The HS Dent Financial Blog

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Funding Another Bubble - What Choice Do We Have?

In the 1990s we were educating people about the very predictable spending patterns of consumers and how, when coupled with the huge number of people at their peak in spending, this would cause massive consumption that would last through the 2000s.  Our view was that this party would come to an end around 2008-2010.  So far, so good.  As consumption drove corporate earnings and employment, those who were investing had to find a home for their dollars.  The explosion in self-directed retirement (Keogh, Profit Sharing, IRA, 401k, etc.) created bigger pools of dollars to be allocated, and the low interest rates of the era made bonds particularly unattractive.  Stocks exploded to the upside.

What we did not expect was that once the US stock market showed its dark side in the tech bubble and crash of 2000-2002, the asset bubble in the US would find what seemed to be safer ground - housing, and then later on commodities and some international venues - leaving US equities to more or less languish for the rest of the decade.  Even though US equties performed poorly, there was still a tremendous bucket of investment assets looking for an outlet that had promising returns.  After the crash of 2008-2009 we have all gotten religion about housing.  Many are wary of commodities after the drubbing they took late last year and this spring.  But we still must invest.  We are compelled to find a place to put those assets that we are saving for tomorrow.  As US equities rise and the Fed pursues its Zero Interest Rate Policy (ZIRP), we are seeing more funds flow into stocks.  With the onslaught of ETFs that are based on commodities and foreign markets, these areas are seeing tremendous inflows as well. 

It is hard to make a case that this level of investment is warranted.  For all of the talk of a rebounding economy, so far it is speculation of a bottom and ensuing move higher.  But the markets have already priced in a substantial rebound, acting like the forward indicator that so many say it is.   What happens if this turns out to be wrong?  Where do the funds go next?

We don’t have experience with this one; we are breaking new ground.  Never has there been a time when so much accumulated wealth could move so quickly among investment choices.  If we are correct in forecasting an extended period of slack global demand, which in turn would mean paltry earnings for financial securities, where will capital fly to next in the great chase for returns?  Cash is not a very attractive alternative if your future depends on earning 7-8% per year.  This question will haunt us as individuals, and many professionals as pension managers, in the years to come.

Of course the problem with bubbles is that no one knows exactly when they will end, so in order to remain competitive many people participate even though they are wary of the fundamentals.  I’d imagine that many of us fall into just this category.   I think the key is to remain as flexible as possible, willing to protect your investments at a moment’s notice.  Investing has just gotten much harder than it was for the last 25 years.