16 May America’s Love Affair with TINA Continues
As TLR wrote last year (here), since March 2009 investors have had no better alternative than to own equities …, which is why the acronym, TINA – There Is No Alternative –, has been applied to owning stocks over other asset classes. Although having an investment portfolio composed entirely of stocks is a theoretically hazardous portfolio allocation from a risk-reward perspective (being at odds with Modern Portfolio Theory’s diversification model), investors nevertheless have been pouring their Dollars into the stock market because other investment alternatives (except for surefire “Bubble” winners like Bitcoin (discussed by TLR here)) have offered poorer prospective returns. And those equities have quite convincingly outperformed. When TLR last wrote about America’s Love Affair with TINA in October 2020, the QQQ index was at $290 (having appreciated from $31 in 2009) and Tesla was at $440 (having appreciated from $4 in 2009). Today the QQQ is at $326 and Tesla is at $590 (having reached $900 in January). The Love just keeps on coming (even in the midst of this past week’s
brief stock market correction)! How long can it last? For how long can the stock market Bubble continue to inflate?
The “heat” inflating being pumped into the stock market is government money-printing …, the purpose of which is and has been to ignite a level of spending and consumption that both restores America’s economy to its pre-Covid-19 level and creates durable wage and price inflation. Neither has happened yet … although it was the fear of inflation that spooked the stock market this past week. Instead, much of that newly-minted money has flowed into assets, particularly stocks and bonds.
Milton Friedman noted that the cause of inflation – of all types – is “always and everywhere a monetary phenomenon in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output.” Since March 2020, the U.S. government has pumped an unprecedented $12.3 trillion of monetary and fiscal stimulus into the markets economy …, a sum that extravagantly fits the definition of “rapid increase.” That increase in the quantity of money far, far exceeds output … and that excess of money-printing over economic output is expected to continue. The Biden Administration has proposed an additional $4+ trillion in spending and the Federal Reserve has committed itself to $120 billion/month of continued bond-buying “as far as the eye can see.” Whether these massive injections of additional money into America’s economy turn out to be wage and price inflationary or asset inflationary – or both – depends on where that money goes. To date, it has largely gone into assets and not yet into consumer inflation (although, as CNBC points out here and the markets this past week have echoed, the fear of inflation is in the May air). It’s the latter kind of inflation that ultimately leads the Fed to react by tapering its money-printing and raising interest rates … either of which would have an exceedingly negative impact on America’s Love Affair with TINA. Asset inflation historically has not been of concern to the Fed (recalling the famous – and toothless – warning of Fed Chairman Alan Greenspan that the stock market of 1996 was being fueled by “irrational exuberance”). With the Fed committed to doing “whatever it takes” to maintain economic growth in America and with no sign of U.S. government fiscal forbearance, no wonder that stock market prices have continued to rise at a heady pace!
For how much longer can such asset appreciation continue?
The Federal Reserve holds a sharp pin that it can use at any time to deflate economic excess … including stock market Bubbles. However, the Fed is not about to stop its current injections of trillions of Dollars into the U.S. economy – it can’t without triggering an economic crisis (as TLR previously noted here). It therefore will continue to fuel Bubbles the economy – and TINA – until it no longer needs to do so … or otherwise is compelled to stop. This despite the fact that America’s debt-to-GDP ratio already exceeds 130%, a level that historically has signaled a future debt default …, and the U.S. budget deficit for the first six months of the current fiscal year was $1.7 trillion, an unprecedented shortfall. As a consequence, the prices of highly speculative company stocks continue to soar into what many believe to be spectacular over-valuations … coupled with record margin debt, record volatility, record retail options trading, record retail equity market participation and highly leveraged derivative structures. With the Fed unable to act without triggering financial chaos and the U.S. government intentionally adding fiscal fuel to the asset appreciation bonfire, the only potential brake on the stock market is … the stock market itself. With investors using the increasing value of their equities to buy more and more equities, and with their margin lenders and prime brokers eager to help them leverage their holdings to the hilt, there will may come a time when there’s a market pullback, when margin + prime broker + derivative lending becomes top-heavy … and the structure begins to wobble …, margin calls commence, and account liquidation fears accelerate …, fueling panic selling that overwhelms all other emotions.
But that time is not quite now.
How do we know? Well …, we don’t truly know. However, the bullish signs remain favorable and the bearish ones manageable. For example, the spectacular failure of Archegos was not the trigger many had predicted. Though alarm bells rang, Archegos did not tip over any other dominos, something that would have been expected had the markets been teetering rather than being elegantly balanced on the edge.
Archegos is a story of excessive, invisible leverage, one that students of market history know quite well …, though with a level of complexity that was absent in prior eras. It’s a story about
incompetency at some of the world’s largest banks, the safekeepers of the financial integrity of global equity markets, and their inability to adequately monitor their clients’ risk … which is itself alarming … and eerily reminiscent of 2007-08.
Bill Hwang, a former hedge fund star, formed Archegos as his personal investment vehicle in 2013. His strategy was to invest in a relative handful of carefully researched public companies to create a concentrated portfolio (the type of “non-diversified strategy” discussed by TLR here and here). He did so by entering into privately-negotiated “total return swaps” with deep-pocketed international banks that provided him with the ability to significantly leverage up his bets. (Total return swaps are derivative instruments where the underlying stocks are held by banks, which meant that Archegos’ stockholdings were invisible to its other bank-counterparties as well as to the marketplace and market regulators.) Hwang’s trading was so successful that by mid-March 2021 the value of Archegos’ portfolio reportedly exceeded $20 billion … and then all of it – literally all – quickly evaporated.
Archegos utilized levels of leverage unavailable to non-institutional investors … and did so without any of its counterparty-banks becoming aware that the same positions were being replicated – in size and with the same extreme leverage – at a half dozen other banks at which Archegos was doing business. This enabled Hwang to amass huge concentrated positions. The effect of the separate holdings and concurrent leveragings was that, as long as it kept buying, Archegos exerted tremendous upward price pressure on its portfolio positions. However, when significant selling began in one of its portfolio company’s stock, the result was a meltdown. Archegos was forced to liquidate a portion of its highly-leveraged positions to raise cash to satisfy margin calls that could – and did – result in cascading margin calls that flowed from bank-to-bank … along with the required sales that could – and did – force down prices and generate further margin calls that could – and did – force down prices even further …, etc., etc., etc. Those margin calls (apparently initially in ViacomCBS Inc.) began on or about March 23rd and compelled Archegos to liquidate positions. In only a few days Archegos’ entire portfolio collapsed … leaving several of the world’s largest banks – the ones that had provided the leverage – holding the bag. The banks learned of their common disaster problem on March 25th. The wiser ones quickly closed out Archegos’ deteriorating positions. Credit Suisse was not sufficiently nimble and ended up getting smoked … with a reported $5.4 billion loss. Other banks cumulatively reported billions of dollars of losses.
Prior to the mid-1990s, U.S. margin requirements were set by regulation at 50%. Regulatory requirements were relaxed in the late 1990s to permit 15% equity margin, with margin requirements declining steadily thereafter. The result is that in addition to record amounts of institutional leverage (at levels that range as high as 20-1), margin borrowing by individuals is at an all all-time high, exceeding $800 billion. That retail borrowing, and the stock buying it supports, has been further encouraged by zero commissions, handy trading apps such as Robinhood (discussed previously by TLR here and here), and by investors being stuck at home during Covid-19. In short, although it’s impossible to determine whether “the Archegos leverage trap” is awaiting other investors, dangerously high leverage most certainly permeates the markets. After all, Archegos followed a irrationally exuberant strategy that others undoubtedly are continuing to employ by (1) investing in the stock market, (2) as the value of their stocks appreciate, as it has, (3) margining or borrowing to the hilt against those stocks and using the borrowings to (4) buy more stocks that (5) then appreciate in value, as they have, enabling further borrowings to (6) buy yet more stocks that (7) most certainly will appreciate until (8) … well, forever!
This was a simple strategy that worked quite well for Archegos – and did so for 8 years – until it didn’t. The fact that the Archegos’ fallout did not irradiate the broad market teaches that March 2021 was not the same as September 2008 (though some have whispered that the Archegos fiasco of March 2021 resembles the Bear Stearns collapse of March 2008). Although Archegos has not rung the closing bell on TINA, it nevertheless sounds a gong of caution. There are hidden risks in today’s markets … and the banks and regulators that are supposed to be monitoring those risks are
not doing unable to do so. Although TLR continues its Love Affair With TINA, TLR also is fond of quoting Stein’s Law: “If something cannot go on forever, it will stop.”
Finally (from a good friend)
7:00 AM – Outside! My favorite thing!
8:00 AM – Dog food! My favorite thing!
9:30 AM – A car ride! My favorite thing!
9:40 AM – A walk in the park! My favorite thing!
10:30 AM – Got rubbed and petted! My favorite thing!
12:00 PM – Lunch! My favorite thing!
1:00 PM – Played in the yard! My favorite thing!
2:00 PM – Looked out the window and barked! My favorite thing!
3:00 PM – Wagged my tail! My favorite thing!
4:00 PM – Chased a bird out of the tree! My favorite thing!
5:00 PM – Milk Bones! My favorite thing!
6:00 PM – Watched my people eat! My favorite thing!
6:20 PM – Table scraps! My favorite thing!
7:00 PM – Got to play ball! My favorite thing!
8:00 PM – Wow! Watched TV with the people! My favorite thing!
11:00 PM – Sleeping on the bed! My favorite thing!
Day 983 of my captivity.
My captors continue to taunt me with bizarre little dangling objects.
They dine lavishly on fresh meat, while the other inmates and I are fed hash or some sort of dry nuggets.
Although I make my contempt for the rations perfectly clear, I nevertheless must eat something in order to keep up my strength. The only thing that keeps me going is my dream of escape.
In an attempt to disgust them, I once again vomit on the carpet.
Today I decapitated a mouse and dropped its headless body at their feet. I had hoped this would strike fear into their hearts, since it clearly demonstrates what I am capable of. However, they merely made condescending comments about what a “good little hunter” I am. Bastards!
There was some sort of assembly of their accomplices tonight. I was placed in solitary confinement for the duration of the event. However, I could hear the noises and smell the food. I overheard that my confinement was due to the power of “allergies.” I must learn what this means, and how to use it to my advantage.
Today I was almost successful in an attempt to assassinate one of my tormentors by weaving around his feet as he was walking. I must try this again tomorrow – but at the top of the stairs.
I am convinced that the other prisoners here are flunkies and snitches. The dog continues to receive special privileges. He is regularly released and seems to be more than willing to return. He is obviously demented.