Control Panel: Superbubble burst?

[WendyBG]

Jeremy Grantham co-founded the investment firm GMO in 1977. He’s been around basically forever.

Grantham defines ordinary bubbles as those that reach a 2 sigma deviation from trend. Superbubbles reach 2.5 sigma or greater. The true U.S. superbubbles – 2.5+ sigma events – are 1929, 2000, and 2021. Surprisingly, he didn’t mention the 2008 financial crisis as a superbubble, maybe because it was a real-estate bubble debt crisis rather than a stock market bubble crisis.

Grantham has written a paper called “ENTERING THE SUPERBUBBLE’S FINAL ACT,” August 31, 2022.
https://www.gmo.com/americas/research-library/entering-the-s…

**Executive Summary**

**Only a few market events in an investor’s career really matter, and among the most important of all are superbubbles. 1 These superbubbles are events unlike any others: while there are only a few in history for investors to study, they have clear features in common.**

**One of those features is the bear market rally after the initial derating stage of the decline but before the economy has clearly begun to deteriorate, as it always has when superbubbles burst. This in all three previous cases recovered over half the market’s initial losses, luring unwary investors back just in time for the market to turn down again, only more viciously, and the economy to weaken. This summer’s rally has so far perfectly fit the pattern....**

**The current superbubble features an unprecedentedly dangerous mix of cross-asset overvaluation (with bonds, housing, and stocks all critically overpriced and now rapidly losing momentum), commodity shock, and Fed hawkishness. Each cycle is different and unique – but every historical parallel suggests that the worst is yet to come....** [end quote]

Anyone who is heavily invested in stocks should read this article, along with Mike Shedlock’s blog post.
https://mishtalk.com/economics/if-unemployment-levels-remain…

Since we are talking about superbubbles, we should look at these charts.
https://www.multpl.com/s-p-500-pe-ratio
https://www.multpl.com/shiller-pe

The markets have finally absorbed the message of the Fed’s determination to fight inflation by raising the short-term fed funds rate and continuing Quantitative Tightening (which raises longer-term interest rates).

The recovery trend of the past few weeks has reversed. The bear market stock rally has fizzled out. VIX is rising. The Percent of S&P 100 stocks above their 200-day moving average is collapsing again.

The Fear & Greed Index has dropped into Fear. The trade is risk-off as stocks and junk bonds are dropping faster than Treasury prices. The USD is rising.

Gold, silver and copper are falling. Oil and natgas are in rising trends but gasoline prices are falling. Lumber prices are falling as rising mortgage rates are causing home construction to fall. Corn, which is part of many food products, is rising.

The Treasury yield curve has been rising for weeks. The bond market still believes that the Fed will be able to control inflation to around 2.5% over the long term, as the TIPS yield is rising in parallel with the Treasury yield.

The 10-Year Treasury Constant Maturity Minus 3-Month Treasury Constant Maturity is hovering above zero but will go negative if the Fed raises the fed funds rate to 3.5% as predicted by year end. The 10-Year Treasury Constant Maturity Minus 2-Year Treasury Constant Maturity has been negative for a couple of months, which reliably correlates with recession in a few months. The Sahm Rule indicates that the U.S. is not in a recession at this time.

The strong employment report gives the Fed confidence that they can continue to tighten as planned without plunging the economy into recession.

The METAR for next week is rainy. All asset prices (stocks, bonds, real estate, etc.) will continue to decline. There’s no reason to expect the declining trend to pause or reverse. But there’s no sign of an imminent crisis.

Wendy

https://stockcharts.com/freecharts/candleglance.html?VTI,$SP…

https://stockcharts.com/freecharts/candleglance.html?$IRX,$U…

https://stockcharts.com/freecharts/candleglance.html?$SPX,$U…

https://stockcharts.com/freecharts/candleglance.html?$GOLD,$…

https://stockcharts.com/freecharts/yieldcurve.php

https://fred.stlouisfed.org/series/T10Y3M

https://fred.stlouisfed.org/series/T10Y2Y

https://fred.stlouisfed.org/series/SAHMREALTIME

https://fred.stlouisfed.org/series/T5YIFR

[Leap1]

The strong employment report gives the Fed confidence that they can continue to tighten as planned without plunging the economy into recession.

1929, 2001, and 2021…are in the supply side econ spectrum with 1929 breaking supply side of its time in two and 2021 a holdover of supply side econ while the ship turns to demand side econ.

The 2021 echoes the normalization of the economy in 1947 to 1949 the last of the great depression down turns.

The market downturn will be long. The recession might not be that deep.

It is not easy to tell yet but Ethereum may rally from here. Ethereum is more important than Bitcoin. It will eventually be larger than Bitcoin. The cryptos simply went to hell this year. That might be ending. Ethereum’s switch over to proof of stake is between Sept 10 and Sept 20. There should be very high confidence it goes well. The debugging has been going on all along.

The bottom for the Nasdaq is in late winter 2023, the first quarter. Why? The slaughter will have been bad enough to wash away a host of sins.

[PucksFool]

What is a superbubble? Does it have defineable and measurable characteristic, or is it something that Grantham knows it when he sees it?

[jaagu]

Superbubbles reach 2.5 sigma or greater. The true U.S. superbubbles – 2.5+ sigma events – are 1929, 2000, and 2021. Surprisingly, he didn’t mention the 2008 financial crisis as a superbubble, maybe because it was a real-estate bubble debt crisis rather than a stock market bubble crisis.

==========================================

He also didn’t mention the 1970s stock market crash.

Jaak

[WendyBG]

<What is a superbubble? Does it have defineable and measurable characteristic, or is it something that Grantham knows it when he sees it? >

Read my post. Then read the article.
Wendy

[beginner3388]

Here is a link to an interview of Grantham with Morningstar, this February. His definition of 2 and 3 sigma events is in his opening few paragraphs.

https://www.morningstar.com/articles/1078923/which-super-bub…

You can check out Grantham’s website for all his newsletters.

[captainccs]

What is a superbubble?

A bubble two levels below a SUPRAbubble.

An EXObubble is out of this world.

Grantham will get there if he lives long enough.

The Captain

[PucksFool]

How did I miss reading the first paragraph of your post?

Thanks.

[PosFCF]

Wendy

I admire the work you put in to provide the board with your Control Panel information and possible ramifications.

The movie “Equalizer” has a line it something to the effect “We often make the wrong choices to end up in the right place”. I think some of that is going on now.

While the rolling last 10 year averages may be useful. One is well advised to understand the context change that is now going on. Over the last 30+ years interest rates have been largely falling. One ramification of that would be market multiples would be higher than if the rates had been flat or rising during those 30 years. If there is currently underway a shift in context (or paradigm) to rates becoming flatish or higher. Then, over time, the supportable market multiple might be far different than implied…a far lower multiple. On the way to a lower multiple, one must consider that the past points often to corrections from what is to what will be often overshoot the ‘what will be’ targets.

Also becoming a factor from Tuesday onward is that more traders are coming off of summer Holidays and thus volumes may become more clearly supportive of moves. If one equates more volume with more liquidity, then sharp moves due to low volume may become less sharp due to more liquidity.

It is a very fractured, polarized, nationalistic world. The chance for ‘accidents’ in this type of environment may be rising. Some of those ‘accidents’ may cause wild reactions in markets. Those reactions may seem to be skewed to the downside, but that isn’t the only potentiality from surprises.

Once too many people are sure enough of one side of a trade, it often turns out that they get nasty outcomes when events favoring the other side of that trade occur. I’ve read and heard that markets try to exact the most money from the most people. One proven way of doing that is to surprise the herd.

One of the hardest things (for me) to determine is what the page 16 story might be in a rising interest rate environment during what can be described as a topping of economic activity with rising rates and high levels of domestic and geopolitical uncertainty.

What will cause the US dollar to fall relative to other currencies? Currently that seems a far-fetched, not near-term, outcome. Often the same paradigm as too many people on one side of the trade. Will the action of other Central banks create competition by halting the decline of those currencies? Are German companies becoming deeply discounted value propositions for a five or so year horizon? Will they become more discounted and thus value traps (or at least tests of one’s fortitude)?

Is any part of China’s anti-Covid stringency a back-door aid for Russia (i.e. causing inflationary pressure from continued supply-side problems)? Is even wondering that a tin-foil hat moment?

I agree with your rainy forecast. The 10 year weekly and monthly charts on the indices and specific stocks seem to affirm that market psychology, as expressed in price charts, agrees with your assessment for at least the next 4 trading days.

That much consensus raises my contrarian concerns…where is the most pain likely to be garnered? Downside pressure, upside pressure, 401k contributions being cut back to meet rising rents and monthly necessities? Smart traders coming back to work taking the other side of one-way trades?

As always, grateful for all your hard work, and asking more questions as the markets and volatility play out.

Poz