Jeremy Grantham (Trades, Portfolio) is a legendary value investor and the founder of GMO LLC, which has over $20 billion worth of stocks in its equity portfolio as of the most recent 13F report. Despite being 83 years old, Grantham is still active in the stock market and is known for his bold economic predictions.
Grantham previously called the dot-com bubble of the late 90’s and the financial crisis of 2008. Now, he thinks we are in a “Super Bubble” according to a recent interview with Bloomberg, which he believes “can really wipe you out” like in 1929, referring to the great depression.
What is a Super Bubble?
According to Grantham, a standard bubble is a two-sigma statistical event, which is just a measure of how much of an outlier it is. This deviation from trend should theoretically occur every 44 years, but instead it occurs every 35 years, as “Humans are a crazy species."
I like to categorize a bubble as a state of euphoria which involves greed, “irrational exuberance” and over priced assets which are disconnected from their fundamentals. For example, the Tulip Bubble of the 17th century and the Housing Bubble of 2008 are both examples of where one specific thing was bid up to insane prices - almost completely backed by investor speculation rather than real demand.
A “Super Bubble” is an even more extreme version of this, applying to multiple asset classes, and as Grantham states, it is a rare “Three sigma event and should occur every hundred years.” However, again, as “Humans are a crazy species,” they occur two or three times more often than they should.
Why should we care?
Historically, all the prior bubbles from the dot-com bubble of the late 90’s to the housing bubble of 2008 have all ended disastrously with a major stock market crash. However, "Super bubbles can really wipe you out like in 1929, " says Grantham.
Now although stocks have historically gone up over time, when a Super Bubble comes around, there is the danger of another “Lost Decade” or more. Grantham states, “In 1929 you didn't get money back in real terms till 1954... that's a long wait... In 2000, you didn't make money back for 13 years. In Japan, they are still not back to their 1989 peak today.”
What is the evidence that we are in a Super Bubble?
The first sign of a “Super Bubble” is “crazy behavior” (in terms of irrational stock buying patterns), and there is no doubt we saw a lot of that in 2020. Thanks to the stimulus checks, student loan pauses and people stuck at home, more capital was freed up to flow through the economy, and we saw a boom in speculative trading in stocks from AMC (AMC, Financial) to GameStop (GME, Financial). In addition, we saw the rebirth of Crypto and even NFTs.
Now Grantham thinks the “Crazy Behavior” is mostly behind us and we are now in the “buy the dip” mode, or the bull trap, which is another characteristic of a bubble.
“You don't have two years of buying frenzy dying overnight typically... The Commercial Imperative is to stay bullish”
Grantham makes the comparison again to 1929 and states we “had some magnificent rallies” back then. On the financial side, Grantham points to two “super bubble” indexes, the Russell 2000, which has a "high density of flakey companies that aren't making any money," and the tech-focused Nasdaq, which also has a "high percentage of companies not making any money but it has remarkable FAANG stocks in it,” which complicates things.
Is GMO shorting the stock market?
Grantham admitted in the interview that GMO is short both the Russell 2000 and the S&P 500 and also stated he would “never short individual stocks,” perhaps referring to dangers such as the GameStop short squeeze saga as well as the general unattractive risk/reward prospects for being short any individual name.
He believes the S&P 500 could drop below the 2,500 trend line mark or even suffer a 50% decline. Given a historical perspective, Grantham states the 50% decline was fast in 1929, but the market took three years to go down during the housing bubble.
Where to invest?
Grantham believes the U.S. is at the peak of the bubble and that buying value stocks outside of the U.S. (such as in the U.K. and Japan) is the best bet moving forward. He also touted investments into venture capital as a necessity for innovation.
In the past, Grantham has also been bullish on Investing into farmland. I recently wrote a post on the best farmland REITs for those who are interested in this area.
Is Grantham a broken clock?
Grantham has been criticized in the past for being a “broken clock, which is only right twice per day," referring to those that predict stock market crashes every year until one day they are correct.
In my opinion, there is no doubt that this investor makes some great points and I don’t doubt his historical success. However, like any short seller, a pinch of salt is often very useful, and making any decisions purely from fear can be dangerous. Markets can remain irrational for longer than you think.
