I have never been more profoundly grateful than I am this Thanksgiving 2023.  I wish you the season’s blessings, and gratefulness.

Prudence doesn’t hurt either.  Especially if your career revolves around the US equity market, as mine does.  And we don’t say prudency. So why do we say resiliency?

Anyway.

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Illustration 34042495 © Beaniebeagle | Dreamstime.com

Jim Chanos shut down Kynikos Capital. He’s been the most credible short-seller of my generation, and I’ve watched and listened most of my adult life to his reasoned views (but I’ve not followed them, I should note!). He called Enron.

I say “credible” because he was never shrill, always armed with data. My opinion, he fell victim to changing markets and monetary policy that have undermined the soundness of financial research.

You can’t count on the facts to produce the expected outcome anymore.

Liz Ann Sonders, the erudite chief market strategist for Charles Schwab, said a third of the Russell 2000 are zombies (incapable of paying down debt) and 40% are unprofitable. She says own the S&P 600 smallcap index, not the Russell 2000, so you buy profits.

But while SP600 outperforms, losing 18% the past two years versus -24% for the Russell 2000, those losses on top of inflation of 15% mean you’re down 40%. Profits don’t mean gains.

Over the trailing five years, SP600 is up 24%, RUT up 21%. But both those figures trail inflation of nearly 28% over that time, before taxes, management fees and commissions.

What’s that got to do with Jim Chanos? Fundamentals – including bads ones – don’t support valuation.  The S&P 500 outperformed smallcaps by 200% the past five years, though after taxes, inflation, commissions and management fees, returns drop from about 11% annually to 5% a year.

And volatility in the S&P 500 is 2.4% daily. Half the annual returns after costs can disappear any given day.

Thanks a lot Quast, you killjoy.

The point isn’t the paltry real returns in stocks. The point is you can’t predictively count on fundamentals.

You can only count predictively on size. 

FNGU, a three-times leveraged ETF built on seven big tech stocks, is up 500% the last five years. And it’s a daily trading instrument.  At one point, it was up 1,300%.

And that’s why Jim Chanos can’t compete. Well, that and market rules that permit market-makers to manufacture stock to fill orders (that’s short volume). Nobody should try to short the market without seeing Demand and Supply.

Meanwhile, bullishness has pervaded Wall Street. Amy Wu Silverman, equity derivatives head at RBC, and a smart person, said bullish bets on smallcaps are “historical.” Demand for call options is off the charts.

Quant strategist Savita Subramanian at Bank of America, another shrewd human, is the most bullish she’s been in ten years, according to a note out yesterday.

Wow.

And what does the brain trust at ModernIR think? 

Let me set up the answer. On Halloween 2023, overnight borrowing rates for large institutions in China jumped to 50%.  Rates mean-reverted. But.

Japan’s economy unexpectedly shrank 2.1% in Q3 after showing the best “growth” in years. I put it in quotes because it’s not growth.

The number of yen a buck will buy has risen nearly 50% in two years. That means Japanese consumers have had their purchasing power gutted. In response, Japanese stocks briefly traded at a three-decade high.

Argentina has inflation of more than 140% and just elected the Donald Trump of South America, in the sense that his plan is to drain the swamp.

Argentine stocks?  As the country has teetered on bankruptcy – which would be the tenth time in its history since winning independence from Spain – its stock market, the Merval, has risen 390% in a year (it jumped 23% yesterday on the election).

Of course, it’s in Argentine pesos, so you get what you pay for.  And that’s true everywhere. Most major and minor currencies are devaluing at perilous rates. Thus any measure of economic “growth,” no matter the application of so-called deflators, is suspect, and susceptible to sudden and violent reversal and revision.

Also, there’s been a collapse in the effectiveness of derivative market hedges, and surges and plunges (currently the latter) in short volume, the supply chain of the US stock market.

I’ll wrap with an answer. I think the market is vulnerable to the unexpected. And the unexpected abounds, as I’ve illustrated. The prudent foresee evil and hide themselves.

The foreseeing and the hiding are equally difficult, but you get the point.

I’m not saying that smart people are wrong to be bullish and markets may well be off anew to the races. But if Japan and Argentina are lessons, markets aren’t truthtellers.

I wonder what unexpected thing lurks. 

So as we pause this week to gratefully stuff ourselves on whatever gastronomic choice predominates in your particular locale, be sober and vigilant. It’s a strange time.  

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