Is The Market Overvalued?
You’re Asking The Wrong Question:
This will be an informal post. We don’t use slave labor and our editor is off Sundays; I had some free time and have not written much lately, so I really wanted to give some thoughts even if brief (although repetitive), this is not AP style, grammar is not perfect etc.
There have been many excellent posts on the topic lately and a fiery debate about whether CAPE is or is not a good metric. But even though I think these questions miss the point, even if they are important debates to be had. I used to do a market update monthly regarding market valuations, but I stopped sometime in 2011 or 2012. I did not stop because I was ‘wrong’ (although I may have been).
Who cares if the market is over-valued? Who is the intended readership?
Gates Capital Management's ECF Value Funds have a fantastic track record. The funds (full-name Excess Cash Flow Value Funds), which invest in an event-driven equity and credit strategy, have produced a 12.6% annualised return over the past 26 years. The funds added 7.7% overall in the second half of 2022, outperforming the 3.4% return for Read More
Like our site, I assume most sites with in depth discussions about valuations consist mostly of readers who work in the financial industry (WM, asset management, I-banking etc), and HWNIs, who understand the importance of valuation and are invested in equities.
But I think there is a much more important question to answer first before getting into market valuations. This answer will almost certainly have a clear answer of yes or no, and in most cases it will be applicable to most readers.
This is my question: Did you buy in 2008/09, what about 2003?
I am not bragging here, I manage a PA not client money. I dont have to deal with questions about how much money I made or lost in a month (except occasion ones from the wife), with redemptions etc. I was younger when tech bubble crashed and did not know anything about investing, but I bought heavily in 2008 and early 2009. It was easy in hindsight but extremely difficult in practice. Seeing your money going down significantly every day is not easy.
While a 57% drop seems bad, its much worse living it in real time. Some charts which demonstrate this point. Its not a 57% drop…..
Its more like an 18% drop….
Followed by a 30 day drop of 30%…
Followed by another 30 day drop of about 20%…
I divided it up by post Lehman and some pre Lehman and did not even cover the entire crash time period, but you get the point. However, it gets worse. If you were buying cheap stocks (some were higher beta and maybe more ‘risky’ but we wont get into that long debate now, you likely saw stocks drop more than the S&P 500. Personally, I sold Coke at $38 to buy CAT at $25 since it looked even cheaper. The cheaper stocks had drops of ~70-90%.
I argue that ‘Graham value investing’ is not applicable for 90%+ of investors. You need to have the psyche to stomach significant losses, and it is really really hard. Just a few video clips from that time, pretend you are back in time, would you be buying stocks, selling, holding? Most would not be buying except the most fanatic value investors. Watch this clip, doom and gloom all around.
Watch them before answering this question. Note: these are not the perma-bears talking but MSM.
Memories we would like to forget, right?
Furthermore, even if you do have that psyche and did buy or would buy, what if the bear market had lasted even longer? Personally, am not sure I know the answer to that question, and unless you lived through the 29 crash do you? However, one can assume if they were buying at the bottom in 09, there is a good chance they would have.
Again, even if you have the psyche, if you are managing money for others or have need for that money, you will need to keep those complicated factors in mind. You need to ask yourself if you are or might be in the same situation.
Of course, some do not care about market valuations since individual names matter not the overall market. But many have noted the obvious, that it is increasingly hard to find under-valued assets (note: although I focus on equity, this seems to be the case in many asset classes). However, even if you only care about individual names if Ford dropped to $1 tomorrow (obviously on really bad news) would you buy it? Unless you can answer yes to this question, focus your time less on market valuations and mastering your emotions.
Happy Holidays and thanks to all our readers for making this year once again a huge success.
Again, I hope I did not sound haughty, I wrote in an informal tone and am just trying to get across an important message.