Jim Mellon predicts “big fall” in markets
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I am in Ibiza enjoying the sun and the languor for a couple of days. Later this week I am due in Switzerland to talk about longevity, as well as the meatless future – both subjects which are connected and which I am increasingly convinced will come to dominate investment conversation in the relatively near future.
In the past month I have spoken at the Cog X AI conference in London, which I have to say was brilliantly organised and very well attended. Since my “I“ is in tech terms somewhat lacking, I had to use the “A“ part to get some factoids in order to appear well informed on the panel on which I was speaking.
Cog X, which looked at AI in medicine, was hosted and well moderated by Softbank’s Sakshi Chhabra. I have said for a while that many doctors will soon be receptionists in front of smart computers, and so it is coming to pass. Here’s a factoid example: mammograms are notoriously unreliable, for instance, sending one in two women to biopsies that in most cases are unnecessary and traumatic. Today, AI can assess the results of the mammogram with a 99 per cent accuracy, obviating the need for surgical intervention in both cases.
Already, Juvenescence, the company founded by my partners and I a few months ago, has access to two superb AI platforms (Insilico and Netrapharma) to assist in drug discovery and commercialisation. As I keep on saying, in my various presentations around the place, AI for novel compound discovery in pharmacology didn’t exist when Al Chalabi and I wrote Cracking the Code six years ago – and nor did cancer immunotherapy, a cure for Hep C, and CRISPR, the gene editing technique which is becoming the gold standard for genetic engineering.
What’s going to happen in the next five years? No one knows – but surely, it’s got to be good!
The coming bear market
Sadly, that doesn’t apply to the immediate future for markets, be they for bonds or for equities. There is a fin de siècle feeling around at the moment; small rallies quickly fizzling out in favour of lower lows, in many – indeed most – prices for stocks and fixed income instruments. Growth is slowing everywhere, particularly in Europe and in China, and in some markets the boil has turned into, well, not exactly the freeze, but at least the cool-down. I think this is to be expected; you have had a debt-fuelled rally for many years now in most major markets, encouraged by central banks who are now, to almost a man (not many women so far in central banking), tightening the spigots.
Why anyone would think this would be positive for equities is beyond me. In fact, the assertions made by many pundits and fund managers also astonish; the view, for instance that bank stocks always go up in an era of rising interest rates is one such shibboleth. All the major US bank stocks are down this year, including Citigroup (NYSE:C), which is now off by 13 per cent.
I read recently that the average fund manager in the UK and in the US hasn’t been in the job for very long: 40% for less than eight years, or in other words, 4 out of 10 for less than the period since the financial crisis. No wonder complacency abounds, and valuations that would normally be looked at askance – especially going into an era of slowing, rather than rising, earnings – are fully stretched. That is not to say that there aren’t opportunities – there are – but the rising-tide-lifts-all-boats scenario investors have gorged on for a few years is gone, and with it the gentle moonlight that they bathed in all these years.
I was recently on a financial TV channel saying that there would be a major correction. In a way, this statement was teased out of me, rather a priori I thought, but here I believe my own words/verbiage. We are at the beginning of a big fall in markets, and while I would love to say that stock X or stock Y will resist the tide of selling, in reality, weathered and battered by years of market turmoil, as I am, I know that no such thing will happen.
Run for the hills?
The good girls go down with the bad in the early stages of bear assaults, and that’s what will happen soon. You are much better off with cash in this phase, or very short-term government paper. The inverse cycle of bonds up, stocks down, familiar to most investors is also about to be uncoupled. Bonds will fall in this cycle, as much as stocks, partly due to the sheer weight of public and private sector debt that has been built up in this continuous party we have been enjoying since 2009. Always, always, in my experience, you get plenty of warning about the beginning of a bear market. You know how on a roller coaster, it slowly ratchets its way up to the sheer fall – that’s where we are. Don’t doubt it – it’s going to happen.
When the plunge happens, wow there will be some opportunities. Firstly, in the dead cat bounce that always accompanies these things, and secondly when the cat lies prostrate once more, and we can sift through the rubble. Because the truth is that there is an abundance of value on markets waiting to be had; it’s just hard to spot in the fever pitch of bullishness that has taken hold in such things as the FAANGS, the fast-moving consumer goods companies which have been priced as bond proxies, and the passing fads such as crypto currencies and so forth. (And by the way, in contrast to family and colleagues, I think crypto will go to zero.)
I am not too worried about trade wars, Brexit and the China-US stand-off (though I do urge, as I have for a while, caution on Italy). I am much more worried that we have inexperienced and unseasoned find managers navigating choppy waters, at a time of economic inflection and peril. My own best advice is to do what most people aren’t: stick to cash, or gold and silver. In the case of cash, I would hold the Japanese yen and yes, now the Swiss franc which has been a terrible performer and is now a good proxy for the “hard” part of the euro.
I would put much lower buy limits on favourite stocks that you have really researched and would like to own for the long term. Don’t be hesitant to put in really low limits – you will be surprised at the “sales” in equities when they come. This is the time for restraint. Get off the merry-go-round and wait for the music to stop. It’s going to be exciting and lucrative. Just don’t dive in at the first sign of distress. It takes time for bull markets to play out. Ditto bear markets.
Happy Hunting!
Jim Mellon
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Totally agree a collapse is imminent. Ignoring all the technical reasons the good old law of probability surely signals the markets will dive sooner rather than later. I read somewhere May 11th 2019 was the date. Brave person to specify an exact day. Nevertheless Jim what do you feel will happen to gold/silver etc stocks. IN other recent posts you have been touting buy buy buy. In a sharp fall I believe these stocks fall initially but recover quicker! What is you call please?
Some counter-arguments:
– Jim Mellon has been recommending heavy investment in gold and silver for many months, even a couple of years now, but there’s been very little improvement in price and very little responsiveness in the gold price when we did have an approx 10% correction in equities earlier this year. Do gold and silver really still offer inflation- and crisis-protection, when there are so many other kind of assets, like solar farms, PFI infrastructure, student housing, index-linked bonds etc that are relatively easy nowadays for investors to choose, in order to diversify from equities and the wider bond markets?
– where is the inverted yield curve that normally comes about 19 months before the start of a recession? Where is the sustained increase in unemployment, which usually starts about 11 months beforehand? Where is the fall in new homes sales in the US, which usually starts about two years beforehand? You could argue that tech, especially the FAANGs, are displaying classic “irrational exuberance”, but that’s only one, albeit very large, sector and many tech firms have been generating greatly-increased earnings over the last two years that have been lowering their P/E ratios, not increasing them. There is still a good chance that tech valuations are not as crazy as many people believe, because these companies are at the sharp end of the generational shift proposed by, say, James Anderson at Scottish Mortgage, where the capabilities of information technology are revolutionising the business models of large swathes of developed economies and enabling much faster economic development in countries like China.
Meanwhile, many other sectors of developed economies, like oil, retail, advertising, banking, cars or large combines like General Electric or Rolls Royce – the list goes on – are actually pretty depressed, still emerging from the post-2008 crisis, and their share prices have barely moved upwards in years. I include biotech in this too because despite the rapid gains 3-5 years ago, the sector has actually been poorly-performing for 1-3 years now, with p/e figures often in single figures now; sentiment has been depressed in the US by the threats of price controls from Hilary Clinton and Trump. Overall, the forward p/e ratio for the S&P500 was getting close to one standard deviation off its 25-year trend at the start of 2018, but after the spring correction, it is now back towards that average, so it’s not as if the US markets are pricing in too much growth at the moment.
– I can see the argument that the withdrawal of QE stimulus and rising interest rates may have a depressive effect on the markets, but these “normalisations” are happening gradually and there is at least a chance that the central bankers know what they are doing: they are looking for evidence that as QE reduces and they release the corporate and government bonds that are sitting on their greatly-enlarged balance sheets back onto the markets, the global economy and banking system is now strong enough to absorb these changes, adapt and continue to sustain its current growth. Presumably if there is evidence that the markets are struggling to adapt – the falling share prices of US banks cited by Jim may be a sign of this – the central bankers will reduce their asset sales and the pace of interest rate increases. Softly, softly, catchy monkey . . .
I’m not of course asking Jim Mellon to predict what will cause the start of the slump phase in his proposed bear market, or its timing. I accept that debt levels everywhere are high (but probably manageable with gradual rises in interest rates), and that central banks are looking to wind down QE, or actually doing it, and markets and growth are currently slowing. But does this necessarily presage a full-blown bear market? Why is it not just a(nother) temporary slowdown and period of adjustment, perhaps like the ones in 2012 or 2015, after which wider growth will resume? There may be a lot of fund managers around who lack experience of a bear market, but isn’t that mainly a problem for small investors holding those funds, not something that is going to start a bear market? And even if there is a major sell-off of tech stocks, this could simply be a useful correction that will hurt a lot of investors who are invested in them via their trusts or funds, but again, that is not the same as a bear market.