I Have No Idea If I’ll Call The Bottom This Time. I Do Know We Aren’t At a Capitulation Bottom Now.

Someone with more emotional intelligence than I noted that my last blog post could have read as saying;

“I’m selling out now because I know I’ll be able to call the bottom again (because I am oh-so-smart).”

That was absolutely NOT my intended message. The intended message was.

I’m not so foolish as to bet I’ll call “the bottom” again. We might not even get to a true capitulation bottom. But I do know what a capitulation bottom feels like.  We aren’t anywhere close now. There is far too much hope out there. People buying the dip. Talk of a quick return to work. Wonder cures just on the horizon…

I have no idea if I’m doing the right thing (by going to cash). But I do think I’m making the right decision based on; 1). no visibility. 2). a binary future scenario with a pretty awful downside case (see below).

If the economy rides through OK, I’ll be wrong. I’ll miss a rally.

If the economy (more likely) take an ugly hit, we have one or more legs down from here.

When/if things really feel hopeless, I’ll force myself to buy back in. No idea if I catch “the bottom.” It could just keep getting worse from there. But we’ll definitely be closer to a bottom than we are now…

Capitulation bottoms are marked by numb despair, resignation and indifference. The result of a long siege of fear. All assets are being liquidated, with correlations at 1. We all lived that in early 2009. We may not get there, but we definitely aren’t there now.

We May Not See the Capitulation Part

The market is swinging wildly because it is pricing in binary scenarios.

  1. Optimistic: The economy bounces back quickly. Limited damage done. That scenario is driving market rallies. “Buy the dip!”

  2. Bad-to-Catastrophic: The shut-down drags on until we have a viable vaccine in wide distribution (in other words, 2021). That likely leads to a downturn that dwarfs 2008. The “catastrophic” flavor of the downside scenario hasn’t been priced in yet at all (IMHO).

We aren’t sure which scenario plays out. The market will almost certainly figure it out (and price it in) before I figure it out. What we DO know is the potential cost of the negative scenario vastly outweighs the potential benefit of the positive scenario.

Given that cost/benefit, the “smart” decision is to plan for that negative meltdown scenario. It might not turn out to be the “right” decision after the fact. But I’d prefer to miss a rally than suffer a melt-down.

OK, I Do Think We Will See Capitulation – This Likely Gets Bad.

My metaphor for the coronavirus crisis is the 1906 San Francisco earthquake. The earthquake was bad, but most of the damage was done by the fires that followed it. The virus is the earthquake. The resulting economic dislocation are the fires. Absent a miracle cure, I don’t think the likely scope of the upcoming economic crisis is understood much less priced in.

My worry is its economic shock and the resulting stresses on the financial system. If a plane hits too much turbulence for too long, something big – wings, an engine – eventually falls off. We know a lot more about that than most folks want to admit (yet).

  • The longer the virus crisis drags on, the worse the economic crisis gets. The fires after the earthquake.

  • The worse the real-world economic crisis gets, the more likely we spark a financial crisis. Gasoline on the fire. That is why I am using 2008 as a template.

  • The usual counter-argument here centers on some sort of medical miracle breakthrough. But we also know it’ll take until 2021 for a vaccine to be developed, pass trials, and get widespread distribution to the population at large.

  • I also think we all know (but aren’t yet willing to admit) that economic activity will remain depressed until there is a vaccine. A “therapeutic” treatment is great news, but “you still might end up on a ventilator and die, but it is less likely” doesn’t read like a banner under which people march back out unafraid.

Worse than 2008? Hard to See Why It Wouldn’t Be…

The other thing we know is the global Coronavirus crisis is clearly a broader-based and sharper economic shock than the US’s 2008 mortgage crisis. This doesn’t guarantee a “worse” economic result. But it does mean the real possibility of an equally or more catastrophic scenario. That is the downside case I have decided to protect myself from.

I worry we are in the March 2008 “Bear Stearns goes bankrupt – what a pity” phase where everything still seemed under control (economically). If the economic stress overwhelms the system, we could have a October 2008 “Lehman Moment” out there somewhere. Followed by the long ugly siege of selling that took us to that March 2009 bottom.


I Don’t Know Any Better Than You, But We Need to Decide Now – Not Knowing.

In short, I’ve decided to “risk missing a rally” to avoid risking a disaster scenario.

That isn’t to say that companies (like NET) aren’t going to have a great quarter and a pretty good year. They probably will. But they report 6 weeks from now. That’s an eternity in Coronavirus time.

Looking out over a year, those good numbers will matter even less if we get a repeat of 2009 – correlations go to 1 in liquidation selling. Everything gets sold and everything goes down.  A capitulation bottom starts with capitulation. That is an ugly, multi-month process.

We are facing a binary outcome here. One of those binary scenarios is a possible systemic financial crisis so dire that, in response to the threat, the Fed has opened up every tap it has, the Republican Senate just passed a $2 trillion stimulus bill without a blink, and even Trump is taking it seriously. That scenario has clearly gotten folks very very scared.

I’m not saying that super-bad scenario WILL happen. I have no idea. But better to plan for what happens if it does. If it doesn’t, you miss a rally. If it DOES, the bottom is a long way down and no asset will hold up well.  We’ll see.  At least I’ll sleep better.

(Recap) How I Called the Bottom in 2009.  It Just Couldn’t Get Any Worse.

Lets be clear about the ONLY thing I knew writing that “calling the bottom” note back in March 2009.  I had NO IDEA when it would get better.  I just knew it couldn’t get (much) worse.  The title says it all.

My Centre is Yielding. My Right is Retreating. Situation Excellent. I Attack!” 

Sometimes attacking is the only defense you have left.

We’d already been though months of liquidation in markets.  All sellers, no buyers.  That week in March, two of the networking equipment companies I covered told me customers were making capital plans on a rolling two week basis (vs a typical 1-3 years).  In other words, the demand and planning horizon had shortened about as far as practically possible. It couldn’t get shorter.  It couldn’t get worse.  Abject fear.

That is what a bottom looked like back then.  It might end up being what one looks like now.  And we aren’t close to that yet.  I hope I’m wrong.

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