Grantham: Sell in May and Don't Come Back
Jeremy Grantham has been forecasting a rise in the Standard & Poor's 500-stock index to 1,400 or more, but his heart hasn't been in it. Grantham, chief investment strategist of the fund manager GMO, sees the stock market as being in a bubble fueled by Federal Reserve-sponsored easy money. He has been calling in his quarterly letters to investors for stocks to peak in October, but in his latest missive he advises waiting no longer to bail out.
"Lighten up on risk-taking now and don't wait for October 1 as previously recommended," he urges.
Waiting has never been one of Grantham's strengths. He concedes that some of his big calls over the last 40 years, including warnings about Japan, technology and housing, have often been too early, but they have generally been correct. Investors who followed his advice would have come out far ahead in the long run, even if the short run ran against them.
At the risk of being premature again, Grantham notes that the third year in the presidential election cycle is a special time for stocks, producing gains during the first seven months, on average, of about 20 percent above the rate of inflation. That also happens to be nearly all of the average return for stocks across any four-year span, meaning that the remaining 41 months, a period that's about to begin, shows virtually no net increase at all.
The calendar isn't the only thing working against the market. Grantham calculates fair value for the S&P 500 at 920, which would make it nearly 50 percent overvalued, and his letter highlights several other factors that could put the market on borrowed time.
There's the prospect of another oil shock if revolution keeps spreading through the Middle East, perhaps even to Saudi Arabia. Many other commodities are soaring, too, causing inflation pressures in emerging economies, Grantham writes, and then there is what he calls "the Bill Gross effect," a reference to the concern that the celebrated Pimco bond manager has expressed about who is going to buy Treasury bonds after the Fed ceases quantitative easing.
Grantham recommends holding plenty of cash, with sprinklings of high-quality blue chips and stocks of companies in emerging markets and Japan. As he stated in his previous letter, he's also partial to natural resource plays, but his outlook for almost everything else is grim.
"With these headwinds, I do not feel the same degree of confidence that I did, which was considerable, that the Fed could carry all before it until October 1 of this year. A third round of quantitative easing would very probably keep the speculative game going. But without a QE3, there seem to be too many unexpected (indeed unexpectable) special factors weighing against risk-taking in these overpriced times. I had recommended taking a little more risk than was justified by value alone in honor of Year 3 [of the presidential cycle], QE2 and the Fed in general. Risk now should be more reflective of an investment world that has stocks selling at 40 percent over fair value . . . and fixed income, manipulated by the Fed, also badly overpriced."
