A failure to execute – Monetary policymakers are always reluctant to act to stop market booms


Kevin Murphy

Kevin Murphy

Fund Manager, Equity Value

In 1996, as stock markets stood on a price/earnings (P/E) ratio of 20x, the chairman of the Federal Reserve made a speech attempting to stop the boom that was taking place. Now, some 17 years later as global stock markets continue their rise and the equity market stands on a P/E of 18x, should we be expecting a similar speech from leaders around the world? Here on The Value Perspective, we are not holding our breath….

“The immediate death not only has the disadvantage of being immediate but of identifying the executioner.”
J K Galbraith

“How do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions?”
Alan Greenspan

The first of these two quotes – perhaps one of the more macabre to feature in any classic work on economics – is a metaphor used by John Kenneth Galbraith in The Great Crash, 1929, to highlight the reluctance of monetary policymakers to be seen to be taking any action to stop a market boom.

“Booms, it must be noted, are not stopped until after they have started,” he observed. “And after they have started, the action will always look – as it did to the frightened men in the Federal Reserve board in February 1929 – like a decision in favour of immediate as against ultimate death.”

Here on The Value Perspective, we would point investors towards Galbraith’s 1954 bestseller at any time but perhaps especially now that, over the course of the last month, some of the world’s leading stock market indices, including the FTSE all-share, the S&P 500 in the US and the German DAX, have hit all-time highs.

Nor is it just equities – signs of an increasing degree of investor optimism may also be found in other asset classes. Picking two recent examples from government debt, you could – should you feel sufficiently compensated for doing so – pick up a 3.3% yield investing with the Thai government for 10 years or 6.9% investing for the same length of time in Rwanda’s first foray into the space.

This brings us neatly enough to the second of the above quotes, which featured in a 1996 speech by Alan Greenspan as the stock market stood on a price/earnings ratio (P/E) of 20x. What the then chairman of the US Federal Reserve was essentially trying to do was to stop the boom – a brave thing to attempt since, if he had been successful, the identity of the executioner would have been known.

Some 17 years on from Greenspan’s speech, the equity market stands on a P/E of 18x – in other words we are just 10% away from once again hitting levels Greenspan thought were irrationally exuberant – so can we expect to hear from a would-be executioner any time soon? Here on The Value Perspective, we are not holding our breath.

Far from stopping the boom, in recent years, all the rhetoric – most famously, ECB president Mario Draghi’s “whatever it takes” speech – and the actions of the world’s central bankers and politicians have served to fuel it, as the huge injections of liquidity into the global system seen from, for instance, the US and Japan find their way into financial markets.

As we have acknowledged before in articles such as the seesaw of sentiment, value investors do have something of a reputation as perpetual party-poopers, always moaning during rising markets about how things cannot continue heading upwards forever. We would instead suggest that, while we are all affected to some extent by the environment in which we operate, value investors strive to remain more neutral than the crowd.

This is with a view to profiting from everybody else’s extremes of emotion and this would certainly appear to be a time when emotions are growing more extreme. The end of the boom, whether it proves immediate or not, may still be some way off – the rally of the late 1990s carried on for three more years after Greenspan’s speech – but we are now in an environment where investors should be very cautious indeed about what is going on across all financial markets.



Kevin Murphy

Kevin Murphy

Fund Manager, Equity Value

I joined Schroders in 2000 as an equity analyst with a focus on construction and building materials.  In 2006, Nick Kirrage and I took over management of a fund that seeks to identify and exploit deeply out of favour investment opportunities. In 2010, Nick and I also took over management of the team's flagship UK value fund seeking to offer income and capital growth.

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