Smart money continues to head for the exits
Every day we hear fresh comment and analysis on just how overvalued markets and yet while these discussions continue, markets refuse to break and simply continue to levitate higher. Investors are starting to believe that such trends can go on further and the Fed really have created a money tree…
There’s no limit to irrational exuberance it seems, the infamous turn that Alan Greenspan first coined in the 90s… But then, we realise that in fact there is a limit, even if that epiphany comes a few years later. Guessing when this irrational exuberance will end however has been nothing but a mug’s game in recent times. Nevertheless, while retail investors are always hit by the implosion of the bubble, some “savvy investors” manage to avoid it, even if this is at the cost of missing out on some residual upside momentum. The latest trends inside the hedge fund industry are flashing a few warning signs that we shouldn’t ignore. Hedge funds en bloc are getting rid of their long holdings and they’re no longer as bullish as they have been.
Just to name a few examples, we can look at the recent actions of George Soros, Stanley Druckenmiller, Bill Gross and David Tepper.
Bill Gross has just announced that he will be leaving PIMCO. The truth is that Allianz was planning to remove him behind the scenes as they were unhappy with his methods and recent behaviour. But for a company that was turned into a trillion dollar fund business mostly due to Bill Gross, such a departure could only happen when things are not well with the market. The announcement of his departure has shaken the bond market.
George Soros is keeping his long positions but has increased his put option holdings on the S&P 500 ETF (SPY), as reported in the last quarter’s hedge fund holdings form. His fund increased put option holdings to $2.2 billion, which represent around 17% of the total portfolio. This should be regarded as a sign the fund perceives an increase in risk.
David Tepper, founder of the $20 billion hedge fund Appaloosa Management commented that this is “the beginning of the end for the bond market”, just after the market was surprised by the latest ECB’s move to cut interest rates. In fact, with interest rates near zero around the world and central banks already carrying trillions in assets, it is tough to foresee any further decrease in bond yields. When investors start fully pricing risk, there’s only one direction for bond prices, and that is down.
A few days ago, news of another liquidation also hit the market. This time it was Relational Investors LLC. The $6 billion hedge fund announced it would liquidate its holdings, as its co-founder Ralph Whitworth has decided to take permanent leave due to health issues. The company owns substantial shares in some big companies such as HP, Mondelez and PMC-Sierra. Even though they plan to sell the shares gradually and eventually create another fund business to which a portion of the holdings can be transferred, the liquidation is another blow for the market. Again, it is true that the reason stated for such liquidation is the health of its main fund manager, but these kinds of issues are much more likely to occur when the future is not looking as bright as it once was.
Finally, in succinct fashion, Druckenmiller relates what is happening:
“I am fearful that today our obsession with what will happen to markets and the economy in the near term is causing us to misjudge the accumulation of much greater long term risks to our economy”.
Central banks are no longer concerned with inflation or the real economy. The only concern they have is to keep shares at record highs, a goal for which they are trading short-term stability for large longer-term imbalances. At some point the system will break down as central banks will be unable to inflate the market forever. The smart money is already getting out. The way it is happening varies from fund to fund, but it has already started.
Some are liquidating their entire positions, while others are just protecting what they currently own; some are doing it because of investment reasons, others are doing it because of personal issues; some are doing it quietly, while others adopt a blustering stance. But, in the end and no matter the reason behind it, long positions are decreasing overnight, which is a key ingredient for the eventual bursting of the bubble.
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