Soros: ‘It Takes Courage to be a Pig’

Tue Jun 30 2015
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“You are not going to make money in the next 10 years.”

But you could make a lot in the coming year.

What if I told you that investing in U.S. stock indices over the next 10 years will earn you nothing?

That is, zero gains by betting on the broader stock market for the next decade.

What would you say?

You might say I’m crazy.

I wouldn’t blame you. The last six years were characterized by subpar economic fundamentals and financial uncertainty. Yet, they generated very impressive market returns.

But that stretch of returns may be coming to an end … and in dramatic fashion.

Are you ready to capitalize if it does?

The Past 6 Years Have Been Good … Maybe Too Good?

So why would the next 10 years produce nothing for investors?

Precisely because of the last six years.

More specifically, because current valuations are consistent with historical levels … which saw total returns flatline over the following 10 years.

Consider this chart from John Hussman of Hussman Funds. It speaks directly to that point.

Here, current valuations are based on a measure of market cap divided by gross value added.

Hussman’s research shows that this valuation measure is 92% correlated “with actual subsequent S&P 500 total returns of the following decade.”

Does this imply stagnation is coming? It would appear that way.

Click the image for a larger view.

Beyond that, Hussman also notes the deterioration in credit spreads and market internals.

In other words … metrics that make stock markets worthy of broad investor participation also appear unfavorable.

Items such as widening credit spreads increase investor risk aversion.

When people want to avoid risk, they avoid stocks and other risk assets.

These items are important. That’s because overvaluations alone tend not to materially alter investor risk perceptions.

I hope I don’t sound so crazy anymore.

Don’t Get Lulled into Complacency. But …

Accommodative monetary policy undoubtedly pushed investors out along the risk curve.

The only way to earn returns in an environment of low rates is to gobble up riskier investments, namely stocks and other exchange-listed securities.

It’s easy to believe ongoing accommodative policy will keep this dynamic alive.

But the market internals and valuations are in a much different place than they were six years ago … or even two years ago, for that matter.

I’m not trying to scare you. I don’t think it’s time to run for the hills … yet.

In fact, I think we are staring at a good (albeit potentially short-lived) opportunity to invest smartly in stocks before the market collapses.

And when I say smartly I mean it in every way that defies prudent risk protection.

Check out this gem I found courtesy of my buddy, Google:

Click the image for a larger view.

In the center (roughly between Buying Madness, Instant Wealth and No Danger of Loss) is where I think we might be along our current asset bubble cycle.

And yes, it would mean stocks still have a potentially long way to climb.

Am I Crazy?

Well, I feel crazy.

Let me draw your attention to the caption on the chart:

“Abundant credit and margin makes for expanded purchases. Numerous IPOs and heavy merger activity increases volatility and volume exponentially.

“Margin trading explodes to levels greater than previous bull markets.

“Prices move upward at exponentially compounding rates, greater and greater with each buying wave.”

Those comments, made in hindsight, explained the features that generated the tech bubble.

They might as well describe the current situation.

Margin is at record levels. And relative to GDP, it’s higher than in 2000 (but not much).

Click the image for a larger view.

IPO filings skyrocketed in 2014.

Click the image for a larger view.

Global M&A activity is challenging levels last seen in 2007.

Source: Financial Times

Click the image for a larger view.

Those are three pretty big features that parallel the dot-com bubble.

But the feeling in the market isn’t one of euphoria.

Plenty of sentiment is acknowledging danger of loss. I’m not sure we’re seeing much higher price projections across the board, either. And I certainly haven’t noticed what I’d consider panic-buying.

Are these prerequisites for a market collapse?

Maybe. Particularly the panic-buying.

Why?

Soros: ‘It Takes Courage to be a Pig’

Panic-buying implies a distribution of stock ownership across a larger swath of traders. This is when the proverbial shoe-shine boys, housewives and cabbies get into the market.

Broad public interest is necessary so that large positions are able to be liquidated (distributed). This herd mentality can eventually generate a sufficiently sharp, self-fulfilling, selling panic.

So, as Stanley Druckenmiller famously said after learning from George Soros: It takes courage to be a pig.

Indeed.

We could very well be approaching a phase of increased optimism and panic-buying that reaches euphoria. It’s time to be a pig.

Just be smart enough and quick enough to avoid the butcher.

Do right,

JR Crooks

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