"Sell Your Stocks NOW" - Jeremy Grantham's Stock Market Warning

Us is not moderately overpriced; it is shockingly overpriced. As I said a year ago, I think they'll do pretty well by selling. Billionaire investor Jeremy Grantham is warning that the stock market could collapse a whopping 60% from its current levels. If true, this would be the worst stock market crash since the Great Depression.

For almost 50 years, Grantham has made a career and a vast fortune from successfully predicting stock market crashes, and now in 2024, he is calling today's stock market the biggest bubble he has ever seen. You're going to want to stick around till the end of this video because the most worrisome part of what Grantham is saying is that he might actually be right.

Here's Grantham to explain what he's seeing in the stock market: "My attitude is with a bit of luck we may settle for something like 3,000 on the S&P, all being well, and assuming that my extra factors don't bite too hard. If the extra factors bite pretty hard, which sadly they might, then the market will go closer to 2,000 than 3,000. Let me point out last time it went to 666, the Devil's number. And so even at 2000, it's made a huge progress since 2009, has it not? Uh, or if it went settled for split the difference at 205, 2500, but I think you better count on 3,000.

So I think the market is very likely to be quite a bit lower; the economy is very likely to be quite a bit weaker; profit margins very likely to be lower, etc., etc., and very likely to take longer than you would like. Okay, that's just history. All I do is look at the history and say the best guess is that a bubble will behave like a bubble.

The more remarkable meta level question is how come people can get away with saying nobody saw it coming each time? Nobody saw it coming when the data is screaming that you can't possibly miss it. You first semester course of Statistics: you could not miss 1929; you could not miss 1972; you absolutely categorically could not miss 2000 when it went to 35 times earnings. The previous high PE had been 21; it went to 35, for Heaven's sake! In Japan, it went to 65. No, you cannot miss these bubbles, and you could not miss the one in 2021.

It went to a peak that rivaled 2000, and in some ways it was cheaper; in some ways it was more expensive. But it was a very, very obvious bubble. Do not tell me that you can't see these things, and they all break, no exceptions. If you say that, you'll be called a Perma bear, but history is quite clear: there are clear bubbles, and they have always broken.

This one is breaking. What is the average consequence? If you're lucky, 3,000. As a general principle, the bigger and broader the bubble, the longer and more painful the downside. Japan, the biggest of all, is not back to the high of 1989 in the stock market. It's not back to the high in land or real estate. That's getting to be quite a long time—34 years and counting—and it still hasn't reached the old high in nominal terms.

So, you know, the biggest lag getting back to a high ever and the biggest pain. But it was the biggest bubble; it's perfectly symmetrical. And this one is pretty damn big, and it's bigger than 2000 because it includes real estate and bonds, and that one did not.

So go and have a look at what happened in 2000 and the pain. And why? Why was there so much pain? I ask you. You know, all of the things that they're hoping would happen this time happened that time. It was pretty painless. The economy had a gentle recession; it had no problem with real estate; it had no problem with markdown of debt, and yet the NASDAQ went down 82%. Not an insignificant decline. Amazon actually went down 92%, and the S&P went down 50%.

So be advised: this is not a gentle setback like 2000. One of the most common ways to see if the stock market is potentially overvalued is to look at a metric known as the Schiller PE ratio. The formula for calculating this ratio is a simple fraction. On the top, we have the price of the particular stock market index we're looking at; so in this case, it would be the S&P 500. The S&P 500 is a market cap-weighted index of the 500 leading publicly traded companies in the US. It's frequently used as a proxy for the entire US Stock Market.

On the bottom of the fraction is the average inflation-adjusted annual earnings over the last 10 years for the S&P 500. Using the average earnings over the last 10 years helps smooth out fluctuations in the company’s profits that occur over different periods of an economic cycle. What that means in simple terms is that for businesses, there are good years and there are bad years when it comes to profitability. When the economy is stronger in one particular year, companies are likely to make more profit, and when the economy is bad, companies on average are less profitable.

Using the average earnings over a 10-year period helps get a more accurate idea of what a company's profits look like and what would be a normal year. Additionally, it is also important to adjust for inflation as inflation can make a company's profits look artificially high. The last few years in the United States have been an example of that. If inflation in a year is 9% and a company's profits also rise 9% that same year, the company isn't actually any more profitable.

After factoring in the impact of inflation, profits for the company only increased because the price of everything went up due to inflation. Take a look at this chart of the Shiller PE ratio dating all the way back to 1871. As of the making of this video, the Schiller PE is at nearly 34. As wild as it sounds, that is higher than the peak hit before the 1929 stock market crash that led to the Great Depression.

During the 1929 crash, the stock market tumbled by nearly 90% over the next 3 years. It wasn't until the year 1954, a whopping 25 years later, until stocks finally returned to levels reached at the top of the bubble in 1929. As alarming as this comparison may seem, it only tells part of the story. Things actually get worse when you dig a little deeper.

As we talked about earlier, the Shiller PE ratio is calculated by taking the price of the stock market index and dividing it by the 10-year inflation-adjusted average annual earnings of the companies that make up that index. As Grantham regularly talks about, there's one important point a lot of people are missing. That point is that companies are significantly more profitable now than at any time in the history of the country.

Take a look at this chart of the average profit margin of an S&P 500 company over the last roughly 50 years. Profit margins measure a company's level of profitability relative to the company sales. Or put in another way, a profit margin shows how much of each dollar in sales the company gets to keep in the form of profit.

In this chart, we can see that corporate profit margins have been on a steep upward climb since about the year 2000. In 2019, the average S&P 500 company had a profit margin that was roughly double the average of the last five decades. Grantham makes the argument that these high profit margins are unsustainable. He says that these massive record-high profits are hiding just how massive the stock market bubble is, and here's what he means.

As of the making of this video, the S&P 500 is at approximately 5,000; the 10-year inflation-adjusted annual earnings of the S&P 500 is about 147, which gets us to the current Schiller PE ratio of 34. However, Grantham believes this earnings number is too high. These sky-high profits that companies are making are unsustainable in his eyes and will have to revert to more normal levels at some point.

Let's say for the sake of this example he's correct. So instead of the earnings being 147, let's take the earnings down by 25% to 110. That would cause the Schiller PE ratio to jump up to a staggering 45, the highest level in the history of the US Stock Market. This is one of the main reasons why Jeremy Grantham isn't a fan of the US Stock Market.

In his eyes, it's not just that the Schiller PE ratio is currently at one of the highest levels ever; it's also that corporate profits are at unsustainably high levels by corporate standards. Using his words, "sooner or later the bubble will have to pop, because it always does eventually." Listen to where Grantham suggests people put their money instead.

"It's been hammered. The way to look at this event is the aberration is non-US equities. Every asset worth talking about has been driven up by 40 years of declining rates. As you should expect, led by housing. But farms and forests, which we have some interest in, they've all gone from yielding 6% to yielding 3%. They're all twice the price, are all higher. Fine arts, all gone through the roof; everything has gone through the roof. The US market through the roof, but non-US equities are curiously left behind.

And I can't tell you why, because I'm not sure I have a reason for it. Every asset should be pushed up by low rates, and they all have been, except equities outside the US."

"Can I bounce an idea off you as to why that might be?"

"Sure, just differences in laws and societal structure. We have 401ks here; we have automatic guaranteed buyers every month for us. These differences have always existed, and until the other day we used to track pretty damn well. Okay, it's only since 2010 that we've had this deviation caused by earnings.

I get that, yeah, but why should they be? Forget the earnings; we'll spot the US. Those extra earnings, I'm now talking about the multiplier of those extra earnings. The PE's are much higher, times this wonderful earnings; it's double counting."

According to Grantham, the stock market bubble is for the most part concentrated in the United States. The last bubble Grantham correctly called was the Great Financial Crisis. During this crash, the US Stock Market fell by nearly 60% from its high in October 2007 to its low in March 2009. During March 2009, the S&P bottomed at 666. Since then, the US Stock Market has been in arguably the strongest period in the history of the country.

In the approximately 15 years since hitting its lows, the S&P 500 has skyrocketed from 666 all the way to over 5,000 as of the making of this video. This is an increase of 7 and 1/2 times in only a 15-year period. This strong stock market performance comes at a cost, according to Grantham.

Using a traditional price-to-earnings ratio, or PE ratio for short, the US has by far the most expensive stock market of any developed country, and honestly, it's not even close. Take a look at this list: as of the making of this video, the United States stock market has a PE ratio of 23 times. That is higher than any other developed country by a mile. The closest are Australia, France, and Japan at PE ratios of around 16 times. Canada is 15 times, Germany is at 12 times, the UK is at 10 times, and Italy is at 9 times.

Germany, the UK, and Italy are massive economies with some of the world's largest businesses. However, these countries' stock markets have PE ratios of around half of the United States. Completely wild to think about! Heck, even China and Brazil, two countries that have been known for their rapid economic growth, have PE ratios of only around eight times. This is 1/3 the PE ratio of the United States, and this is exactly what Grantham means when he says the stock market bubble is concentrated in the US.

While Grantham makes quite the convincing argument, ultimately only time will tell how things play out. Many intelligent people disagree strongly with him and consider Grantham to be what is called a Perma bear, someone who always believes the stock market will fall regardless of economic conditions. Critics would say that even a broken clock is right twice a day.

Whether you agree with Grantham or not, it's worth paying attention to what he has to say. As the old saying goes, history doesn't repeat itself, but it often rhymes. So there we have it. Make sure to subscribe to the channel because it's my goal to make you a better investor by studying the world's greatest investors. Talk to you again soon!