Everyone from perma-bears to billionaires describe rising share prices over the past decade as a bubble.
I think they’re wrong, although valuations do seem high. But that’s not enough to prove we’re in a speculative frenzy for shares. I’d only make it to ‘boom’ if I was leafing through the dictionary of stock market superlatives.
I’m no bubble-denier. I began investing after the dotcom bust, and the proceeding tech bubble was one of the greats.
But I’d argue there’s a big difference between an asset class being in fashion or pricey, and it being in a bubble.
Here are four areas that look much bubblier to me than shares.
1. Bitcoin
The price of Bitcoin – the granddaddy of what’s now a family of crypto-currencies – soared from $1,000 in January to nearly $5,000 by September. And five years ago you could get one for $10!
It makes the stock market look sleepy.
Enthusiasts say this or that advance justifies Bitcoin’s vastly higher price (which recently crashed when China proposed a crackdown and JP Morgan’s Jamie Dimon called it a fraud).
But in reality nothing changed in 2017 enough to justify a four-fold return.
Bitcoin may yet be a success. The public ledger and blockchain it introduced have implications beyond finance.
I’m not saying there’s nothing to Bitcoin. I’m saying that speculation and frenzy based on ephemeral stories leads to bubble pricing.
2. Initial Coin Offerings
Most people haven’t heard of Initial Coin Offerings (ICOs). But they’ve been one of the most intriguing stories this year – and one of the most bubbly.
Very briefly, the huge return for Bitcoin owners has inspired legions of crypto-currency imitators and related start-ups. To raise dollars and pounds they can spend in the real world, they conduct ICOs – where they sell digital coins and other made-up tokens – rather than pursue funding through private equity or venture capital.
As recently as April, ICOs had raised only $100m. By August they’d pulled in $1 billion.
Again, there is something to both the concept of alternative crypto-currencies and the notion that as they proliferate start-ups may find lucrative new niches.
But some of these ICOs are little more than imaginative essays. Nobody can more than guess who will prosper or how great the success will be, so investors (or traders, or gamblers) are throwing money at the space and hoping something sticks.
The money sucked in creates its own reality, and encourages more ICOs. It’s clearly a bubble.
3. Junk bonds
It’s become routine in recent years to call the global bond market a bubble. No wonder, when top-rated government bonds have at times been priced to deliver negative yields.
Consider though that central banks have taken interest rates to 5,000-year lows. And also remember some investors such as pension funds have no choice but to own large quantities of government bonds – despite it being clear that at times holding these bonds to maturity is guaranteed to lose you money. It’s hard to describe this as a bubble.
But if we get more granular, junk bonds – or high yield bonds – seem to me different.
Nobody is compelled to own junk bonds, yet their yields have also fallen. In fact, the differential between yields on government bonds and junk bonds has touched record lows since the financial crisis. It’s similar with emerging market bonds.
I see investors chasing yield at any price (perhaps assuming they can sell later to a bigger sucker) and ignoring the greater risks.
All bonds may not be in a bubble, but the asset class has bubbly aspects.
4. House prices in Canada, Australia, and the UK
Low interest rates have also been blamed for booming property in markets as disparate as Australia, Canada, and the UK.
It’s striking that while frothy housing markets as far apart as the US and Spain collapsed after the financial crisis, prices stayed high in Australia, Canada, and major global cities, such as Toronto, Vancouver, Melbourne, Sydney, and London.
London houses have been trading at 14-times average earnings!
But price falls in London’s most expensive inner areas have begun to roll out across the capital. Toronto prices have also softened recently.
These declines have been blamed on specific regulatory interventions, such as higher property taxes. I think they may one day be seen as the start of bubbles bursting.
Toil and trouble is not always a bubble
There have been other financial assets that have looked frothy over the past few years.
In the immediate years after the crash the popularity of the so-called SWAG trade – silver, wine, art, and gold – had some people saying these assets were in a bubble. But given how calmly they deflated, I’d question that diagnosis.
Similarly, was oil in a bubble when it was priced near $120 a barrel in 2014 – before crashing to $30 two years later? While there were speculative elements driving the price of oil higher, I’d argue supply and demand explained most of the moves.
You can find elements of excess in any market. To give a leftfield example, I’ve seen at least a dozen craft beer companies seeking investment on platforms such as CrowdCube over the past year or two. But I wouldn’t call a change in taste or a fad a bubble.
If, however, you see an ICO to create digital beer tokens to fund a chain of craft beer bars in Sydney, Toronto, and London – part-financed by junk bonds – steer well clear!