Are we in a stock market bubble? Asking for Ray Dalio.
At this juncture, I’m not convinced there’s much utility in going back over the myriad arguments in favor of the notion that equities (in the US, globally, or both) are near some kind of “tipping point,” just waiting for a shove over the proverbial cliff.
This debate has raged for months, and regular readers are well apprised that I’m not particularly enamored with belabored attempts to find new superlatives or otherwise wear out the thesaurus in a quest to find novel ways of expressing the same general idea.
If you’re looking for signs of “froth” you can find them. Bitcoin hit $57,000 last week, for example, pushing its total market value beyond $1 trillion. Retail investors are increasingly prone to leveraging their collective influence to drive up shares in beleaguered enterprises, some of which have exceedingly bleak economic prospects. Small investors’ footprints are evident across markets, and that’s caused some consternation, as has the prospect that stimulus money is fueling speculation.
And so on and so forth. You’ve heard all of this. We all have.
But, Dalio weighed in Monday with a shortened version of something he published previously, and it will doubtlessly be cited by multiple media outlets, so I suppose it’s worth highlighting a few passages.
Ray reminds you that he’s “seen a lot of bubbles” and also that he’s “studied even more in history.” He also insists that “I know what I mean by a bubble.” Specifically, he notes that he “systemized it into a ‘bubble indicator'” which he “monitors” for “perspective.”
For those who may have missed it earlier this month, Dalio’s simple definition of a “bubble” is “an unsustainably high price,” and he assesses that using the following half-dozen indicators:
- How high are prices relative to traditional measures?
- Are prices discounting unsustainable conditions?
- How many new buyers (i.e., those who weren’t previously in the market) have entered the market?
- How broadly bullish is sentiment?
- Are purchases being financed by high leverage?
- Have buyers made exceptionally extended forward purchases (e.g., built inventory, contracted forward purchases, etc.) to speculate or protect themselves against future price gains?
That sounds straightforward enough. Or, actually, no it doesn’t. Because answering some of those questions requires making subjective judgments which, by virtue of being subjective, aren’t necessarily conducive to systemization.
However, Dalio says that all six of those “influences” can be “measured using a number of stats that are combined into gauges” and then those gauges “are combined into aggregate indices by security and then for the market as a whole.”
In the table (below) Ray lays it out for you, where “it” means “how the conditions stack up today for US equities in relation to past times.”
So, is it a “bubble” or not?
Well, it’s hard to say, isn’t it? Because, no matter how precise Dalio tries to make this exercise, I continue to insist that terms like “somewhat frothy” simply aren’t scientific, no matter how much math is behind them.
With that obligatory caveat, Dalio said Monday that “the aggregate bubble gauge is around the 77th percentile today for the US stock market overall.” That compares to a 100th percentile reading for both the Roaring 20s and the dot-com boom/bust.
You can take that for what it’s worth. I’m not particularly inclined to spend additional time on it.
Ray went on to say that Bridgewater “took the stocks that are in bubbles and created a basket of ‘bubble stocks’,” which the firm is “keep[ing] a close eye on.” The figure (below) just compares their performance to that of Bridgewater’s “top 500 companies.”
That may as well just be a chart of Tesla versus the S&P.
I’m not sure he meant it to be funny, but Dalio elicited a chuckle from me when he somewhat flatly noted that he remembers both the ‘Nifty Fifty’ in the early 1970s and the dot-com bubble “well,” but “can’t remember” the late 1920s “because I wasn’t alive then.”