The Riskiest Stock Market in Over a Century

By Dan Ferris

What if one year ago, you knew that over the course of 2020…

• A pandemic would shut down much of the global economy, creating the steepest economic contraction since the Great Depression.

• Thousands of restaurants and other businesses would close their doors in a matter of weeks – leaving millions of Americans unemployed and desperate.

• Everyone who could work from home would work from home for most of the year.

• There would be a huge public debate about whether the suicides and poverty in the wake of economic lockdowns were worse than the roughly 1.5 million people killed worldwide by the pandemic.

• Violent protests would occur in dozens of American towns and cities, including nearly every night for at least five months in Portland, Oregon.

• Guns and ammo would fly off the shelves. If you wanted to buy either, you would have to stand in line.

• The stock market would hit a new all-time high in late February only to plunge 34% in about one month.

• The U.S. Federal Reserve would cut its benchmark federal-funds rate by 150 basis points – effectively to zero. Then it would print roughly $3 trillion of new U.S. dollars to support the economy and the financial system.

• Congress would sign off on an unprecedented $2 trillion stimulus package – mailing personal checks directly to people’s homes.

Assuming you knew all this one year ago, what would have been your guess for the performance of various asset prices this year?

You might have guessed all those new U.S. dollars would cause gold prices to hit new all-time highs of more than $2,000 per ounce. (You would have been right.) But would you also have guessed they’d first plunge from $1,674 per ounce on March 9, 2020 to as low as $1,477 per ounce just nine days later?

Would you have guessed bitcoin would rise more than 170% since January 1, 2020, even after plunging 30% early in the year? Was bitcoin even on your radar one year ago? It was barely on mine.

And what about the stock market? Would you have guessed it would rise 64% off its March 2020 bottom? Would you have thought new all-time highs were even a remote possibility after that?

Would you have thought that despite a raging pandemic, political upheaval, and civil unrest, stocks would surge to their most expensive valuation in history – even more expensive than the 1929 and 2000 market tops?

Probably not.

I didn’t expect a devastating pandemic or sweeping global economic shutdowns. But we did demonstrate an excellent understanding of risk, without which you’d be flying blind in financial markets…

I’ve been sounding a bearish alarm about U.S. stocks since May 2017.

Now, as we close out this roller coaster of a year, the U.S. stock market is more expensive – and therefore riskier – than at any time in the past century. It’s once again time to sound that bearish alarm.

Now a wider range of outcomes for the price of a given asset can indicate higher risk. For example, there’s a much wider range of outcomes for small-cap mining stocks (0% to 1,000%) than for Treasury bonds (1.6% a year for 10-year bonds today).

The stock market has made higher highs since I got bearish… but it has also made lower lows. In other words, a wide range of outcomes occurred, indicating risk levels were as high as I told you they were back in 2017.

The more expensive stocks become, the riskier they are to own…

The U.S. stock market is more expensive now – and therefore riskier – than at any time in the past century.

The best two metrics to demonstrate how expensive stocks are today are the S&P 500 price-to-sales (“P/S”) ratio and the ratio of total U.S. market cap to U.S. gross domestic product (“GDP”).

Over the past century or so, whenever the P/S ratio has been high, the market has tended to perform poorly, sometimes for many years. At the peak of the dot-com bubble in March 2000, it was 2.3. Today, it’s 2.9.

The total market-cap-to-GDP ratio was pioneered by value guru Benjamin Graham and often cited by his prized pupil, Warren Buffett. It, too, has never been as high as it is today. It peaked at 140% in 2000 and 105% in 2007. Now it’s 195%.

We also follow the stock market valuation work of economist/asset manager John Hussman of HussmanFunds.com. He tracks five metrics, including P/S, that have all correlated negatively over the past century with subsequent 10- and 12-year S&P 500 performance. Roughly 90% of the time when they’ve been high, the S&P 500 has performed poorly for a decade.

In a recent market comment, Hussman writes…

Presently, I expect that the completion of this market cycle is likely to involve a loss in the S&P 500 on the order of 65-70%. I realize, of course, that this sounds insane. The problem is that this projection is fully in line with a century of evidence and is consistent with the extent of market losses that would be run-of-the-mill given present valuation extremes.

Hussman estimates that a portfolio of 60% S&P 500 stocks, 30% long-term Treasury bonds, and 10% Treasury bills will lose 1.7% per year for the next 12 years. He estimates the S&P 500 by itself will lose 3.6% per year for the next 12 years.

Asset manager Jeremy Grantham’s firm, GMO, has studied a couple dozen asset bubbles throughout history. It also publishes seven-year return forecasts for various asset classes. Grantham recently called the current market a “real McCoy’ bubble” and added, “It’s truly crazy.”

GMO’s seven-year annual return estimates for all U.S. equities and bonds, international large-cap equities, and international bonds are negative. Its only attractive forecast is for value stocks in emerging markets, at 9.1% per year.

Never forget, investing is a journey, not a destination… Stocks are more overvalued than at any time in the past century. Use caution, and make sure you’re holding a truly diversified portfolio.

Never forget, investing is a journey, not a destination… Stocks are more overvalued than at any time in the past century. Use caution, and make sure you’re holding a truly diversified portfolio.


Dan Ferris is the editor of Extreme Value, a monthly investment advisory that focuses on some of the safest and yet most profitable stocks in the market: great businesses trading at steep discounts. His work has been covered extensively in Barron’s and other respected news outlets.

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