John Hussman — the outspoken investor and former professor who’s been predicting a stock-market collapse — thinks a reckoning is long overdue.
“Overall, we have a hypervalued market that we associate with the worst prospective 10-12 year market returns in the history of the U.S. financial markets, along with extreme bullish sentiment, tepid participation, breadth, and leadership, as well as divergent implied volatility,” he penned in a recent client note.
Hussman provided his proprietary estimated 12-year annual total return for a conventional portfolio (60% stocks, 30% bonds, 10% cash — blue line) compared against the actual subsequent 12-year returns for that portfolio (red line) to help demonstrate his thinking. On August 28th, his projections implied a -0.95% return over the next 10-12 years. It’s the lowest it’s ever been.
“You know it’s a bubble when you have to edit the Y axis on all of your charts because valuations have broken above every historical peak, and estimated future market returns have fallen beyond the lowest points in history, including 1929,” he said.
Hussman provided further historical context to bolster his thesis.
The following chart dates back to 1928. The blue line represents the S&P 500 index. The green line represents the market’s historical norm valuation. And the red line represents the market’s “durable” level. By Hussman’s measure, the S&P 500 is wildly overextended. To him, this is bubble territory.
“The difference between the current S&P 500 (blue line) and valuation norms (green line) has never been so extreme,” he said.
What’s more, the price-to-revenue ratios of the S&P 500 are spiking, leaving Hussman to believe that stocks are disconnected from fundamentals.
Here’s a graph he provided to depict this phenomenon.
Hussman also leans on a catalogue of different market divergences to exhibit his concern, including:
An increase in the number of declining stocks vs. advancing stocks measured on a daily basis.
Almost 50% of stocks trading below their 200-day moving averages.
No new highs for the “NYSE Composite, small-cap Russell 2000, Dow Industrials, Dow Utilities, or Value Line indices” indicating broad fragility.
Against that backdrop, Hussman delivers an ominous forewarning.
“It should not be a surprise that I expect the S&P 500 to lose about two-thirds of its value over the completion of the current market cycle. Such a decline would simply bring valuations to run-of-the-mill historical norms,” he said. “It would not bring valuations to the below-average levels that have typically characterized durable market lows.”
But before you dismiss Hussman as a wonky perma-bear, consider his track record, which he broke down in his latest blog post. Here are the arguments he lays out:
Predicted in March 2000 that tech stocks would plunge 83%, then the tech-heavy Nasdaq 100 index lost an “improbably precise” 83% during a period from 2000 to 2002.
Predicted in 2000 that the S&P 500 would likely see negative total returns over the following decade, which it did.
Predicted in April 2007 that the S&P 500 could lose 40%, then it lost 55% in the subsequent collapse from 2007 to 2009.
However, Hussman’s recent returns have been less-than-stellar. His Strategic Growth Fund has returned just 2.4% over the last year, putting it in the 47th percentile relative to peers, according to Bloomberg data. And it’s actually declined 1.4% on a three-year basis, putting it in the 23rd percentile.
Still, the amount of bearish evidence being unearthed by Hussman continues to mount. Sure, there may still be returns to be realized in this market cycle, but at what point does the mounting risk of a crash become too unbearable?
That’s a question investors will have to answer themselves — and one that Hussman will clearly keep exploring in the interim.