Archive for July 31st, 2009

Grantham: Are Stocks Fairly Priced?

Posted by: Ben Steverman on July 31, 2009

Better-than-expected economic data bolster the case that the recent stock market rally was based on solid fundamentals.

According to the U.S. GDP report, the economy contracted 6.4% in the first quarter of 2009, but only declined 1% last quarter. That’s progress, and (as much as such things make sense) it arguably justifies the S&P 500’s 46% advance since Mar. 9.

But what now? GMO’s Jeremy Grantham describes the dilemma facing investors in his quarterly letter. One thing I admire about Grantham is his honesty: He admits when he really doesn’t know what’s going to happen next. As a value investor, Grantham has definite opinions about what the stock market should be worth, but he’s aware the market usually acts irrationally.

So the problem right now for Grantham is that, for one brief moment, stocks seem to be fairly priced:

A year ago, equities globally — and everything else for that matter — were very overpriced, particularly if they were risky. A quarter ago, in mid-March, prices everywhere were cheap. Now they have all — or almost all — converged for a few unusual moments at fair value.

Grantham, who thrives on exploiting the market’s irrationalities, is finding fewer opportunities in such a rational environment. “When markets sell at normal prices, life for us becomes much harder, perhaps 10 times harder,” he writes.

One of the only things he can do is wait:

Just be patient. In our strange markets, you usually don’t have to wait too long for something really bizarre to show up.

Read Grantham’s entire note here.

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