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In Shakespeare’s Scottish play Macbeth, three witches prophesize the protagonist’s imminent rise and fall. This week, Deutsche Bank released its mid-January survey highlighting 627 global market professionals’ feelings of the market’s current state. The survey’s arguably most somber statistic showed that 89% of respondents believe there are currently bubbles in the financial markets. As seen in previous events, we know that bubbles have dire consequences for financial markets. In particular, U.S. tech stocks and Bitcoin were the two assets that respondents believe are the most likely bubbles waiting for a correction. As of January 19th, Bitcoin has soared over 320% and the Nasdaq index is up over 43% in the past year. Due to digital currencies’ nascency, particularly Bitcoin, it is almost impossible to glean any insight from past performance.
Moreover, much of Bitcoin’s future value will be driven by its overall acceptance by financial institutions and its finite supply. Alternatively, investors have decades of Nasdaq data and have experienced market bubbles such as the Dot-com Bubble and the Global Financial Crisis. If history is our guide, the Nasdaq’s current PE ratio of approximately 26 is mild relative to a P/E ratio of 70 seen in 2006 and a fraction of its peak of 175 witnessed in 2000.¹ While a P/E ratio is not a perfect gauge for market bubbles, neither is recent strong performance. Since 1975, of the ten years that the Nasdaq has eclipsed a 30% positive return, only two of the years was the index negative the following year, 1981 and 2000.
If the Deutsche Bank survey is correct, this might be the most well-forecasted bubble in financial history, and if we have learned anything from previous financial bubbles, we know they are tough to predict. Macbeth’s witches were able to predict the future down to the smallest details with powers not held by financial market harbingers. Regardless, surveys give investors powerful insight into the mood and sentiment of financial professionals, but it is up to them to plan accordingly. Much has been learned over the past year as 2020 will remain front of mind for investors for years to come. Since the market bottom in March, many asset classes have benefited from a swift and steady rally, posting strong gains in 2020. Furthermore, the market has felt disconnected from the overall economy, which continues to struggle with the fallout of the COVID pandemic and has caused investors to question, “How long can this continue?” Driven by record-low interest rates, investors allocating to risk assets should remain mindful of future return expectations and potential volatility at current valuation levels.
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