It would take the bravest of hearts to continue buying stocks at current valuations, says ALEX BRUMMER
The Nvidia share collapse is a major drop in the ocean for stock markets.
The £213bn loss of value in one day is huge, but it must also be seen in the context of a 120% increase in the past year as artificial intelligence (AI) has become the most talked about topic in finance.
This pullback illustrates how excessive enthusiasm in stock markets, partly driven by herd behavior, can drive valuations up dramatically.
The Barclays Equity Gilt research shows that equities outperform bonds over the long term.
The Nvidia share slump illustrates how over-enthusiasm in the stock market, driven in part by herd behavior, can drive valuations way up
This has become even more the case in recent crisis years, due to increased volatility in government bond markets, which are considered the safest of all financial institutions.
The strength of the stock markets should come as no great surprise.
A combination of the 2008 financial crisis, Covid and Russia’s worsening war on Ukraine has seen trillions of dollars of government money pumped into economies, pushing government debt in most Western democracies to 100% of national output.
Some of the money went straight into the pockets of taxpayers.
Donald Trump and Joe Biden both sent checks to everyone in America with a Social Security number.
In the UK there have been more indirect subsidies, such as those the Tories have given to pay the energy bill. But the effect of fiscal laxity and quantitative easing, central banks buying bonds to create money, has created a wall of money that has found its way into the stock markets.
The US has benefited greatly from this with its technological superiority and higher productivity. The ‘Magnificent Seven’ tech companies have dragged down the rest of the S&P, the FTSE 100 (slowly) and other indices.
There is now speculation that the driving force behind global prosperity, the US economy, is losing steam. The business cycle tells us that there will be a US slowdown. Apart from technological progress, there is not much to be optimistic about.
The geopolitical situation is dire. Iran and its vassals in Yemen, Lebanon, Gaza, Sudan and elsewhere are wreaking havoc. Efforts to end the dangerous war in the heart of Europe are virtually non-existent.
China’s growth spurt has stalled. And trade barriers are being raised, wiping out the benefits of globalization.
Leading New York bankers are battening down the hatches. Stock markets may have offered the best store of value in decades, but they can destroy savings in the short term. Who can forget the 25% drop in October 1987, the tech collapse of 2000, and so on?
It doesn’t take a US recession to undermine values, but as the wise Keynesian JK Galbraith noted, we do need to beware of “eclipse”: speculative behavior that builds up before a crash.
The cult of shares has waned sharply in the UK, but the success of platforms such as Hargreaves Lansdown, AJ Bell and others has opened a route into shares via funds.
They have a vested interest in praising the markets. The rise of meme stocks, no-commission brokerages and other gimmicks has attracted a whole class of new investors to the US stock market. There is a belief that stocks should only go up and never go down.
A rate cut could protect stock investors from heavy losses.
But the US Federal Reserve, the Bank of England and other banks have kept borrowing costs too high for too long and small rate cuts of a quarter of a percentage point will not be enough to prevent the soft landing from becoming harder.
Only the bravest will continue to buy, if you look at the valuations of many stocks.
half full
After the negative stories about financial and social gaps, Rachel Reeves finally discovers an inner desire for growth.
She has listened to entrepreneurs and venture capitalists by extending for another ten years the tax-efficient Enterprise Investment Scheme and Venture Capital Trust, which have generated £41bn of investment over 30 years.
Both offer investment benefits in the form of tax advantages and capital gains exemption.
It would be a shame if entrepreneurs outside the tent were to be punished by the equalisation of capital gains and income tax.
DIY INVESTMENT PLATFORMS
AJ-Bel
AJ-Bel
Easy investing and ready-made portfolios
Hargreaves Lansdown
Hargreaves Lansdown
Free Fund Trading and Investment Ideas
interactive investor
interactive investor
Fixed investment costs from £4.99 per month
Saxo
Saxo
Get £200 back on trading fees
Trading 212
Trading 212
Free trading and no account fees
Affiliate links: If you purchase a product, This is Money may earn a commission. These deals are chosen by our editorial team because we think they are worth highlighting. This does not affect our editorial independence.