Legendary investor Jeremy Grantham says he expects the S&P 500 to drop 50% in 2023 in a worst-case scenario
Jeremy Grantham is still quite sceptical when he talks about the outlook for 2023-2024. His predictions are usually not very rosy, but he has already shocked more than one investor with the accuracy and correctness of his predictions.
Why is Grantham respected by the public?
Grantham became famous for observing and profiting from bubbles in Japan in the late 1980s, technology stocks at the turn of the century and during the 2008 financial crisis.
Why is Grantham warning us of another sharp downturn?
In a worst-case scenario, Grantham expects the S&P 500 to fall as much as 50% to around 2,000-2,100 points. In the base case, he says the S&P 500 will fall by more than 20% towards 3,200 points by the end of this year.
The key to whether Grantham's bleak scenario plays out this year hinges on investor confidence, which has been on a slow but steady decline through 2022 as every stock rally has ended in a sell-off. As in 2000 or 2007, any significant drop in investor confidence could lead to a rapid unwinding of asset prices.
He defines the following as the main problems: The housing market turnaround, the economy entering recession, falling corporate profits, and the U.S. debt ceiling. Any one of these factors, according to Grantham, could cause a rapid and severe decline that would disrupt the current rally.
Investors should also definitely not be optimistic and place their hopes in the hands of the Fed. Investors should not look to the Federal Reserve for help in the form of interest rate cuts, according to Grantham. That's because 1929, 2000 and 2007 saw most of the stock market's decline after the Fed's first rate cut.
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Despite the bearish outlook, Grantham said there are some parts of the market that investors should consider in the medium to long term. This is a top pick of them 👇
1. On stock market valuations
"Valuations are still nowhere near their long-term averages," Grantham said. "My calculations of the S&P 500's trendline value, adjusted upward for trendline growth and expected inflation, are about 3,200 by the end of 2023. I believe it is likely (3-to-1) to reach that trendline and spend at least some time below it this year or next."
2. On what could prevent a bear market
"There are a number of factors - Falling inflation, continued strength in the labor market, and the reopening of the Chinese economy if it is not crippled by the virus again - that could mark a break in the bear trend."
3. The long-term problem is a declining population
"The biggest problem remains that the long-term issues of declining population, resource scarcity and the growing damage from climate change are starting to bite hard at growth prospects."
4. The housing market
"The bursting of the global housing bubble, which is only just beginning, is likely to have a more painful economic domino effect than the decline in stocks... Housing market downturns seem to last two to three times longer than for stocks - for example, it has taken six years since 2006 for the US to reach a low - and housing is more directly involved in the economy than stocks through housing starts and related spending.
5. The worst case scenario leads me to the theory of a 50% decline in the S&P 500
"Unfortunately, there are more negatives than positives. In the worst case scenario, if the world falls into a severe recession, the market could fall 50% from here. To put that in perspective, it would still be a much smaller percentage deviation from trendline value than the over 70% overvaluation we had at the end of 2021. So you shouldn't be tempted to think it can't happen," Grantham said.
- Grantham believes the recession is unlikely to start until six months to a year from now... We can conclude that the ultimate low for this market could be as late as 2024, in Grantham's words.
6. On what to own in the stock market in the future
"Despite the generally unattractive nature of the U.S. stock market and the extremely tricky global economy, there are still a surprising number of reasonable investment opportunities, even if they are not exactly sensational... Emerging markets are reasonably priced and the emerging market value sector is cheap," Grantham said.
"For those with an investment horizon of more than five years or more, I believe stocks related to addressing climate change and the growing pressure on many commodities have a substantial advantage over the rest of the economy as world governments and corporations begin to accept the urgency of these issues."
- What do you think of Grantham's word?
- Will his scenario of a 50% decline work out?
Please note that this is not financial advice.