‘The Results Look Pretty Bleak’

It should – and we emphasize “should” there, because there are no safe assumptions with regard to whether market participants are still capable of exhibiting any semblance of rationality – be self-evident to everyone that when asset prices are stretched, returns going forward are likely to be lower if they accrue at all. This is common sense.

Yes, bubbles have a tendency to get bigger and if there is indeed a “Greater Fool” dynamic at play in markets, well then things could certainly become even more stretched than they are currently.

That said, the more you overpay for an asset that ostensibly has something that approximates a “fair value”, it stands to reason that your upside is limited to some degree by the fact that you overpaid for it in the first place. If that is no longer a valid way to think about markets, well then “value investing” as a strategy has ceased to mean anything.

Of course as we mentioned in an amusing piece earlier this week, no one wants to be told that they’ve overpaid. No one likes buyer’s remorse. But just because it’s an uncomfortable proposition, doesn’t mean you shouldn’t make yourself aware of it. And in order to help you along, we thought we’d present the following table from Deutsche Bank which shows “what nominal and real returns could be over the next decade if assets revert back to their long-term average valuations.”

Behold: bad news…

As the bank notes, “the results generally look pretty bleak.”

And although Deutsche concedes that their methodology “has been fairly consistent through time”, they want you to understand that even if it were “updated to reflect more ‘modern thinking’” it would probably only make the results “less negative.”

Or, in other words, “it probably wouldn’t change the conclusion that on a mean reversion basis, traditional assets are generally expensive in DM countries using the US as a proxy.”

You have been warned (again) (and again) (and again).