Hussman Weekly Market Comment: Borrowing Returns from the Future
Two aphorisms regularly become popular during speculative periods in the market. One is the statement by John Maynard Keynes that "the market can stay irrational longer than you can remain solvent." The other is Warren Buffett's remark that "a pack of lemmings looks like a bunch of individualists compared with Wall Street once it gets a concept in its teeth."
It is widely understood that markets can experience extended periods of irrational speculation and valuation bubbles. This becomes problematic when people begin to rely on the irrationality of others as a justification for continuing to speculate, because at that point, they require the assistance of increasingly "greater fools" in order to sustain the advance. Keynes was quite right in the sense that one should never maintain a leveraged position against the market, because leveraged losses certainly do threaten solvency. But investors are not forced to accept risk just because other investors are speculating - there is no great risk in positions that accept no great risk. Moreover, investors cannot safely ignore valuations, because once valuations become rich, the returns from continuing to speculate are not easily retained even if they emerge for a while.
If actual returns did not periodically overshoot the returns that are warranted by fundamentals, we would never observe the extended periods of predictably excellent or dismal market returns that have historically corrected those overshoots. Presently, the probable outcome over the coming years leans moderately toward the "dismal" side, but nowhere as negative what we observed in 1929, 2000 or even 2007.
We have to be realistic that projected returns were actually driven to negative levels at the peaks of 1929 and 2000, so we can't rule out a further price advance that would compress projected long-term market returns to even lower levels than we observe here. Still, both of those valuation extremes were produced by multi-year periods of rapid, low-volatility economic growth, coupled with the introduction of revolutionary new technologies. A Federal Reserve policy that amounts primarily to rhetoric seems to be an awfully thin substitute at present.
