Welcome to the 'Everything Bubble'
Tesla is 'between a rock and a hard place'... Is Elon's luck finally running out?... Household debt hits another all-time high... This chart says U.S. stocks are more expensive than ever before... Welcome to the 'everything bubble'...
Troubles continue to mount for Elon Musk...
As regular Digest readers know, the CEO of electric-car maker Tesla (TSLA) recently found himself in hot water after he unexpectedly tweeted that he had secured funding to take the company private at a substantial premium.
The problem was that Musk provided absolutely no evidence that this was actually the case. Critics immediately accused him of illegal market manipulation, and the U.S. Securities and Exchange Commission ("SEC") reportedly began an inquiry into the deal the next day.
However, Musk's subsequent "explanation" this week only cast further doubt on the claim. And according to a report from Fox Business Network yesterday, the government has now opened an official investigation into the matter...
The SEC is ramping up its investigation into Tesla co-founder and chief executive Elon Musk... FOX Business' Charlie Gasparino exclusively reported. The investigation is now "formal," according to Gasparino.
"They're between a rock and a hard place on this one," Gasparino said. "[On one hand] it looks like what Elon Musk said when he said funding was secured, particularly after his statements recently, was not accurate. They don't have the funding actually secured. They're talking to people, what we understand, about the process of going private..."
The San Francisco office of the SEC has sent subpoenas to Tesla regarding its privatization plans and Musk's statement to determine whether the billionaire inventor intentionally misled investors, Gasparino said.
But Musk's problems may not end there...
According to a Wednesday report from the New York Times, the SEC's investigation may extend beyond Musk's recent claims alone...
Even before Mr. Musk's message on Aug. 7, the S.E.C. had been inquiring about issues at Tesla.
About a week earlier, Martin Tripp, a former Tesla employee who has filed a whistle-blower complaint against the company, was interviewed by commission officials over the phone, his lawyer, Stuart Meissner, said.
Mr. Tripp, who was an engineer at a Tesla battery plant in Nevada, said he had seen problems with some of the batteries installed in the company's cars. He has accused Tesla of misleading investors about some production figures.
In the meantime, it seems even some of Musk's biggest supporters are beginning to turn against him...
A separate Times article on Tuesday evening reported several Tesla board members are getting concerned about Musk's "erratic" behavior and are upset that the recent announcement "blindsided" them. Some have even asked him to stop tweeting altogether... wise advice he has so far ignored.
Perhaps most damning, several of the company's outside directors have already retained two law firms to represent them.
In other news, the latest report from the Federal Reserve Bank of New York confirmed what we noted last week...
Americans continue to take advantage of historically low interest rates to rack up record amounts of debt.
According to its Quarterly Report on Household Debt and Credit, total household debt increased by $82 billion to a record $13.29 trillion in the second quarter. It has increased for 16 consecutive quarters, and is now a massive $618 billion higher than the previous credit cycle peak in the third quarter of 2008.
As we've discussed, this trend is unsustainable, and history suggests it will not end well. However, for now, we're still seeing few signs of an imminent reversal. And overall delinquency rates remain relatively low.
In short, much like the excesses we've been following in the corporate-debt markets, a serious reckoning is inevitable... But it's not here yet.
Of course, today's excesses aren't limited to the credit markets alone...
U.S. stocks have also benefited from the Fed's "easy money" policies. And by one at least important measure, they are now more expensive than ever before in history.
If you've been with us for long, you likely know there are a number of ways to value stocks. One of the most popular is known as the price-to-earnings ("P/E") ratio. As the name implies, this is calculated by dividing a stock's (or stock market index's) share price by its earnings per share.
By this measure the broad U.S. stock market isn't outrageously expensive today. Using analyst estimates for earnings over the next 12 months, the S&P 500 Index currently trades with a P/E of a little more than 17. That's about average over the past several decades.
However, the P/E ratio may not be the best way to value the broad market today...
You see, earnings can be influenced by a number of variables, including cost-cutting, tax cuts (which we just saw), and share buybacks (which have been booming over the past several years), among others. These things can boost earnings per share, and make stocks look cheaper than they would otherwise appear.
Sales are much harder to manipulate. As Porter explained in the Digest early last year, this makes the price-to-sales ("P/S") ratio a more reliable measure of value over the long term. From the April 7, 2017, Digest...
The chart below shows you the ratio between the market value of [large-cap U.S. stocks] and their annual sales. This "price-to-sales" ratio is one of the best ways to measure the real value (or lack of value) in the stock market because there are ways to inflate other measures, like book value ratios and earnings...
As you can see, this measure showed stocks were expensive back then. In fact, as Porter noted at the time, the broad market was more expensive than at any other time in history, outside of the huge dot-com boom of 2000.
Unfortunately, it has only become more expensive since... As you can see in the following updated chart, the S&P 500's P/S ratio officially surpassed its dot-com peak back in January, and it remains near record highs today...
But even this chart may not illustrate just how stretched market valuations are right now...
As regular readers know, the S&P 500 is what's known as a capitalization-weighted (or "cap-weighted") index.
This simply means that large companies are weighted more heavily than smaller ones. As a result, a relatively small number of the S&P's biggest companies – like Apple (AAPL), Microsoft (MSFT), and Amazon (AMZN) – have a huge influence on its price... and therefore, valuation metrics like the P/S ratio.
In other words, the chart above tells you more about the valuation of the biggest S&P companies than the valuation of the typical company in the index.
The following chart accounts for this discrepancy. And as you can see, the S&P 500's median price-to-sales ratio is even more alarming...
According to this measure, the broad U.S. stock market is even more expensive than it was in 2000 by a significant margin.
This chart also highlights a notable difference between the 2000 boom and today...
Back then, the most extreme valuations occurred in big tech stocks. The typical stock in the S&P 500 was far less expensive.
Today, it's a different story. Large-cap stocks are still historically expensive, but the typical stock is dramatically more expensive.
In short, if the 2000 boom was considered an "Internet bubble," this chart suggests we're in an "everything bubble" today.
Of course, as we often say, valuation alone is not a reason to sell. Just because stocks are extremely expensive compared with history today doesn't mean they can't become even more expensive from here.
But as Porter noted when he shared his original chart last spring, "Every bubble will eventually find a pin." And when this one does, history suggests the bust that follows could be equally extreme.
New 52-week highs (as of 8/15/18): Apple (AAPL), Automatic Data Processing (ADP), Blackstone Mortgage Trust (BXMT), and Sysco (SYY).
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Regards,
Justin Brill Baltimore, Maryland August 16, 2018