By Howard Gold
Gold: Are there bidding wars and all-cash offers in your neck of the woods, too?
Stack: Very much so. You’re seeing multiple offers above the asking price and that’s happening in many high-demand areas of the country where people will want to move or own a second home.
When you end up with a speculative psychology, it tends to spill over into multiple asset classes, not just stock market valuations, where they are above the 90th or 95th percentile by most historical measures. Stocks are very, very expensive, historically speaking, but we’re seeing it in real estate, of course, we’ve seen it in cryptocurrencies, like bitcoin /zigman2/quotes/31322028/realtime BTCUSD +0.30% shot up to $60,000 and now is struggling to stay above $30,000
We’ve developed several tools over the years to try to tackle or track that psychology. Recently, we invented our Canary in the Coal Mine index. It’s comprised of 20 of the most notable targets of speculation that have gone parabolic since the pandemic low. If you track the peaks in that speculation and see when that washes out, you’re going to have a handle on when the trouble is going to start permeating into the rest of the market.
Gold: Where do you see the most speculative excess now?
Stack: Today, I think [speculative excess] is spilling over into all of the new IPOs, the SPACs (special purpose acquisition companies). We’re raising money and we don’t know what we’re going to do with it, but we’re going to buy something that makes money. And then we’ve got the new NFTs, non-fungible tokens, digital art — I don’t know if I can even describe adequately what it is other than the fact that it’s not really a physical asset. It is a digital image that you own, but everyone else has a right to see, use and everything. I’ll tell you, it’s so extreme, it’s almost nonsensical. But it’s not unusual. From what we saw in the late 1990s, when companies could go public and had never made a penny, we’re starting to see a lot of that today in the meme stocks [so popular with the] new young traders.
You learn a couple of things as you go through these speculative excesses. Number one, bubbles can never be definitively guaranteed or identified until afterward. The second thing is that the bubble is invisible to those inside the bubble. In other words, don’t go to someone investing in NFTs and try to tell them that they’re speculating in a bubble that could be almost worthless by the time it washes out, because you’re going to get in an argument that you can’t win except in the aftermath.
Gold: You’re talking about a possibility of both inflation and some big selloff in highly overvalued asset classes. That’s a tough market environment, so where do you think people should put their money and not put their money now?
Stack: We are in one of the most overvalued markets in history and one of the most speculative excess periods in history, so you don’t have to be fully invested today. For our portfolio, we are short-term constructive on the market because we’re giving it the benefit of doubt, but we’re still carrying a 20% cash reserve just because it allows us to sleep at night. If you’re going to invest in today’s market, don’t go out buying the SPACs or the stocks that have infinite PE ratios, because they have yet to make earnings. I would put higher allocations into those sectors that are going to benefit from, or at least be resilient to, increasing inflation. If inflation is sticky, if it stays higher, if we do see interest rates start to rise in terms of normalizing, then you want to be in sectors like the energy sector.
Now for purposes of disclosure, we do own these stocks in our clients’ accounts at Stack Financial Management. ConocoPhillips /zigman2/quotes/207605056/composite COP +1.28% is one of the world’s largest independent exploration and production companies, and oil prices /zigman2/quotes/211629951/delayed CL.1 +0.86% are over $70 a barrel. I wouldn’t be surprised to see them continue to move higher through the year. The materials sector can benefit from rising commodity prices, and I think a company like Eastman Chemical /zigman2/quotes/200039202/composite EMN +1.54% will do very well, and it pays a 2.4% dividend yield.
In the health-care sector, one of the stocks we’re holding is UnitedHealth Group /zigman2/quotes/210453738/composite UNH +0.97% and carries a trailing P/E of only 23 times still pays a couple percent dividends, which is higher than the 10-year Treasury bond yield /zigman2/quotes/211347051/realtime BX:TMUBMUSD10Y -0.18% .
Gold: Obviously there are plenty of ETFs in these sectors — you said materials, energy — any others that you like or that you would avoid?
Stack: If you’re going to invest in ETFs, you can look at energy, materials or health care or, on the defensive side, consumer staples. They’re out of favor right now, but they’re carrying some of the better valuations in this market. Value is what you want to be going for because we’ve seen a great divergence between growth and value, and growth has led the way out of the pandemic, but it’s also carrying some of the highest extreme valuations in the market. And when the Fed does decide to start taking the punchbowl away, that’s where the pains can be felt the greatest. So, again, think safety first, and walk softly and carry a comfortable cash reserve.
Howard Gold is a MarketWatch columnist.