>With interest rates near 0%, equities are one of the few places you can expect to earn a reasonable yield on capital.
No, not in a world with COVID. Equities should be going down, not up.
No, not in a world with COVID. Equities should be going down, not up.
I mean, I think the stock are overvalued, but it's not hard to see how we ended up here. I thought about rebalancing out of stocks to avoid a drop, but I'm stymied by the question: rebalance to what?
Sure, a crappy bond now is crappy, but if everyone is right about QE to prop up the stock market, they'll be worth more compared to future crappier bonds.
The value of any investment is the present value of it's future cash flows. Anything beyond that is going to end badly.
If your cost of capital is lower, your return on investment is:
(A) Higher (B) Higher (C) Higher
Which one is it, A B or C?
In an economy with 15-20% unemployment and entire industries on the brink of destruction ( airlines/travel ) this is not a given. If the 5-10 year revenue projections of air-travel are 1/5th of the pre-covid economy, then a small change to cost of capital won't allow you to continue investing as if nothing happened. The risk inherent to Google's bottom line from long-term structural unemployment and lower ad-revenue should outweigh even a 0% cost of capital.
So the Fed can force rates to nothing so companies can get more debt to pay down their existing debt, but the point where they are actually profitable gets further and further away. Meanwhile, they get more and more vulnerable to even the slightest increase in rates.
Everyone can close their eyes and keep driving faster off this cliff for a while, but best case is we become Japan with 100 year mortgages and a market that is flat for the next 30 years because it is half owned by the government.
The real problem is the companies that hit the wall first and go bankrupt suddenly, I think Dave and Busters just announced and October is whispered to be full of incoming bankruptcies. Confidence in stocks won't hold when companies keep randomly dropping 20% in a day.
TINA doesn't consider "not losing money" is a very reasonable alternative that people will eventually realize.
You can't eat stocks.
Interest rates have been low for over ten years.
Interest rates were at de facto 0% in 2015 (and still close to it for 2016) while Apple had a sub 10 PE and Microsoft was around a 15-16 PE. Now they have multiples in the mid 30s despite slow growth. The S&P 500 PE is about 40-50% higher than in 2014-2015, with a worse economic situation.
The Eurozone and Japan have had negative real rates across many years in the past without the type of stock market valuations the US is seeing now. One doesn't guarantee the other.
It's obvious this all comes apart at some point. Interest rates at 0% won't prevent that. There's nothing that stops the market from going back to 2014-2015 style valuations. Companies like Snowflake aren't going to be worth $70 billion (~140 times sales) on the backside of this insanity.
Quick, someone dig up the remains of DrKoop.com and do an IPO. Maybe they can be reincarnated as a telemedicine EV maker that sells hydrogen powered big data machine learning HTML5 supercomputer cloudlets that drift downhill via gravity, producing perpetual energy. Or maybe they can just analyze logs and lose a lot of money for a cool $10 billion valuation.
What we have going on now is primarily mania, not low interest rates. The economy in 2015 was healthier than the economy is today, multiples were nowhere near this, and rates were on the floor for many years at that point. So how about we just reset valuations back to when interest rates were close to 0% in 2015, what will that do to the market? It'll crash it big time, that's what.
It's certainly possible that valuations will remain elevated due to forever low rates. That doesn't mean the mania part of it will sustain, that is likely to be temporary. The public market mania is now so far beyond what was previously going on in the private market, companies have collectively switched modes and are rushing for the exits (Snowflake's recent public valuation was six times the private valuation they were fetching in February). WeWork in hindsight should have waited a year to try to IPO, this market would bid them up.
So if interest rates go down, the present value of those future cash flows increases and share price increases.
Basically 10 years to break even with the current share price. Not very far out of line with historical PE ratios.