First it was toilet paper – now it’s our coffee
March 26, 2021 by The Q.ai Team
This newsletter focuses on dealing with an overvalued market.
As always, memes are the only thing making this (other) global crisis tolerable
First-time unemployment claims are at the lowest point since last March, the economy is mostly reopening but COVID cases are also rising, treasury bond yields are making everyone emotional and the Biden administration has doubled its vaccine target to 200 million by the first 100 days in office. What do we make of all this news? Do we blame markets for being just as confused?
In this newsletter:
- 5 headlines that sum up the week
- An unforeseen side effect of the Suez Canal crisis
- What to do in an overvalued market
- Our rec of the week
Five headlines that sum up the week
1. The stock market is set for back-to-back weekly losses
The speculative market swings that are driven by news headlines are only the tip of the iceberg here. Let’s dive into some other underlying reasons why markets are in a fizzy.
- 10-year treasury yield is currently 1.662% (up from 1.59% this week)
- Personal income declined in February by 7.1% (estimated at 7%)
- Consumer spending fell by 1% (estimated at 0.8%)
- Personal-consumption expenditures (PCE) rose 0.2%
In aggregate, these data points can be used to indicate whether to anticipate inflation – the kryptonite to bonds. And with COVID cases flaring up in parts of Europe and the U.S., reopening the economy hasn’t been a totally smooth process. The rotation from growth (i.e. lots of tech) to value stocks mirror this bumpy transition, making markets volatile and hard to predict.
might wants to buy Discord for $10 billion
Microsoft is going after youngsters – probably after realizing LinkedIn was not the key to Gen Z’s hearts. It first tried to acquire Pinterest (and failed). Then, it attempted (and also failed) to buy TikTok. Now, its sights are set on Discord. Discord was first known as a chat community for gamers – so on the surface it makes sense why Microsoft would want to bridge the gap between Discord and Xbox. Personally, we love Discord. It’s a way for us to connect with excited users and receive product feedback. If this acquisition happens, let’s just hope Discord doesn’t crash and burn like Skype did.
3. Slack released a new feature and quickly pulled it off the shelf
A record-speed, Slack has already rolled back Slack Connect DMs, a new feature that allowed people outside your workspace to send direct messages even if you’re not already connected. This spurred concerns around harassment among the avid – albeit reluctant – Slack users who view Slack as their primary tether to work from their homes. Not one person was keen to spend even more time on Slack. The company considers it “a mistake in this initial rollout that is inconsistent with our goals for the product.”
4. Jack Dorsey was called out for trolling Congress during a hearing
“Your multitasking skills are quite impressive” – Rep. Kathleen Rice to Dorsey
During a congressional hearing with Big Tech CEOs, Jack Dorsey tweeted out an ominous poll, with no real question at all. It was clearly in reference to the interrogation-style line of questioning the CEOs from Twitter, Facebook and Google were receiving about their company’s handling of vaccine disinformation, election fraud and the extremism on their platforms. In case anyone cared, Dorsey did confirm on Twitter that he was also barefoot during the hearing.
5. Pepsi has released a new flavor just in time for Easter
Peeps. That is the secret sauce in the new Pepsi flavor. “Pepsi x Peeps” blends marshmallows and, well, Pepsi. A combination that literally no one is lobbying for, but go off. Are you super excited about this new collab? Pepsi is giving away 3,000 packages – each containing three 7.5-ounce mini-cans in bright yellow, pink and blue colors – through its #HangingWithMyPEEPS contest on Instagram and Twitter.
ICYMI: We Might Have Another Toilet Paper Shortage
As you probably already know, the Suez Canal is blocked by a massive ship and it could take weeks to dislodge the jam. To clarify, the ship wasn’t trying to make a u-turn – the main culprit was actually the wind.
Naturally, this was sparked a lot of really funny memes, and what kind of newsletter would we be if we didn’t share some of them.
All jokes aside, some negative consequences could be another toilet paper shortage. And considering everyone was so gracious to one another and did not hoard toilet paper at the start of the pandemic, I don’t think anyone has to worry. It isn’t like we have data supporting the volume of people jumping on the bidet train as a result of COVID.
But it’s all fun and games until they come after our coffee, too. There aren’t serious withdrawal symptoms from not using toilet paper, but people could become absolutely rabid if they don’t get their AM fix. Let’s just hope that we can get an even bigger ship to push this ship out – or we come up with an alternate route for our beloved coffee.
What to Do in an Overvalued Market
A market can become overvalued for a number of reasons including investor emotion, economic activity and value traps. Investors are best off focusing on undervalued investments, balancing portfolios with non-stock assets and powering through with the current investment plan they have in place.
“The market” – for our purposes, the securities that comprise the U.S. trading economy – is an unwieldy beast. Due to its intricate nature, it’s hard to apply a blanket statement about all market movements.
But some terms can apply to most securities in the broader market. One of these that has come roaring back is that the market is overvalued. And it’s no surprise, either – the U.S. stock market has been trending up for the better part of a decade. The coronavirus pandemic slowed the growth temporarily, but many stocks are now in a better position than they were a year ago. Overvaluation seems to keep on climbing, and when – or whether – this apparent bubble will burst is anybody’s guess.
So, what’s a savvy investor to do about it?
How to Measure an Overvalued Market
Measuring a single stock’s overvaluation is fairly simple. Measuring the entire market, however, can take some wrangling.
One of the easiest ways is to measure the performance of a large index, such as the S&P 500 or the Nasdaq, as a surrogate for the entire U.S. market. Certainly, they don’t include every stock on the market, but they can provide a fair indicator of how a significant segment performs. And once you apply an indicator, such as the P/E ratio or the Q ratio, you can compare current performance against past data or future projects to determine the valuation of the market at large.
Image Credit: Screenshot from advisorperspectives.com
Causes of an Overvalued Market
1. Investor Emotion – One of the most direct causes of overvaluation in the short-term is investors artificially inflating the market by acting on emotional responses. This could be due to reacting to something in the news or seeing other investors buy up a particular stock.
2. Economic Activity – The coronavirus pandemic is a perfect example. When bad news struck, businesses and investors lost millions overnight. Many businesses struggled afterward, while some leapt up in spite of poor economic performance. As a result, some reasonably valued companies became overvalued through no intentional action of their own. The impacts ripple in the market even today – this is one of the reasons that blue-chip stocks and the S&P 500 have been considered overvalued.
3. Value Traps – These occur when companies in economy-reliant industries, such as car manufacturers and steel mills, become subject to the whims of economic cycles. As the economy suffers, these businesses may lose or stall in profits. Then, as the economy expands, they surge forward with higher earnings, bigger dividends and lower P/E ratios. This can cause businesses and even entire sectors to appear undervalued as a result of their underlying financials.
What Should Investors Do in an Overvalued Market?
1. Focus on Undervalued Investments – If you’re looking to cash in during an overvalued market, you might start with undervalued investments. Just because the market is overvalued doesn’t mean every sector is – just look at Nasdaq’s valuation against the S&P 500. Of course, this strategy requires some foresight and faith. For instance, while oil and gas are currently undervalued, the push for green energy may eventually make this undervaluation a long-term reality. Buying these undervalued stocks now may not fit with a long-term investing plan, though it may potentially lead to short-term returns.
2. Balance Your Portfolio with Non-Stock Assets
Another way to address an overvalued market is to look outside traditional securities. Bonds, mutual funds, ETFs, and commodities not only diversify your portfolio, but they provide protection against the inevitable drop in valuation. And if you’re feeling particularly adventurous, you can gaze beyond domestic borders to foreign securities.
If you’re looking for more complex assets, you may also consider investments such as trusts, REITs, Forex, traditional real estate holdings, or even options. However, these are not always beginner-friendly assets; as such, it’s important to do your due diligence or even enlist the services of a financial professional.
3. But Most of All, Stick to Your Plan – Trying to time the market, beat the market, or otherwise outwit a non-living entity controlled by millions of rational and irrational minds at odds is, in and of itself, an irrational decision. Instead of worrying about what the market is doing in overvaluation territory, stick to your investment plan. If you dollar-cost average by investing $100 every month, regardless of performance, keep at it. If you rebalance your portfolio every 12 weeks just in case, get ready to trim down or buff up accordingly.
The bottom line
As Warren Buffet can attest, the market rewards long-term investing strategies. Thus, holding your assets will likely net better returns than panicking over the market’s P/E ratio. If you want to take advantage of this moment, buy a stock that is undervalued.
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Yesterday’s Yahoo! Finance interview with Ray Dalio covers market volatility, the economy and bitcoin. For those who are unfamiliar with Ray Dalio, he is the founder of Bridgewater Associates, the largest hedge fund in the world. One of our AI strategies, Diversify & Thrive, is inspired by his investment style.