Yesterday’s news of Bernie Madoff passing away in prison at 82 serves as a reminder of false belief systems. You know what got him caught? Not forensic accounting, not regulators, not investors, not the Fed or the SEC. But the world’s greatest cleansing process: The tide going out otherwise known as markets going down. His Ponzi scheme may have never been exposed were it not for markets collapsing and his new cash inflows stopping which exposed the facade of his fraud. But people had believed. They had believed that magical returns can come out of nothing. And as long as people believed they kept sending him money.
Belief is a powerful force and humanity through the eons has structured societies around belief system that were completely false, but as long as enough people believe something it is perceived to be true no matter how false the premise may be.
And that’s what happens in every bubble. The majority subscribes to fantastical growth and return narratives and they abandon all caution, sense, or discipline and when they get rewarded by their actions rooted in their belief system they feel validated.
Bernie Madoff’s investors felt validated in their belief system because markets kept going up. Subprime investors felt validated in their belief system because prices kept going up. Tech investors in 1999/2000 felt validated in their belief system because prices kept going up. Yet it was all nonsense.
During bubbles the belief in any valuation being justified is absolute no matter the underlying picture:
Documenting reality: 202.1% market cap vs GDP pic.twitter.com/64RB99gQZj
— Sven Henrich (@NorthmanTrader) April 14, 2021
Investors increasingly look beyond of what is toward what could be and what could be can be packaged in any sort of fantastical narrative of about the future.
Morgan Stanley outlined this formula in a recent report:
“Corporate value = steady-state value + present value of growth opportunities (PVGO)”
With belief anything is possible and justifiable whether it is ultimately real or not.
Hence everybody and everything is a winner in our new make belief world:
95.59% of $SPX components above their 200MA is now apparently a life time buying opportunity.
There is no discipline in this market, just throw money at a ticker and you’ll make money. The new capitalism. Nobody loses.
In what would be in any other time reckless behavior is nevertheless rewarded. Hence even fund managers don’t even need to stick to a diligent process of accumulating a position over time. Take Cathie Wood as an example, she piled in $250M into $COIN on the first day of the IPO.
I don’t know what her entry price was, but let me go out on a limb here and say that she didn’t catch the precise bottom for now:
Some people bought the open and some bought all the way down into the low $300s. But hey, it’s a happy bull market and valuations and discipline don’t matter. Things will just levitate things higher so why bother with discipline. Indeed, just see the headline that she bought and the stock gapped up as a result before reverting back to red as everything is cult driven these days. Elon Musk just needs to tweet a meme of a dog and Dogecoin goes up. Heck everything goes up and the supply of the everything wins supply increases. Crypto limited supply? On Investing you can track 5,000 crypto currencies.
All it takes is absolute belief in the Fed and the liquidity equation to keep things going. Trust in central bankers. The same central bankers that have led investors astray many times before. Was the Fed able to prevent a 35% crash last year despite having cut rates 3 times already and having expanded their balance sheet by nearly $500B already in the led up to the crash? No. But it’s long forgotten already because they just added ungodly liquidity since then and everybody was again saved.
In 2007 Ben Bernanke believed that subprime was contained and wouldn’t hurt the economy when it obviously wasn’t and it did collapse the economy and the global financial crisis unfolded.
He was so fundamentally wrong with dire consequences for millions he should have been fired. Instead he was the labeled the hero for printing the world out of the crisis:
Indeed the global financial crisis exposed false beliefs on many levels. Everybody was wrong, everybody had faith and had fully embraced the housing bubble except the few highlighted in the Big Short.
We see all the same now and all information that is contrary to the prevalent belief system is dismissed. 202% market cap to GDP? Who cares. 95.59% of S&P components above their 200MA? Life time buying opportunity. Global markets outside their quarterly Bollinger bands? Get me in now:
I could list many examples, but you get my drift. People are engaging in investing behavior that would be severely punished in any other time in history but because they aren’t the belief becomes self fulfilling.
This is the environment the Fed has unleashed with its reckless insistence to keep printing. What crisis? We are looking at big recovery growth everywhere. Stimulus is flooding through the system. The virus is getting under control with vaccines that are rolled out aggressively. Consumers are flush with cash and ready to spend as today’s 9.8% retail number highlights.
And don’t get me started on buyback announcements by the likes of Bank of America which announced a $25B buyback today:
If companies can blow tens of billions on buybacks again they don’t need Fed support pretending that the economy is an existential crisis.
How about end QE before bringing buybacks back?
We’re either in a crisis or we’re not.
If we’re not then stop printing.
— Sven Henrich (@NorthmanTrader) April 15, 2021
The largest growth curve in 50 years. Companies buying back their shares again with billions of dollars. So why insist on printing? Why give speeches every single day as Fed speakers are doing to ensure there is no doubt that they will keep printing?
Because they have to enforce the belief system for any chink in the armor of confidence would expose the construct for what it is: A false belief system. Most of these companies with excessive valuations will never produce the type of growth to justify them. This sugar high economy we are exclusively financing with record debt and monetary expansion is not organic at all.
Any of the numbers we see this year won’t be repeated in the years to come. A world entirely reliant on printing and stimulus will revert into an environment of relative tightening and “present value of growth opportunities (PVGO)” will find themselves confronted with reality and that is: The structural economy with declining birth rates and a shrinking work force can’t grow into the numbers valuations are presuming:
So what happens after the free money party? pic.twitter.com/cWEK5Wc6Wx
— Sven Henrich (@NorthmanTrader) April 14, 2021
So ignore tax hikes all you want, ignore debt all you want, ignore valuations all you want, but ignore them at your peril. A reckoning is coming.
But perhaps not today, this week, next month or next quarter although there are warning signs brewing (All things being equal, Risk Free). After all the belief in the fantastical is unshaken and prices keep going higher.
Fraudsters and shysters like Bernie Madoff live off prices going up as they successfully sell narratives people want to believe in. Why? Because it works, people want to get rich, and they want to get rich easy. And that’s what the Fed has accomplished, it makes people belief they can get rich easy.
And people want to believe. They want to believe in the impossible and unlikely for it would benefit them. It all comes down to this: We want something for free. Nothing is more appealing than the belief in easy money and easy riches. And we want to believe that underlying output is not needed. All is needed is an expanding Fed balance sheet and it justifies any future valuation.
In my opinion, when the final chapter of this era is written the conclusion will be that the notion that all these interventions, distortions, valuation explosions and runaway debt obligations can somehow build a long term healthy economy that can sustain itself on its own will have turned out to be a fantasy.
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