Another week, another warning that stock markets are looking frothy. In June, the Bank for International Settlements, an organisation of central banks, highlighted the “puzzling disconnect between the markets’ buoyancy and underlying economic developments globally”. Last week, the Institute of International Finance (IIF) did the same. Such warnings have become more frequent in recent months.
The gap between the fundamentals and the performance of equities is worrying. Bank of America Merrill Lynch (BAML) notes that, since March 2009, world stocks have jumped by 190%, but US GDP is up just 18%.
The problem is the inevitable hangover after a credit boom and bust. Companies and households have been concentrating on paying their pre-crisis debt loads down. The printed central-bank money intended to boost the economy remains “trapped in Wall Street to the benefit of equity prices”. With plenty of cash still parked on the sidelines, further gains are likely, says BAML.
But eventually there will be a setback – perhaps caused by signs that interest rates will have to go up faster than expected, thanks to rising inflation. Investors know this, says Jeremy Warner on Telegraph.co.uk, yet they keep riding the rally.
They’re not delusional. “It’s just that years of central-bank money printing has compressed returns to a point where there is nowhere else to put your cash. There are few good alternatives to buying poor value for money. This bizarre state of affairs is almost bound to end badly. The only question is how badly and when.”