Charlie Munger: Beware the Market Frenzy

- From John Engle

During the 2020 annual meeting of the Daily Journal Corp. (DJCO) on February 12, Chairman Charlie Munger (Trades, Portfolio) took the time to reassure shareholders that while the stock market was undoubtedly hot at the time, it wasn't like a bubble that was the 1990s. Ten months later, Munger tells a completely different story.
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On December 14th, Munger participated in a virtual interview with the faculty at the California Institute of Technology. Munger said an unprecedented level of Federal Reserve intervention in capital markets in response to the coronavirus pandemic has helped the market exuberance soar to dangerously high levels.
Play with fire in uncharted waters
The Fed has taken a leading role in the national response to the Covid-triggered stock market crisis, running the proverbial printing presses to support market stability and liquidity, as well as funding comprehensive government economic packages for businesses. According to Munger, the Fed is playing a dangerous game:

"That was unbelievable. There has never been anything like it. We are in very unfamiliar waters. Nobody has understood each other without problems with the type of money printing for a long period of time. We are very close to the edge of playing with fire."

Historically, rapid expansion of the money supply has consequences, including inflation. While extremely loose monetary policy is not yet mirrored in spiraling inflation, as some feared, Munger's warning may prove sobering to investors.
A dramatic bubble inflation
The Fed has embarked on a path of historic market intervention and deployed instruments that are far beyond monetary orthodoxy. When asked if the market was going to bubble, Munger said the following:

"Nobody knows when bubbles are going to explode, but just because it's NASDAQ doesn't mean there will be another run like this very quickly. That was amazing. Again, there has never been anything like it. If you think about it, what Apple is worth compared to John D. Rockefeller's oil empire. It was the most dramatic thing that has almost ever happened in the entire history of finance. "

The Fed's interventions have not only supported the markets. They have also taken the "bull market in everything" to new heights. The rise in tech stocks like Apple Inc. (AAPL) has been dramatic indeed. Given the great uncertainty surrounding the global economy, it is not surprising that a value investor like Munger has doubts about an overheated stock market.
Expect weaker returns in the future
While stocks have seen a sustained uptrend over the past decade, it is by no means certain that this momentum can continue indefinitely. When asked if he believed the stock markets would underperform in the next decade, Munger was clear:

"Yes. Because there are so many people and the frenzy is so big. The management systems, the reward systems, are so stupid that I don't think it will work at all. I think the returns will go down. Yes, they will get real Returns will be lower. "

Stock prices reflect expectations for future earnings, which means that the current soaring stock market has already priced in many future expectations. As a result, it can be difficult for investors to achieve similar returns in the future.
My judgment
Charlie Munger (Trades, Portfolio) has made formidable fortunes and an enviable reputation over the course of his six-plus decade-long investment career. He played an important role in making Berkshire Hathaway (BRK.A) (BRK.B) the powerhouse it is today. So when he sounds the alarm, it's often worth listening. In the event of his final warning, I see sufficient reason to pay attention.
Disclosure: No positions.
Read more here:
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