June
12
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When Is It a Good Idea to Make an All In Bet
By David Nelson, CFA
Going all-in. When do you make that bet? We see it in the movies all the time. Gamblers living on the edge push the chips to the center of the table confident there is no way they can lose.
How does that scene play in the real world outside of a Hollywood set? If you have a dream or passion to succeed, there’s only one answer. You make that bet, or it will never come to life.
With rare exception those that have something to fall back on do. When the risk of failure is taken off the table the end goal is rarely realized. The entrepreneur, the athlete, actor, scientist or just a kid with a dream who doesn’t go all-in won’t realize their potential and will forever question their decision to play it safe.
When failure is not an option
However, where we are in our life cycle largely determines just how much risk we can take and whether we have the time necessary to pick up the pieces in the event of failure.
The market has a habit of turning heroes to zeros in a New York minute. If you’re reading this and approaching or in retirement, you’re going to need a different solution. If you’re supporting a family, you have even more responsibility and of course failure is not an option.
The Bull Bear Debate
When failure is unacceptable, we are obviously playing a different game. And for investors, while it’s fun to go all in on a trade or idea like most things in life it doesn’t always play out like it does in Hollywood.
Analysts and fund managers live and breathe data. Investors want something more. They want a narrative that fits the data. If that isn’t available a few will buy into a story that fits their belief mechanism even if there is no supporting evidence.
2 Year Yields – 10 Year Yields vs Recession
Bloomberg Data
Economists, fund managers, strategists and talking heads like yours truly have pointed to the U.S. yield curve as proof positive that a recession is inevitable. In fact, I’ve repeatedly said on air and in these posts that if we don’t get a recession, it will be the first time in a half century the yield curve got it wrong.
The steep inversion along with other economic data is part of the thesis behind bearish calls out of Morgan Stanley’s Mike Wilson and JPMorgan’s Marko Kolanovic.
Fed Funds Futures as March 31
Bloomberg Data
Just a few months ago investors had priced in a July cut in Fed Funds with as much as 75 basis points in cuts expected by January. Today an expected ease in policy has now been pushed out to early next year.
Fed Funds Futures as of Friday
Bloomberg Data
The acceptance of a higher for longer mindset should have set the stage for lower prices and yet here we are with the S&P 500 officially in a bull market up 20% from the October lows. Adding fuel to the bull market thesis are signs of life in deep cyclicals and small caps. Recent price action looks a lot more like a market coming out of recession than a market going into one.
S&P 500 2 Years
Bloomberg Data
On the other side of the debate the current strength in employment isn’t as clean as it used to be. Yes, non-farm payrolls have been up for two consecutive months, matching levels from last year. However, last month’s payroll data while surging 339k didn’t match the household survey showing unemployment ticking higher to 3.7%.
The Fed wants you to lose your job
Bloomberg Data
Weekly claims data has been rising for close to a year. And why shouldn’t it? The Fed wants you to lose your job and would be much happier with unemployment north of 4%.
And therein lies the conundrum – Bulls and bears both have solid evidence to support their thesis and that it’s just a matter of time before being proven correct.
Nothing changes sentiment like price. Year to date bulls are winning that argument armed with a new secular growth theme in artificial intelligence. Investors continue to embrace the technology as an emerging industry that will not only add to the bottom line of existing leaders like NVidia (NVDA), Microsoft (MSFT) and Alphabet (GOOGL) but expect it to be embraced by all as a productivity tool that can drive both sales and margins.
Earlier in the year even a 154-year-old company like Campbell’s Soup (CPB) announced they were using artificial intelligence tools to accelerate the development of new products.
Add a venture capital stampede that will launch hundreds of companies investing $billions traders and investors have bought into the bull market thesis that became official just last week.
$Trillions on the sidelines
What’s missing in both the bull and bear argument is the $Trillions on the sidelines looking for a home. Those sitting in money market funds and treasuries making a comfortable return will need some prodding to give up on a safe +4% yield. Over the weekend the Wall Street Journal pointed out that despite the strong showing this year; at $147.5 billion, cash inflows to ETFs are running at their slowest pace since 2019.
The bears have cause for concern as well. While investors are still hesitant about putting cash to work in risk assets it still looms as potential fuel that could add to further gains in stocks.
They won’t be handing out trophies
As for the recession, eventually there will be one confirming the inverted yield curve prediction. You can bet all of us who made that call will declare victory even if it’s two years from now. I’m not sure investors will be handing out trophies if it means missing a bull market and possibly one of the great secular growth themes in a generation.
Inflation will remain higher than normal
Admittedly the sidelines are a comfortable alternative especially when cash yields are high. For many there will come a point when 4% money markets just aren’t going to cut it. Inflation will likely run higher than the Fed’s 2% target for years for a variety of reasons. Fed hikes have already damaged the financial plumbing.
Financial Plumbing is Damaged
Bloomberg Data
We’ve already seen several bank failures and a continued push higher in rates will trigger more cracks in the financial infrastructure. While the Fed rhetoric doesn’t speak to it today you can bet the expected pause in June is in part a recognition that there are limits to the Fed’s toolbox and that we may have to live with inflation somewhat higher than their 2% target.
Come out into the light
Sitting on the sidelines is as much an all-in bet as the investor who puts all of their retirement funds into stocks or another risk asset.
Even within equity you have choices. In addition to traditional long only, you have long/short and tactical strategies not to mention international funds which are showing signs of life for the first time in a decade. The point being there is a basket of risk assets available to almost any investor risk tolerance.
If you’re still living in the bunker, find a way to scale into a long-term allocation that fits your needs. Maybe cash isn’t trash, but it was never meant to be a long-term solution.
*At the time of this article some funds managed by David were long NVDA, GOOGL and MSFT
DAVID NELSON, CFA 