Curb Your Enthusiasm is an acclaimed HBO television series that ran for eight seasons in the past decade. The protagonist and creator of the series is Larry David, a rough, dry and self-satisfied Woody Allen version.
The title comes from David's idea that people, in social relationships, tend to appear more positive and enthusiastic than they really are. This attitude does not derive from the desire to be accepted, but from the implied idea of being better than the interlocutor. Who is normally in a bad mood and who rightly gets annoyed and invites the other to calm down, to get it right, not to expand.
A little calm wouldn't hurt the stock exchanges (and to some extent also the bonds) at all. In recent weeks, many strategists have raised their year-end targets, but the new targets, albeit rather aggressive, have already been achieved or will be achieved within a week if we continue to increase at the pace of the last few days. Sure, it was understandable and justified to celebrate the Fed's failure to taper and Europe come out of a coma, but the holiday is turning into a permanent celebration that's starting to move over the top.
Continuing at this rate, by the end of 2013 we will have already reached the levels (1850-1900) that the strategist consensus indicates for the SP500 at the end of 2014. Commentators such as Larry Fink and Bill Gross speak of bubbles and real bubbles that are starting to see on almost all asset classes. Indeed, the contrast between a monetary policy that is conducted (and bonds that are priced) as if we were in a deep dead-end recession on the one hand and, on the other, a stock market that is adopting vigorous growth valuations cannot go unnoticed. and multiples from a positive cycle sustainable over time.
This is the difference between the bubble forming at the end of 2013 and the previous experiences of 1999-2000 and 2007, when inflation and short-term rates were around 5 per cent and GDP grew twice as fast as it currently is . The greatest difference, in any case, lies in the subjective experience of these increases. In the two previous bubbles a rationalization had been created, that is a narrative, for which the world had entered a new phase. The tones were high. In 1999-2000 the technological revolution and the singularity were evoked (a term borrowed from physics with which a black hole of artificial intelligence was imagined that would have swallowed and accelerated human history beyond all imagination).
In 2007 we welcomed the newfound stability, the strong growth without inflation, the overcoming of the cycle, something that is as powerful and exciting in economics as the idea of immortality is for us poor mortals. This time there is no rhetoric. No one expects the construction of the heavenly city on the hill and no one praises the progress of economic science, which is rather discredited. Instead, we all know, in our hearts, that we are behaving as we are behaving because the police have announced that they will be shut up in their barracks for a few more months.
We feel the strange excitement that pervades ordinary people (not professional thieves) when they realize that they can steal jam with impunity. We know that the party will one day end and that the legality of rates will be restored, but we think that, when the time comes, the police will return to the streets slowly and, at least initially, practically unarmed.
We don't think of waking up one morning with tanks on the street, that is with a crash, and we venture first with fear and then with ever more courage into areas of the city that we knew were forbidden. We don't feel as good and virtuous as in previous cycles, but we feel strangely free. And we begin in some cases to become impudent. The police have a great set of excuses not to go out on the street. Bernanke is at the end of his reign and only in March will Yellen take over in his place. Better wait. Then there is the clash in Washington over debt and taxes. Now there is a truce, but from February onwards it recovers and nobody knows what will happen.
Better wait. The macro data, for their part, are either disappointing or, if they are strong, they are of dubious quality because they come from the weeks of closure of government offices. Better to do nothing. Obamacare's confused and botched launch of health care for all paralyzes businesses and fills policy buyers with doubts (who can't even buy them). Best not to be seen around.
Corporate earnings are coming out good, although there are some notable exceptions. The weak dollar is starting to help. It is hard not to think, however, that less brilliant earnings would not be an obstacle to the rise of stock markets. When the money is on the street, first you go to collect it and then, eventually, you wonder if it was right that they were there.
Then there is the idea that negative data is actually positive, because it discourages the return of the police to the streets. But it doesn't stop there and one gradually becomes convinced that the Great Freedom phase will last even after the data turns permanently positive because the governments and the Fed, this time, want inflation wholeheartedly. And then, you will see, it will be said that inflation benefits companies' turnover and their ability to raise prices and keep margins high.
Why, then, hope for an increased speed limit and why not simply run to collect the money on the street without getting into too many problems? For four reasons.
The first is that too fast a rally would embarrass central banks, which would occasionally be forced to jingle their sabers (but not actually use them) to create volatility (and we know that volatility produces more losses than gains in most portfolios). For example, the Fed could, as Bill Gross invokes, resort to macro-prudential measures such as raising the deposit for stock purchases on margin (which has been stuck at 50 percent for decades). It would be a perfectly circumventable measure through the use of derivatives, but the symbolic value of the gesture would be understood by all and would slow down the rise for some time.
The second is that a disorderly hike brings with it a suboptimal allocation of capital, a polite way of saying that a lot of money is thrown away by chasing stocks that are going up only because they are going up (and not for their specific merits, if any). Richard Koo has argued for years that the Internet bubble caused large German companies to overpay the technology companies they bought in America and which were already worthless two years later. The hole that then appeared in their balance sheets led Germany to put pressure on the ECB to keep interest rates abnormally low.
The result was that German banks, looking for yield, aggressively invested in Italian, Spanish and Greek bonds, creating a capital surplus that was itself squandered. It followed, in 2011, the German withdrawal from the Mediterranean and the collapse of our economies, now peripheral.
The third is that, in the excitement of the rally, we have overlooked a long line of exogenous risks that once worried us greatly. Geopolitics has totally disappeared, with the implicit assumption that the world will remain at peace forever. Droughts, earthquakes, hurricanes and other acts of a possibly angry sky are gone from our future. Epidemics, which often caused significant stock market corrections in the winters of the last decade, are definitively eradicated from our thoughts even if our antibiotics are increasingly weak in the face of ever stronger bacteria.
The more the bubble inflates, the more dangerous it would be for any of these risks to recur. The fourth is that the European crisis is in a phase of cyclical remission. The debt of many countries, however, quietly continues to grow, regardless of our celebrations. According to Citi estimates, Italian debt will be 2014 percent of GDP at the end of 136, Portuguese debt will have risen to 144 and Greek debt to 192. A modest slowdown in global growth, a stock market correction or a hint of a possible rate hike they will find a Europe that is still very fragile.
These risks need not necessarily be priced. It's not rational to wrap your head before it's broken. However, it is important to remember their existence before getting carried away and using dangerous levels of leverage. Curb your enthusiasm.
