Blast From the Past – Irrational ExuberanceJune 11, 2020 -
Categorized in: IAG News
Since our weekly blog writer, Scott Heins is on vacation this week, we thought we would bring you a Blast From the Past. This blog, Irrational Exuberance was originally published March 22, 2017.
One of the most frequent questions our clients are asking us these days is, “When will the market correction come?”
There is a sense that perhaps traders have bid up asset prices to unsustainable levels and a future price adjustment is inevitable and imminent – perhaps starting as soon as yesterday. We both agree and disagree with this sentiment.
We agree that asset prices appear to be fully priced based on long-term historical valuation metrics. We agree that a future price adjustment is inevitable as that happens almost every year. However, we disagree with the conclusion that this means a market correction is necessarily imminent.
On December 4, 1996, Federal Reserve Chairman Alan Greenspan was likely looking at what he considered lofty asset prices when he famously stated:
“Clearly, sustained low inflation implies less uncertainty about the future, and lower risk premiums imply higher prices of stocks and other earning assets. . . . But how do we know when irrational exuberance has unduly escalated asset values?”
After Mr. Greenspan’s speech traders continued to gradually bid up asset prices (through a few corrections) until the S&P 500 Index peaked on March 24, 2000 – more than doubling the irrational exuberance over which Mr. Greenspan expressed concern over a period of 3+ years.
There are two lessons here:
- Investing in financial markets is very uncertain. That is true at this time and always. The fact that the future is not ours to know with certainty is what creates the opportunity for future returns.
- There is no limit on irrational thought, whether to bid asset prices up or to drag them down. Fear and greed are powerful forces that, once unleashed, can drive otherwise rationale investors to justify irrational decisions.
For these reasons we focus our time and energy on developing portfolios for our clients that align with their short- and long-term financial goals instead of trying to time the ebb and flow of fear and greed.
Quote of the week: Donald Rumsfeld: “I would not say that the future is necessarily less predictable than the past. I think the past was not predictable when it started.”
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The S&P 500 Index is unmanaged index of 500 U.S. large cap stocks. Investors cannot invest directly in an index.
Past performance is no guarantee of future performance. In fact, the opposite can be true. The information contained in this report does not purport to be a complete description of the securities, markets, or development referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete.
Any opinions are those of IAG and not necessarily those of LPL Financial. Expressions of opinion are as of this date and are subject to change without notice. This information is not intended as a solicitation or an offer to buy or sell any security referred to herein.