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Jeremy Grantham: US Stocks are Expensive and Bonds are Disgusting

Jeremy Grantham, who has consistently identified overpricing in the US equity markets – he flagged both the Dot Com bubble and the irrational pricing that preceded the financial crisis, for instance – said last week that US stocks are “a little expensive” and bonds are “disgusting.” But his sternest warning to investors concerned the longer-term threat posed by global resource constraints. Abnormally high corporate profits are the primary reason for Grantham’s contention that stocks are overvalued. Reversion to the mean is the core expectation that undergirds his firm’s investment philosophy, and when profit margins revert to their historical averages, he argued, investors will suffer weak returns. Grantham is the co-founder. | Jeremy Grantham US Stocks are Expensive and Bonds are Disgusting By Robert Huebscher June 26 2012 Jeremy Grantham who has consistently identified overpricing in the US equity markets - he flagged both the Dot Com bubble and the irrational pricing that preceded the financial crisis for instance - said last week that US stocks are a little expensive and bonds are disgusting. But his sternest warning to investors concerned the longer-term threat posed by global resource constraints. Abnormally high corporate profits are the primary reason for Grantham s contention that stocks are overvalued. Reversion to the mean is the core expectation that undergirds his firm s investment philosophy and when profit margins revert to their historical averages he argued investors will suffer weak returns. Grantham is the co-founder and chief investment strategist of Grantham Mayo van Otterloo GMO the Boston-based asset manager. His was one of the keynote presentations at last week s Morningstar Investment Conference held in Chicago. I ll discuss Grantham s concerns about natural resources - he devoted most of his talk to that subject - but first let s look at his assessment of valuations in global capital markets. I ll conclude with some very specific advice from Grantham on how investors can make money. The problems with stocks and bonds Followers of Grantham - and our readers - are familiar with GMO s investment process which is based on a faithful reliance that certain key variables that drive stock prices -such as P E ratios revenue growth and profit margins - will reliably revert to their means. GMO regularly publishes its forecast for market returns which it projects over a seven-year time horizon. It ruthlessly normalizes earnings Grantham said assuming they will return to their historical averages by the time seven years have passed. Abnormally high earnings will lead to disappointing US equity returns Grantham said. The great majority think US equities are reasonably cheap he