Warning signs at the punchbowl
"Tapering" was the culprit for last week's 11 per cent rout on the Nikkei and a 4 per cent slide in the local share index.
Some poor numbers out of China didn't help either, but it was the sheer dread that the chairman of the US Federal Reserve, Ben Bernanke, might be impudent enough to whisk away the punchbowl that really spooked the punters.
The punchbowl is "QE" - or quantitative easing, another superlative euphemism that means the US government has been busy buying its own debts to the tune of $85 billion a month. The mere suggestion that this money-printing program might be "tapered" by some indeterminate amount and at some indeterminate time was enough to send markets into a tailspin.
The tailspin was merely a reality check in a bubble-market bull run. Yet the savage reaction every time there is a hint that QE might end seems enough to dissuade policy makers from ever stopping the presses.
If they called it "printing money" instead of QE, Wall Street might not have been scaling "fresh record highs" for the past few months. Share valuations, both in the US and here, look too high vis-a-vis economic fundamentals.
This reporter is not averse to pointing out when the market represents good value, as we noted last July when the ASX 200 was around 4100 points.
It has since put on 1100 points, then it handed back 200 this month. For investors, the easy 20 per cent gain has gone. It has already been made.
Australian shares have risen about 9 per cent a year for the past 20 years, on an accumulated basis counting fully franked dividends and ignoring transaction costs.
But this has been fuelled by a historic rise in household debt, indeed global debt, which is no longer sustainable.
So valuations are stretched. We now have bank PE ratios at 12 to 15 times 2013 earnings (ANZ at 12 and CBA at 15). Granted, banks are now explicitly backed by government, but the traditional bank multiple used to be closer to 11 times.
Consumer services stocks such as Invocare, Crown and Dominos Pizza are trading on PERs above 20. Perennial blue chip performers Coke, Origin and Amcor are changing hands on 17x, 19x and 20x respectively and premium healthcare offerings CSL and Cochlear trade on 24x.
Resources giants Rio Tinto and BHP are above long-term multiples too, at 11x and 14x 2013 earnings despite the pull-back in demand from China and commodities' deteriorating outlook.
Overall, the market PE ratio is 17x, just too high to be justified by the fundamentals, let alone factoring in the time bomb of QE.
Money printing, which has also been going on furiously in Britain and Japan, may well have fired up markets, but its ultimate purpose had been to fire up the economy and create jobs. So, while financial markets have quickly become addicted to the punchbowl, growth is still faltering and slow, even five years out from the financial crisis. In recent weeks, US jobless claims have been on the rise.
The Fed's monumental injection of cash was supposed to have led companies to expand and create jobs. But rather than spending money on new plants, many are buying back their own stock and issuing special dividends. Some $US102 billion has been sent offshore to boot.
This has been great for Wall Street, great for shareholders, and terrific for executives and their bonuses. But the trickle-down has been a big disappointment.
For now, we are stuck with a global economic policy that is barely working and for which there seems no credible alternative, and no way out without a monumental market meltdown.
Frequently Asked Questions about this Article…
Tapering refers to the suggestion that central banks might start winding back quantitative easing (QE). In the article QE is described as the Fed buying government debt (about US$85 billion a month). Even hints that the Fed might reduce or "taper" that program have spooked markets, triggering big sell-offs like the recent rout on the Nikkei and a slide in the local share index.
According to the article, QE and other money‑printing programs helped push share prices to fresh highs but left valuations stretched. The market PE ratio is around 17x, which the author says is too high relative to economic fundamentals and the longer‑term outlook — a sign markets may be overvalued.
The article cites bank price‑to‑earnings multiples of about 12 to 15 times 2013 earnings, specifically noting ANZ at 12x and CBA (Commonwealth Bank) at 15x.
The article notes consumer services such as Invocare, Crown and Domino's Pizza trading on PERs above 20. Long‑standing blue chips like Coca‑Cola (Coke), Origin and Amcor were cited at roughly 17x, 19x and 20x respectively, while premium healthcare names CSL and Cochlear trade around 24x.
Despite a pull‑back in demand from China and a weakening commodities outlook, the article says Rio Tinto and BHP are trading above long‑term multiples — around 11x and 14x 2013 earnings respectively.
The article argues QE has been disappointing at delivering broad economic growth and jobs. It notes growth remains slow even years after the financial crisis, US jobless claims have been rising recently, and much of the cash injection has gone into share buybacks, special dividends and offshore activity rather than new plants or employment.
The article points out the ASX 200 climbed from about 4,100 to add roughly 1,100 points since last July, then gave back about 200 points in the latest pull‑back. The takeaway for investors is that the "easy" 20% gain has largely already been made, implying less obvious upside from passive exposure today.
The article warns that markets have become addicted to the punch‑bowl of QE, so any credible move to end it could act as a time bomb: stretched valuations could correct sharply and a tapering surprise might trigger a monumental market meltdown. Policy makers may be reluctant to stop QE for precisely that reason, leaving a persistent risk for investors.
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