Just a few weeks after proclaiming that it’s “different this time” with regards to commodities, Jeremy Grantham appears to be hedging his bets a bit with a broad bearish call on equities. He explains why equities are grossly overvalued and likely a poor bet from these levels:
“So, we have four factors working against the Fed effect (or 4¼, counting my more lightweight “sell-in-May” factor, which suggests that all of the normal Year 3 exceptional performance may have been delivered already). With these headwinds, I do not feel the same degree of conﬁ dence that I did, which was considerable, that the Fed could carry all before it until October 1 of this year. A third round of quantitative easing would very probably keep the speculative game going. But without a QE3, there seem to be too many unexpected (indeed unexpectable) special factors weighing against risk-taking in these overpriced times. I had recommended taking a little more risk than was justiﬁ ed by value alone in honor of Year 3, QE2, and the Fed in general. Risk now should be more reﬂ ective of an investment world that has stocks selling at 40% over fair value (about 920 on the S&P 500) and ﬁ xed income, manipulated by the Fed, also badly overpriced.
Although the taking of some “extra” risk by riding the Fed’s coattails has been proﬁ table for six months, I admit to being a bit disappointed: I really felt the market had the Fed’s wind in its sails and would move up deep into the 1400 to 1600 range by October 1, where it would be, once again, over a 2-sigma 1-in-44-year event, or, ofﬁ cially, a bubble. (At least in a world where GMO is the ofﬁ cial.) At such a level, I was ready to be a real hero and absolutely batten down the hatches, become extremely conservative, and be prepared to tough out any further market advance (which, with my record, would be highly likely!). The market may still get to, say, 1500 before October, but I doubt it, especially without a QE3, although the chance of going up a little more by October 1 is probably still better than even. And whether it will reach 1500 or not, the environment has simply become too risky to justify prudent investors hanging around, hoping to get lucky. So now is not the time to ﬂ oat along with the Fed, but to ﬁ ght it. Investors should take a hard-nosed value approach, which at GMO means having substantial cash reserves around a base of high quality blue chips and emerging market equities, both of which have semi-respectable real imputed returns of over 4% real on our 7-year forecast. The GMO position has also taken a few more percentage points of equity risk off the table.”
You can find the full letter at his site.