Jeremy Grantham: “Fair value on the S&P is 860″

Tuesday, October 27th, 2009

Jeremy Grantham has become a familiar and very popular face on this site. For those treasuring his insight, wisdom and prescient calls, the co-founder and chief investment strategist of Boston-based GMO has just published the October edition of his quarterly newsletter entitled “Just desserts and markets being silly again”.

Before quoting from the report, Grantham recently put matters into perspective in a Kiplinger article, saying: “The recent rally has been very speculative, favoring risky assets over the past few months. I’m sorry if you missed investing at the market’s March lows, but don’t compound the damage to your portfolio by chasing gains in risky assets. We’re at the beginning of a seven-year period of lean returns. You should only be buying the highest-quality blue-chip com­panies, where valuations are most attractive.”

Here are a few excerpts from the Grantham’s newsletter.

“Corporate ex-financials profit margins remain above average and, if I am right about the coming seven lean years, we will soon enough look back nostalgically at such high profits. Price/earnings ratios, adjusted for even normal margins, are also significantly above fair value after the rally. Fair value on the S&P is now about 860 (fair value has declined steadily as the accounting smoke clears from the wreckage and there are still, perhaps, some smoldering embers). This places today’s market (October 19) at almost 25% overpriced, and on a seven-year horizon would move our normal forecast of 5.7% real down by more than 3% a year. Doesn’t it seem odd that we would be measurably overpriced once again, given that we face a seven-year future that almost everyone agrees will be tougher than normal?

“Price … does matter eventually, and what will stop this market (my blind guess is in the first few months of next year) is a combination of two factors. First, the disappointing economic and financial data that will begin to show the intractably long-term nature of some of our problems, particularly pressure on profit margins as the quick fix of short-term labor cuts fades away. Second, the slow gravitational pull of value as US stocks reach +30-35% overpricing in the face of an extended difficult environment.

“It is hard for me to see what will stop the charge to risk-taking this year. With the near universality of the feeling of being left behind in reinvesting, it is nerve-wracking for us prudent investors to contemplate the odds of the market rushing past my earlier prediction of 1,100. It can certainly happen. Conversely, I have some modest hopes for a collective sensible resistance to the current Fed plot to have us all borrow and speculate again. I would still guess (a well-informed guess, I hope) that before next year is out, the market will drop painfully from current levels. ‘Painfully’ is arbitrarily deemed by me to start at -15%. My guess, though, is that the US market will drop below fair value, which is a 22% decline (from the S&P 500 level of 1,098 on October 19).

“Unlike the really tough bears, though, I see no need for a new low. I think the history books will be happy enough with the 666 of last February.”

Click here for the full report on Grantham’s reasoning for his cautious stance.

Source: Jeremy Grantham, GMO, October 2009.

Tags: Chief Investment Strategist, Co Founder, Desserts, Excerpts, Gmo, Guess, Horizon, Jeremy Grantham, Lean Years, Lows, October 19, Panies, Price Earnings Ratios, Profit Margins, Quarterly Newsletter, Rally, Risky Assets, S Market, Valuations, Wreckage
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Meredith Whitney: Banking Sector Outlook Less Optimistic

Monday, September 14th, 2009

Meredith Whitney says economic and banking fundamentals in the US have not changed in the last year. Whitney sounds less optimistic now than when she upgraded Goldman a few months ago.

Click play to view:
Part 1:

Part 2:

Whitney made the following points:

“No bank underwrote a loan with 10 percent unemployment on the horizon”.

“I think there is no doubt that home prices will go down dramatically from here, it’s just a question of when.”

She said local governments and states are chronically under-funded and “most states are under water,” adding to the problem of low private consumption.

“If you look at the drivers for unemployment I don’t see that reversing very soon,” Whitney said.

If consumers were to decide to spend, “that would be a game-changer,” but it would be an unnatural thing to do in a recession, she said.

“A lot of themes are constant, which is the US consumer and the small business doesn’t have any credit, credit is still contracting.” Whitney said.

Consumer debt and consumer credit have dropped according to the latest figures which also show that people have been spending more from their debit cards than from their credit cards.

“Obviously that doesn’t bode well for spending,” Whitney said.

Whitney maintains only one buy rating - GS - Goldman Sachs still has a lot of “gas in the tank” and it is taking up a lot of what Lehman left on the table.

“Banks are taking advantage of what the government is doing by artificially inflating asset prices so they can ride a steep yield curve and they’re going to have a third quarter that reflects that.”

The buy rating on GS is a reminder that PIMCO’s advice to “shake hands with the government,” and the ‘new normal,” remain significant themes in this market.

Source: CNBC.com, September 10, 2009

Tags: Asset Prices, Banking Sector, Banks, Cnbc, Consumer Credit, Consumer Debt, Consumers, Credit Cards, Debit Cards, Gold, Goldman, Goldman Sachs, Horizon, Lehman, Local Governments, Market Source, Meredith Whitney, No Doubt, Private Consumption, Recession, Reminder, Sector Outlook, Sounds, Unemployment, Yield Curve
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Reasons to be bullish the commodity complex

Friday, May 1st, 2009

BCA Research published this note on commodities on April 28, 2009:

There are a number of reasons to have a bullish bias on the commodity complex even though many prices are off the bottom.

First, China will be able to dampen its dependence on the U.S. consumer on a 6-12 month horizon: the authorities have aggressively stimulated monetary policy, have pressured banks to lend, have purchased “strategic” commodities and have ramped up infrastructure spending.

Second, global and U.S. demand indicators that correlate closely with base metal prices are showing signs of bottoming, albeit at depressed levels. The message is that destocking may have hit an extreme and the pace of the demand meltdown is due for at least a reprieve.

Third, supply constraints remain as structurally bullish as before the meltdown for many commodities. Fourth, excesses in the financial demand for commodities have wound down. Speculators remain net long commodity futures, but to a lesser extent than in late 2007/early 2008. Overall open interest is back down to pre-2006 euphoria levels.

Finally, the U.S. dollar is topping out, although it may well be a broad top, rather than a severe decline. Nevertheless, any global relief rally would prompt capital to shift to emerging and commodity currencies, at the expense of the greenback. Bottom line: Investors should continue to selectively accumulate risk in the commodity complex.

BCA Research published this daily note on April 28, 2009.

Tags: Bca Research, Bias, Bottom Line, Broad Top, Commodities, Commodity Futures, Commodity Research, Decline, Demand Indicators, Dependence, Depressed Levels, Euphoria, Excesses, Global Relief, Greenback, Horizon, Meltdown, Monetary Policy, Open Interest, Reprieve, Speculators, Supply Constraints
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