Here’s an easy question for you.
Are stock markets in or approaching bubble territory?
Of course, it depends which stock markets we’re talking about.
But if you answered yes then we’d have to agree. Generally speaking stock markets are in or approaching bubble territory.
That’s got to be bad news right? It’s got to mean stock markets are primed to crash. That’s the argument put forward by the bubble watchers.
But as we’ll show you today, a stock price bubble doesn’t always mean a crash is imminent. In fact, it can be the pre-cursor to the bubble growing further.
Just ask the Danish…
We’ll make something clear, just in case you’re not sure of where we stand. We’re not one of those zombie lame-brained mainstream analysts who think the world has recovered from the 2008 meltdown.
We’re not one of those dopes who urged governments and central banks to intervene.
And we’re not one of those stock market cheerleaders who think it’s always a good time to invest in stocks. If you’re a long-time Money Morning reader you’ll know we’ve advised readers to get into stocks when things look good, and get out of stocks when things look bad.
So when we tell you it’s still a great time to own stocks, you can be sure that we believe it.
Bubbles Burst When They Burst and Not Before
OK. Now we’ve made that clear, we can make our point.
A common mistake made by bubble watchers is to assume that once they’ve spotted a bubble that bubble must immediately burst.
They don’t seem to accept the possibility that already stretched valuations can stretch even further. Or that company earnings could improve so that the valuation remains the same even though the price may go higher.
But the stock market is only half the ledger. The other side of the ledger is the debt market. The assumption on both sides of the debt debate is potentially flawed.
On the one hand those who rail against high debt levels say that central banks can’t do anymore with interest rates. They say that it’s inevitable that interest rates will rise. And when interest rates do go up it will spell trouble for borrowers, banks, companies, and the economy.
On the other hand, those who say the high debt levels don’t matter, argue that interest rates won’t go up, but that they won’t go down either. They say central banks have done as much as they can and that interest rates are now structurally – and potentially permanently – low.
But there is another possibility. And that’s where the Danish enter the frame…
Paying to Save
According to Bloomberg News, Denmark has the world’s highest household debt levels. The report notes:
‘Danish households owe their creditors 321 percent of disposable incomes, according to the Organisation for Economic Cooperation and Development. That’s the highest ratio in the world and a level that has prompted warnings from both the OECD and the International Monetary Fund to rein in borrowing.‘
As you’d expect, the Danes are eager to say that high household debt levels aren’t a problem. We’re sure the Danes are also fond of saying, ‘Det er anderledes her.’ That’s Danish for, ‘It’s different here.’
And maybe they’re right. Who knows?
For all those saying Denmark has a problem and should be worried, well, what if things are different there? What if Denmark provides a clue of what could happen elsewhere? What if Denmark has found a way to inflate bubbles further than most think possible?
That’s a heck of a lot of questions. And remember, we’re not saying any of this is desirable in the long run. All we’re saying is that folks shouldn’t be in a hurry to shout about bubbles if there’s a chance the bubble could keep expanding.
So, what’s the Danish secret?
Well, since 2012 the Danish central bank has operated a negative interest rate policy of minus 0.1%. That means in effect that banks have to pay in order to hold cash on deposit with the Danish central bank.
Needless to say, that’s not ideal for Danish banks. Why would they waste their capital by holding cash at the central bank when they could use it more effectively…by lending the money to borrowers?
Hence household debt currently standing at 321% of household income.
Denmark Proves Central Banks Can Cut Further
You can only imagine the impact negative interest rates have had on asset prices.
Like many countries, Denmark went through a housing bubble leading into 2008. And like many countries the housing bubble popped. But since early last year the market has begun to recover. No doubt low interest rates have helped.
But the place where low interest rates have really made their mark is in the Danish stock market. The OMX Copenhagen 20 index is up 160.7% since the 2009 low.
That’s three times better than the Aussie market performance, and it’s even better than the US S&P 500 index, which has ‘only’ clocked up a 148.5% gain.
This is why we caution people about selling stocks too early because they think they’ve identified a bubble. Remember, many cautioned during the mid-1990′s about the emerging internet stock bubble.
They were right to caution about it, but probably wrong to sell or short sell stocks seeing as even the blue-chip S&P 500 index gained 218% from 1995 to 2000. That’s a pretty good return.
The way we see it is that sure a stock bubble is forming, but it’s nowhere near the top. As we’ve warned, that doesn’t mean you should put all your money into stocks. But it does mean if you’re out of the market you’re also missing out on a lot of gains.
Contrary to popular opinion, the US Federal Reserve, European Central Bank, Bank of England, Bank of Japan, and even the Reserve Bank of Australia can still cut rates lower if they want. Look at Denmark. Maybe negative interest rates are on the way. How attractive would cash be in that scenario?
Cheers,
Kris+
From the Port Phillip Publishing Library
Special Report: 574 Years in the Making
