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Among the views I share this quarter:
- While we may not be in a broad market bubble, frothy conditions in IPOs, SPACs, and other areas call for a defensive mindset.
- Fed policy, fiscal spending, and vaccine success may be moving us from near-term inflation to something more ingrained.
- Opportunistic investing can be a powerful return driver, but it requires resources, a thorough process, and a diversified approach.
When confronted with uncertainty, investors often look to history as a guide. In this quarter’s edition of Top of Mind, I consider what history has to tell us when assessing whether we’re facing a market bubble and what we should do about it. I also update my inflation outlook and share a few thoughts on how different inflation risks can impact a portfolio. Finally, I offer a framework for assessing and implementing opportunistic allocations that could provide a tailwind for total returns.
Are we in a market bubble — and what can we do about it?
Over time, securities and asset classes can go through cycles of being undervalued or overvalued by the market. But for an asset class to be in a bubble, investors need to be buying without regard to price. Or, from a different perspective, investors may be buying precisely because the price is going up, without regard to fundamentals.
Why think about bubbles? If we’re aware of them, we have the opportunity to get out of the way from an asset allocation standpoint. We can also better assess managers if we understand how their investment style tends to perform in a bubble environment. And we can be prepared for the business cycle implications (capital is misallocated during a bubble, which can lead to a slowdown or recession). Perhaps most important, bubbles create a speculative mindset whereby investors lower their guard and make poor decisions. For example, the bursting of the late-1990s equity bubble was followed by the Enron/WorldCom credit crisis. And the global financial crisis exposed weaknesses in auction-rate securities markets and the Bernie Madoff Ponzi scheme.
Today, bubbles are top of mind for a host of reasons, but I want to focus on warning signs in four areas: broad equity market valuations, IPOs, SPACs, and…
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