Almost Every Single Asset Class Is Overvalued! Hardly – Here’s Why

1. Junk bond issuance at record levels
2. California house flipping is highest level since 2005
3. Issuance of CDOs at pre-crisis levels…
4. ETF inflows and
5. various technical and fundamental indicators. The main fundamental factor discussed is the decline in the growth rate of revenues.

While there may be some areas that are frothy, to claim that almost every single asset class in the world is overvalued is a bit of a stretch.

Interest rates:

Interest rates are still near record lows. Even if interest rates back up, they still have a long way to go just to reach their long term averages. In my opinion, the markets will celebrate marginally higher interest rates because the confidence and optimism that comes with the belief that things are returning to normal will outweigh the costs on slightly higher rates. I wouldn’t expect higher interest rates to be a deterrent to higher equity prices as long as the higher interest rates are a result of renewed economic strength. I think it is safe to say however that treasury bonds, especially at the 10 year maturity are over valued, and it is a mathematical certainty that they are relatively near their peak in value. Other treasuries with even lower interest rates are even closer to their peak values.

The most insightful part of the video was the discussion on the fixed income portion of portfolios. Longer term bonds represent a substantial risk to a portfolio due to their interest rate risk. As rates increase, bond prices fall. The longer the duration, the further they will fall. To compensate for this risk investors should seek out less interest rate sensitive areas of the bond market, or areas that are less correlated with the movement of the 10 year yield. While bond prices fall when interest rates increase, they increase in price with credit upgrades, and that is why credit analysis is so important during a rising rate environment. Bond upgrades offer a way to offset interest rate risk….

Equities:

Some equities may be overvalued, but to claim the markets as a whole are overvalued is a bit of a stretch, especially considering where interest rates are. Revenue growth may have slowed, and earnings may have disappointed, but I would argue that we have passed the economic inflection point, and things are more likely to improve than to worsen. We still have relatively high unemployment and excess industrial capacity, and relatively low economic growth. There is also plenty of cash on the sideline to fuel the markets higher once confidence returns. Those conditions will allow for economic growth and recovery without the fear of immediate inflation and substantially higher interest rates. Those are ideal conditions for equities IF Washington can get its act together and give the economy some confidence and direction.

Commodities:

Most commodities are well off their 2008 peaks, so claiming that commodities are overvalued is a bit of a stretch as well. Commodities typically get overvalued when economies are overheating, not sputtering to start. Oil peaked at over $140 a barrel back in 2008, and is now trading below $100 a barrel. I wouldn’t buy the argument that commodities are overvalued until we see strong economic growth, low unemployment and inflation.

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Precious Metals:

I think the best argument for an overvalued asset class is precious metals. In my opinion gold, SPDR Gold Trust (GLD), silver and iShares Silver Trust (SLV) are bets against the Fed, and the Fed is winning.

Cash:

Without inflation, I don’t see how cash can be considered an overvalued asset class. It just doesn’t make sense.

Foreign Equities:

Foreign equities may be overvalued, especially emerging markets, but that is good for the US equity markets not bad. As people reduce their foreign exposure to equities it is likely that some of that money will move to the US market.

In Conclusion

I would argue that claiming that “almost every asset class in the world is overvalued” is a bit premature. It is highly unlikely that we are at overvalued levels simply because of the extreme excess capacity that exists in the world.

One asset class that is certainly not overvalued is labor, and labor drives inflation. Without inflation, it is hard to make the case that we are overvalued on a macro scale. Sure there may be pockets of overvaluation, and bonds certainly are a concern, but to believe everything is overvalued without inflation, low unemployment or high industrial capacity utilization is a bit of a stretch. Idle capacity represents the potential for future earnings and non-inflationary growth. That is a recipe for higher asset prices, not the conditions of an overvalued market.

[Editor’s Note: The author’s views and conclusions in the above article are unaltered and no personal comments have been included to maintain the integrity of the original post. Furthermore, the views, conclusions and any recommendations offered in this article are not to be construed as an endorsement of such by the editor.]

*http://seekingalpha.com/article/1496162-trim-tabs-almost-every-single-asset-class-is-overvalued

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