Kevin Duffy, Co-Founder and Principal at Bearing Asset Management predicts a vicious bear market in equities and hints which stocks are going to be most vulnerable in the coming year.
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It’s getting ugly. Around the world, equity markets are in turmoil. At start of this week, the S&P 500 (SP500 2448.94 -0.75%) dropped to the lowest level in more than a year and many investors are becoming anxious. With Kevin Duffy the opposite is the case. The co-founder and Principal at Bearing Asset Management is an internationally renowned short seller. With his investment style he is one of the increasingly rare financial specialists who are betting against stocks and other securities they think will decline in price. “Since the beginning of October, it’s been the ideal environment for us”, he says in an extended interview. He is convinced that the equity markets are the beginning of a prolonged, grinding downturn and unveils which stocks will suffer the most in the coming year.
Mr. Duffy, the financial markets are in turmoil. What is facing investors in the coming year?
My easiest prediction would be that the equity bubble and the everything bubble starts to unwind. This year was a transition year. We certainly saw a bear market in most of the world’s equity markets. So far, the US has been able to avoid that. But next year is going to be a risk-off year. We will have a lot of declines in asset prices whether it will be in real estate or in stocks. So, the next act is that we are officially in a bear market in US stocks and I don’t believe that this is going to be a short and sweet downturn like most people think. I really believe we’re going into something very different: a prolonged, grinding affair that turns off a generation of investors from equities.
That sounds fairly dark. Why do you expect a crash?
One of the reasons is complacency. Central banks have artificially lowered interest rates for such a long period of time. That sets things in motion. It changes behavior. After a while, people get conditioned to ignore the early warning signs. Today, after ten-and-a-half years of rising asset prices, ultra-low yields and debt buildups without serious credit consequences, extrapolation seems to be the order of the day. Most investors think that stocks will continue to rise, the Federal Reserve will prevent a severe bear market, and every dip is a buying opportunity. After so many false alarms, they have been conditioned to rush into the building at the first sign of smoke. So, sentiment wise I think we’re set up.
Then again, this so called buy the dip strategy has paid off very well over many years. What makes you think this time it will be different?
I keep an eye out for red flags. One red flag is deteriorating market leadership. This criterion was satisfied in September as the S&P 500 exceeded its January peak while the median stock stalled. The 13% correction in the S&P 500 since its September 20 closing high has been broad-based, even dragging down the formerly-Teflon FAANG stocks, which shed more than 20%, or more than $700 billion, of their combined market cap. Worse, most large cap tech darlings issued weak fourth-quarter revenue guidance and appear to be running out of growth runway.
In addition to that, there are growing tensions in the credit sector. What’s your take on that?
To me that’s another big difference right now. I think it’s different this time because we’re now in the part of the credit cycle where rates are going up and credit is tightening. There is maybe a bit of a misunderstanding out there, that this is a result of the central bankers wanting to do this by tightening monetary policy. But they are behind the curve. They are just reacting.
What do you mean by that?
We’ve already talked about investor conditioning and complacency. But artificially low interest rates also condition economic actors to reduce their savings. Central banks basically are penalizing savers and pushing people into riskier and riskier assets. But they can’t repeal the law of economics. As the pool of savings is diminished it actually drives up interest rates. It’s like pushing a beach ball under the water: forces are building up to pushing it back up. That’s where we are in the cycle today. This is one of the big changes going forward.
Read the full article here by Christoph Gisiger, Finanz und Wirtschaft
