As the Cockney Rejects sang in 1986:
"I'm forever blowing bubbles,
Pretty bubbles in the air.
I'm dreaming dreams, I'm scheming schemes…”
This is how Wikipedia defines market bubbles:
“A stock market bubble is a type of economic bubble taking place in stock markets when market participants drive stock prices above their value in relation to some system of stock valuation, Behavioral finance theory attributes stock market bubbles to cognitive biases that lead to groupthink and herd behavior.”
The key phrase here is “drive stock prices above their value in relation to some system...” — and that’s the rub. Since 2017, all the old rules need not apply. Everything has changed.
"Since 2017, all the old rules need not apply. Everything has changed."
The call for a bubble by economists, talking heads, analysts and the plethora of assorted traders and investors has just been WRONG! All except of course, the pandemic, which turned out to potentially be the buy opportunity of the decade.
So, what are some of the bubbles we are hearing about that keep so many worried and underinvested?
In no particular order, one bubble floating about is the Reddit Traders and how they are too hungry for payoffs, thereby driving up valuations well beyond even the typical “irrational exuberance.” GameStop [GME], the topic of last week’s article, soared 1,625% before falling back to a more sensible price level.
The massive amount of money sloshing about the market has given companies that are losing money the incentive to go public, with over $60bn raised last year through IPOs. In fact, many of these companies are skipping IPOs all together and seeking money from special purchase acquisition companies (SPACs), which raised $76bn in 2020 and another $16bn so far in 2021.
Then there is the Federal Reserve bubble. With the “low rates for years to come” and their archaic metrics to measure inflation letting inflation run hot, the Fed’s actions have been another concern. Add to that the stimulus money, with another $1.9trn on tap about to go into many pockets. Analysts predict that, at some point, the rising debt, ballooning money supply, low interest rates and a flat consumer price index that has little to do with the reality of how much goods and services actually cost, will eventually come back to bite everyone.
Yet another bubble is how fast stock prices have risen in comparison to the actual corporate profits. Looking at the S&P 500, since 1881, only once has the valuation been more expensive than it is now in 2021. If you guessed the dot.com bubble, congratulations!
"Looking at the S&P 500, since 1881, only once has the valuation been more expensive than it is now in 2021"
Finally, there is the bitcoin bubble. “Since the fundamental value of bitcoin is zero and would be negative if a proper carbon tax was applied to its massive polluting energy-hogging production, I predict that the current bubble will eventually end in another bust,” Nouriel Roubini wrote in the Financial Times on 9 February 2021.
What do we investors do when there are so many bubbles floating around us that we feel practically soaked before a single bubble bursts?
Simple. We watch price (the dollar amount of every index, sector ETF and other instruments) and the Economic Modern Family. This past week, the Russell 2000 [IWM] made a new all-time high. It then proceeded to digest those gains in an orderly fashion, upholding the gap higher that it began last Monday while Retail [XRT] had a harder time because in that ETF basket lives GameStop.
However, a good correction is hardly a bubble. My biggest concern coming into last week was the transportation sector [IYT]. IYT ended the week green and poised to make new all-time highs. To round out the Family, Biotechnology [IBB] and Semiconductors [SMH] both made new all-time highs and Regional Banks [KRE] scored huge gains, taking out 2-year highs.
Even bitcoin has traded more sensibly, establishing a new trading range between $40,000-$49,000. To date, bitcoin is becoming more accepted by institutional entities, and the volatility has calmed down.
Bubble? Perhaps. But for now at least, the price says otherwise. Why is that most important? Because pure price tunes out all the other noise.
“Fortune's always hiding,
I've looked everywhere,
I'm forever blowing bubbles,
Pretty bubbles in the air.”