Everywhere I go, people want to know what I think about the latest “hot” stocks.
Barbers, maids, and managers at supermarkets all want to tell me about their great success in this market.
Even among some of the smartest investors, you’ll hear all sorts of reasons why “this time is different,” and why stocks can only go up from here.
Even Jerome Powell, the Federal Reserve chair, said that price-to-earnings (P/E) ratios may be a little high, but that isn’t so relevant now.
But I’m here to tell you, this time is no different. Sooner or later, the bubble we’re in will find its pin… just like every bubble before it.
And if you’re in or nearing retirement, you can’t afford to ignore this warning. I’ll show you why below – along with a precaution you can take today.
Since early 2020, the markets have floated on a nearly endless pool of cash, creating historic distortions and mispricings.
Last year, the U.S.’ M1 money supply increased by 65%. (M1 measures the most liquid portion of the money supply… Think physical currency and checking accounts.)
Between November 23 and November 30 alone, it went up by $310 billion (a 5% jump).
There is no historic precedent for this. Even during the height of the crisis in March, the Federal Reserve didn’t jack up the money supply at this rate.
On the back of this liquidity, stocks have continued to climb higher, even though the economy is still reeling from the effects of the pandemic. But as regular readers know, it’s a question of when, not if, this bubble will pop.
If you’re not convinced we’re in a massive, unsustainable bubble, just take a look at the chart below. It shows the Shiller price-to-earnings (P/E) ratio, which is a good way to measure market valuations…
As you can see, the only time the market was more overvalued than today was during the dot-com bubble. Remember that after the tech bubble popped in 2000, the Nasdaq 100 dropped 78% and the S&P 500 dropped 42.5%.
Now, even though we’re not quite there yet, we’re already seeing many signs that we’re headed in the same direction. Let me explain…
For one, the frenzied buying of initial public offerings (IPOs) on Wall Street right now is even more insane than the craziness of the dot-com bubble.
Take DoorDash and Airbnb, for example, which went public last month.
The market loved the offerings. Combined, the two companies have revenue of just under $6 billion, but investors priced in a combined market valuation of roughly $145 billion at the time of the offerings.
In my 36 years of trading, I have never seen such madness. And it goes far beyond these two companies.
In the area of cloud storage and computing, consider IBM. It’s an amazing company with broad-based expertise in many areas. There is almost nothing that IBM can’t do exceptionally well once it focuses on it.
Last year, IBM had about $74 billion in revenues. Its market cap is $112 billion.
Now compare that to Snowflake, a cloud-based data warehousing company that made its debut as a public company in September.
Snowflake generated just $489 million in revenues in 2020. And yet its market cap went as high as $120 billion.
Yes, that’s right… IBM has 153 times the revenue and a remarkable corporate pedigree. And yet, last year, it was worth less than Snowflake.
I can see why Snowflake is attractive to investors. It’s in the data business, and data is indispensable in today’s digital world. Still, for a company that’s barely profitable, this is a mind-boggling performance.
But the absurdities don’t end there. There’s also the car industry…
Volkswagen, GM, Ford, BMW, Daimler and Toyota have a combined market cap of about $530 billion. Their combined revenues in the past year totaled $869 billion.
Compare that to the electric car maker Tesla. It has a market cap of roughly $719 billion, but its revenues for the past year totaled only about $28 billion.
When it comes to cars sold, Tesla barely scratches the surface compared to companies like Toyota and Volkswagen. Those two companies alone sold almost 22 million vehicles last year, versus Tesla’s target of 500,000 auto sales.
By 2025, Volkswagen will be selling about 1.5 million electric vehicles, Toyota will be selling 5.5 million electric vehicles if I count hybrids (only 500,000 pure electric cars), and Daimler will be selling 25% of its total as electric cars. (Last year they sold about 2.5 million cars.)
These numbers are scarcely believable… And I could go on and on. But I’m sure you can already see how ridiculous the relative market capitalizations are.
Fear the Greed
Certainly, superinvestor Warren Buffett would advise us to be fearful at a time like this, just as he would advise us to be risk-seeking when the market is fearful.
In fact, this sort of fantastic projection of future revenues ad infinitum is exactly what happened during the dot-com bubble. But here’s the difference…
Today, we’re seeing these whacky valuations at the same time that the economy has suffered one of its worst downturns in history. If you’re heavily invested in the markets, this makes the situation even more precarious.
Sure, the world has changed since March. Companies that facilitate remote working and learning have done extremely well. They have also demonstrated how innovative and adaptive our species can be.
But that doesn’t mean turbo-charged revenue expansion should be extrapolated indefinitely into the future. It also doesn’t mean we’ll see high enough increases in future profits to justify today’s valuations.
And yet, the Fed’s seemingly inviolable put option on the stock market is encouraging investors to pour money into stocks. People are jumping in with both feet, believing there is no real risk and that “things are different now.”
The problem is, we’ve heard similar nonsense before the bursting of every bubble.
Believers would say things like, “Our central bankers have learned their lessons and they have conquered the cyclicality of the economy.”
Or, “This time it really is different, as the bundling of millions of mortgages will diversify the portfolio and create a triple-A credit.”
Wall Street touted this last story from 2001 until 2007, made billions by selling its junk bonds, and almost cratered the entire global financial system when the reality of their garbage offerings blew up.
In fact, the forces driving the housing crisis back then were the same as the forces driving the current insanity – a crazed, greedy desire for yield.
We are still reeling from that experience, as the Fed and the European Central Bank (ECB) were forced to bail out the entire financial system with staggering amounts of liquidity.
Vicious Sell-Off Ahead
You might say, maybe this time things really are different. Maybe Jerome Powell’s printing press really can whiz along at record speed for years and years without causing any long-term economic damage.
But I doubt it.
Technology can undergo rapid changes, but the nature of human beings is slow to change. Therefore, the basic emotions of fear and greed will continue to drive our species for quite a while, just as they always have.
And, despite the Fed’s best efforts, the economy and the markets will continue to go through cycles of ebullience and depression.
That’s why, when barbers, maids, and supermarket managers tell me about their great success in the markets over the past few months, I am happy for them… but I also warn them to put trailing stop losses on their positions.
I encourage you to do the same. I can’t tell you when the repricing of stocks will come. But it will be a vicious sell-off when the bubble finally bursts.
Editor, Money Trends
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