The Strategic Investment Conference 2018 kicked off in San Diego with a keynote speech from David Rosenberg of Gluskin Sheff titled, “Year of the Dog: Will It Bark or Bite?” (Spoiler: The latter). Rosenberg began by running through a list of his own metrics: forward P/E, price/sales, price/book value, enterprise value/EBITDA. Not surprisingly, and as shown here previously, all of them pointed to record-high valuations.
Looking at normalized charts over time, they’re now at the 83rd percentile or higher. Price/sales is at the 99th percentile. The bottom line: it’s an ugly picture if you are looking for value in equities.
Rosenberg shared a scary quote from Howard Marks:
“Most valuation parameters are either the richest ever or among the highest in history. In the past, levels like these were followed by downturns. Thus a decision to invest today has to rely on the belief that ‘it’s different this time.’ I’m convinced the easy money has been made.”
Rosenberg pointed out that even the Fed admits that valuations are high. Our policymakers themselves believe this can’t continue for long. In fact, the Shiller CAPE ratio now stands at its second-highest level in decades. History shows that high P/E ratios are usually followed by years of low returns in equities. In fact, even the San Francisco Fed now predicts that equity returns over the next decade will be, at best, 0%, to wit:
Current valuation ratios for households and businesses are high relative to historical benchmarks. Extending the analysis by Campbell and Shiller (1996), we find that the current price-to-earnings ratio predicts approximately zero growth in real equity prices over the next 10 years.
Later, Rosenberg moved on to monetary policy and picked up on the Federal Reserve’s 2% inflation policy. To paraphrase:
“On what planet does 2% annual inflation constitute price stability? Prices can’t be rising and stable at the same time. This makes no sense. Furthermore, why 2%? Why not 1%? Whatever the inflation target, the Fed has proven unable to hit it, so maybe it’s time to rethink this whole idea.”
Rosenberg also pointed out that the composition of the Federal Open Market Committee had vastly shifted since 2017. At the beginning of 2017, there were no hawks in that group. Between departures, additions, and voting rotation, now it’s four hawks, one dove, and one unknown, by Rosenberg’s assessment. This should not comfort anyone who hopes the Fed will pull back on tightening and balance sheet roll-offs.
The Gluskin-Sheff strategist revealed that he’s been de-risking and it’s time to be very careful about exposure to emerging markets. He thinks investors must have a strong theme behind views on emerging markets, as he sees concerns on several fronts.
Credit Shows Warning Signals
Rosenberg then shifted to what is one of the biggest recession threats to be observed in this late-cycle behavior by looking at the erosion in credit quality as one of the warning signals, something we noted two weeks ago in "This Is Where The Next US Debt Crisis Is Hiding"
He also stressed that former big buyers of corporate debt have started to “pull back.” Although profound, this trend has not received proper attention among investors.
The situation on the retail side isn’t better either. Rosenberg pointed out that consumers begin to struggle to make credit card payments.
He quoted new Fed chair Jerome Powell as saying that we are encouraging risk-taking too much. One of Powell’s primary concerns is that more accommodative policy could undermine financial stability. In fact, Rosenberg brought to mind one of the key quotes from Powell which Zero Hedge first uncovered in the 2012 FOMC transcripts, in which the new Fed Chair said that we are at the point of encouraging risk-taking.
The most stunning thing a Fed chair has ever admitted. Jerome Powell, Oct. 2012 pic.twitter.com/lIw37txSL6— zerohedge (@zerohedge) January 5, 2018
One of Powell’s primary concerns is that more accommodative policy could lead to frothy financial conditions and eventually undermine financial stability. And yet, his predecessor Janet Yellen saw no “red flags” regarding financial stability.
And yet, his predecessor Janet Yellen saw no “red flags” regarding financial stability, and no major crisis "during her lifetime"...
Putting it all together a week-old tweet from Rosenberg summarized it best: "Hmmm. Let's see. Tariffs. Sharp bond selloff. Weak dollar policy. Massive twin deficits. New Fed Chairman. Cyclical inflationary pressures. Overvalued stock markets. Heightened volatility. Sounds eerily familiar (from someone who started his career on October 19th, 1987!)."
Hmmm. Let's see. Tariffs. Sharp bond selloff. Weak dollar policy. Massive twin deficits. New Fed Chairman. Cyclical inflationary pressures. Overvalued stock markets. Heightened volatility. Sounds eerily familiar (from someone who started his career on October 19th, 1987!).— David Rosenberg (@EconguyRosie) March 1, 2018
Get other live updates from David Rosenberg and other participants at the Strategic Investment Conference 2018 at the following link