- By John Engle
During the 2020 annual meeting of the Daily Journal Corp. (DJCO) on Feb. 12, Chairman Charlie Munger (Trades, Portfolio) took time to assure shareholders that the stock market, while undoubtedly hot at the time, was not in a bubble like that of the 1990s. Fast forward ten months, however, and Munger is telling a very different story.
On Dec. 14, Munger participated in a virtual interview with the faculty of the California Institute of Technology. According to Munger, unprecedented levels of intervention in capital markets by the Federal Reserve in response to the Coronavirus pandemic has helped drive market exuberance to dangerously high levels.
Playing with fire in uncharted waters
The Fed has taken a leading role in the national response to the Covid-induced stock market crisis, running the proverbial printing presses to support market stability and liquidity, as well as to fund sweeping government economic relief packages for businesses. According to Munger, the Fed is playing a dangerous game:
"This has been unbelievable. There's never been anything quite like it. We're in very uncharted waters. Nobody has gotten by with the kind of money printing now for a very extended period without some kind of trouble. We're very near the edge of playing with fire."
Historically, a rapid expansion of the money supply has consequences, including inflation. While extremely loose monetary policy has yet to be reflected by runaway inflation as some feared, Munger's warning may still prove sobering to investors.
A dramatic bubble inflation
The Fed has embarked on a path of historic market interventions, utilizing tools well outside of monetary policy orthodoxy. When asked whether he thought the market was experiencing a bubble, Munger had this to say:
"Nobody knows when bubbles are going to blow up, but just because it's NASDAQ doesn't mean it'll have another run like this one very quickly again. This has been unbelievable. Again, there's never been anything quite like it. If you stop to think about it, think what Apple is worth compared to John D. Rockefeller's oil empire. It's been the most dramatic thing that's almost ever happened in the entire world history of finance."
The Fed's interventions have not merely propped up markets; they have also driven the "bull market in everything" to new heights. The surge in tech stocks like Apple Inc. (AAPL) has indeed been dramatic. With so much uncertainty facing the global economy, it is hardly surprising that a value investor like Munger is dubious about an overheated stock market.
Expect weaker returns in future
While stocks have had a sustained bull run over the past decade, it is far from certain that this momentum can continue indefinitely. When asked whether he thought equity markets would underperform over the next decade, Munger was unequivocal:
"Yes. Because so many people are in it and the frenzy is so great. The systems of management, the reward systems, are so foolish that I don't think it's going to work at all. I think that the returns will go down, yes. In real terms, the returns will be lower."
Stock prices reflect expectations of future earnings, meaning the current high-flying stock market has priced in a lot of future expectations already. Consequently, it may prove hard for investors to deliver similar returns going forward.
Charlie Munger (Trades, Portfolio) has made a sizable fortune and earned an enviable reputation over the course of a storied investment career that has spanned more than six decades. He played an integral role in making Berkshire Hathaway (BRK.A)(BRK.B) the powerhouse it is today. Thus, when he sounds the alarm, it often pays to listen. In the case of his latest warning, I see ample reason to pay close attention.
Disclosure: No positions.
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This article first appeared on GuruFocus.