This is first in the series of pieces that Marketsmojo will carry which will try and capture some of the key thoughts from the Market experts. As I had written in the first piece of the year 2018 the Indian market’s performance has been very closely linked to what is happening in the rest of the world. Thus, it is only fitting that in this first piece on Experts the views of one of the global legend is being carried.

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The Upside Risk

We have heard a lot about the downside risk of today’s market. Be it the Indian market or the Global markets. The fact that the valuations are very high, the North Korea factor, Trump issues and also the never-ending list of issues that most of the TV channels are raising about what is going wrong in India. Very rarely have I heard about someone talking about upside risk. So when I came across this piece by Jeremy Grantham called: “Bracing Yourself for a Possible Near-Term Melt-Up” I was intrigued to say the least.

For those who have not heard about Jeremy Grantham, he is a market legend and one of the most influential voices in the investment world. He is the co-founder and chief investment strategist of GMO, a Boston-based asset management firm. GMO is also very active in the Indian market. According to Wikipedia, GMO is one of the largest managers of such funds in the world, having more than US$118 billion in assets under management as of March 2015. Mr Grantham is particularly noted for his prediction of various bubbles. Mr Grantham also writes very well and shares his views regularly on his company’s website.

In the article, referred above, Mr Grantham had said that there is a likelihood of markets moving up sharply into a bubble phase. Of course, if that happens a sharp fall post that is almost sure to follow. In his words, “I recognize on one hand that this is one of the highest-priced markets in US history. On the other hand, as a historian of the great equity bubbles, I also recognize that we are currently showing signs of entering the blow-off or melt-up phase of this very long bull market.”

So, what are the Indicators of peak of a bubble. Mr. Grantham says high valuation alone is not a enough to indicate the peak of a bubble and some of the indicators he mentions are:

1 – Price Acceleration

Mr Grantham says, “Price alone seems to me now to be by no means a sufficient sign of an impending bubble break. Among other factors, indicators of extremes of euphoria seem much more important than price.” He further says, “recently an academic paper titled “Bubbles for Fama” concluded that in the US and almost all global markets, the strongest indicator – stronger than pure pricing or value – was indeed price acceleration.” He says that while valuations are high, the price acceleration is not yet widespread.

2 – Excellent Fundamentals Euphorically Extrapolated

Mr Grantham says that another important indicator for a bubble is that the overall fundamentals have to be positive and the market is extrapolating these fundamentals to go on forever. According to him the good news is that “the fundamentals of recent years were disappointing and that investors, far from being euphoric, had instead been climbing the wall of worry. But fundamentals are improving. the global economy is in sync for the first time in a dozen years and global profit margins are at a high; in the US, a corporate tax cut is on the way.” Till the market becomes euphoric about these fundamentals we are a bit away from the peak of a bubble.

3 – Fixation on Winners

Another sign of the peak of the bubble he says is that “by late-stage cycles, many buyers are fixating on “winners” with the purchase motive being further stock gains, rather than any logic of long-term value. Thus, as the market soars, attention is increasingly focused on those with the largest earnings and stock price gains.

4 – Bubbles in other asset classes

Mr Grantham says that most other asset classes including the US housing is not in a bubble phase. In some asset classes, however, one can see bubbles. For example, “the crazy Bitcoins of the world this is a true, crazy mini-bubble of its own”

Mr Grantham concludes that while we are nowhere near the peak of a bubble, but we can see early signs.

He recommends owning “as much Emerging Market Equity as your career or business risk can tolerate”

So, what does it mean for the Indian market

As mentioned earlier, Indian markets are very linked with what happens in the rest of the world. If Mr Grantham is right and the global markets have a sharp rise reaching the peak of the bubble, the Indian markets could experience the same.

Mr. Grantham says the Emerging Markets will do better than the developed markets, India being an emerging market will have its share.

If Mr. Grantham is right about the investors being fixated on winners, we will see a higher rise for stocks with high Earnings Momentum and Price Momentum. Stocks which are positive on our Financial Trend indicator and on Technical indicators will be the ones to watch out for.

In conclusion, we should keep our seatbelts fastened and be closely monitoring the market for the indicators of the peak of the bubble. If Mr. Grantham’s bubble scenario plays out, while the rise can be heady, the fall can be extremely sharp after that. A possibility that the ride can get very volatile cannot be ruled out!