Nouriel Roubini is apparently bullish on stocks over the short-term, but longer-term he sees another catastrophe. Specifically, he suggests that there is a "mother of all bubbles" in making!
Roubini's justifies his thesis by arguing that major global economies are heavily dependent on open-ended QE to boost their domestic demand, which will eventually result a much larger credit bubble compared to the 2003-2006 period, as central banks slowly exit the monetary stimulus - at measured pace.
We question how would Roubini's thesis really play out in the stock market. An implication of a stock market bubble is the expanding P/E multiple in (irrational) expectations of rising earnings in the future. For example, during the dot.com bubble, investors were accepting much higher P/E ratios for technology companies expecting rising profits in the future. Once it was evident that these earnings expectations were irrational, the dot.com bubble collapsed.
I think it is very hard to find an analyst right now expecting an extraordinary earnings growth in the near future from any major sector, or the market overall. Thus, how can one justify an expanding multiple thesis?
On the contrary, analysts mostly expect a below normal economic growth - or the new normal. But even if the assumption that credit growth will result in earnings growth holds true, which sectors would provide the leadership?
Over the last 52 weeks, S&P 500 was up by 9.62%, and the leadership came from healthcare (NYSEARCA:XLV) up by 18.89%, financials (NYSEARCA:XLF) up by 18.37%, consumer discretionary (NYSEARCA:XLY) and staples (NYSEARCA:XLP) up by 16.5% and 14.5%, respectively.
It's hard to see how these sectors would continue to lead the market higher. First, the staples and healthcare sectors are defensive plays. Second, financials and discretionary sectors bounced from oversold levels dating to the hearth of the financial crisis, and we know that historically there are no back-to-back bubbles in the same asset (or sector). So we are ruling out the same scenario from the 2003-2006 period. So, if there is a new bubble in the making based on the QE and currency wars, what is it? It's hard to make a case for technology (NYSEARCA:XLK) or economically sensitive energy (NYSEARCA:XLE) sectors.
We think that the new bubble in the making is gold (NYSEARCA:GLD). Thus, we would disagree with Roubini - short term we are bearish to neutral on stocks, and bullish on gold. However, this crisis will eventually end, and the markets will go higher over the long-term, so we are long-term bullish on stocks, and bearish on gold. So our thesis for stocks is short-term bearish to neutral, long-term bullish!
We might as well be in a period resembling late 1970's, a deeper correction before a major uptrend.
Additional disclosure: We trade mostly options on futures.