Value disconnect seen from low rates

With unprecedented overvaluations in securities, is it about time for interest rates to start going back up?

Students of behavioral economics know that rational thinkers do not always choose options based on their benefits; they may also make selections that let them avoid unsavory alternatives.

That is the dynamic that Norman Levine, managing director at Toronto-based Portfolio Management Corp, sees in financial markets today. According to an article from the Financial Post, he sees zero or near-zero interest rates driving investors away from the fixed-income market and into stocks.

As investors chase a combination of yield and return that they can’t get anywhere else, Levine observes valuations for many securities surge to higher-than-normal levels. “It’s caused the stock market to go up a lot, it’s caused the bond market to go up a lot, but it hasn’t caused the economy to go up a lot,” he said. “It has caused distortions in markets, and I believe there is a bubble in the bond market.”

Similarly, valuations in high-yielding stocks have risen to unprecedented levels. Bloated appraisals, such as those currently observed in the US, have been acting like mirages, making it difficult for investors like Levine to find true value in the desert that is the current world financial markets. Because of this, it has been easier for him to sell than to buy.

Sensing a need for order to be restored, Levine believes that a Federal Reserve decision to raise rates would be justified, going so far as to say that the Fed is behind the curve in making the decision. “It would actually be a vote of confidence for the economy, and I find it hard to believe that a quarter-point or half-point move higher in rates is going to be harmful,” he said.

While the US is definitely experiencing an unusual imbalance, investors can find a somewhat different situation in the Canadian market, where positive valuations in energy and mining stocks have come as a reaction to a recovery in the underlying commodities. However, Levine maintains the same position: valuations are higher than justified, making it difficult for him to pour money into the space.

Instead, he has chosen to invest in other sectors such as industrials and transportation stocks, US banks and lifecos, water-themed investments, and some exposure to the restaurant business through Cara Operations Ltd.

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