Special-purpose acquisition companies (SPACs) should be illegal, according to Jeremy Grantham, as they escape regulatory oversight and encourage the “most obscene type of investing.”
Grantham is the co-founder and chief investment strategist of Grantham, Mayo, & van Otterloo (GMO), a Boston-based asset management firm. He was interviewed via webinar on December 7 by Vikram Mansharamani as part of his “Think for Yourself” series.
Grantham’s criticism of SPACs was part of a broader condemnation of some aspects of our capitalistic economy and a warning to investors about bubble-like valuations in U.S. equities.
“I am not a great fan of today’s western capitalist model,” he said.
His concerns about capitalism are driven by the increased power that corporations have gained through the Citizens United decision, decreased regulation and unfettered growth of companies that have become effective monopolies.
Those have contributed to rising inequality in the U.S., which he said has become less equal than any other developed country. According to Grantham, inequality has contributed to poor outcomes in the U.S. when it comes to education, life expectancy, prison populations and other metrics.
But his most direct criticism was of SPACs.
A SPAC is a “blank check” investment vehicle. It is typically led by a person (the “sponsor”) who forms the SPAC to raise money via an initial public offering (IPO). Once the IPO is completed, the sponsor then has two months to use the funds to purchase a privately held company. The privately held company becomes a public firm without having to undergo the regulatory process and “dog-and-pony shows” that accompany an IPO. There are now 251 active SPACs that have raised almost $79 billion, including 200 SPACs that raised $69 billion in 2020 alone.
Grantham derided the idea that a sound investment could be based on the premise of giving a sponsor some money and hoping they will do something useful.
But he acknowledged that he had made a big investment in a company, QuantumScape, which has since become a SPAC. Grantham invested what is now more than 10% of his personal and foundation’s net worth in that venture. The value of that investment has risen more than 20-fold since, in part due to the SPAC’s IPO.
Grantham said the lockup on his shares expires in May and mused whether the bubble in U.S. equity prices would collapse before then.
He said U.S. equities resemble a “classic bubble,” with overvaluations near that of the tech bubble. Every such bubble ended “very badly,” he said. In comparison to the tech bubble, we are somewhere between July 1999 and Feb 2000.
“It would not amaze me if the market broke on Monday or in May,” when he can sell his QuantumScape shares.
You can’t time a bubble breaking, he said, “but every one eventually breaks.
A bubble, according to Grantham, needs “crazy” demonstrations of individuals and institutions committing their “hearts and souls” – as in the case of SPAC investments. That had not happened in equities since the tech bubble, although it did happen in the housing market prior to 2007. Before that, he said it hadn’t happened since 1929.
A bubble needs a very big move in stock prices, typically 60% over a 21-month period, according to Grantham.
That happened in nine months post-COVID. He said the market could go up 20% or 30% more, but it is “checking off the indicators” of a bubble. One those indicators is the hostility toward bears, which happened in 1999, when he was fired by clients as if, he said, “I had deliberately and maliciously lost them money.”
Now, he said, it is becoming “a little dangerous” to be a bear.
Big companies in the investment business cannot commit themselves to saying a market is dangerous, Grantham said. “They never do and never will. From a business sense it makes sense to be as positive as possible.”
“It will always be that way,” he said.
“It is far too dangerous to stand out against a bubble,” Grantham said. “You will always get the timing wrong.”
His definition of investing success is that, at some point in future, “you will be grateful that you ducked.”
He acknowledged that he was way too early in his calls of bubbles in Japan and technology, but he called the housing bubble correctly. “You will always be early as a value-oriented manager,” he said.
Intellectually, calling a bubble is not that difficult, according to Grantham. “But it is difficult to keep a book of business.”
Value investing, inflation and deficits
Grantham commented on several other investment-related topics.
Value investing, in terms of stock picking, will never be what it was in the 20th century, according to Grantham. Since 2000, value became too popular as a style. But, he said if you divide the U.S. market into low and high growth stocks, then the former is “as cheap as ever in history.” Over five to 10 years, you will look pretty good by investing in low-growth stocks.
He cautioned against the belief that rising prices have driven up the intrinsic value of their underlying assets.
During the housing bubble, your house price doubled and then halved. But the services of that house never changed, he said. The change in value affected only “perceived wealth,” which is a “wealth effect” followed by an “anti-wealth effect.”
The same is true with forests, an asset in which he has invested. Those could be bought at a 5% or 6% yield, but got bid up so that they yielded only 3%. But the forest owner doesn’t care, he said, because their income stream is unchanged.
A company doesn’t change as a result of rising prices, but he said we can “kid ourselves” that it does because investors bid up the price.
All you can spend is the dividend yield, he said. “People don’t get it,” he said. “They think that reality changes because stock prices change.”
Grantham has never worried about government debt or inflation. Foreign debt can kill a country, he said, if it borrows in a stronger, non-local currency. But that is not an issue for the U.S. or for most developed economies.
In regard to Japan’s rising debt level, he asked rhetorically, “Why should I worry about one set of Japanese owing money to another set of Japanese?”
We have never had more debt in the developed world and we have never had lower inflation, Grantham said. “Don’t worry about this.”
Read more articles by Robert Huebscher
