Fra One River Asset Management
“I do think it’s time to taper,” said Jay Powell, struggling to be heard above the whir of his magnificent money machine, wet Benjamins flying off the press. $120bln per month. “But I don’t think it’s time to raise rates,” added the Fed Chairman, cautious, haunted by Bernanke’s Taper Tantrum. Way back then, in the Spring of 2013, bearded Ben, the Princeton Professor with one too many PhDs, dropped the hint that maybe, just possibly, he might potentially slow the pace of printing.
Bond prices collapsed. 10yr yields jumped from 1.65% to 3.00% in a flash. That’s the kind of thing that only happens when markets are utterly surprised — a truly rare event. Markets almost always anticipate policy announcements, whether from central bankers or presidents.
“We need to watch, and watch carefully, and see if the economy is evolving consistent with our expectations and adapt policy accordingly,” explained Powell, doing his best to play the highest stakes game of his career with the weakest hand of any central banker in living memory. You see, for decades, the mega macro-trends of expanding globalization, breathtaking technological advance and favorable demographics, combined to produce a global disinflationary environment.
This allowed central bankers to pursue increasingly aggressive monetary policies to moderate the economic cycle.
Now we find ourselves at a point where central bankers fear making a misstep that sparks a stock and bond market reversal which would force them to come to the rescue in even greater size. The market knows this. And sizing up a tentative Fed, the market in its infinite wisdom taunted the Fed, pushing the S&P 500 to an all-time high. Bitcoin too.
1987: The stock market crashed on Oct 19, 1987. Almost everyone knows this. Ask people to explain why it happened, they’ll tell you portfolio insurance combined with program trading created a structural weakness in market structure so that lower prices produced more selling. Some might blame comments on the preceding Sunday night from Treasury Secretary Baker. They’re probably right. But what most people will forget to mention is that the S&P 500 printed its all-time high on Aug 25, and in its infinite wisdom had fallen 16% before the crash.
Gulf War I: Saddam invaded Kuwait on Aug 2, 1990. Oil prices soared. Coalition forces from 35 nations assembled forces in the region. On Jan 16, 1991, they struck. The CNN video images remain seared in our memories. Oil futures soared that night, briefly. Then collapsed. Prices closed the day down an unprecedented $10.56, settling at $21.44 which was 10 cents below the August 1, 1990 close (the day before the invasion). As a young trader, I watched in awe as the market destroyed those who over-leveraged themselves to an all but certain outcome.
1994 Bond Crash: Greenspan held rates at 3.00% for 17mths which was plenty of time for financial engineers to construct highly leveraged negatively-convex products to boost returns for those who needed higher yields. The Fed shocked markets in Feb 1994 with a rate hike. Bond prices crashed, with yields surging from 5.85% to 8% in Nov 1994. But despite the cries of surprise, markets had started moving well before the Fed hiked. 10yr yields had already sniffed out the policy shift, sending a quiet signal, jumping from 25yr lows of 5.20% in Oct 1993.
9-11: Only very rarely do terrible things happen when markets are in strong bull trends. When stocks reverse abruptly after a historic rise, it is usually for no apparent reason. Somehow, in some way, the wisdom of the crowd tends to sense approaching doom and prices start falling before something bad happens. Stocks were down 30% from the highs and 1.5yrs into a bear market when the planes hit. And stocks were 23% off the highs and 11mths into a bear market when Lehman went bust. If China invades Taiwan, it is unlikely it’ll happen near all-time highs.
Covid-19: The S&P 500 hit record highs on Feb 19, 2020. A month later, it closed 42% lower. Unlike so many tragedies, the pandemic hit with stocks right near their apex. Even so, the market had been sending signals that something wasn’t quite right. The S&P 500 rallied strongly in January 2020, yet implied volatility failed to decline. In fact, it moved slightly higher. For those who have suffered enough to learn to really listen, such signals are whispers to “watch out.” The market, in its infinite wisdom, is an imperfect crystal ball, but it’s the best one we have.
IPOs: Coinbase went public April 14th. The excitement was extraordinary. Bitcoin hit a record high that day at $64,899. And for so many young traders who have yet to learn how terrifyingly efficient the market is at separating speculators from their money, the immediate decline in Bitcoin prices was terrifying. Three months later, after an avalanche of negative headlines and a move by China to ban crypto mining/trading, Bitcoin traded 55% lower. It made record highs this week as new ETFs went live. And once burned by a reversal from these levels, the market psychology and trading setup is quite different this time around. A new lesson to be learned.
Anecdote: The market is never wrong. The price it produces reflects the collective wisdom of humanity, weighted toward those with the most capital at risk. And because money generally flows to those with the greatest aptitude, the collective judgement resulting from their aggregate bets – reflected in the market clearing price – does a better job than any other forecasting algorithm ever developed. But just because such a system is superior to all others does not mean there are no opportunities to profit. Most make the mistake of taking the market head on, trying to out-forecast it. They find their periodic successes heroic, thrilling. But in time, the odds destroy them. Survivors make money by studying market movements for decades, listening, watching, learning. Reacting to familiar setups. The most fundamental truth in the game is that for every buyer there is a seller. And vice versa.
Before you go short, understand who will sell to you at a lower price in the future. The most reliable future seller is someone who owns something that fails to move higher even though the fundamental news suggests it should rise. When such longs get stubborn and angry that the market starts sliding, the odds rise dramatically that they will eventually puke at much lower prices. The gold market is a candidate for that kind of setup. People bought too much of it in a panic, to protect themselves from inflation after the 2008 QE money printing. They hoped their children would eventually buy it from them at much higher prices.
But inflation finally arrived, and yet gold stopped going up. Now their kids are buying digital assets – they’ll never buy gold. And this also leads to a bullish digital setup. The most reliable future buyers of innovative assets are those who are stubbornly resistant to change even as it manifests, stuck in investments that are underperforming and in companies that are being unseated.
So naturally, they will be the future buyers of digital assets and the infrastructure that they represent.
