Then there is China, which has driven most of global growth “for the last 30 years.” That nation’s inability to manage the Covid-19 pandemic is colliding with a property bubble, he writes.
China is not alone in having serious problems in the real market. “This real estate weakness is mirrored around the world, with U.S. homebuilding for example now declining rapidly to well below average levels, as perhaps it should given the record unaffordability of new mortgages,” Grantham writes.
Aging demographics top the list of long-term threats. “Workers are beginning to be in short supply and will stay that way for the indefinite future in China and the developed world, where no single country is producing babies at replacement rate,” he argues. “Together with rapid ageing, this will be a drag on growth and a push on inflation. Resources: Many metals, especially those required for decarbonizing, are in an unavoidable squeeze, lacking sufficient reserves—which currently are a mere 5% to 20% of what is needed—and capex is woefully low. It simply does not compute, and it makes clear that our existence in any faintly satisfactory condition will depend on our sustained success with replacement, recycling, and new technologies.”
Many of the long-term issues like climate change and food supply that Grantham has been warning about for several decades are rapidly becoming short-term problems, he writes. He urged investors to prepare for “an epic finale.”
This time could be different because Grantham believes we could be confronting what he has called a “trifecta” of bubbles. The current super bubble, he writes, features the most dangerous mix of these factors in modern times: All three major asset classes—housing, stocks, and bonds—were critically historically overvalued at the end of last year. Now we are seeing an inflation surge and rate shock as in the early 1970s as well,” he writes. “And to make matters worse, we have a commodity and energy surge (as painfully seen in 1972 and in 2007) and these commodity shocks have always cast a long growth-suppressing shadow.”
The recent bear market rally “has so far played out exactly in line with its three historical precedents, the bear market rallies that marked the middle phase of deflating super bubbles,” he says.
The next leg for Grantham's model is "likely to be driven by falling margins. Our best guess is that the level of explained P/E will fall toward 15x, compared to the current level of explained P/E of just under 20x, while the actual P/E just rose from 30x to 34x in mid-August in what was probably a bear market rally. (Of course, if the model is indeed driven by falling margins in the near future, then the E will fall as well as the P/E.)," he writes.
Ultimately, Grantham admits he doesn’t know how this will end. “Each cycle is different, and each government response is unpredictable. But these few epic events seem to act according to their very own rules, in their own play, which has apparently just paused between the third and final act. If history repeats, the play will once again be a tragedy. We must hope this time for a minor one,” he concludes.
In a footnote, he adds that “2000 was minor, 1972 major, and 1929, of course, horrific."