A person I follow on Twitter recently noted that he was ‘irresponsibly long’ Bitcoin.  This concept stuck with me because it reminded me of how I currently feel about my investment portfolio.  I do not believe I am irresponsibly long anything but I definitely feel like I am uncomfortably long everything.  I believe that the entire financial system is one big engineered mess.  We are trying our hardest to keep it under control.  All the while it is becoming more and more unstable (and uncontrollable).  I don’t believe anyone can control our financial system and I believe our efforts will go down in flames, eventually.  I desperately want to hunker down and play it safe.  I believe doing that, however, would be devastating to my portfolio (and net worth).  Therefore, I am risk on and long assets with everything I’ve got.  I am ‘uncomfortably long assets’!  Why?  Here are some things I’ve been noodling on recently.

Macro Is A Waste Of Time

First off macroeconomics is too hard!  Over the past few years, I’ve listened to hundreds and hundreds of hours of very intelligent people elaborate on their theories of macroeconomics.  I knew this was a waste of time because not one person could possibly know about all of it.  I’ve listened to very smart people argue how we will without a doubt get inflation and equally smart people argue just as adamantly that we will get deflation.  Pick a macro topic (interest rates, currency moves, unemployment, taxes, etc.) and you’ll get a similar experience.  Lots and lots of talking, predicting, debating.  But most of all, lots of people being wrong (and wrong again, and again).  If they are lucky enough to get it right, then it is very unlikely they’ll be able to replicate their luck into their next prediction.  If someone was truly able to consistently make accurate macro calls, they’d be the richest person on earth in no time flat.  They definitely wouldn’t be on a podcast trying to gather your assets (or sign you up for their subscription service).  With macro, there are far too many variables to consider.  No one could possibly know about all of it.  It is too hard. 

I also think that the same thing goes for people picking individual stocks.  It is a bit easier to pick great stocks but things still happen that no one could possibly know will happen (see my Tesla comments below).

That said, I do have some views on macroeconomics that help me shape my investment portfolio.  These are areas I have been focusing my energy on in recent months to learn more about.  I have opinions in these areas that help shape my investment portfolio but I am not foolish enough to risk my investment portfolio on me being correct.

We are all along for the ride!

How Do You Measure Inflation?

The government and their CPI says there is almost no inflation.  I don’t believe it.  There is massive inflation everywhere in all kinds of things that people need (money supply, health care prices, asset prices, home prices/rents, debt levels, tuition prices, etc.).  Everyone’s inflation is different.  I tweeted about this earlier this month https://twitter.com/deanoroll5/status/1323369513438662658

The central banks have told us they are targeting 2% inflation and that they ‘will let it run hot’ to get it.  They are quite literally telling you they are going to make you 2+% poorer each year for as long as they believe prudent.  This alone is why I am uncomfortably long assets.  If you own no assets you are guaranteed to be poorer.  If you own the wrong assets you are guaranteed to be poorer.  Even if you have the correct assets you might not outpace inflation enough (you guessed it…poorer).

They printed many trillions of dollars during the COVID crisis.  Some went to individuals but most wound up in PPP loans and went straight to corporations.  I believe this will ultimately wind up in assets (once forgiven) and lead to even more asset price inflation.  I tweeted about this a while back too https://twitter.com/deanoroll5/status/1299718542145851392

The government is hotly debating Modern Monetary Theory type initiative which will direct money to individuals (in the form of automatic payments and things like student loan forgiveness).  I believe this will happen and that it will lead to real live traditional inflation.  More money chasing real goods.

I believe the biggest problem is the inflation in the money supply.  Governments around the world are printing their fiat currencies at an alarming rate.  Money across the world is becoming less and less valuable.  I believe that this tampering with the money (the basis of our entire financial system) is leading to all kinds of ill and unintended consequences.  I also don’t think we have a clue about what we are doing.

There is plenty of inflation.  It just depends where you are looking.  In my opinion, it isn’t a good thing at all.  In my opinion, there is also very little we can do to hide from it.

We are all along for the ride!

What I Learned From Tesla

I fooled around with stock picking a couple of years ago with some success (and some fails).  I entered into it feeling uneasy about stock valuations in general and believed that if I picked individual securities, I could remove my uneasiness. 

After much study, I believe market-cap-weighted indexes are a very bad way to allocate capital in an index.  They are very inexpensive and also very tax-efficient for sure.  But when it comes to security selection, they just allocate based on one thing—price.  Total shares times the price of those shares equals market cap.  If you know that you know how much to buy in the index.  No price to earnings, no price to cash flow, no EBITDA analysis, no sales analysis, nothing…just price per share.  BUY!!!

Tesla is a great example of this.  If you are on Twitter and followed stocks over the past few years you’d see some of the most hotly contested debates of all time play out over Tesla.  The Tesla bulls versus the Tesla bears.  Like macro (above) very smart people on both sides armed with tons of data spending insane amounts of time determining why Tesla was worth its price (or not).

I didn’t care too much.  It wasn’t a stock I was interested in at all.  If I had to pick, I’d probably fall into the Tesla bear camp.  The stock trades at ridiculous levels on almost any valuation methodology.  I wouldn’t touch it with any of my investment capital.  Which makes me an idiot!  I guess!  Why?  I’ll tell you, but first I must admit something.

I do own it.  A good deal of it.  Why?  About a year ago Tesla was trading at around $80 per share.  Today it is about $560 per share.  It has gone up 7x in a year to a market cap of $540 billion and is currently the 9th largest company on earth.  It is being added to the S&P 500 in December.  NOTE: I believe the stock price will continue to rise (maybe even surge) as it is added to the index this month and must be bought by plenty who do not own as much of it as they should (to meet the market cap index weight).

The stock ETF I own owns the universe of stocks by market cap so as the price of Tesla rose my ownership of it rose.  I made money along the way.  So old Deano isn’t as dumb as I thought he was!

If I had been using my brain and listening to all the smart people I would have never owned this company’s stock.  Tesla is only one stock out of thousands where I have no clue what will happen to it.  Like macroeconomics, stock picking is too hard.  Even though I don’t think market-cap-weighted indexing is the best methodology for security selection I am not sure the low fees and low turnover (taxes) can be beaten.  Conversely, Tesla has taught me that the index’s ‘inferior’ stock selection methodology might not be able to be beaten. 

We are all along for the ride!

The Passive Bubble (Active Vs. Passive Investing)

I’ve listened to several interviews regarding how the shift from active investment management to passive index management is leading us down a dark path.  There are a few really smart guys (who also ‘coincidentally’ manage hedge funds to help you avoid/profit from this dire scenario) who have done a great deal of analysis on this situation.  I do believe there is something to it.  I believe them when they warn of just how dire the situation is.  I also understand how it grows worse each day as younger investors begin allocating more and more investment capital (since they tend to use passive investment strategies). They conclude that once passive strategies rise above 42% of a market’s assets the markets/assets begin to trade without ‘guardrails’ (that active managers can have on price) and with increased volatility (because of those missing guardrails and weakened active positions).  The higher the ratio the worse the problem gets.  In March of 2020, we were at 41%.  We are there and it is getting worse, quickly.  I’d argue that it is probably worse than those numbers indicate since many active managers are nothing more than closet indexers (to preserve their nicely paying jobs).

I believe we have already seen the impacts of this volatility in the recent past.  The latest example was in March 2020 when markets dropped very rapidly (about 30%) due to COVID fears then rebounded almost as quickly.  Going back further at the end of 2019 we saw a similar rapid drawdown followed by a very rapid recovery. 

When markets are going up and the money is flowing in the passive funds buy what they must buy without regard to price.  This drives up prices (and valuations).  The problem?  When buying stops, or worse when the selling starts the opposite happens.  The passive funds sell without regard to price (or valuation) they just sell.  These brainless activities are akin to a giant Frankenstein monster blundering around destroying anything and everything it touches.  It doesn’t know what it is doing it is just doing what its master wants it to do.

Here is the problem…what am I going to do about it?  There is not much I can do about it.  If I choose to not participate in the market and it barrels higher (like it has) I have huge opportunity costs.  If I choose to pick individual stocks based on valuation…well ask any value investor how that has worked over the past few years.  If I chose to use one of these smart hedge fund guys to help me solve this problem, I’ll pay 2 and 20 waiting for some event that may never happen to unfold for them to help me mitigate it.

Additionally, the biggest stocks are also likely the best stocks in the world to own.  If they are overvalued, they are still probably the best (and very well could be fairly valued for all we know).  At the least, they might not be as overvalued as we all think.  Tesla seems to be doing just fine these days.  I’m glad Elon and all those employees work hard to keep the wheels on the…uh…Tesla.  Why wouldn’t I want to own it?  It is real money in my account.  I promise.  I see it.

I know I want to own stocks.  I know they are the best asset class that has the highest real return over time.  This helps me mitigate the ravages of inflation.  So regardless, of any passive bubble, or anything else, I know I need to own stocks.  I just need to be prepared for potentially wild swings (I am) and never let those swings coerce me into taking drastic action (to sell).  I am prepared to add to my equity allocation during a volatility induced downdraft.  I would never sell in a situation like this.  The price going down has no impact on the number of shares I own in the underlying business.  I’ll look to add more shares at a better price but I won’t be selling them to anyone else at a bargain price.  I’m aware of the problems with active versus passive and the impacts it is having on today’s market.  I manage this with my position size.  I own less stock than I ever have.  I’d love to own nothing but stocks in my investment portfolio.  But these days I find a better value in other asset classes.  Maybe a volatility event will help me get there, maybe not.

We are all along for the ride!

Options Market Is Driving The Stock Market

From an article back in September.

“The volume of trading in single stock options recently topped the volume of regular shares for the first time. As of the end of August, single stock options volume made up more than 120% of the volume of shares, up from around 40% three years ago.”

Not only do we have the passive bubble hitting us we also have the derivatives market impacting prices.  This is likely having a massive impact on the volatility in the market.  I’d imagine it is a far bigger problem than the passive issue.

The number of market participants who are gaining directional exposure to the markets via options/futures is at the highest level ever.  When the dealers who sell the participant these positions (and who must thus take the other side of the position) seeks to remove their directional exposure (because they only want the fees associated with the position, not the directional exposure that the participant wants) they do this with additional derivatives.  That was a mouthful and is as complicated as it sounds. 

What it means is that there are derivatives on top of derivatives and when the price moves (either way) all these positions start working out (or not working out).  This movement often requires additional trades/hedges and these can often cause moves to continue/extend.  They can amplify price action that already exists.  This creates a great deal of price volatility and can result in huge price swings. 

The tail is wagging the dog.  These seemingly harmless participants wanting to get some directional exposure using derivatives can wind up driving huge institutional hedging transactions that whipsaw prices the larger they get.  The stock price is thus being driven by the derivatives market.  The problem grows as this market continues to grow in size as more and more capital flows into it.

Warren Buffett has called the derivatives market a weapon of mass destruction.  It is allegedly better than it was back during the 2008 financial crisis when giant institutions traded derivatives in dark pools with no clue as to the counterparty.  Regardless, it still seems much like a highly financialized casino.  I want no part in it.  But it has a huge impact on my portfolio.

Again, I ask, what am I going to do about it?  I know I won’t participate in it.  That is about all I can do.  I want no time-based derivative type asset on my balance sheet.  If I want to own a stock, I want to own the shares outright and forever.  No one can take them away or call them away due to some price swing wiping out my position.  Will this fiasco have an impact on my stocks…of course.  What else can I do about it…I’m not sure.  I just have to prepare to ride out whatever may happen.  I am prepared.

We are all along for the ride!

My Antifragile Long Portfolio

So, if I haven’t made it clear yet.  The topics I listen to big brains talk about don’t make any difference to me at all. 

We are all along for the ride! 

I’ve recently unsubscribed to tons of things I used to read and listen to.  I still listen to topics (and people) I find interesting but I don’t waste too much time listening to people talk on topics that they can’t possibly know how to solve (which are most topics).

The only thing I think I CAN do to risk manage through all this to have an antifragile financial plan (and investment portfolio).  I work hard at both.

I have a very lean lifestyle, keep my debt low, and keep adequate savings on hand to weather daily life (or an emergency).  I do not use leverage in my investment portfolio.  I do not use options/derivatives (or other time-based investments) in my investment portfolio.  I have a very simple, diverse, super low cost, and extremely tax-efficient, investment portfolio.  I own what I own, outright, come what may. 

If the entire financial system blows up, I’ll still own everything that I own today.  Everything that I own today will continue to have value.  The price might be a lot less than it is today but it will still have value.  For me, this is as close to an antifragile portfolio as I can implement.  It has offense and it has defense (like any championship team should have).  Not all of the assets should correlate to each other and the group of them together should weather whatever the world throws my way. 

I am still trying to generate alpha over the long haul and believe I will.  My portfolio does not look like the typical American’s portfolio.  This is by design.  I am intentionally allocated to be ‘different’.  I might look dumb but if things happen that I believe will happen I should do better than the average person (and maybe substantially better).  We’ll see!

I hope you found something here beneficial.  Good luck with your investing!

Joey Dean


PS – I’d love to talk about investing with you.  Link up with me on Twitter https://twitter.com/deanoroll5

PPS – My individual positions (and all kind of additional information about each of them) can be found here: https://deanorolls.com/investing/

PPPS – I’ll be updating for my 11/30 update next (my 37th month of tracking it).

Published by deanorolls

Well, if I told you that you wouldn't need to go to my website...now would you?!?!

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