Turning Keynes Inside Out
“Markets can stay irrational longer than investors can stay solvent.”
–John Maynard Keynes
In light of The Federal Reserve’s unprecedented, going-on-six-year campaign of monetary stimulus, perhaps the question to ask isn’t, “why are stocks trading at record levels?”
Rather, it’s “why aren’t stocks even higher?”
My answer: because at least some investors remember what happened the last two times the Fed encouraged too-buoyant markets — or at least did nothing to stop them.
Stock & Housing Bubbles
If you don’t recall — or would prefer not to — both stocks and homes promptly crashed in value.
Or, perhaps more accurately . . . not so promptly.
Stocks continued rising for years after then-Fed Chair Alan Greenspan’s 1996 remarks about “irrational exuberance” (the wildest appreciation came just before the end, in 1999-2000).
Similarly, while housing bears warned of froth as early as 2003, the housing market soared higher until 2006 before finally hitting the wall.
Fed Encore the Next Time
That uncertain timing is the essence of the conundrum facing prudent investors.
Namely, bubbles can persist and inflate(!) long past the point that reason might suggest.
Which shouldn’t be surprising, given that the essence of bubbles is the suspension of reason (and triumph of emotion).
The problem next time is, what new response(s) can the Fed conceive to mitigate the post-bubble damage?
See also: “Looking For Bubbles: a Statistical Approach,” Jeremy Grantham (Q1 2014 Newsletter).
