James SullivanStockholm syndrome is a psychological response. It occurs when hostages or abuse victims bond with their captors or abusers. This psychological connection develops over the course of the days, weeks, months, or even years of captivity or abuse. The name is derived from a bank robbery in Stockholm, Sweden. In August 1973 employees of Sveriges Kreditbank were held hostage for six days. During the standoff, a seemingly inappropriate bond developed between captive and captor. One hostage, during a telephone call with Swedish Prime Minister Olof Palme, stated that she fully trusted her captors.

It feels to us that the central banks have a similar hold over large swathes of the investment community whom grow ever more sympathetic towards bank policy and entirely trusting of their actions.

The point we wish to really make here is that global markets of most varieties look expensive yet it seems acceptable to frame this within the same sentence and acknowledge the vast quantum of stimulus makes it ok. Many adlib conversations go something like “Markets are expensive, right?” “Yes, but look at the stimulus, they could go a lot higher from here”.

Are we right to accept expensive equity markets because of QE? Are we right to accept expensive equity markets because everything else is ‘even more expensive’? Are we right to accept expensive equity markets because central banks tell us it will be ok?

Maybe we are.

Maybe valuation perceptions were reset in 2008/09, with a QE backdrop becoming the new normal, and anything that went before is forgotten; similar to the evolution of the Premier League, before which, football didn’t exist.

Maybe it will all be ok… but we are growing increasingly doubtful. Corporate and economic data remains too far behind the curve and increasing emphasis on stimulus measures with little or no visibility on outcome gives us cause for concern.

Let’s examine a few numbers. First, we look at the short term multiple expansion from March 23rd (the low point in the COVID-19 cycle) and then try and contextualise the two data points by also referencing the 5 and 10 year numbers:

Source: Bloomberg

We used P/B, P/E and P/S, but in truth we could have chosen almost any metric one would wish to select, but put simply, markets are close to 50% more expensive than they were a little over 3 months ago. That’s almost understandable given the selloff witnessed to March 23rd paired with a complete collapse in earnings visibility, however the current multiples are also greater than both 5 and 10 years ago, underlining the consistency in multiple expansion. In fact, the COVID-19 low multiplies are closer to the 10 year averages and may in fact have simply rebased markets towards ‘fair value’.

For many years, earnings and underlying corporate profitability has not kept pace with the market; but we have all long observed that correlation is yesterday’s news as the correlation to expansive central bank policy has become the new trend. Our captors have become our guiding light.

Should our collective trust in central banks prove to be misplaced, then the precipice has once again developed into something that could lead to a brutal climax.


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