Jeremy Grantham

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Jeremy Grantham: Where to Invest When There’s No Place to Hide

By Dr. Steve Sjuggerud, President, Investment U
Tuesday, January 20, 2004: Issue # 306

“Today we have substantially the worst prospects for long-term global investment returns of my 35-year career when all asset classes are considered, particularly for U.S.-centric investors. The asset classes collectively are simply the most overpriced they have been. There are no large categories that are good hiding places” — Wall Street Legend Jeremy Grantham, in his most recent report to his investors on where to invest.

Jeremy Grantham is right. There are very few places to hide when you consider where to invest today. Nobody wants to hear negativity. But I don’t see my thoughts as negativity I see them as reality. (More on Grantham and his investment thoughts below).

Back at the peak in 2000, some still knew where to invest because there were still places to hide. For readers of my newsletter, I had recommended real estate and related stocks (REITs, homebuilders, etc.). We all know what real estate has done in the last four years.

I’d also recommended several income ideas, which were once-in-a-generation opportunities, and they’ve performed even better than I could have imagined.

But now, in 2004, the pickin’s are slim So slim that the most profitable investment approach now might simply be Ride the markets as long as they continue surging. But do so like someone who understands that they are overvalued – and that they will correct themselves.

Let me explain…

Looking for Value Worldwide …With History as Our Guide

We’ve got interest rates at multi-generation lows so you shouldn’t leave your money in the bank or should you? What else can you do with it? Take your pick on where to invest: You can buy overpriced stocks, overpriced bonds, or overpriced real estate.

In times like these, Richard Russell (who’s been writing an investment newsletter for over 40 years) says, “He who loses the least, wins.”

In short, when you look around the world, there isn’t much value to be found in stocks. Let’s look at the U.S., and then we’ll look at the Hong Kong market, as a proxy for emerging markets and China.

The most basic valuation measure is the price-to-earnings ratio. It’s a rough gauge of how much you’re paying for an investment versus what you’re getting back in return. In simple terms, if you can earn $10,000 in rent on a house (net), and the price of that house is $150,000, then that house is selling for 15 times annual earnings. At 10 times earnings, or less, that house might be very cheap. At 20 times earnings, it’s probably very expensive.

The same is true for stocks. Throughout history, stocks have traded for roughly 15 times earnings. A stock market P/E ratio of 10 or less has proven to be cheap, and a great buy. Meanwhile, a P/E of 20 or higher has been an early-warning sign of tough times ahead.

Let’s consider the P/E ratios of U.S. stocks and Hong Kong stocks in recent years:

U.S. Stocks

P/E	Year
8	1982, a great time to have bought, in hindsight
22	1987, before The Crash, a good time to have sold, in hindsight
14	1990
32	March of 2000, a good time to have sold, in hindsight
28	Today

Hong Kong Stocks (notice how a similar picture to U.S. stocks emerges)

6	1982, a great time to have bought
23	1987, before The Crash, a good time to have sold
10	1990
23	1993, China-related stocks crashed for 10 years
28	March of 2000, a good time to have sold
19	Today

As you can see above, the P/E in the U.S. is 28 – nearly twice the historical average. That’s expensive. The downside risk may be greater than the upside potential over the coming years. Hong Kong is less expensive than the U.S., at a P/E of 18. But then again, emerging markets have traditionally traded cheaper than their U.S. counterparts, as they are higher-risk investments.

It’s not just the U.S. and Hong Kong that are expensive. The entire world of stocks is expensive (with the exception of Russia – but the risk is so high, it may be appropriately priced). See for yourself at the end of this e-letter, where I’ve included P/E ratios of the world’s major stock indexes. Don’t miss it!

Jeremy Grantham on How To Survive the Toughest Investing Environment in 35 Years:

So 35-year investment legend Jeremy Grantham is probably right. Investments out there are expensive. This may be the toughest environment to invest in during his 35-year career. As we can see in today’s letter, there are few, if any, places to hide in stocks worldwide. Be careful in stocks for the next few years.

“Only the huge, politically-driven stimulus gives cause for hope, and that is for a short-term reprieve or rather a ’stay of execution,’ ” Grantham concludes. Translation: Stocks, bonds and real estate could all push higher, as people look for a place to put their money. But where to invest from there?

In future letters, we’ll continue to talk about alternative investment opportunities outside the stock market, as stocks may not produce outstanding returns over the next decade. Yet another reason to keep reading…

Good investing,

Steve

P.S. As I wrote in today’s letter, there are literally no bargains to be found in the major markets of the world right now.

Following are P/E ratios of the major stock market indexes around the world (keep in mind that a P/E of 10 or less is considered a bargain)…

The Americas:
28 S&P 500
126 NASDAQ
21 CANADA
28 BRAZIL
16 MEXICO

Europe:
62 UK
21 FRANCE
61 GERMANY
44 SWITZERLAND
27 ITALY
19 SPAIN
20 NETHERLANDS
32 SWEDEN
22 FINLAND

Emerging Europe / Africa:
8 RUSSIA
17 SOUTH AFRICA
21 GREECE
31 POLAND

Asia Pacific:
111 JAPAN
20 HONG KONG
21 AUSTRALIA
50 CHINA (SHANGHAI)
41 CHINA (SHENZHEN)
44 TAIWAN
18 INDIA
23 SINGAPORE
17 MALAYSIA
27 THAILAND
17 INDONESIA
23 NEW ZEALAND
24 PHILIPPINES

Today’s Investment U Cribsheet

To read Jeremy Grantham’s full commentary, go to www.gmo.com and click on Research and Commentary, and then read “The Greatest Sucker’s Rally in History?”