Reverse tepper principle at play here. yes the fed wont hike with stocks like this but it won't help investors because they are losing money anyway. Had stocks risen the Fed would have, which would kill the rally. So either way people would have lost. I'm sure this was part of the reason why people liquidated over the last few days
Here is an excellent paper (from 2002) that explains the fallacy that current investors fall for (stocks are cheap because interest rates are low, "where else should I put my money") http://papers.ssrn.com/sol3/papers.cfm?abstract_id=381480 The Cliff's notes (pun intended) are: the Fed model (looking at bond yields and earnings yields to make investment decisions) is flawled both theoretically and empirically. Looking at just P/Es and making your decision based on just that is a superior return forecaster over long-periods. US stocks are likely to have low returns over the next 10 years as a result of that (regarless of what happen to interest rates)
This paper shows that there is a flaw in the way that people price stocks are a result of this fallacy which leads to ocassional mispricing in indexes as a result of that. One of those was the severe undervaluation of US equities in the 70's (which made people like Buffett very rich, one could argue his networth would be a fraction of what it is today if he didn't get to go all-in at such low PEs and then compounded the net result after for decades) Another one I would argue is currently with Shiller PE's being so high just because rates are low. People created a momentum trade based on this fallacy but over longer periods, the market is a weighting machine, this sort of nonsense breaks at some point and economic reality hits
Point is, distortions caused by the Fed model lead to a overpricing or underpricing of risk in some situations in stock markets. The Fed model can lead people to buy or sell at the wrong moment. Tepper is very much right that there is not much of a safety cushion in the stock market at these P/Es. If things go right, you make a bit more, if they go wrong, you lose big time If one absolutely needs to be long equities, it makes much more sense to find some key emerging markets with better valuations than to chase this momentum trade
This is sort of thing that makes me serioulsy consider starting to buy Brazilian equities. I have one advantage with it that most people don't, which is I don't have to care about the exchange rate because I live there. But the point is that interest rates are rising and there is a fiscal and economic crisis, its quite likely that P/E ratios will be overly punished by that. So dollar cost averaging makes sense. I like DCA because its lilkely the markets continue to struggle (which with DCA will get you a better overall avg entry) and psychologically I find it much easier to follow than buying all at once and watching your investment tank by 20% I'm not saying other people should follow this trade (because of the FX risk) but the point is (the Cliff Asness mentions this) buying countries with high interest rates (and low stock market PEs) is a good way to exploit this inneficiency. It would be interesting to see an ETF that would profit from this. It would buy all the countries with low P/Es AND high interest rates.
Effectively, a good global investor can find its Buffett 1974 moment every few years if he is astute enough. I believe Turkey might be another case where this underpricing is going on but I would have to take FX risk, which makes things a lot more complicated. This goes to show why this opportunity for me in Brazilian stocks might be so good
TUR (turkey) PE ratio is 9.5 and the 10y bond yield is 10% RSX (russia) PE ratio is 6.8 and the 10y bond yield is 11% probably good examples of that as well. I believe Jim Rogers is long Russia
El-Erian on Brazi http://www.bloombergview.com/articles/2015-09-23/the-anatomy-of-brazil-s-financial-meltdown I agree with him on this. Brazil is on a slow motion TARP situation. When congress voted down TARP stocks pluged and they reversed their vote. In Brazil congress needs to approve austerity but they don't because they are trying to weaken the president so she gets impeached. This makes markets slow and steady keep declining as people get afraid. Its not really plunging so hard that it would force them to reverse course so the feedback loop continues But still, I don't think its a good short. How many people have gotten rich shorting oversold markets where whether it bounces huge or continues to grind down depends on what 5 or 6 people do behind the scenes? Its just not a solid setup, even if it works. On my daytrading account I got EWZ on watch for a bounce play IF congress signals they will play ball. If they do, this thing will bounce hard and fast. Possibly for days
Goverments want stocks to rise, to bet against them might work for a while (and now it is for political reasons) but its a dangerous game to play imo