How It Ends

How It Ends

PUBLISHER’S NOTE: Even our own experts here at The Daily Reckoning Australia are divided on when this massive bull cycle comes to an end. But it’s safe to say whether it’s in 2022…or 2026…or by this Christmas…that ending is going to be quite spectacular.

Fat Tail Investment Research’s Vern Gowdie is betting on it happening sooner rather than later. And he’s highlighted four ‘Code Red’ investments he believes could sell-off first…and the hardest…when the mood shifts.

We’re releasing that research to Daily Reckoning readers later this week.

Before that, Vern looks at how previous booms ended…and finds some clues about the coming demise of the ‘Everything Bubble’…

How It Ends
By Vern Gowdie

2021 marks my 35th year in the investment industry.

Looking back, there’s been an enormous amount of change on one level and yet, on another, no real change at all.

The regulatory framework is, thankfully, much tighter these days.

Statements of advice. Records of advice. Anti-money laundering.

Sadly, it took a lot of shonky practices, poor advice, and a royal commission to affect the regulatory change. (Crypto lovers should take note. Onerous regulation is what awaits when the stablecoin frauds are exposed.)

Commissions — upfront and ongoing — are a relic of the past. Education standards are much higher.

This is to be applauded, but (and you knew there would be a but) if the ‘education’ is based largely on the past 40 years of market activity — an extraordinary period of population and debt growth and central bank intervention — then what’s been learned may prove to be irrelevant to future market conditions.

And one of the biggest changes has been that intervention by central banks.

They no longer watch the market from the sidelines.

Central banks are active participants in rigging the asset price game. What hasn’t changed — and never will — is the cyclical nature of markets and investor moods.

The duration of each cycle can change. However, the ebb and flow of emotional drivers is a permanent fixture from markets past, present, and future.

Reflecting back, there’s been so many different products or themes that have flamed in and out of the industry…and investor portfolios.

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The ‘Code Reds’

When 35 years is compressed into a few memories, these are the products — in a rough chronological order — that come to mind…starting with the mid-1980s:

  • Entrepreneurial stocks
  • Portfolio protection insurance
  • Unlisted property trusts
  • Currency-protected funds
  • Capital stable funds
  • Tech-related funds
  • Tax-effective funds
  • Mortgage trusts
  • Margin lending
  • High-yield bonds
  • Cryptos

Each one had their own appealing/compelling story at the time (and, for now, high-yield bonds and cryptos still do), but when tested by hostile market forces, they were all found wanting. Billions have been sent into the ether.

The current hype around markets — as to why they are not in a bubble or why cryptos will stand the test of time — has, in recent times, brought back vivid memories of bubbles past.

I feel like I’m in a time machine.

Transported back to 1987, 2000, and 2007.

The faces are different but the misguided and ill-thought-out reasoning is identical.

The other day I listened to an interview about cryptos — genuinely hoping I’d learn something and be given an ‘aha’ moment on what I was missing — and it was pure drivel.

The ‘reasoning’ was extremely long on belief and very short on facts.

And the ‘facts’ given were pure fantasy. Wow. I just sat there and shook my head.

What I’m reading and hearing is the same BS being applied to a different product.

This dangerous mix — belief triumphing over facts — was evident in The Big Short.

Belief in and reliance on ‘We’ve never had a decline in house prices on a nationwide basis’ was the primary source of knowledge for investing in (what proved to be toxic) products.

Being short on the facts cost investors dearly.

Whereas Michael Burry spent countless hours delving into the details of mortgage-backed securities and subprime lending. Burry was long on facts…which is why he went short on the market.

While the mob was blinded by belief, Burry (ironically, with one glass eye) saw the looming danger with great clarity.

The signs were there…even I could see them.

Throughout the course of 2007, I was advising clients (and warning readers of my weekly ‘Big Picture’ newspaper column) to adopt a more defensive portfolio allocation.

Pushing against the upbeat energy of the crowd was a constant challenge (not unlike today).

With hindsight, you can join the dots and see when the cracks in the overvalued edifice started to open up.

In their recently published book, TARP and other Bank Bailouts and Bail-ins around the World, authors Allen N Berger and Raluca A Roman state (emphasis added):

The Global Financial Crisis began as the US Subprime Financial Crisis in 2007:Q3 when losses on US MortgageBacked Securities (MBS) backed by subprime mortgages started to spread to other markets, including the syndicated loan market, the interbank lending market, and the commercial paper market.

Just after Q3 (third quarter) 2007 is when the Dow Jones Index topped.

The smart money picked up on the systemic risk.

The losses from mortgage-backed securities spreading to other markets caused a shift in momentum…which went unnoticed to the untrained eye.

How do I know it went unnoticed?

Well, at that time, margin lending was THE hot product. Borrowing to invest was believed to be the surefire way to increase your wealth.

Investors (and their advisors) ignored the facts and piled into the market (with the bank’s money) on nothing more than a belief in extrapolation…‘what has been will continue to be so’.

In Q4 2007 — when the US market topped — margin lending increased by more than $2 billion. Think about that…it took 15 years to accumulate $4.7 billion in margin debt and just three months to rack up another $2 billion.


But that’s what happens with exponential growth. From Q4 2007 to Q1 2009 — a space of 15 months — the volume of margin debt was halved…as margin calls were made, and portfolios liquidated.

Had investors taken the time to dig a little deeper into the facts, a world of pain — and for some, a lifetime of regret — could have been avoided. In looking backwards to see forward, it’s clear that some things never change.

In every boom I’ve lived and worked through — 1987, 2000, 2007, and now — scant regard is paid to the forces at play within the market and whether or not there is a reasoned basis for them being sustained.

Gates tend to get shut after the horse has bolted.

Congressional hearings and royal commissions only ever get called AFTER the event…never before.

Too little is done too late.

What continues to mystify me is that in these periods of exuberance and excess, people convince themselves that pendulums only swing one way.

When momentum starts to wane (as the smart money changes strategy), the pendulum begins reversing its direction…but the majority don’t notice.


Vern Gowdie Signature

Vern Gowdie,
For The Daily Reckoning Australia

PUBLISHER’S NOTE: So, what’s the ‘Code Red’ going to be this time? Which hot asset or assets might bring the whole house of cards down? Knowing this in advance could be very valuable to your immediate investing future. Vern has come to some shocking conclusions. We’ll be releasing them this Friday…stay tuned…

EDITOR’S NOTE: Hi, Callum here. You might remember I told you last week that I’ve started to host a company podcast. I’m going to have lots of fun with this, finding knowledgeable guests we can use to get further insight from. I just did a beauty with a tech and China expert called Tim Davies. It’s a cracker! You can see it here.