US financial markets in "bubble" stage Analysis by FT

In a recent article, the Financial Times highlights that the ongoing rise of US financial markets is being closely examined as a potential "bubble" in its final stages. 

In his previous column, Chair of Rockefeller International Ruchir Sharma referred to America's disproportionately large share of global financial markets as "the mother of all bubbles." The main counter-argument he received, even from those who agree with him, was that there’s no indication that this bubble will burst anytime soon.

Hardly anyone predicts an imminent collapse. Almost every Wall Street analyst expects US stocks to continue outperforming the global market in 2025. But this widespread optimism only reinforces the idea that the bubble has reached a highly advanced stage. If "American exceptionalism" is so universally accepted, who else is there to keep inflating it?

This certainty on Wall Street has spilled over into mainstream media, which tends to pick up on market trends only when they are already well-established and nearing their end. The celebration of American dominance is now the focus of TV shows, radio programs, podcasts, and newspaper articles, many of which have a history of being wrong about future trends.

The optimistic view holds that America can maintain its dominance due to the impressive earnings of its corporations. However, these earnings growth figures wouldn’t look nearly as exceptional without the enormous profits generated by tech giants and massive government spending. Over time, these supernormal profits tend to diminish through competition. Moreover, both growth and profits are being artificially propped up by the largest deficit spending ever recorded at this point in an economic cycle.

Most economists still believe that, with US households and companies in strong financial health, the economic boom will continue. Those few who are concerned about President-elect Donald Trump’s plans regarding tariffs or immigration tend to think these policies will harm foreign economies more than the US.

However, every hero has a fatal flaw, and America's is its rapidly growing reliance on government debt. My calculations suggest that it now takes nearly $2 in new government debt to generate just $1 of US GDP growth—an increase of 50 per cent in just five years. If any other country were spending like this, investors would be fleeing. But for now, they believe America can get away with it, given its status as the world’s leading economy and issuer of the reserve currency.

However, it’s likely that by sometime next year, investors will begin to balk and demand higher interest rates or evidence of fiscal discipline, possibly triggered by an even larger deficit or bigger Treasury auctions. These demands will force the US to reduce its dependence on government spending, at least temporarily, which will, in turn, dampen economic growth and corporate profits.

It’s important to note that this is a bubble in America’s relative performance to the rest of the world, not a 1990s-style speculative frenzy in the US market. Therefore, it could deflate in a more benign manner if alternative markets start to look more appealing.

Perhaps Germany and France will manage to strengthen their economies, much like Greece and Spain did a decade ago under pressure. Similarly, maybe Beijing, facing tariffs from Trump and weak domestic demand, will finally increase consumption to stabilise its economy.

However, analysts, captivated by "American exceptionalism," focus solely on how the US has been the world’s leading market for a century. They overlook the fact that in six of the past 11 decades, the US stock market underperformed compared to the rest of the world. This was especially evident in the 2000s, when the US delivered zero returns while emerging markets tripled in value. As that decade ended, the sentiment in emerging markets echoed the confidence we hear now regarding the US: “Where else will the money go?”

This remarkable outperformance could change if US growth slows, or if other major economies experience a surge, or for any number of unforeseen reasons. After all, that’s often how bubbles burst—unexpectedly. The two most recent market manias—the commodities boom, which began to unravel in 2011 due to a surge in new supply, and the China growth bubble, which collapsed in 2021 after a government crackdown on the property sector—serve as examples.

By Naila Huseynova