International

Happy Monday!


When investors open notes to clients with phrases like “let there be pain”, chances are we’re in the midst of a serious market turn. And if Citi’s Robert Buckland and SocGen’s Albert Edwards are to be believed, things are going to get worse before they get better.

How much further does this year’s bear market have to run? Buckland begins by plotting a 12-month forward price-to-earnings ratio against inflation-adjusted real yields, which tend to correlate with the pace at which money is being pumped into or pulled out of markets. QE pushes up real yields and rerates equities; QT does the opposite.

With 10-year US TIPS yielding 0.3 per cent, the MSCI AC World benchmark is trading along its long-term median 12 month forward PE of 15x, Buckland says. That’s down from last year’s peak of 20x. If yields were to rise to 1 per cent, that figure would fall to around 14x.

Some stocks are more sensitive to rising bond yields than others, however. Growth investors look away now.

MSCI AC World growth minus value PE gap versus real yields © Citi Research, DataStream

At the end of last year, when real yields were close to negative 1 per cent, the gap between growth and value indices stood at 16 PE points — the former trading at 29x and the latter at 13x.

Now that real yields are around 0.3 per cent, the gap has shrunk to just 10. If real yields were to rise to 1 per cent, the gap might fall to just 5.

SocGen’s Edwards is, as ever, less restrained. His latest likens the equity bubble’s recent deflation to a Fed-engineered Ponzi scheme now collapsing in on itself as financial conditions tighten. He too thinks overvalued growth stocks in the US tech sector look especially vulnerable.

Edwards endorses veteran investor Jeremy Grantham’s view that we’re in the middle of a “fifth great bubble of the modern era”. But it isn’t the stock market that worries him. It’s housing.

the residential property bubble is a truly global event, and the US isn’t the worst offender. UBS calculates the bubbles are far worse elsewhere with, somewhat incredibly, Frankfurt being the biggest bubble of all — followed by the usual suspects. Having created an ‘everything’ bubble, we know from 2008 what path we are now headed down.

Yes, it is different this time. It is worse!

Enjoy the week.



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