OK, come on admit it: the recent highs in the Dow have you thinking is this irrational exuberance all over again? When then Fed Chairman Alan Greenspan coined the phrase (or did he?) in December 1996 it sent markets tumbling and therein we saw a series of events which ultimately led to the Asian financial crisis of the late nineties. That is what happens in a confidence game when the floor is yanked out from underneath you. Are we looking at the same scenario in 2013? Let’s examine the evidence.
US Markets Continue Rising Despite Slow “Growth”
This is the first and most concerning sign we see, but markets rising to all time highs is not in and of itself enough of an issue to warrant a reaction but it does bear further investigation. What is of concern, however, is the lack of compelling growth numbers to justify the rise in equities prices. It is one thing after all to have markets reach all time highs, but another thing entirely when GDP growth numbers are continuing to sputter (essentially) along the zero line. In order for us to have more faith in what we’re seeing in terms of asset prices in the stock market we’ll need to see real growth from the economy – not just some manufactured EPS figures from the GAAP accountants at the S&P 500 companies, right?
Confidence Game: ZIRP and Mortgage Rates Leading to Housing Bubble Part Deux?
The second area we see as being of concern is the Fed’s continued commitment to ZIRP (Zero Interest Rate Policy). This has driven down rates on all maturities and classes of debt in the US (and also has had an impact on global rates as well). The recent return to un-sterilized debt purchases (in both the mortgage markets and treasuries) has driven down debt rates further. Published 30-year mortgage rates today are seen in the range as low as 2.5% (and a friend with modest credit recently nabbed a sub-3.5% rate the other day). Sadly, rather than the low rates making housing payments more affordable – they are instead keeping real estate prices artificially inflated. My modest income friend was offered purchasing power in excess of $300K despite the fact there is no justification for that sort of buying power being offered to people with modest incomes in modest-quality real-estate regions.
Mercifully the high available credit amounts haven’t necessarily manifested themselves in the form of spikes upward in average home sale prices (yet), but given the forces that drove the first housing bubble remain effectively in place (high available credit to modestly credit-worthy buyers) – is it unreasonable to think the bubble might start expanding again? And what happens when the Fed pulls the plug on un-sterilized QE3?
Global Economic Growth Remains Muted
Face it: Europe’s growth continues to be constrained by the Eurozone mess. Unless and until their financial / fiscal issues are resolved the largest overall economic “zone” globally will not be able to participate fully in easing the growth strain on the rest of the world. Growth will be left to emerging markets – who will be trying to increase their production by exporting to developed economies which are at best trying to avoid contraction – ie not a rosy picture for emerging economies either.
As if that wasn’t bad enough – don’t even get me started about the US Federal budget sequestration.
With all these headwinds – is it all that unreasonable to think that the recent run-up in stock prices is another round of irrational exuberance? Tell me I’m wrong.