Not Contrarian to Be Contrary: The 'Orange Swan' Lurks
Austin Powers: Only two things scare me, and one of them is nuclear war.
Basil Exposition: What's the other?
Austin Powers: Excuse me?
Basil Exposition: What's the other thing that scares you?
Austin Powers: Carnies. Circus folk. Nomads, you know. Smell like cabbage. Small hands.
--"Austin Powers, International Man of Mystery"
Dr. Strangelove, meet "The Art of the Deal."
We saw it coming in "The Orange Swan Looms Ever Closer" last May.
But most people preferred to ignore the rising risks of an overvalued market (even with most valuation metrics in the 95% decile) and the growing ineptitude of the Trump administration and Congress to implement healthcare or any of a number of campaign promises.
Acting more like a World Wrestling Entertainment promoter than the president of the United States (for example, by amping up warnings to North Korea "of things they never thought possible" yesterday), in a brief few weeks a blustering, bombastic and off-balance President Trump seemingly has returned to campaigning and not governing by fighting "wars" on several fronts and insulting more and more people and organizations. To wit:
* Threatening war with North Korea, an unstable regime.
* Waging war with Sen. Mitch McConnell, the majority leader and most powerful Republican on Capitol Hill.
* Attacking special counsel Robert Mueller.
* Attacking, overtly and possibly through Breitbart and other "house organs" (e.g., National Enquirer), Paul Manafort ("I barely knew the guy") and others to which the administration may be vulnerable.
* Attacking Republican senators Jeff Flake, John McCain, Dean Heller, Lisa Murkowski and others in a seeming attempt to consolidate his core backers, who have diminished into the low 30% range.
* Relying on schoolyard tactics and alienating his fellow Republicans, thus serving to further undermine the chances of any fiscal, tax and regulatory reform initiatives.
"Question #7: President Trump took credit for the stock market's advance since his election victory. Will he take responsibility for a correction? And is it a slippery slope for an administration to use the S&P 500 as a barometer of success? And is a pro-business and anti-domestic programs (in education, the arts, etc.) agenda going to benefit those in the lower and middle class (largely his base) who have suffered the most over the last decade?"
--Kass Diary, "This Ain't No Seder -- I Now Have Eight Questions!"
The Trump stock market rally, built on the notion that there would be substantive fiscal and tax reform, including cash repatriation, had catapulted "animal spirits" to valuation levels rarely seen in modern investment history.
Passive investing, as seen in the proliferation and popularity of ETFs, and quant strategies such as volatility trending and risk parity that are agnostic to balance sheets, income statements and private market values likely exacerbated and extended the market rally.
In recent months warning signs have been ignored, and the irrational became rationalized even as breadth deteriorated, complacency grew and the league-leading and market-dependent FANG stocks looked long in the tooth. Technical signs, too, were ignored, such as the breakdown in transports and the declining volume on the exchanges.
A few brilliant investors spoke out -- among them Jeff Gundlach, Lee Cooperman and Howard Marks. But, astonishingly, media talking heads, with limited practical investment credentials, were critical of these most successful investment icons.
To be sure, shorts such as myself and others were ridiculed in ad hominem attacks in the business media. Last night I listened with astonishment (well, not so much!) as numerous self-confident and previously bullish talkers made an about-face, declaring bitcoin and gold as their favorite asset classes, thus proving the notion that investment vision is always 20/20 in the rear view mirror. We all knew these phony chameleons would do such an about-face, forgetting what they glibly embraced a day before.
But Grandma Koufax had a phrase for this: "Bulls--t walks."
The rally is now likely over and many carnival barkers disguised as investment professionals and commentators who failed to assess risk vs. reward and to look objectively at downside vs. upside will be revealed for what they are, just as they were in 2000 and 2007.
Both the president and those carnival barkers in the investment business and media should remember that the tape is always rolling.
It feels like deja vu all over again.
Risk Happens Fast
"The film which you are about to see is an account of the tragedy which befell a group of five youths, in particular Sally Hardesty and her invalid brother, Franklin. It is all the more tragic in that they were young. But, had they lived very, very long lives, they could not have expected nor would they have wished to see as much of the mad and macabre as they were to see that day. For them an idyllic summer afternoon drive became a nightmare. The events of that day were to lead to the discovery of one of the most bizarre crimes in the annals of American history, The Texas Chain Saw Massacre."
--Narrator, "The Texas Chain Saw Massacre"
Thursday was the equivalent of a Texas Chain Saw Massacre in the S&P 500 Index. The carnage was broad and across asset classes. Not only did the S&P get schmeissed, but there was near-carnage in grains and soft commodities on Thursday, with declines of close to 4% in soybeans, oats, wheat and corn.
On the other hand, a flight to safety occurred in the bond markets. I plan to build up a very large short bond position in the time ahead as I believe the 10-year yield's intrinsic value is close to 2.8% compared to current level of 2.2%.
Early Thursday morning I went to the extreme position of writing a column that stated, for the first time since early 2000 and the summer of 2007, that I own no stocks in my personal account (though I own stocks indirectly in my hedge fund).
Whether a 2017 top is in is the next question, and though I am tactically assuming this to be the case, no one can know for sure. (I obviously will have more on this in the coming days)
As I have written, I am not a contrarian just to be contrary.
I remain at my largest net short exposure in over two years.
