Apr 13/15 – Mr. Coupland, I too am sick of bubbles

2015-04-13 9am EDT  |  #bubbles #Dalio #Douglas Coupland #Druckenmiller #Generation X #Grantham #stocks

Although he didn’t coin the term Generation X, Douglas Coupland was the Canadian author that popularized its use for describing the group of people born between 1961 and 1981. Generation X: Tales for an Accelerated Culture was his debut novel that cemented the term into the English language, along with other popular slang like “McJob”, and earned Coupland a spot in the modern day history books.

Coupland went on to write dozens of other books, among them my favourites Shampoo Planet and what I think is his best book – Girlfriend in a Coma (how can you not like an author that names his book after a Smith’s tune?)

Although Coupland is an accomplished writer, he was actually trained as a sculptor, and stumbled on writing as a way to pay the bills. Now that he is older and able to indulge his creative whims, Coupland has focused more on physical art than writing.

The other day during the March school break, my wife and I took our two younger kids to the Royal Ontario Museum for an afternoon of learning. By chance Douglas Coupland had an exhibit at the museum, and being big fans of his writing, we dragged the kids for half an hour of checking out the artist that was so important to their parents growing up.

Coupland had many different interesting pieces on display, but my favourite by far was a wall full of tiles called “Slogans for the 21st century.”

Even though there were a ton of different slogans that really made you think, there was a particular section of the wall that just made me laugh. Did you catch it? Over on the right side half way up?

All I can say is; Mr. Coupland, I too am sick of bubbles…

Oh yes, we are in a bubble

Some of you might push back and assert we aren’t in a bubble. After all, isn’t complaining about bubbles what all investors who are on the wrong side of the trade do?

If this rally was driven by a fundamental improvement in the economy, then I would be much less worried about it being a bubble. But the whole premise of this rise is based on Central Banks pushing investors out the risk curve by lowering rates to zero (and lower). In the process they have driven up valuations to levels that are bound to disappoint.

Still not convinced? Just look around at the bright people who are worried about the stock market’s prospects. Guys like GMO’s Jeremy Grantham who believe that Yellen has encouraged a “full fledged equity bubble.” Or BridgeWater’s Ray Dalio who recently said that:

Or how about Stanley Druckenmiller’s recent comments:

“I don’t know when it’s going to happen. I just have the same horrific sense I had back in ’04.”

“And if you look to me at the real root cause behind the financial crisis, we’re doubling down. Our monetary policy is so much more reckless and so much more aggressively pushing the people in this room and everybody else out the risk curve that we’re doubling down on the same policy that really put us there and enabled those bad actors to do what they do.”

And former PIMCO head Mohamed El-Erian shares the same thoughts:

“I am mostly concentrated in cash… because I think most asset prices have been pushed by central banks to very elevated levels. Central banks look at growth, at employment, at wages. They are too low. They don't have the instruments they need, but they feel obliged to do something; so they artificially lift asset prices… Because they hope that they will trigger what's called the wealth effect, but there is a massive gap right now between asset prices and fundamentals.”

Now you can choose to ignore these wise old veterans as “has beens” that don’t understand the new reality. You can play the game by being long risk assets along with the herds of other momentum chasers. I can’t find the quote, but some grizzled Wall Street veteran has a great line that you can either look stupid during or after the bubble – but you have to choose.

Well, I choose to look stupid now.

Fading the rally?

And make no mistake, I am regularly looking stupid trying to fade this crazy momentum. I mistakenly thought that the recent US dollar rally and the global slowdown of the past few months would cause US stock market earnings to disappoint enough to cause a backup in the American stock indices.

But stepping in front of the tidal wave of global Central Bank easing is proving to be more foolish than I ever imagined. And when I look back at Douglas Coupland’s art work, I notice that above the tile labelled “I AM SICK OF BUBBLES” is another one that says “I AM AFRAID OF BUBBLES.”

I too am becoming more and more afraid of this bubble. What scares me is that even though these really smart guys are all preaching caution, the rally is continuing with the bulls getting even more emboldened. We are approaching the period where nothing makes sense. Any earnings shortfall is just ignored as “temporary” and earnings growth forecast is simply pushed forward another quarter. The risks associated with locking in frightfully low expected real rates of return is ignored as investors simply chase whatever asset seems least bad regardless of the long terms risks.

Does the bubble need to get way bigger still?

But what really scares me is the possibility that this bubble has just started. Rates are zero (and even negative) throughout much of the developed world. How do you price long dated assets like equities in this environment? Theoretically they are worth infinity as rates approach zero.

Could we possibly get a bubble even bigger than the DotCom bubble? Or even bigger than the Japanese 1980s bubble? For sure. The monetary fuel that has been applied to the global economy is staggering large.

Often bubbles achieve 50% of their price appreciation in the final 5% or 10% of time. Think about gold in the 1980s, or the DotCom bubble in late 1999 and 2000. The final push higher was “reality TV show” stupid.

Before this is all through, do we need guys like Druckenmiller, Grantham, El-Erian and Dalio throwing their hands up in the air and saying “I quit!”? Don’t forget that during the DotCom bubble, there were famous investors like Tiger’s Julian Robertson that cried Uncle at the height of the bubble.

Wouldn’t it be too easy if we simply rolled over from here? Wouldn’t that that be too convenient for the likes of Mr. El-Erian who is mostly in cash?

Don’t the Market Gods have to make as many people look as foolish as possible? Doesn’t that include even the bright old wise guys?

Waiting on the sidelines for the signal

For all you bears, I want to offer you a glimmer of hope. On Friday I gave up fighting the US stock market from the short side. I thought that earnings would matter, but the wall of global liquidity seems to be washing over any idea that fundamentals might drive pricing.

At the end of the day, I don’t think the really big correction comes until the bond market rolls over. Until the market takes away the printing press, the Central Banks will keep goosing risk asset higher.

Therefore given the risks of this bubble exploding to truly terrifying stupid levels, I am going to wait until the bond market starts to act up before getting really short equities. For those who have been waiting for an interim sell signal for equities, my giving up on the short side is about as reliable as it comes…