Tue, Mar 2, 2021|Corey McLaughlin

The Market Is as Drunk as Tom Brady

The market is as drunk as Tom Brady... The 'avocado tequila' of the stock market... The view from the top... Is this 1929 or 1998?... Advice for the 'Melt Down'... Mailbag: 'Inflation is like a black mold'...

Tom Brady has a lot of reasons why he could retire today...

Brady, the famous quarterback who won his seventh Super Bowl title last month with the Tampa Bay Buccaneers, has made roughly $260 million over his 21 years playing in the National Football League. And that's just on the field...

Off the field, he enjoys the trappings of fame – like private jets, no lines at restaurants, and a marriage to former supermodel Gisele Bundchen. His off-field endorsements bring in even more income. And whether you love him or hate him, Brady continues to build a legacy that many folks will remember forever.

Brady seemingly lives a great life.

And he certainly enjoyed the Bucs' victory boat parade last month... He threw the Lombardi Trophy from one boat to another, and was clearly drunk and needed help walking afterward. (He later blamed his state of intoxication on a "litTle avoCado tequila.")

At this point, you might think... He's 43 years old and just played in his 10th Super Bowl. It would be a nice time to step away from the violent game of football.

After all, what else is left for Brady to do but get hurt?

That's why we want to raise an important question today...

And as I (Corey McLaughlin) will explain, this question also relates to the state of the stock market – and how you can look at it today.

What will Brady do after his playing career is over?

It's a question that most professional athletes don't consider until it's too late, if ever. (The average NFL career only lasts 2.5 years. Many football players don't plan ahead, so they get into financial trouble – like going bankrupt.)

A famous college football coach used to answer this question another way when people asked when he would retire from coaching... "I don't know. What am I going to do, cut my lawn?"

Brady doesn't want to face the reality of maybe cutting the grass at one of his houses just yet. The view from the top is too nice... He said before the Super Bowl last month that he wants to play at least another two years – until he's 45. He said he isn't ready to quit...

Brady is smart enough to have learned in two decades playing professional football that life in the NFL is pretty darn good overall, if you can keep yourself employed and healthy.

In other words, life feels great at the top...

Most of the time, we strive to be at the top...

We want to be at our best, in anything we do. And when we're trying to be at the top of our lives in general – whether it's our work, our health, or any pursuit that matters to us – it feels great when we attain it.

But like any professional athlete who becomes unsure of his or herself before or during retirement, the downside that follows the highs can often be painful and hard to adjust to.

The same idea applies to stocks...

To put it simply, the market right now is as drunk as Tom Brady during the Bucs' victory celebration. And the equivalent of Brady's avocado tequila is the cheap dollars of the Federal Reserve, which we've documented plenty of times here in the Digest.

As our colleague and True Wealth editor Steve Sjuggerud is warning, this "Melt Up" could go on longer, but it will end perhaps as early as this year – and when that happens, it won't go well for most investors.

You see, if you have decided to invest your money for any length of time in stocks, you want the chances of your investments growing in value to be high – or at least above average, not the other way around.

If you're a long-term investor, you want stocks to appreciate over a long period of time.

If you're interested in small-cap stocks, for example, you want to be ahead of the curve... identify great, little-known businesses, like our Venture Value editor Bryan Beach often does... and enjoy the bull run-up before the rest of the market catches on.

If you're looking for sensational eye-popping returns, as our Director of Research Austin Root seeks in his American Moonshots portfolio, it's the same story.

By the time everyone has heard of these companies, their biggest upside has already been realized.

Applying this same concept to the stock market in general...

If you're buying stocks today, you want them to be cheap, not expensive.

You want to buy at the bottom, like our founder Porter Stansberry recommended to folks last March... and Steve suggested as markets continued to rebound early last summer.

If you listened to Porter and Steve, then you're likely pretty happy today. But one year later, folks are now as greedy as they were scared at this time last spring.

We're not quite out of the COVID-19 pandemic, but we sure are in the heat of a Melt Up – marked by bullishness from institutional investors and pockets of euphoria from individual investors.

We're not blaming anyone... The tech-heavy Nasdaq Composite Index is up 96% from its March 2020 bottom. And the two "laggards" – the Dow Jones Industrial Average and the benchmark S&P 500 Index – are up 70% and 73%, respectively, over the same span.

Steve explained the current environment very well in his latest True Wealth issue...

It's a must-read for subscribers.

Steve wrote that investors should "enjoy the Melt Up while we can" – in other words, the ride to the top, or the Super Bowl. But he also explained that the "Melt Down" that inevitably follows (for a professional athlete, the post-playing transition) is coming.

Now, anyone who knows Steve knows this might sound unusual. He's known for his regular bullishness... But he also realizes the risks of what's happening today.

In the February issue of True Wealth, Steve said that today's climate reminds him of the lead-up to the dot-com bubble burst – 21 years ago, coincidentally Brady's first year in the NFL. And to be sure, Steve's not the only one considering when the party will stop...

Charlie Bilello, the founder and CEO of Compound Capital Advisors, wrote last month about this topic. He raised the question in a blog post, "Is this 1929 or 1998?"

Bilello noted that the S&P 500 stocks continue to trade at rising valuations last seen in 1999, as measured by the Shiller price-to-earnings ("P/E") ratio. For those who don't know, the Shiller P/E ratio is a measure we like to track to see how cheap or expensive stocks are relative to their fundamentals, historically speaking.

The Shiller P/E ratio, named after the Yale economics professor who invented it, is based on the average inflation-adjusted earnings from the previous 10 years. It's also known as the cyclically-adjusted P/E ("CAPE") ratio.

And in the following chart, you can see that today's reading is only topped or matched by the numbers seen ahead of the dot-com bubble and the Great Depression...

After the CAPE ratio climbed to more than 39 last month, Bilello noted the only other two times in history this has happened... September 1929 and March 1998 to January 2001.

He also noted that today's CAPE ratio is in the 98th percentile of its history, which dates back to 1881.

Now, we're not the first people to report this, nor will we be the last...

We've said "stocks are expensive" before. And others have obviously said the same thing over much of the past several years. But 98th percentile is pretty rare and distinct territory.

So, here's the point we want to get into today... What might happen next?

This is a critical question for all investors to consider, especially anyone looking to retire in the next few years or beyond.

Bilello looked at average returns of the next 10 years following instances where the Shiller P/E ratio measured at least in the 90th percentile.

It's like being Brady and considering what life after winning Super Bowls could look like...

The numbers support Steve's thesis about what folks may want to prepare for... the Melt Down, which can be a slow burn – meaning it doesn't happen overnight.

But when it's over, stocks won't be worth relatively as much in the years ahead as they are today, especially if you take inflation into account.

The results that Bilello found (about breakeven returns over a decade, on average, compared to a roughly 11% average gain in "cheaper" times) might feel obvious – stocks don't always go up, right? – but the findings nonetheless paint a sobering reality. More from his post...

Literally anything can happen in the short-run that is determined by sentiment (fear and greed) more than anything else. We shouldn't be surprised by any of it.

That said, with the CAPE ratio above 39 (98^th percentile), what should investors be prepared for in the longer-run?

1) Below average forward returns...

Bilello also showed data suggesting above average volatility and higher potential maximum losses after periods like we're seeing today. He continued with some terrific, level-headed advice that might sound familiar to Digest readers...

These are just averages and probabilities based on what has happened in the past at similar valuation junctures. There are always exceptions to the rule, and as we saw from 1998 trying to time the market based on valuation is a fools game.

There is nothing stopping investors today from bidding up stocks to even higher multiples.

But an objective observer will note that the risk-reward in U.S. equities is less favorable today than it has been in quite some time. That says nothing about what will happen tomorrow, but if the price one pays for something still matters, it will be a factor weighing on returns for years to come.

After the Shiller P/E ratio hit 39 for the first time in history in 1929, the S&P 500 hit a high the same month... then fell 86% before bottoming in June 1932.

After the Shiller P/E ratio hit 39 for the second time in 1998, the S&P 500 gained another 44% before peaking in March 2000. Then, from that peak to the low in October 2002, the index declined more than 50%.

This is Steve's point...

In the February issue of True Wealth, he cited the "Greater Fool Theory." He saw it play out during the dot-com bubble burst. And with that in mind, he wants investors to know what the view from the top will look like on the way down again this time. As he wrote...

Look, here are the basics: An investment "bubble" has just kicked in recently. And it will certainly end. Unfortunately, most folks who just started "playing" in the markets this year will lose money. A good portion of them will lose a lot of money.

This is how it will go, according to Steve...

New investors will make a good amount of money on the way up. They will gain confidence.

With that confidence, they will add even more money to their accounts, as they will believe they know how to succeed.

Then the market will turn against them... and they will start to lose money.

At first, they will see it as a golden opportunity to invest even more money, as things are "on sale."

Ultimately, they will lose even more money on the way down than they made on the way up.

It will take tremendous personal and emotional strength to avoid that path and not end up like everyone else. More from Steve...

Your instincts will tell you to buy more. But your instincts will be wrong. In fact, you will need to do the opposite – you will need to sell, just when you feel like you want to buy.

Said another way, you will want to go out on (or near) the top...

To do that, you will need a plan – set in advance – for how you will get out of stocks with most of your gains still intact.

As Steve noted, if you don't have an exit strategy – or if you don't follow it – then you will sink with the ship alongside almost everyone else. He explained...

That's because – unlike the fall we saw in March last year – a true Melt Down doesn't end quickly...

It happens over time.

With all this in mind, Steve wants to make sure subscribers are prepared... He doesn't want anyone reading his warnings to become the "Greater Fools." Specifically, he says investors should use trailing stops to protect against major unforeseeable losses.

Again, Steve shared the example of what happened back in 2000 as the dot-com bubble was bursting. New investors today didn't experience this pain, but we're willing to bet they should heed the advice again today...

Here's how it went down back then... The market peaked in March 2000. Our exit strategy signaled for us to get out of most of our positions in April 2000. At the time, selling our positions because they hit their trailing stops felt like I was failing my readers. Times seemed so good. It felt so wrong to sell!

But in the end, it was by far the right thing to do. I had no idea that the market would keep going down, and down, and down... eventually bottoming – years later – in 2003.

This Melt Down will be brutal, too, Steve says. It could last for years, an idea which Bilello's numbers support. More from this month's issue of True Wealth...

[That] means investors are potentially facing years of poor returns. This could be the last chance many of us get to make irrational gains in the U.S. market.

So just like I did in 2000, in the last Melt Up, I will follow my trailing stops... And GET OUT WHEN THEY ARE HIT.

That is our exit strategy. It is the only thing that will protect the gains you have made... and keep you from losing more money when the Melt Down arrives.

This is not an easy market to participate in, although it rarely is...

The "top" makes experienced investors nervous... and inexperienced investors euphoric as prices keep pushing higher.

A peak in stocks is usually clear to most people in retrospect... but it isn't always easy to see in the moment. Fortunately, it is possible to spot the warning signs as they flash...

Today, stocks are more expensive than they've been during 98% of S&P 500 history. And again, we're at levels only seen before massive market sell-offs.

At the same time, though, if you're already in stocks, they still have room to run higher. As Steve wrote...

There aren't many more people left to buy, in my opinion. All we are down to is those new investors putting more and more money to work.

That's not enough to keep the bull market going forever. But it does mean prices can rise from here.

You never know just how high a boom can go on. As the saying goes, "Markets can remain irrational longer than you can remain solvent." That goes for booms, too.

And we want to be on board for as much of it as possible... no matter how stupid it gets.

That leads us to check another of our favorite technical indicators – the number of U.S. stocks trading above their 200-day (or 10-month) moving averages. And right now, according to this indicator, we see mind-blowing strength, or market breadth...

A little more than 82% of U.S. stocks are in 200-day uptrends, though that number has started to diverge downward since just before the end of 2020, compared to the continued rise in the S&P 500... perhaps an early warning sign of a downturn to come.

In sum, as our colleague Dan Ferris said a few weeks ago... Don't confuse a bull market for brains. It's much more difficult to harness the more useful part of the brain when the bear market arrives and your emotions run wild.

So with that, we leave you with the most valuable advice we can give today...

Hold a diversified portfolio. And of course, mind your stops – your predetermined selling points for when things go wrong.

You'll be happy you did.

You'll have the cash to use again, the chance to play a few more years, and a shot at going after the equivalent of another Super Bowl... and maybe getting as drunk as Tom Brady.

New 52-week highs (as of 3/1/21): Berkshire Hathaway (BRK-B), Comcast (CMCSA), Enstar (ESGR), Forum Energy Technologies (FET), Comfort Systems USA (FIX), Manchester United (MANU), MakeMyTrip (MMYT), VanEck Vectors Oil Services Fund (OIH), Trane Technologies (TT), Ulta Beauty (ULTA), and Valmont Industries (VMI).

In today's mailbag, more feedback on Dan's Friday Digest and more thoughts about inflation stemming from yesterday's Digest. Do you have a comment or question? As always, let us know at feedback@stansberryresearch.com.

"Dan, I loved your Digest on Friday, especially the comments about gold and why it is important to us humans. My wife and I recently reviewed with our daughter where we store our gold in case the worst occurs and we 'shed our mortal coils.'

"As I showed her the gold Eagles, the only thing she said was, 'Can I hold one? They're so pretty.' She didn't ask how many U.S. currency units it fetched now. You are so right in Buffett missing the boat on this one. We are not spreadsheets, we are humans who love beauty!" – Stansberry Alliance member Paul G.

"Your article on the Economist made me smile. Economics is really a branch of history. It explains what has happened and how it happened. When it comes to predicting the future, one should listen to JK Galbraith: 'The only function of economic forecasting is to make astrology look respectable.'

"I don't know when he said this but I remember in 1971 I had lunch with a very famous English economist who was a consultant to the Bank of England. The rise in house prices came up in the course of conversation and he said, 'Of course this rise in house prices was completely predictable.' Rather cheekily, I replied, 'Ah but did you predict it?'

"He changed the subject." – Stansberry Alliance member Noel F.

"Everyone says inflation is low, below the target, need to stimulate some... What world do these people live in? Has anyone bought a stick of lumber lately??? As in a 2x4 at Home Depot?

"You could buy 8 ft 2x4 piece of lumber a year ago for about $3.25... today same stick of lumber is $7-$8. Same story for the whole building material complex. Stuff cost more than 2x from a year ago.

"Official statistics are one thing; out in the real world, everyday items are like food and household goods and yes, building materials are substantially higher one year later.

"People who think inflation is 'tame' should try eating statistics for substance... What a cruel joke!" – Paid-up subscriber Mike P.

"Inflation, when considered in a dynamic, fluid and macro perspective, is already here. It's not about when it will appear, but rather when it will be acknowledged or make an economic, cosmic impact on earth as we know it.

"M2 is growing at an absurd rate when you consider real, non-government supported GDP (which isn't growing at all, and won't generate added taxable revenue).

"Essentials, like food, energy, housing and health care are in hyper-inflation. The stock market is hyper-inflated when compared to core earnings.

"The dollar lost 10% of its global purchasing power in one year! Debt at the corporate, state and federal levels is so far beyond out of control, it's impossible to imagine the full potential for economic collapse building here.

"The Fed economists are like nearly every other economist, they are academics, with no real world, business or recessionary understanding of how businesses of every size and discipline make decisions. Profit first, employees only when needed. Theoretical thinking collapses in the stark face of reality. The mere idea that inflation is both a good and necessary factor is degenerative thinking with a very limited horizon.

"Supply and demand are like tides which can go berserk in periods of stormy chaos. Trying to manage S&D with borrowed money is idiocy.

"The only way these economic moves pass muster is behind the smoke and mirrors of media propaganda. From a common sense standpoint, this is just a greed party hosted by the Fed, Treasury and Congress. Credit has very defined limits, such that the bigger picture will ultimately dictate the outcomes.

"The wealth gap will accelerate that judgement. Inflation is like a black mold hidden inside the sugar-coated walls of our debt driven economy.

"Consider it or not, it's already here and dangerous." – Paid-up subscriber John C.

All the best,

Corey McLaughlin
Naples, Florida
March 2, 2021