Mathematically correct price level
In First Eagle’s latest letter to shareholders, they provide their assessment of the current market.
Due to recent interest rate hikes by the world’s central banks, markets have now fallen 20-25%. According to First Eagle, this means that the market has “mathematically” reached a reasonable price level where we as investors are once again rewarded for the risk we take by investing in equities. In other words: When interest rates rise, equity analysts must also use a higher interest rate to “discount” future cash flows and so valuations should be lower for equities.
fairly priced, but...
However… the world doesn’t always act logically. First Eagle therefore warns against being too optimistic. It doesn’t take much of a shaky foundation to trigger an emotional downward adjustment in prices. As examples, they cite the Bank of England’s intervention in the bond (“gilt”) market in recent months and the recent problems of Swiss bank Credit Suisse. These were not enough to trigger the negative spiral, but the risk is still present.
The market has found a price level that can provide a starting point for good long-term returns over the coming decade. But as First Eagle says, it’s probably wise to keep some of your powder dry. It’s possible that there will be buying opportunities that only come along once or twice in your lifetime.
“We believe that current market valuations support the judicious planting of seeds to hold for the next decade, but we would resist deploying our last dollar of ballast given the heightened uncertainty.
The potential for an unintended consequence of central bank policy to emerge somewhere in the financial system is meaningful, in our view, and such an accident likely would prompt markets to exhibit more emotional, nonlinear behaviors-and potentially present generational buying opportunities in what we view as resilient, high-quality companies. We want to be prepared for this possibility. “
– First Eagle
