Friday, 25 October 2013

Equity Risk Premium: Stock bubble? No way, says Alan Greenspan

Stock bubble? No way, says Alan Greenspan

Former Federal Reserve chairman Alan Greenspan says the stock market has room to rise from record levels.

“In a sense, we are actually at relatively low stock prices,” Mr Greenspan, who guided the central bank for more than 18 years, told Bloomberg Television overnight. “So-called equity premiums are still at a very high level, and that means that the momentum of the market is still ultimately up.”

The Standard & Poor’s 500 Index advanced 23 per cent this year through yesterday, pulling within a percentage point of its 23.5 per cent surge in 2009, amid speculation the Fed will delay cuts to its monthly bond purchases until the labour market improves.

Mr Greenspan said the stock market was “just barely above 2007” and the average annual increase in stock prices “throughout the postwar period” was 7 per cent, which leaves room for a rise.

“Price-earnings ratios are not hugely up,” he said. The market has “gone up a huge amount, but it’s not bubbly,” according to Mr Greenspan.

Mr Greenspan, 87, served at the Fed during an era dubbed the “Great Moderation” for its economic stability. In a December 1996 speech, after seven straight quarters of gains in the S&P 500, Mr Greenspan posed a question about how the Fed can know “when irrational exuberance has unduly escalated asset values.”

In the final years of Greenspan’s term, which lasted from 1987 to 2006, a massive housing bubble developed as home prices more than doubled between 2000 and 2006, according to the S&P/Case-Shiller home price index.
Mr Greenspan said today’s housing market doesn’t show the same conditions as it exhibited leading up to the housing crash, and is lending stability to the US economy.

“The level of construction has come up quite substantially, but it’s still only a third of where we were at the previous top,” Mr Greenspan said. “While housing has been a major contributor to what stability we have in the economy, it has not moved considerably.”

Purchases of new US homes rose in August, capping the weakest two months this year, showing the fallout from mortgage rates at a two-year high is cooling the real-estate rebound. Sales increased 7.9 per cent to a 421,000 annualised pace following a 390,000 rate in the prior month that was less than previously estimated, Commerce Department data showed September 25.

Mr Greenspan also praised Fed vice-chairman Janet Yellen, whom President Barack Obama has nominated as the next head of the central bank, both in the Bloomberg interview and in an earlier interview on CNBC.

“She’s a very bright lady,” Mr Greenspan said of Ms Yellen on CNBC. “I think she will surprise everybody, I mean in a positive way.”


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