption increases exponentially. This is not happening.
Oh wait, they mean growth in financial "products" of mass destruction.
Nevermind, there is no energy required to make up paper bullshit, although
one might want to hedge accordingly...
"a sudden spurt in growth" not much chance of that happening
Money worth more than ZIRP gets priced ever higher to correct the Fed's Planned Economy. Growth is the Enemy of the Fed Stalinist practices in the Great Leap Backwards.
The paradox: in a biflationary economy, both collapses and growth are bullish for stocks (hint: because the worse the collapse, the bigger the money print gift from uncle sugar). The new normal party is just getting started
Indeed, precisely why I remain long black markets and sharecropping.
In a Democracy, there are no black markets By Popular Demand.
of course, no gold either, damn canoes...
What a load of merde. JPM dickwads.
If my company makes more money because more people can afford to buy our products and we grow our business = bad for the stock market.
Does anybody else see the insanity?
"What is a bubble? Bubbles are extreme asset price inflation and overvaluations
The question is now whether markets are truly overvalued to fundamentals and whether conditions could reverse soon. We would like to say No to both."
The fundamental is financial fraud. Back out the financial fraud and what is the market really worth?
If it isn't a bubble, let the FED stop the QE, sell its porfolio back down to normal and lets see where the market fundamentally wants to be.
the key here is that a bubble encourages "malinvestment" to progress to hide previous decisions based on excessive and hubristic greed fed on strong arm Maddofish ponzi impunity of a squid type cabal, not based on organic potential of investment per se. Once you are in the scam with skin you don't want the scam to stop. And you are prepared to feed the beast; aka add oil to malinvestment embers simmering under the surface of fiat froth; in order to protect the functioning of that ever rising escalator going nowhere which is your gravy train as long as you control the market.
There worst thing that can happen is a true spark of economic growth elsewhere as that could cause a stampede from that phony escalator by other investors where YOU are all in, leaving you high and dry; the arch manipulators of the scam, the TBTF and their crony shadow banking partners.
Your skin is too deeply involved in the scam to save it from a transient spark feeding the appetite of smaller minnows in the pool.
Very tuff being a whale, to swim and survive when you risk to lose the awesome tail of your huge Moby Dick carcass.
The asset bubbles are the non-growth sugar high maintenance, do not disturb such visions of wealth while the remaining blood is siphoned away; rapture of the deep in the financial dimension, nitrogen narcosis as ZIRP narcosis.
So the FED exists not to "moderate the business cycle", but to permanently control said cycle by deciding when upturns and downturns begin and end. Sounds like a great idea, I'm sure it will work out just dandy :-)