Investing in the Everything Bubble

Did a write-up on the current situation in the market and how I would invest if I was managing money. My own portfolio is different because I believe so much in Gamestop, but if I was a professional money manager, here’s what I would do

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Watching the Gamestop situation in January 2021 and the past year unfold, we’re in an everything bubble that’s doomed to collapse. Over the past year, I have gone back to the history books, listened to the greatest investors of the past few generations and done a lot of writing and thinking on how the next few years are going to unfold. Through that analysis I’ve come up with a contrarian strategy that will generate outsized returns in the coming years. Given my limited background in investing, I’ve spent the last few years learning about the market through some of the greatest investors of our time and putting my own money to work by having skin in the game. To get extraordinary results, you can’t follow the crowd and I believe I’ve developed a strategy that can outperform in a bear market.

A few things I’ve noticed over the last year that’s given me confidence in my strategy:

·  We’re at the end of a long term debt cycle as per Ray Dalio where debt either needs to be restructured or defaulted.

·  We’re in the longest bull run in American history since 2008, propped up by the Federal Reserve and their continuous QE. Since Covid began, they’ve injected trillions more into the financial system as evidenced by the massive increase in US debt. History tells us there are always down cycles and we haven’t seen one for over a decade.

·  Most of this money didn’t get spent productively and instead flowed into assets like the stock market, crypto and real estate around the world. This increased inequality to levels not seen since the Gilded Age as interest rates are at all-time lows, US Congress and federal reserve officials are actively trading on inside information, money is essentially free and corporate America spent billions of dollars buying back their stock instead of investing it productively.

·  Central bankers have trapped themselves. Increase interest rates, and they crash the market. Leave rates as is and watch the currency get inflated, inequality worsen and increased likelihood of a rebellion as more people can’t afford basic necessities. 

·  Many great investors have called this the Everything Bubble including Howard Marks, Stanley Druckenmiller, and Jeremy Grantham. As per Jeremy Grantham’s interview (previous hyperlink) and recent annual letter titled ‘Let the Wild Rumpus begin,’ we’re in a superbubble. All bubbles in history have burst and this will be no different.

·  The Buffet indicator, a ratio of the total value of the US market to GDP is at 205%, is close to the highest it’s even been. Margin debt is close to an all-time high and we can see how the decrease over the last several months is directly correlated with the decrease in the overall market. The Shiller PE ratio, a valuation measure of the stock market, is at 37.18, only seen during the 2000 tech bubble and higher than that during the period before the Great Depression.

·  Tesla, Amazon, Facebook, Snapchat and many of the largest companies in the world have been trading like penny stocks in recent weeks. Amazon gained $200B in after-hours trading yet had a mediocre earnings call as most of their profit was due to the Rivian investment, a company that hit $100 billion dollars in market cap on zero revenue (if that doesn’t tell you we’re in a massive bubble, I don’t know what else would).

·  The Baltic Dry Index, a widely used benchmark in shipping, has dropped significantly since its October peak. Last time it went down so quickly was 2008, a precursor to the last crisis.

·  The Russell 2000 index had a flat 2021. Biotech is down ~50% from its high in February 2021 as per the XBI. Many growth stocks that were loved by retail investors at the beginning of the pandemic are down 50-80% from its highs. As per Jeremy Grantham from his bubble interview last year, the way bubbles usually burst is the smaller companies and growth stocks fall off first before the big quality companies, and we’re seeing that happening today.

·  China is going through a massive real estate debt crisis that I believe will have massive contagion effects. International investors flocked to Xi’s country the last several decades as real estate boomed and they built massive infrastructure projects. However, as Xi has tried to reign in the debt through the government’s 3 red lines policy, this has crashed the value of many real estate developers and subsequently could have massive knockdown effects on banks and bondholders around the world.

·  Archegos happened where Bill Hwang lost $20 billion dollars in a few days and several banks had to take massive losses as their prime brokerage departments were over-leveraged on swaps. Many, including Charlie Munger and the Federal Reserve, called this a massive risk to the financial system.

·  The US Federal Reserve released their bi-annual financial stability report and cited the Chinese real estate debt crisis, Archegos and the meme stocks as risks to the markets.

So, what does this all mean?

I believe we’re at the peak of one of the biggest bubbles ever and if history tells us anything, it’s that all bubbles will pop. What actually sets this bubble off is anyone’s guess but there’s a lot of money to be made in crashes.

Here are some of my best trade ideas for the next few years that I believe will generate outsized returns compared to the market:

Trade

Description

Share Price (Feb.6.22)

Potential positioning

Cash

50%

‍

VIX/UVXY

Long call options

23.22/14.64

10%

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GLD/SLV

ETFs

168.86/20.79

20%

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SQQQ

3x Inverse Leveraged ETF on QQQ Call options

38.55

5%

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Gamestop

Stock/options

102.34

15%

Cash:

Even though Ray Dalio continuously says ‘cash is trash’ in an inflationary environment, having enough reserves on the sideline in times of crisis is something many of the great investors do (see why Warren Buffet has ~$150B on the sideline). Given all the evidence above, I believe many US equities have larger downsides than upsides in the near term and would hold a significant portion of capital in cash to just wait it out. Side note: Michael Burry as per his last 13F filing is predominantly in cash.

VIX/UVXY:

Volatility is inversely correlated to the direction of the market. As the market goes down, volatility goes up. Liquidity is drying up in the system so expect volatility to shoot up. There’s also a great write up about how to position for the volatility squeeze (part 1, part 2). My thought is to buy long dated call options either for 2023 or 2024 at lower strike prices so even though I’m paying more for the premium, my downside risk is covered.

GLD/SLV:

Buying a low-cost gold and silver ETF is a prudent thing to do, especially in times of crises when governments and investors tend to flock to ‘safe assets.’ Countries’ central banks have slowly been accumulating more gold over the last decade as these assets have withstood the test of thousands of years of history. Gold was also the best producing asset in the inflationary decade of the 70s so even if inflation continues, gold should maintain or increase in value relative to other assets.

SQQQ:

The SQQQ is a 3x leveraged inverse ETF compared to the QQQ/NDX. I expect the Nasdaq to fall at least 50% from its highs, although it could be even worse than the 2000/01 bubble depending on how much liquidity dries up. I would buy long dated call options for 2023 or 2024 at today’s price to cap my downside risk.

Gamestop:

I believe Gamestop has the potential to become the next Amazon. Led by Ryan Cohen, an amazing entrepreneur focused on delighting customers, Gamestop has hired 300+ executives from numerous quality companies over the last year. In addition to their retail space, they’re building an NFT marketplace as evidenced by the recent partnership with Immutable X. The company has no long term debt, billions of dollars in cash, expanded its warehouses across the US, invested heavily in its E-commerce platform and is transitioning from a retail only company to a digitally integrated platform company leveraging the power of NFTs and web 3.0.

Other ideas:

·  Oil: room to run due to inflation, current geopolitical crises with Ukraine/Russia and China/Taiwan, underinvestment in last decade and shifts by institutions due to ESG concerns. Long UCO via call options or basket of best producing oil companies.

·  Commodities like copper and uranium as we decarbonize the grid and shift to nuclear

·  Value companies/Emerging markets’ ETFs: a favourite of Jeremy Grantham as mentioned in his recent interview, Meb Faber and Whitney Baker, former head of global macro of Soros and head of EM at Bridgewater

·  FAZ: Long outdated call options on 3x leveraged inverse ETF of the banks who could be in crises due to the over-leveraging of hedge funds.

We’ll see what happens over the next few years but as you can see, I don’t expect it to be as great as the last decade.

Disclaimer: this is not professional investment advice and I am not a financial advisor so take all this with a grain of salt.