By Jesse Colombo
Six years after the Global Financial Crisis, the U.S. stock market continues to soar to new heights with nary a pullback or correction. In this piece, I will explain why the stock market is experiencing a new bubble that is actually another wave of the bubble that has existed since the mid-1990s.
A two-decade old bubble? Yes, you’ve read that correctly. Most people will consider this assertion preposterous, but the facts don’t lie. Though the U.S. stock market has been experiencing a bubble for two decades, it will not last forever. I believe that the ultimate popping of this bubble will have terrifying consequences for both investors and the global economy that is tied so closely to the stock market.
The SP500 stock index has more than tripled since its low in 2009, but that doesn’t mean that we are out of the woods. On the contrary, this is the calm before the storm.
Source: St. Louis Fed
Since the mid-1990s, the U.S. economy and stock market has experienced three different bubbles: the 1990s Dot-com bubble, the mid-2000s housing bubble, and now another bubble that includes stocks, bonds, tech startups, certain segments of the housing market, higher education, and much more. I believe that this new bubble is creating what I call a “Bubblecovery” or a bubble-driven temporary economic recovery that will end in another crisis.
The U.S. Federal Reserve also created a Bubblecovery in the early-2000s to recover from the Dot-com bust, which led to the housing bubble. After the housing bubble burst, the Fed inflated the post-2009 Bubblecovery. After each bubble/Bubblecovery ends, the Fed simply inflates another bubble to recover from the last one. In essence, the U.S. economy and stock market has been in a bubble cycle for the past two decades. Each time, the bubble gets larger, and the Fed has to keep re-inflating it to avoid the economic Depression that would occur if asset prices were allowed to find their true value.
The incessant push to inflate our economy and financial markets has created an unprecedented situation in which stocks have been trading at overvalued levels for a record length of time. Nearly every stock market valuation indicator is giving the same reading: stocks are currently at levels that preceded other major historic busts.
For example, look at the Cyclically Adjusted P/E Ratio (CAPE), or the price-to-earnings ratio based on average inflation-adjusted earnings from the previous 10 years. The 1929 Stock Market Crash and 1970s stagnation occurred after the CAPE rose over 20 – a level that indicates stock market overvaluation. Incredibly, the CAPE has remained over 20 for much of the past two decades, aside from a few short months during the Global Financial Crisis. Without constant Fed intervention, there is no doubt that the U.S. stock market would have corrected violently like it has in the past.