Market Bubbles, Triggers, and Tactical Strategies

What defines a market bubble? According to Jeremy Grantham, Co-Founder of global investment powerhouse GMO, it’s when the price of an asset in relation to its real value has exceeded its average by a certain amount.

For a “major bubble”, that would mean two standard deviations were exceeded. When a bubble bursts, there is always a triggering event.  It doesn’t just kind of happen. Rather, there’s a trigger which causes investors to rethink the current market valuation, thus beginning the movement of money to the sidelines.

So what could be the next triggering event? There is currently no shortage of possibilities.  A few noteworthy examples include: a Greek exit from the European Union; growing uncertainty in the US economy coupled with overvaluation of markets, and a still-looming Federal Reserve rate hike.

At the end of the day, it doesn’t really matter what the triggering event is.  More important is the fact that stocks don’t currently offer compelling value, and neither do bonds.

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Accordingly, investors need to be a great deal more tactical, and look for investments that don’t correlate with each other and the market.  We’re talking about strategies that can make money regardless of what direction the market takes.

These strategies may not always be easily identified but one thing is certain: if you are fortunate enough to be invested in something non-correlated with a decent source of return when a correction occurs, you will have funds available that can be applied at the moment people are ready to give away stocks out of fear.

Rest assured, there will always be Greece-like worries and uncertainty.  While events like these may cause investors to pause, they are also often a trigger that pushes investors in the direction they were already headed.

The Bottom Line: Stocks and bonds are currently overvalued. The 5-7 year outlook for traditional assets is not rosy. Investing behaviour in this environment should be controlled, tactical, and methodical.

- Greg Stewart, CIO