Jeremy Grantham: Beware The ‘Confidence Termites’

Johnny HopkinsJeremy GranthamLeave a Comment

In his recent interview on The Moneyweek Podcast, Jeremy Grantham discussed what might bring this latest prolonged bubble to an end, and the role of the ‘confidence termites’. Here’s an excerpt from the interview:

Grantham: The history books are pretty clear, there doesn’t have to be a pin. No one can tell you what the pin was in 1929. We’re not even certain in 2000. It’s more like air leaking out of a balloon. You get to a point of maximum confidence, of maximum leverage, maximum debt, and then the air begins to leak.

And I like to say, the bubble doesn’t reach its maximum and then get frightened to death, what happens is the air starts to leak out slowly because tomorrow is a little less optimistic than yesterday. And gradually, people begin to pull back. And the process is very interesting, in that before the end of the great bubbles, and there’s only been a handful, so we can get carried away with over-analysis.

But before the great bubbles ended in 1929, 1972, and in 2000 in the US, the three great events of the 20th century, there was a very strange period in which, on the upside, the super-risk, super-speculative stocks started to underperform. They never do that in between, ever. And then suddenly, it starts. So, you go back to 1928, the JACI Index, the low-price index, and the S&P were up 80% in 1928, and then the S&P was up, say, 40%. That’s what it’s meant to do.

And then in 1929, the S&P went up another 40% before crashing. The low-price index started early in the year to go down. It couldn’t even get the sign right. It had a beta of about two, and started to go down, and the day before the crash it was down over 30%. Nothing like that happens again until 1972. And let me point out that 73/74 is still the biggest decline, adjusted for inflation, since the Great Depression. It was 62% in real terms.

And in 1972, the last up year, the S&P outperformed the average Big Board stock by 35%, approximately plus and minus 17 points. The average stock was going down steadily all year, and the S&P was going up. Nothing like that happens again until 2000. In 2000, in March, the great TMT bubble starts to peak, and Pet.coms get taken out and shut.

And then in April and May, the junior growth. May/June, the middle growth. June, July, August, the Ciscos. Cisco was the biggest company in the world for eight minutes, I like to say. And the whole TMT block, that was 30% of the market cap, was down about 50% by September.

The S&P was unchanged. Unchanged. Which meant that the remaining 70% was up 17%. That is an amazing deviation. So, bang, bang, bang. It’s only happened three times. It happened leading into the great air leaking out. And finally in September, the confidence termites, as I like to think of them, reached the broad market, and the entire 70% rolled over like a giant iceberg, and down it went, 50% over two years.

And so, where are we today? Those three deviations, by the way, 1929 was eight months, 1972 was 11 months, and 2000 was six or seven months. And on February 9th, the Russell 2000, which had had a crushingly good year, wiped out way ahead of the S&P from March of 2000 until February 9th, way ahead of the NASDAQ. And the S&P has continued on its merry way, having a nice bull market.

Even after yesterday’s great rally, the Russell 2000 was decently down since February 9th, the NASDAQ is five points ahead of it, and the S&P is ten points ahead. This is getting to be a pretty good down payment. It’s February, March, April, May, June, July. It’s five months. I would say this is tracking quite nicely.

And the confidence termites started, once again, exactly where you would expect, they started with my favourite biggest holding, personal holding, QuantumScape. QuantumScape, a solid-state lithium-ion battery company I bought into eight years ago, as a green venture capital. They came as a SPAC, came at ten, went to 130.

At 130, it was 52 times my investment, which is pretty nice. It was also $55 billion, bigger than GM, bigger than Panasonic, if you want to think batteries. There’s nothing like that to compare to in 1929, by the way. The scale of that. They’re a brilliant research outfit, and I’m happy to still hold a quarter of my… But they don’t have a product for four years, and they have no trouble telling you that.

So, here is a research lab that will have no profits, no revenue for almost four years, selling more than GM. $55 billion, give me a break. Anyway, that started down. It’s now down 80%. The SPAC Index is down 30%. The SPACs have started to dry up. Bitcoin, 62,000 to today’s, after a nice rally, 31,000, half price. Tesla, 900. Down to 650.

This is the classic pattern of start with the most speculative, the most heroic, and work your way down carefully until finally you’ve reached the market. I would say it’s lasted longer than I thought. Why? Two reasons. One, the vaccine was simply bigger and better than anyone expected, and we produced it quicker, it was more effective, particularly Moderna, Pfizer, than anyone had ever hoped possible, really for any vaccine of that kind.

And the other reason was the speed and size of President Biden’s stimulus package. He came in with such a roar, and bang, you’re suddenly talking trillions of dollars of stimulus. Those two things, of course, were bound to increase confidence, bound to increase the money in the hands of individuals. Individuals, because of Trump’s stimulus and because of Biden’s stimulus, have been dripping in resources, and they have bought into every setback.

And they’re buying all the crazy stuff, the meme stocks that are just jokes, where they’re whipped up into a frenzy, and they’re buying them just for fun, it seems, ten times more than any underlying value.

And, by the way, every indicator of that craziness, this is a record, this is more impressive even than 2000, and that was more impressive than anything that had preceded it. But the craziness that we have seen in the meme stock, companies being bought on no earnings potential, on no underlying reality, is just amazing.

You can listen to the entire interview here:


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