Jeremy Grantham is surprisingly bullish!
In his latest quarterly outlook, Grantham, cofounder and chief investment officer at GMO, outlines his views on the markets and the economy.
And in somewhat of a contrast to his recent commentary, sees the oil crash as a big tailwind for the economy and doesn’t think the stock market, though it is expensive and potentially heading into a bear market, is going to crash.
“Looking to 2016, we can agree that uncertainties are above average,” Grantham writes.
“But I think the global economy and the U.S. in particular will do better than the bears believe it will because they appear to underestimate the slow-burning but huge positive of much-reduced resource prices in the U.S. and the availability of capacity both in labour and machinery.”
Grantham adds (emphasis ours):
As always, though, prudent investors should ignore historical niceties like these and invest according to GMO’s rather depressing 7-year forecast. The U.S. equity market, although not in bubble territory, is very overpriced (+50% to 60%) and the outlook for fixed income is dismal.
At current asset prices no pension fund requirements can be met. Thus, we should welcome a major market break that will leave us with more reasonable investment growth potential for the longer term, but I suspect that we will have to wait patiently for such a major decline.
The ability of the market to hurt eager bears some more is probably not exhausted. I still believe that, with the help of the Fed and its allies, the U.S. market will rally once again to become a fully-fledged bubble before it breaks. That is, after all, the logical outcome of a Fed policy that stimulates and overestimates some more until, finally, some strut in the complicated economic structure snaps. Good luck in 2016.
OK, so maybe not bullish, per se, but Grantham is definitely sounding the alarm on not sounding the alarm on a stock market bubble and resulting crash.
Over the last 18 months, stocks are basically flat in what has been by far the most difficult period for investors since the financial crisis.
And this period has really been defined by three things: a crash in oil prices, a continued and relentless slowing of the Chinese economy, and a change in Federal Reserve policy.
On top of all this is the decline in profit margins, which Grantham has called the “most mean-reverting series in finance,” implying that the long period of elevated margins we’ve seen from American corporations is most certainly going to come an end. And soon.
In Grantham’s view the Fed holding off on raising rates all the way until December 2015 staved off what could have been a really disastrous year for stocks given the weakness in oil prices and anxiety over China’s economy.
And continued assistance from the Fed is likely to send stocks higher, or at least stabilise them somewhat.
The question, then, is whether this sends stocks into a “blow-off-top” where, as Grantham outlines, you’d expect to see a two-standard-deviation event with stocks rocketing higher and the S&P 500 heading to 2,300 before the big crash.
“I must admit to feeling nervous for this year’s equity outlook in the U.S,” Grantham writes. “But I am not entirely convinced. Sure, we can have a regular bear market. That is always the case. But the BIG ONE? I doubt it.”
In addition to not being (overly) concerned with the prospects of a new stock market crash, Grantham also thinks we’re about to see the good side of the oil crash that has been a long-awaited part of the US economic narrative in the last year.
“The largest hits from the major oil company responses are behind us, although at $30/barrel (and maybe less) there will be some further retrenchment,” Grantham writes.
He adds: “And now comes the matching response from us, the consumers.
Everything we buy has cheaper input costs. The major item of gasoline purchases is a steady jolt of encouragement. Heating bills are also much lower.
Could there be a better financial input than this to the group that has been hurting for 30 years — the median wage earner? Not easily.”
This is good!
Everything, it seems, is getting cheaper, and according to the latest data out of the BLS released Friday, our paychecks are getting bigger as average hourly wages grew 2.5% over last year in January, roughly matching the largest increase of the current economic cycle (December’s gains were revised higher to show annual growth of 2.7%.)
But Grantham goes a step beyond the standard, “Low oil means more spending for consumers” line of thinking (which is why he’s one our favourite market thinkers to track).
Grantham further argues that increasing commodity prices, as much as anything else, have been and will be factors ahead of recessions.
Because while 2008 was all about the crash in housing and the stress at major banks, the rapid rise in oil prices and other commodities stressed consumers as much as anything else, in Grantham’s view.
And just as this rise was overlooked eight years ago, the crash in prices and the delayed — but positive — feedback to consumers and the economy has been forgotten by the market.
But the benefits are coming. Now.
“Market opinion now, though, impressed with the early negatives that it should have expected and because the offsetting stimulus effect is delayed and weakened initially by some understandable increases in savings, is doing the opposite,” Grantham writes.
“[The market] is underrating what will very likely become an important economic tailwind for the next several quarters. Reflecting current opinion, Luke Kawa, a writer for Bloomberg reviewing the oil situation claims, ‘One of the biggest surprises in economics has been how the world responded to a period of lower energy prices.’ Well, the economic world is easily surprised.”