“Being wrong on your own, as Keynes described so eloquently in Chapter 12 of theGeneral Theory, is the cardinal crime of an investment manager. The management of career risk results in very destructive herding. Investors should be aware that the U.S. market is already badly overpriced – indeed, we believe it is priced to deliver negative real returns over seven years [GMO estimates fair value for the S&P 500 at 1100]. Be prudent and you’ll probably forego gains. Be risky and you’ll probably make some more money, but you may be bushwhacked and if you are, your excuses will look thin. My personal view is that the path of least resistance for the market will be up.”
- Value investor Jeremy Grantham, GMO, November 18, 2013
“I cannot look at myself in the mirror; everything I have believed in I have had to reject. This environment only makes sense through the prism of trends. You have got to be in things that are trending. Crashing is the least of my concerns. I can deal with that, but I cannot risk my reputation because we are in this virtuous loop where the market is trending. I may be providing a public utility here, as the last bear to capitulate.”
- Hedge fund manager Hugh Hendry, Eclectica, November 22, 2013
“I am out of justification to fight the uptrend. Up until now, I have had what I thought was compelling evidence to believe in the bearish case, but it has now been revealed to have been insufficient for the task. I am without ammunition to bet on the bears. I don’t like it, because I see the market as overly dependent upon the Fed’s largesse for its upward continuation. I see this as a bubble, but a bubble that is continuing higher even though it should not. I plan to ride the bubble for a while, and will hope to be able to succeed in reading the right [exit] signs."
- Market technician Tom McClellan, November 26, 2013
In a classic case of not only locking the barn door after the horse is loose, but removing its best opportunity to return home, we’re seeing a capitulation by investment managers across every discipline, from technical, to value-conscious, to global macro. Historically extreme overvalued, overbought, overbullish conditions were in place even ten months ago, and my impression is that every further extension worsens the payback will inexorably follow.
Investors Intelligence reported last week that the percentage of advisory bears has plunged to 14.4%, lower than at the 2000, 2007, and 1987 peaks, and every point in-between. I’ll spare a full review of the overvalued, overbought, overbullish extremes we observe here (see A Textbook Pre-Crash Bubble) – it’s clear that over the past year, even the most extreme variants of these conditions haven’t “worked,” having already appeared in February and May of this year to absolutely no effect. I have no question – at all – that the market has simply climbed a higher cliff from which to plunge, but I learned in 2000 and 2007 that there’s no hope of convincing many investors of this sort of thing – despite the fact that these reckless speculative peaks seem so “obvious” after the market collapses. Even when investors listen, at least some of the tears they would have shed after the plunge are substituted for tears they have to endure while missing the final advance.
We’re faced with a speculative advance that seems unstoppable, despite the absence of any reliable mechanistic link between quantitative easing and stock prices – only a combination of superstition and yield-seeking that has repeatedly ended badly. What’s driving capitulation here is not evidence, or even the faint memory of cycles as recent as 2000 and 2007 – but pain, impatience, career risk, and the demand that all discomfort must arise from conventional behavior. As John Maynard Keynes wrote in the General Theory:
“Human nature desires quick results, there is a peculiar zest in making money quickly, and remoter gains are discounted by the average man at a very high rate… It is the long-term investor, he who most promotes the public interest, who will in practice come in for most criticism, wherever investment funds are managed by committees or boards or banks. For it is in the essence of his behavior that he should be eccentric, unconventional and rash in the eyes of average opinion. If he is successful, that will only confirm the general belief in his rashness; and if in the short run he is unsuccessful, which is very likely, he will not receive much mercy. Worldly wisdom teaches that it is better for reputation to fail conventionally than to succeed unconventionally.”
Keep in mind how investment bubbles work. A bubble always starts with some real factor that takes on increasingly exaggerated importance in the eyes of investors. The bubble expands not on facts but on untethered imagination. People imagine that X will result in ever-increasing prices, and assume that an endless crowd of buyers is still behind them – dot-com stocks, technology, housing, “tronics” stocks in the 60’s, the Nifty Fifty in the 70’s, quantitative easing, tulip bulbs. Regardless of whether the mechanism underlying that concept is fictional, and regardless of how tenuously it is linked to reality, a bubble advances as long as the adherents it gains are more eager than those it loses. What stops the bubble is not the concept itself hitting a brick wall, but pool of new adherents being exhausted. Once everyone is in, who’s left to buy from all those holders with their fingers hovering over the sell button? The question, once the moment arrives, is always the same: Sell to whom? And that’s why markets crash.
With the percentage of advisory bears at the lowest level in a quarter-century, the following bit from mid-2007 is a useful reminder of how all of this works.
continue reading: _http://www.hussmanfunds.com/wmc/wmc131202.htm
- Value investor Jeremy Grantham, GMO, November 18, 2013
“I cannot look at myself in the mirror; everything I have believed in I have had to reject. This environment only makes sense through the prism of trends. You have got to be in things that are trending. Crashing is the least of my concerns. I can deal with that, but I cannot risk my reputation because we are in this virtuous loop where the market is trending. I may be providing a public utility here, as the last bear to capitulate.”
- Hedge fund manager Hugh Hendry, Eclectica, November 22, 2013
“I am out of justification to fight the uptrend. Up until now, I have had what I thought was compelling evidence to believe in the bearish case, but it has now been revealed to have been insufficient for the task. I am without ammunition to bet on the bears. I don’t like it, because I see the market as overly dependent upon the Fed’s largesse for its upward continuation. I see this as a bubble, but a bubble that is continuing higher even though it should not. I plan to ride the bubble for a while, and will hope to be able to succeed in reading the right [exit] signs."
- Market technician Tom McClellan, November 26, 2013
In a classic case of not only locking the barn door after the horse is loose, but removing its best opportunity to return home, we’re seeing a capitulation by investment managers across every discipline, from technical, to value-conscious, to global macro. Historically extreme overvalued, overbought, overbullish conditions were in place even ten months ago, and my impression is that every further extension worsens the payback will inexorably follow.
Investors Intelligence reported last week that the percentage of advisory bears has plunged to 14.4%, lower than at the 2000, 2007, and 1987 peaks, and every point in-between. I’ll spare a full review of the overvalued, overbought, overbullish extremes we observe here (see A Textbook Pre-Crash Bubble) – it’s clear that over the past year, even the most extreme variants of these conditions haven’t “worked,” having already appeared in February and May of this year to absolutely no effect. I have no question – at all – that the market has simply climbed a higher cliff from which to plunge, but I learned in 2000 and 2007 that there’s no hope of convincing many investors of this sort of thing – despite the fact that these reckless speculative peaks seem so “obvious” after the market collapses. Even when investors listen, at least some of the tears they would have shed after the plunge are substituted for tears they have to endure while missing the final advance.
We’re faced with a speculative advance that seems unstoppable, despite the absence of any reliable mechanistic link between quantitative easing and stock prices – only a combination of superstition and yield-seeking that has repeatedly ended badly. What’s driving capitulation here is not evidence, or even the faint memory of cycles as recent as 2000 and 2007 – but pain, impatience, career risk, and the demand that all discomfort must arise from conventional behavior. As John Maynard Keynes wrote in the General Theory:
“Human nature desires quick results, there is a peculiar zest in making money quickly, and remoter gains are discounted by the average man at a very high rate… It is the long-term investor, he who most promotes the public interest, who will in practice come in for most criticism, wherever investment funds are managed by committees or boards or banks. For it is in the essence of his behavior that he should be eccentric, unconventional and rash in the eyes of average opinion. If he is successful, that will only confirm the general belief in his rashness; and if in the short run he is unsuccessful, which is very likely, he will not receive much mercy. Worldly wisdom teaches that it is better for reputation to fail conventionally than to succeed unconventionally.”
Keep in mind how investment bubbles work. A bubble always starts with some real factor that takes on increasingly exaggerated importance in the eyes of investors. The bubble expands not on facts but on untethered imagination. People imagine that X will result in ever-increasing prices, and assume that an endless crowd of buyers is still behind them – dot-com stocks, technology, housing, “tronics” stocks in the 60’s, the Nifty Fifty in the 70’s, quantitative easing, tulip bulbs. Regardless of whether the mechanism underlying that concept is fictional, and regardless of how tenuously it is linked to reality, a bubble advances as long as the adherents it gains are more eager than those it loses. What stops the bubble is not the concept itself hitting a brick wall, but pool of new adherents being exhausted. Once everyone is in, who’s left to buy from all those holders with their fingers hovering over the sell button? The question, once the moment arrives, is always the same: Sell to whom? And that’s why markets crash.
With the percentage of advisory bears at the lowest level in a quarter-century, the following bit from mid-2007 is a useful reminder of how all of this works.
continue reading: _http://www.hussmanfunds.com/wmc/wmc131202.htm
