The big story of the day: Goldman’s call that this is the best opportunity to buy stocks in a generation.The argument is essentially about relative value… that stocks are still really cheap to Treasuries which have gotten way too expensive.
It’s a compelling argument, with plenty of data, but the response from many has been: Hey Goldman, why didn’t you tell us this four months ago?
Well, at least one person made this EXACT argument at almost exactly the right time.
Back in Mid-August, when the market was melting down, and people were thinking that it was definitely 2008 all over again, he wrote his post: The Fat Pitch.
Remember, people were freaking out over Europe, possibility of a double dip in the US, as well as the US financial system.
Here’s what Busigin wrote, foreshadowing the argument that Goldman would make half a year later…
Equities are now cheaper than they were in 1998, or even 1987, 2002 & 2008 by measurement of Equity Risk Premium (earnings yield minus risk-free yield) of 5.86%. The last time the ERP was this large, 1975, earnings actually declined 18% while prices rose 32%. The significance of the equity risk premium is doubled with nominal rates so low: pension funds, insurance companies & other institutions require 6-8% annual returns to be solvent, and with the 30-year UST yielding a minuscule 3.54%, it is difficult to see how they can achieve this without substantial allocation to more risky assets. They buy, or have shortfalls. (I’m assuming there will be examples of both)
At the same time, the massive pressure in US Treasuries from not only domestic, but also foreign, purchasers to provide more dry powder than the S.S. Mont-Blanc parked in the Halifax habour. The relationship between equity prices and bonds is highly mean-reverting, and has provided an extremely consistent and profitable buying signal once it is stretched. The Relative Strength Index Difference between the two has been is now below -50 — something which has only happened 4 times before since 1960. In each occasion, it has posted strongly positive 1, 3, 6 & 12 month returns. Even in less extreme conditions tested, it is very reliable:
Disclosure: I consider Matt a friend of mine, and we’ve met once in real life.
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