— Jul 30, 2021


Our concerns over equity valuations, particularly in the U.S, are rising again.

Over the last twelve months the US stock market (S&P 500) has risen by 26%. This alone is eye-catching and worthy of recognition. The manner in which it has risen is also notable – it has been a smooth almost continual assent. Volatility has been unusually low again: a feature of global markets since the financial crisis. The extent of the government intervention in markets has changed the way they function and behave. Before the financial crisis markets would behave in a way that is analogous to seasons; you have good periods and bad, and sunnier stretches followed by snow. Now markets seem to do two things: months of almost ripple free accumulation, followed by thunderous collapses.

We have long advocated that the extraordinary sums of money injected into the global economy have negative externalities. It has protected against deep recessions at the cost of future growth. The system cannot clean itself when failing industries can survive on a diet of negative real interest rates.

Signs of excess are popping up everywhere.

In the US there is an investment vehicle called a SPAC (Special Purpose Acquisition Company) which is a company that has been set up by promoters with the sole hope of merging with a private company. They are often called “blank-cheque companies” because the investors in them can have no knowledge in advance of where their funds will be invested. The benefit to the private company is that it achieves a stock market listing without the need to complete an IPO prospectus, proper accounts, established corporate governance etc. It is a way to bypass due diligence and it is therefore no surprise that the SPACs attract the chancers of the investment world. There has been a boom in the issuance and acquisition of SPACs. So far in 2021, 264 new SPACs have been launched, raising $79.4bn – this is already substantially ahead of the whole of 2020.

Bitcoin, which Nassim Taleb (the academic and author of Black Swan, Skin in the Game etc.) has pronounced is worthless, continues to dominate headlines. It may have fallen by a third from it’s highs but it has still quadrupled in value over the last twelve months.

We have exploding hedge funds (Archegos) using levels of leverage that defy reason. We have non-fungible tokens that give ownership of digital assets selling for more than £50m. We have meme stocks like Gamestop and AMC propelled to ludicrous valuations by the merry men on the Robinhood trading app. We have Tesla’s share price soaring to improbable heights.

It is only at these very late stages of bull markets that those last to the party arrive. They are attracted by the stories of people making fortunes, of people taking on debt to buy cryptocurrencies and winning, they are attracted because they don’t want to miss out. Some will indeed make fortunes. The ones that sell these inflated assets and walk away. The rest are destined to lose sums of money it may take years or decades to make up for.

We steer well clear of anything remotely resembling a bubble, as they are incompatible with our objectives: to protect and grow our clients wealth. We are gradually increasing the cash we have in your portfolio. Should markets push higher we are likely to extend this caution further. If markets continue to rise then we are likely to underperform our benchmark for a period of time, but we are content with this. One of our key investment principles is that the first rule of making money is to make sure you do not lose it. Now if markets crash we cannot escape being exposed to some losses, but we can over time gradually diminish the impact it will have by taking on less risk in portfolios and accumulating more cash and defensive assets.

The earnings season (most US companies release their quarterly figures in narrow windows in the calendar and we have just been through one) in the US has been strong, but we do not believe that this is justification for hubris. There are plenty of reasons to believe that this rebound is because of restocking global supply chains and recovery from unnatural pandemic trading patterns as well as some organic growth.

We are turning more cautious.