Sure, it will take a couple of weeks to get used to the “idea” of 2011, if not the reality. The main changes with any new year, in terms of investments, are structural. Tax losses have been taken, performance numbers have been set, bonuses have been calculated, etc. It is also a time of prediction, which is always a fun game.
For me, though, it’s also a time for reflecting. I spent most of 2010 getting increasingly concerned about valuation and inter-market relationships, most important of those is the impact that currency relationships will impact other asset classes. As I turned the annual leaf, I thought I would reexamine that posture, from both a numbers perspective, but also a bigger, more conceptual perspective.
It ain’t pretty. From a valuation perspective, the equity markets are as overvalued now as they were at multiple other peak, except 2000:
- The relationship of the S&P 500 to a regression trendline (more)
- The cyclical P/E ratio using the trailing 10-year earnings as the divisor (more)
- The Q Ratio – the total price of the market divided by its replacement cost (more)
“To facilitate comparisons, I’ve adjusted the Q Ratio and P/E10 to their arithmetic mean, which I represent as zero. Thus the percentages on the vertical axis show the over/undervaluation as a percent above mean value, which I’m using as a surrogate for fair value,” said Doug.
According to this methodology, the Index is overvalued by 63%, 43% or 38%, depending on which of the three metrics you choose.
Source: dshort.com
These fundamental indicators are really bad timing mechanisms, because each of them could continue extending, but they all point to the same thing: equities are in a danger-zone.
What about treasuries? When Bill Gross, who in 2008 supported a trillion dollar deficit, now writes:
- American politicians and citizens alike have no clear vision of the costs of a seemingly perpetual trillion-dollar annual deficit.
- Policy stimulus is focused on maintaining current consumption as opposed to making the United States more competitive in the global marketplace.
- Dollar depreciation will sap the purchasing power of U.S. consumers, as well as the global valuation of dollar denominated assets.
Read the full article here.
…you know we’re seeing changes in the big money movers.
What about currencies? Currencies continue to be the main global vent. Massive currency vol is minting princes and paupers. The main strength of the US is that it isn’t Europe, which is now the global sick man. I never liked the euro and that was a bias I have carried for years; however, it never influenced my investments in European companies to the extent it does now. The euro is bound for failure, and for now, any investment in the continent will face an ever increasing currency headwind. While the world watches as the Portuguese auctions point to increasing signs of trouble, the following was completely under-reported: Hungary, Poland, and three other nations take over citizens’ pension money to make up government budget shortfalls. Who can invest in that type of environment? The answer, by the way, is only insiders.
Commodities? China? Gold? The questions will continue throughout the year, but for now the issues are similar across asset classes. Structural risk is high across the board. Governments have limited options to deal with any crisis, which means politicians will be quick to look for short-term measures.
Valuations are always top of mind, but geo-politics and currencies are the main arenas to watch in 2011.
Fixed Income/Bonds | | 
September 6, 2011 4:43 pm | 
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