Most Overvalued Equity Markets – IMF

October Datafest

October is always a month of feasting for us macro data junkies as the IMF releases several of their annual reports and databases, such as the World Economic Outlook (WEO) and the Global Financial Stability Report (GFSR).   We have a preference for the IMF economists as they don’t have a pom-pom/cheerleading bias in their analysis with a BTFD or “the market is cheap” tint to their narratives as do many sell-side and buy-side analysts, who almost always seem to be talking their books.   Not all, but several.

“It is difficult to get a man to understand something, when his salary depends on his not understanding it.” — ― Upton Sinclair, I, Candidate for Governor: And How I Got Licked

We know first hand as we’ve worked on all sides.  At several Wall Street investment banks, hedge funds, and began our career at one the Bretton Woods institutions.

Academic Versus Market

The IMF and World Bank analysts have an academic bent, however, which also needs to be discounted.  After working on Wall Street for a few years, I went back to Washington to speak with one of my professor friends about finding an arbitrage opportunity in a Korean mutual fund.  He responded,  “That is not supposed to happen, markets are too efficient”    Yeah, right, I thought.  Go talk with the Efficient Market Hypothesis (EMH) geniuses who blew up Long Term Capital Management (LTCM).

The moral of the story is, in general, don’t look to academics to help you understand real-world market dynamics to make money trading.   They are very useful on the theory, however.   But you can’t bend theory to fit market price dynamics.  Or, can you?

Finally,  nobody knows the future so we are the first to admit and warn to heavily discount our opinions and market views.  Take them into account with other counter-narratives and you use them to stress test your own views and portfolios.

Overvalued Markets

Here is the nice chart and a short excerpt from the recently released Global Financial Stability Report,

Other risk assets are also showing signs of stretched valuations.  Equity markets appear to be overvalued in Japan and the United States (Figure 1.2, panel 3, shows misalignments scaled by monthly price volatility).  Since April, US equity prices have increased whereas fundamentals-based valuations have declined as higher uncertainty about future earnings outweighed the boost from an expected rebound in earnings and lower interest rates. Equity valuations in major emerging markets, however, are closer to fair value, as investors’ risk appetite may have been tempered by concerns about trade tensions and the economic growth outlook (see Chapter 4)