Howard Marks, the co-founder, and co-chairman of Oaktree Capital Management, who predicted the dot-com bubble 25 years ago has alerted investors about cautionary signs in the market in his latest paper called, “On Bubble Watch”.
What Happened: According to Marks, these cautionary signs include the over-optimism in the market, ongoing AI hype, reliance on ‘Magnificent Seven’ stocks, and index investing bias.
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Even though Marks doesn’t “speak authoritatively about whether we're in a bubble,” in his paper, he does say that investors shouldn't be indifferent to these signs.
- Over-optimism: Market exuberance since late 2022, coupled with high S&P 500 valuations exceeding global peers.
- AI Hype: Enthusiasm for AI may be spilling over to other tech sectors.
- Tech Giant Reliance: Over-reliance on the continued success of the top seven companies.
- Index Investing Bias: Potential for inflated valuations driven by index fund purchases, disregarding intrinsic value.
Marks mentions in his paper that a stock market bubble manifests as a temporary mania fueled by irrational exuberance, blind adoration of companies, and an overwhelming fear of missing out.
The conviction that stocks are impervious to overvaluation, leads to the belief that “there’s no price too high.”
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Why It Matters: About 25 years ago on Jan. 7, 2000, Marks published a memo called bubble.com, and the subject was the irrational behavior he thought was taking place with respect to tech, internet, and e-commerce stocks. This was how he predicted the dot-com bubble.
“But for me, a bubble or crash is more a state of mind than a quantitative calculation,” he added.
Marks warranted that investors should not avoid today's market valuations.
Drawing examples from the 2000 bubble, he highlighted the twenty companies that were the most heavily represented in the index. At the beginning of 2024, however, only six of them were still in the top twenty. Importantly, of today's ‘Magnificent Seven,’ only Microsoft Inc. MSFT was in the top twenty 25 years ago.
“In bubbles, investors treat the leading companies – and pay for their stocks – as though the firms are sure to remain leaders for decades,” he said.
He acknowledged counterarguments suggesting the market might not be in a bubble. These included the observation that while the S&P 500’s P/E ratio is elevated but not at an absurd level. Furthermore, he acknowledged that the “Magnificent Seven” are indeed exceptional companies, potentially justifying their high valuations.
Finally, he concluded that while the market appears expensive and perhaps slightly overheated, it doesn’t exhibit the irrational exuberance characteristic of a true bubble.
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Photo courtesy: Oaktree Capital Management
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