Is the U.S. Stock Market Overvalued?

Its been an unbelievable bull market over the last few years, with this calendar year being nothing short of breathtaking.

This week, U.S. stocks have continued their upward climb, ending higher for the third straight week. Both the Dow (up 15.37% YTD), and the S&P 500 (up 14.55% YTD) closed at record highs.

First question is how long will this go on for, and one which I addressed in my article "The world is awash with money and government debt - what will happen?". The answer being, until the Fed stops its massive stimulus bond buying program thats pumping trillions into the economy. This is keeping yields at record low rates. Interestingly, Bill Gross of Pimco, said via Twitter last night in reference to the bond market that "the secular 30-year market likely ended 4/29/2013."

But is the stock market overvalued? One valuation method is a tool popularized by Yale University economist and professor Robert Shiller. Using this valuation method, the Shiller cyclically adjusted P/E ratio for the S&P 500 SPX is now 23.2, vs. the pre-bubble average of about 15. It’s only been higher on only three occasions in the past 93 years - before the 1929 crash, before the 2000 crash, and before the 2008 crash. Shiller was also one of the few respected economists that warned of a severe U.S. housing market crash.

Personally I think the stock market is overvalued. It's being driven by massive amounts of money looking for yields.

If the economic and political chatter is turned off, you can't help but feel that things should be better. The economy is flatline at best. Unemployment (including those that have "given up") is high; job creation is not keeping pace with population growth; infrastructural  and consumer spending is low, and all this is set against a backdrop of spectacularly cheap money. Things should be a lot better and they're not - yet the market is at record highs.

And for the sake of interest, great crashes have occurred in 1637, 1797, 1819, 1837, 1857, 1884, 1901, 1907, 1929, 1937, 1974, 1987, 1997, 2000 and 2008.

By Mark Crosling

The world is awash with money and government debt - what will happen?

The world is awash with money. Whether it be the Fed's QE program; or Japan’s aggressive monetary easing (known as Abenomics); or the Bank of England's asset purchase program; or keeping the ship afloat in Europe - the fact is that massive amounts of money is being printed.

This has the effect of debasing those respective countries currencies. The immediate result is an export competitive advantage, which although true, the flow on effect in reality is the importation of inflation. As well, there are consequences for countries that aren't printing.

Those countries that are not debasing or printing money are at a disadvantage, most noticeably the relative increase in value of their own currency. This makes their exports more expensive and hence less competitive.

If they're not debasing their currency at the same rate as their trading partners, their course of action is to cut interest rates. Today South Korea announced a cut in interest rates after Australia did yesterday and India earlier this week. Money actually has never been so cheap.

Unfortunately, money at close to zero interest rates, hasn't lead to economic prosperity; the creation of jobs; the building of factories & infrastructure; or just plain increase in consumer spending and confidence.

What it has done is led to the creation of many asset bubbles across the globe that stretch from housing in New Zealand to the US Midwest’s Corn Belt farmland (up 30% in 2012), and everything in between (latest art auctions come to mind).

Then there are the two major global markets. The Bond market that reflects ever higher prices due to the low yields; and of course the stock market, which if you listen to the majority of commentators, is good value buying at these prices. [These same words were probably uttered during the Dutch Tulip Mania that peaked in March 1637].

How long will this go on for? In the film "Margin Call", Jeremy Irons eloquently used the expression "when the music stops", referring to the 2008 US subprime mortgage crises which warped immediately into the Global Financial Crisis. 

The answer to when the music stops, is when the global central banks stop their asset and debt buying programs. It is a certainty that will happen, the only question is just when. What will be left, however, is an enormous unthinkable amount of global debt and an economic crisis that will be far far worse than 2008.

By Mark Crosling

Money Chasing ever Lower Yields for the "safety" of Government Securities

Yesterday Bloomberg Businessweek published an article by Robin Farzad "Money for Nothing - Bonds, Bonds Everywhere and Not a Drop to Yield".

Bottom line, there is a world awash with government securities that are so keenly sought that for the most part the Yields are less than 1%. In fact almost $20 trillion of government securities are below 1 percent, according to Bank of America data.

This money, helped by excessive currency printing by the US and Japan, is seeking a return on funds (a yield) in the belief that there is relative safety in government backed bonds.

Southern European countries, with massive unemployment and negative growth such as Italy and Spain have 10YR Yields at 3.88% and 4.11% respectively which is well off their highs only 6 months ago. In that 6 month period, nothing has dramatically changed in Europe and indeed has got worse. Yet money, or hot money as its known, is flowing into all different sorts of government securities, resulting in a higher bond prices and hence lower yields.

Some more extreme examples would be Rwanda's $400 million 10 year bonds at 6.875%. This country, less than 20 years ago was a failed, genocide-torn state. Then there's Zambia $750 million bond sale last fall at just 5.625% - they are now ready to offer as much as $1 billion in debt.

There will come a time when this flow of funds seeking the perceived safety of   government securities will stop. 

Japan's "Abenomics" will have run its course and the Fed's QE "infinity" will be wound back or down. At that point, the exit in the bond markets will be very narrow - like pin-hole narrow.

I ask one question: Would you lend Uncle Sam your savings for 10 years at 1.67% per annum?

By Mark Crosling