After a Timeout, Back to the Meat Grinder!

Executive Summary

The first and easiest leg of the bursting of the bubble we called for a year ago is complete. The most speculative growth stocks that led the market on the way up have been crushed, and a large chunk of the total losses across markets that we expected to see a year ago have already occurred. Given the starting conditions of extraordinary speculative euphoria, this was all but certain. The negative surprises of last year, from war in Ukraine to the global inflation spike, were quite unnecessary to ensure a significant downturn.

Now things get more complicated. While the most extreme froth has been wiped off the market, valuations are still nowhere near their long-term averages. Further, in the past, they have usually overcorrected to below trend as fundamentals deteriorated. Such an outcome still remains highly likely, but given the complexities of an ever-changing world, investors should have far less certainty about the timing and extent of the next leg down from here. In fact, a variety of factors – especially the underrecognized and powerful Presidential Cycle, but also including subsiding inflation, the ongoing strength of the labor market, and the reopening of the Chinese economy – speak for the possibility of a pause or delay in the bear market. How significantly corporate fundamentals deteriorate will mean everything during the next twelve to eighteen months.

Beyond the near term, for long-horizon fundamental investors, the biggest picture remains that long-run issues of declining population, raw materials shortages, and rising damage from climate change are beginning to bite hard into growth prospects. The resource and geopolitical shocks of last year will only exacerbate those issues. And over the next few years, given the change in the interest rate environment, the possibility of a downturn in global property markets poses frightening risks to the economy.