Is this bull market just getting started?

Following a year of stark contrasts, many investors are left scratching their heads. By traditional definitions, the long bull market that started in 2009, finally came to an end in February of 2020. But the rapid recovery and the wild speculative behaviour that followed has some calling this into question. Jeremy Grantham, founder of GMO, has made a career out of correctly identifying speculative bubbles and manias, famously predicting the bust of ’07 - ’09 just before it played out. In January, he said on Livewire that he believed mere months remained before a major crash.

But Grantham's is definitely not the majority view. In Livewire’s annual Outlook Series, every manager we spoke to expressed a bullish view for 2021.

So, is this the beginning of a new bull market, or the final blow-off of the longest bull market in history? I recently reached out to four Livewire contributors for their thoughts.

Responses come from:

1. Emanuel Datt, Datt Capital
2. Anthony Murphy, Lucerne Investment Partners 
3. Andrew McAuley, Credit Suisse 
4. Simon Doyle, Schroders Australia  
   

This bull is just eight months’ old

Emanuel Datt, Datt Capital

The current short-term bull market is only eight months' old. While some market commentators claim that a long term bull market has been in place since the year 2009, in the local Australian market there have been at least three instances of the broader equity market falling by 20% (generally regarded as the indicator of a bear market) within this timeframe.

I believe much of the commentary has to do with anchoring bias and the obvious concentration of buying into the US technology sector. This has led to major US technology companies trading at very high valuations relative to historical experience and to the detriment of other sectors. In many ways, this concentration of capital in the technology sector is reflective of the belief among investors that the economy is in flux and moving towards a more digitised experience in the future.

There is also no doubt that accommodative monetary policy along with record low-interest rates has led to higher equity market valuations however, we see no immediate end to this situation. 

Three reasons the bull is long in the tooth

Anthony Murphy, Lucerne Investment Partners

The average length of the bull markets since 1932 is just 3.8 years. The bull market that started after the GFC in 2009 was in its 11th year when COVID hit. It was long in the tooth then, but it’s even longer in the tooth now. While the February to March 2020 COVID bear market may have technically marked the start of a new chapter, we consider the old bull market to now be in its 12th year for three key reasons.

• The COVID crash was precipitated by an exogenous factor (pandemic) rather than endogenous ones.
• There are numerous late-cycle signals in the market, such as the flood of IPO’s hitting the market and some valuations becoming nonsensical.
• Instead of the despondency and pessimism typical at the birth of a new bull market, investors are euphoric and have a high-risk appetite.

Nathan Rothschild once said, “buy on the sound of cannons, sell on the sound of trumpets'', and right now, all we can hear are trumpets.

While plummeting rates and QE have been significant tailwinds to the market, we now have massive new fiscal stimulus behind it as well, which is the only “silver bullet” left given rates are now on the canvas. With such strong support, the longevity of this stimulus-driven rally could be very hard to predict indeed.

We think the likeliest factor to trip it up however is when we truly understand the fallout from COVID-19. For now, companies are being propped up and insolvency businesses we speak to are the quietest they have ever been. When the stimulus programs and safety nets are removed, and we rotate from a socialistic back to a capitalist free market again, we will see which companies can stand on their own, and which of them fold. This will be when we see if this old bull still has legs or not.

Bond markets are the best indicator

Andrew McAuley, Credit Suisse Private Wealth Australia

Our view is that equity markets still have further to run based on fundamental and relative value considerations.

It is a maxim that the bond market is better at picking market turning points than equity markets. Typically, the top of an equity market peak is characterised by a flat yield curve about to steepen and low credit spreads (the difference in yield between high yield bonds and 10-year government bonds) and while we are seeing steepening of the yield curve, credit spreads are stable at historically low levels. This would normally be an early sign of a peak.

However, while Central Banks are still undertaking aggressive quantitative easing, printing money and buying bonds to keep interest rates low, then yields on equities will continue to look attractive by comparison with bonds, supporting equity valuations. We don’t expect any fundamental change to this position.

The critical factor that may change this dynamic is the role of inflation. If inflation begins to creep higher that will dampen the impact of QE and put pressure on interest rates to rise. Then we will start to see flows out of equities and into bonds.

Growth is expensive, is it value’s time to shine?

Simon Doyle, Schroders

I think we’re a fair way through the bull market. I say this on the basis that whichever way you cut it, equity valuations are on the stretched side. While this doesn’t help much in the short run, valuations do suggest that medium to long-run equity returns will be modest.

From a more bottom-up perspective, there are a lot of companies that have disconnected from reasonable earnings expectations and are trading on “fumes”, which lends weight to the overvaluation argument.

The counter-argument to this is that markets will continue to re-value because rates are so low and are unlikely to move materially higher anytime soon. While there’s clearly an element of truth in this, there are limits. 

Secondly, that all the stimulus we’ve seen to date, together with successful vaccinations, should see economies roar back to life and profits soar, meaning valuations aren’t nearly as full as they appear. This may also prove to be true, but in large part this is already in the price of many stocks.

A possible scenario is we see more subdued equity returns (not necessarily a “bear” market) but characterised by a rotation from growth to value stocks, as it’s the growth stocks that have the blue-sky prices whereas Value has been left behind.

Strategies for the bulls and the bears

With two managers on the "new bull market" side, and two more on the "old bull market," it seems this argument has not been put to rest. As the adage goes, there's two sides to every trade.

To summarise:

• Emanuel Datt told us that high prices and investor biases are giving some people the wrong impressions,
  
• Anthony Murphy pointed to three key reasons we're still in a late-stage bull market, including a flood of IPOs and nonsensical valuations,
• Andrew McAuley looked to the bond market, which suggested that there's plenty of room for markets to keep running, and
• Simon Doyle also pointed to high prices, suggesting some companies were running on fumes, but suggested poor returns, rather than a major correction, could lie ahead.
  

Whether you buy into the bull argument or the bear argument (or somewhere in between), make sure you "FOLLOW" my profile to be notified of the upcoming entries to this series. In parts two and three, each of the contributors share their views on how to allocate assets at the beginning or the end of a bull market.

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