Market Risks that Wall Street is Overlooking
The stock market just keeps on rising, and has been on that course (overall) for almost 10 years now. New records are set almost daily, and while this looks good on the surface, high valuations, soaring debt levels, and geopolitical uncertainty are all lurking down below.
Today's article was inspired by an interview I recently read on Business Insider, which discussed Wall Street concerns with the head of First Eagle Global Value Fund. Lately, the firm (whose fund is up 8.5% year-to-date) has been much more cautious than the typical Wall Street firm and when asked why, these were just a few of the reasons they gave...
1) An Absence of Bargains - while there are some companies here and there that present obvious opportunities for growth, lately the market has not been showing a lot of bargains in the form of stocks that one can buy at the bottom. Individuals are either selling shares, or riding the wave higher each day.
2) Valuations Are Sky-High - when looking for undervalued companies, valuation metrics are key and these levels remain crazy high today. The market has gone from 10 times trailing peak earnings in 2009 to more than 20 times trailing peak earnings in 2017! Not to mention risk and asset pricing are also inflating.
3) Skyrocketing Debt Levels - the world has more debt today than it did prior to the crash in 2007. Globally, household debt plus corporate debt plus sovereign debt-to-GDP levels are WAY higher than in 2007. This is scary because there's a lot of vulnerability in the global financial system, as one domino could send everything tumbling down even worse than before. No one seemed to learn the lesson of sovereign debts when it came to places like Greece, Spain, Italy, etc. -- imagine that but worse.
4) The Kind of Debts Being Accrued - Not all debt is bad debt. In the late 1990s, there was a lot of issuance of corporate debt, and as many recall, this led to the blow-up of WorldCom and Enron and a high-yield crisis. In the mid-2000s the excess in debt was in the residential real-estate sector, and we had a blowout in spreads, and real-estate prices came down, which ultimately led to the global financial crisis. Unfortunately, today, by and large, the excess debt is now in the sovereign sector, which is very different because sovereigns can do something that corporations and individuals can't do: They can print money. As a result, excessive sovereign debt has resulted in very low interest rates, and when there are interest rates that are low relative to the rate of growth of the economy, deleveraging can occur (i.e. paying off debts), but we've yet to see the deleveraging.
5) Issues with Debt are Not Unique to the United States - in fact, debt levels at China are becoming somewhat alarming. Over the last 15 years, there was a major credit boom in China, the money supply has grown to more than the US in US dollar terms and so did fixed-capital investments. China was the key marginal driver of global growth over the last 10 to 15 years and yet, now it has imbalances as a result of that growth. There's more sovereign risk than ever before and the Chinese need to seek an adjustment.
6) Gold doesn't seem to matter much as a defense - While many investors had been buying gold on weakness in recent years, it really has much the same defense value as cash nowadays. Hedge funds are increasing cash levels in their portfolios ahead of trying times, while similarly about 10% of their portfolios are in metals like gold, namely because they stocked-up in weak times.