The most telling headline of the week came in Tuesday’s copy of the Financial Times. In May, the value of merger and acquisition (M&A) deals in America came to $243bn. That doesn’t sound like a very interesting number (a billion here, a billion there…), but it turns into one as soon as you note that it is the highest monthly value on record, and then compare it with similar numbers from the past.
In May 2007, for example, American M&A came to $226bn. And in January 2000, it came to $213bn. Yes – the Americans managed to do more deals last month than they did at the peak of the dotcom and credit bubbles.
I was on the receiving end of a not-particularly-polite lecture from the head of one of the UK’s big investment firms this week about reporting news in a positive, rather than a negative, light. So I have tried very hard to humour him this week by finding the good in this news.
I have failed. What this news tells me isn’t that the American economy is booming. It tells me that, despite the waves of cheap money being chucked at it (the average US firm can borrow in the bond market at about 3%), it isn’t booming. If it were, profits at American firms would be rising. They are not. Instead, US stocks have been pushed up and up again by the way in which firms are borrowing and spending – on buybacks and then on M&A.
Equity markets, says the head of M&A at JP Morgan, are “rewarding deal-driven expansion” at a time when organic growth is “subdued”. This is about weak demand, rubbish profitability and a huge build up in debt levels. I challenge anyone to find the good news in that.
Pessimists might also like to note first that the two previous highs in the deal-making numbers were fast followed by the horrible crashes that went on to scar a generation of investors; and second, that the American market is currently trading on a cyclically adjusted price-to-earnings (p/e) ratio of 27 times. The long-term mean is more like 16 times and it has only been this high in 1929 and just before the other two crashes I have already mentioned.
What will make it crash again? That is impossible to know. But it also isn’t necessary to know. Just as you don’t need to know which snowflake will cause an avalanche to avoid an area of heavy snowfall (you just need to know that conditions are ripe for an avalanche), you don’t need to know what will trigger a crash to be wary of a market (you only need to know that the conditions are in place for a crash). With that in mind we are still keeping our exposure to the American market as a whole to a minimum – and we think you should too.