Jeremy Grantham: U.S. House Prices ‘Might Beat The U.S. Equity Market In The Race To Cause The Next Financial Crisis’

Last night I finally got the chance to read the latest quarterly investment letter from “crash prophet” Jeremy Grantham, the British-born investment strategist and founder/former chairman of Grantham, Mayo, Van Otterloo & Co. (currently oversees $99 billion in client assets). Grantham divided up May’s installment (covering the first quarter of 2016) into two parts. Part I, “Always Cry Over Spilt Milk,” was a recap of a paper he wrote six months ago. Part II was entitled “Updates,” in which Grantham provided these investing nuggets:

The tone of the market commentators back in January, when I was writing my last quarterly letter, seemed much too pessimistic on global stock markets, particularly the U.S. market, and I said so.

This relative optimism was an unusual position for me and the snapback in these markets has validated, to a modest degree, my thinking at the time. I still believe the following: 1) that we did not then, and do not today, have the necessary conditions to say that today’s world has a bubble in any of the most important asset classes; 2) that we are unlikely, given the beliefs and practices of the U.S. Fed, to end this cycle without a bubble in the U.S. equity market or, perish the thought, in a repeat of the U.S. housing bubble; 3) the threshold for a bubble level for the U.S. market is about 2300 on the S&P 500, about 10% above current levels, and would normally require a substantially more bullish tone on the part of both individual and institutional investors; 4) it continues to seem unlikely to me that this current equity cycle will top out before the election and perhaps it will last considerably longer; and 5) the U.S. housing market, although well below 2006 highs, is nonetheless approaching a one and one-half-sigma level based on its previous history. Given the intensity of the pain we felt so recently, we might expect that such a bubble would be psychologically impossible, but the data in Exhibit 1 speaks for itself. This is a classic echo bubble – i.e., driven partly by the feeling that the substantially higher prices in 2006 (with its three-sigma bubble) somehow justify today’s merely one and one-half-sigma prices. Prices have been rising rapidly recently and at this rate will reach one and three-quarters-sigma this summer. Thus, unlikely as it may sound, in 12 to 24 months U.S. house prices – much more dangerous than inflated stock prices in my opinion – might beat the U.S. equity market in the race to cause the next financial crisis

(Editor’s note: Bold added for emphasis)

Note that bit about “the threshold for a bubble level for the U.S. market is about 2300 on the S&P 500.” 2,300 remains the same threshold from the last time I blogged about Jeremy Grantham on Survival And Prosperity (it had been 2,250 prior to this). As I type this, the S&P 500 is at 2,064.

In addition to U.S. stock and housing prices, Grantham talked about crude oil. From the newsletter:

My belief remains that a multi-year clearing price for oil would be the cost of finding a material amount of new oil. This appears to be about $65 a barrel today, and costs are drifting steadily higher as the cheapest old oil is pumped. My guess is that the price of oil will indeed be as high as $100 a barrel again within five years

(Editor’s note: Bold added for emphasis)

Once again, another insightful installment from the British “crash prophet.”

You can read the entire piece on GMO’s website here (.pdf format)

Christopher E. Hill
Survival And Prosperity (www.survivalandprosperity.com)

(Editor’s notes: Info added to “Crash Prophets” page; a qualified professional should be consulted prior to making a financial decision based on material found in this weblog. If this recommended course of action is not pursued, then it must be understood that the decision is the reader’s and the reader’s alone. The creator/Editor of this blog is not responsible for any personal liability, loss, or risk incurred as a consequence of the use and application, either directly or indirectly, of any information contained herein.)

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Survival And Prosperity
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Christopher E. Hill, Editor

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