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This week, Goldman strategists Peter Oppenheimer and Matthieu Walterspiler released one of the most talked-about research reports we’ve seen in a long time making the case that stocks here represented a generational buying opportunity.They argued that even after the runup, they’re still being priced too pessimistically, and that they’re extremely cheap on a relative valuation basis… basically compared to bonds.
It’s a long report, and there are plenty of interesting ideas in there. But ultimately, after reading it, we walked away underwhelmed, thinking that the arguments could have been tighter.
The part that’s the real bummer is where they attempt to debunk four common bearish arguments, which are…
1. Lack of policy options available to support growth
2. Deleveraging leading to lower growth – the Japan story
3. The collapse in investment spending leading to lower future growth
4. Demographics: Ageing populations will reduce long-term demand
All of these are crucial issues for the years ahead, and we were eager to see them taken apart, but in the end the responses aren’t that powerful.
So for example on the first one, lack of policy options, they first acknowledge that fiscal constraints are very real, and then offer as a rebuttal just these two points:
Not all countries are tightening fiscal policy together. Indeed, many emerging economies have strong fiscal balances and foreign exchange reserves and have scope to ease fiscal policy and encourage the growth of credit in the household sector.
While fiscal policy is being tightened in many developed economies, monetary policy is still being loosened. Central banks have been proactive in accelerating non-conventional monetary easing and expanding the size of their balance sheets.
This is fairly weak sauce, as they say. Fiscal strength in emerging markets doesn’t make one feel any better about the growth situation in the US or Europe. And the fact that the central banks — against significant objections — have expanded their balance sheets like never before, is not evidence that they will continue to do so (or with the same effect).
And to that first point about emerging market government flexibility, this gets at an annoying thing they do throughout the report: They jump around from one market to another (US here, Europe there, then emerging markets) when it suits their argument.
They do it again when objecting to the deleveraging problem:
While deleveraging has led to a deflationary bias in the developed world (owing to excess capacity, particularly in the US), there are few signs of excess capacity in the EM world. Arguably the opposite is the case…. most EM countries do not have significant output gaps.
The fact that the emerging world is running at full capacity is supposed to be bullish for US stocks? Certainly in a roundabout way we can see why, as it is all connected, but the argument still seems a bit tenuous.
On the demographic point, the argument isn’t compelling either.
First they go international again, citing the global pool of 25-59 year old investors, and suggest that this population around the world might buy US equities, picking up the slack for retiring boomers, but even though don’t seem so sure whether “home bias” (the tendency of people to invest in their own domestic markets) might overcome this.
Then there’s this…
Markets are arguably efficient and, given that the demographic profile is easy to forecast, they should have adjusted to reflect this already, to some extent. At any rate, the past 20 years have been positive for the demographics of investment in many economies but this has not stopped markets from performing badly.
Ah yes, the old: “If something bad were going to happen, it would all be priced in”-argument.
Later on they devote a section the possibility of future margin crimpage, a subject that’s become really popular largely.
They make an argument that stocks are already pricing in sharply lower margins, but then you realise… they really only did the heavy lifting in this area on European stocks, brushing the US market aside.
Here they big European index, the STOXX 600:
If investors believed that the current rate of return on equity could be sustained over the next 20 years, even assuming long-term real earnings growth were to fall to 2.5% (rather than the historical average of 4%), then the market would be currently trading at around 420, around 55% higher than it is today! Put another way, for us to justify the current market price in Europe, investors must be expecting a collapse in the ROE to around 8.5%, with an annual real growth rate of just around 1% for 20 years.
What’s the equivalent assessment in the US? They just don’t say. It’s really disappointing.
The reader is left wondering whether the maths isn’t in favour of US stocks the same way, or whether they just didn’t do the numbers.
Bottom line: This isn’t the most compelling bull argument we’ve seen. The arguments jump around from the US to Europe to emerging markets when it suits the overall thesis. We doubt many US-based investors who are sceptical of the market will be convinced.
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