The Abominable Snowball
<January 29, 2021>
A friend called me today to let me know he made 113% in one day on a SPAC. I congratulated him and encouraged him to buy more. To make sure he knew I was joking, I told him he should diversify a bit and buy some Tesla (TSLA) and GameStop (GME)!
As each day passes, it’s becoming increasingly clear to me we are in another asset bubble. And while I’ve used “bubble” to describe extreme overvaluation in the past, as I noted in a recent podcast with Tobias Carlisle, rolling a snowball up a hill may be a better analogy.
Similar to a market cycle, a snowball’s journey up a hill has a beginning and an end. At the bottom of the hill, the snowball is small and easy to maneuver. As the snowball is rolled up the hill (market rises), the snowball grows, taking more effort (capital) to push it higher. Near the peak of the hill, the weight of the snowball (market capitalization) reaches extraordinary levels, requiring significant force to maintain its upward momentum. Ultimately, the snowball begins to wobble, changes direction, and speeds down the hill, leveling anything and everyone in its path.
While it’s difficult to know when today’s market snowball will lose its momentum and reverse course, its size has become increasingly concerning. Based on current valuations and market capitalizations, this is the largest market snowball we’ve ever seen. And we’ve seen some pretty big snowballs!
The current market snowball is also the broadest we’ve ever seen, encompassing both the debt and equity markets. The growth of the equity snowball has been astonishing, with the U.S. equity market capitalization increasing from $10 trillion in 2009 to $43 trillion at the end of 2020!
The debt snowball is enormous as well, growing from $35 trillion to $60 trillion during the same period.
By combining the equity and debt snowballs, we can see just how large the total market snowball has become—now over $100 trillion! Considering its size, the combined snowball will need considerable effort and snow (capital) to keep it expanding as it rolls up the hill. As anyone experienced in rolling snowballs knows, a large snowball needs good snow to keep it growing—a lot of it!
Who will provide the necessary snow? Snowball bulls will point to the Federal Reserve and their ability to create snow without effort or sacrifice. In effect, the Fed has a snow machine! But will the Fed’s snow machine be able to keep up with the growing needs of the market snowball? While its snow machine has been running hot since the Great Financial Crisis, accumulated snow production (the Fed’s balance sheet) pales in comparison to the size of the current market snowball.
The market snowball looks even bigger next to the Fed’s annualized snow production (quantitative easing run-rate). We view the Fed’s annual snow production like a stock buyback program, but instead of a corporation reducing the float of its stock, the Fed is reducing the float of the market snowball. As the following chart illustrates, the Fed’s current “buyback” is only slightly over 1% of the market snowball. In our book, that’s not much of a buyback. More snow will be needed!
The catalyst that causes a market snowball to stop expanding and change direction is not always easy to identify. Sometimes market snowballs simply grow too large and become unmanageable. In effect, the incremental snow needed to maintain its momentum and crowd psychology fails to materialize. The tech snowball of 1999-2000 is a great example. On March 9, 2000, the tech snowball became so large that it began to wobble, and investors were no longer able to push it up the hill. It was that simple—instead of going up, one day it abruptly began to roll down the hill, and that was enough to change crowd psychology and crash the snowball.
As asset prices appreciate, the weight of the current market snowball is building, requiring more and more effort to push it up the hill. Although the Fed may succeed in keeping it on path in the near-term, we believe its snow machine will prove inadequate or will malfunction from overuse. While we’re not certain when or how the current market snowball changes direction, we view its massive size as a leading catalyst. Put simply, as the market snowball grows, the risk of it rolling over on its own weight also grows. Similar to the tech snowball, today’s market snowball may not require a specific event or shift in fundamentals to change its direction—just size, weight, and an unexpected shift in the path of least resistance.
Eric Cinnamond firstname.lastname@example.org
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