The 'Hold My Beer' Phase of the Cycle Is Upon Us

The 'hold my beer' phase of the cycle is upon us... An 'aggressive moneymaking genius' blows up... No regard for ancient wisdom from the European Central Bank... 'They can test us as much as they want'... Cathie Wood sells space – and delivers Netflix and tractors... (Human) skin in the game...

Editor's note: The markets and our (still virtual) Stansberry Research offices will be closed tomorrow in observance of Good Friday. After this weekend's Masters Series, we'll resume our normal publishing schedule on Monday, April 5. Enjoy the long holiday weekend.

We've now entered the 'hold my beer' phase of the investment cycle...

In case you're not familiar, the full expression is, "Hold my beer and watch this." You say it when you're about to take a dare that you shouldn't take.

The implication that inebriation plays a role is appropriate... given the sort of hasty, risky acts and bad outcomes it represents. And if you've spent any amount of time on social media in recent years, you've likely seen tons of disastrous "hold my beer" moments.

When it comes to the investment cycle, the "hold my beer" moment is when financial actors great and small – convinced that easy wealth is imminent – most brazenly push the risk envelope. It's also when they start taking themselves out of the financial gene pool by getting caught lying, blowing up their portfolios, and other tragedies.

These folks all share a deeply shallow understanding of risk... and a stunning ignorance of thousands of years of ancient wisdom.

I (Dan Ferris) will get to the shallow understanding of risk on a case-by-case basis. As for ancient wisdom, let's use the "Delphic entrance maxims" inscribed on the forecourt of the temple of Delphi in Greece, which I wrote about in the Digest last September...

• Know Yourself
• Nothing in Excess
• Surety Brings Ruin

Know yourself... including how you're likely to behave with money in dire straits.

Nothing in excess... especially the use of debt and other dangerous and unnecessary financial strategies.

Surety brings ruin... because you can't know the future – and betting with real money that you can tends to work out poorly.

That brings me to the No. 1 example this week of violating the maxims with a large dose of 'hold my beer' hubris...

It involves Bill Hwang and Archegos Capital Management.

Hwang previously worked for hedge-fund mogul Julian Robertson's Tiger Management. But in 2012, he was essentially run out of town... He pled guilty to wire fraud and was fined $44 million after the U.S. Securities and Exchange Commission ("SEC") alleged that he "committed insider trading by short selling three Chinese bank stocks based on confidential information [he] received in private placement offerings."

However, Hwang didn't stay out of the game for long... Within a year, he was back in business, managing family money in a firm that he named Archegos (the Greek word for "chief" or "leader").

An intriguing part of this story is how little was known of such a large fortune in the first place...

Described by one analyst as an "aggressive moneymaking genius," Hwang grew Archegos' assets from $200 million at its 2012 launch to almost $10 billion in just nine years. He kept a low profile in part by using "total return swaps"...

A total return swap is a pretty simple arrangement between a bank and a client.

The client makes a stream of payments to the bank, usually based on an interest rate. And the bank agrees to send the client a stream of payments based on the total returns generated by an asset. In this case, the assets were large positions in several stocks – including ViacomCBS (VIAC), Discovery (DISCA, DISCB), and Baidu (BIDU), among others.

Total return swaps allow a large investor like Hwang to remain anonymous because the swaps don't trade on a public exchange and the bank maintains ownership of the asset... So because of that, the client doesn't have to report a large position to the SEC.

However, there's also a dangerous side to total return swaps...

It's a big reason why legendary investor Warren Buffett labeled derivatives like these as "financial weapons of mass destruction" in his 2002 letter to Berkshire Hathaway (BRK-B) shareholders.

You see, they're a way for investors to get plenty of leverage – which can wind up being more than the investors can handle. That's because, as Buffett pointed out almost 20 years ago, the bank requires pitifully small collateral for total return swaps.

Through swaps and other leverage, Archegos may have levered as much as 5 to 1, with positions totaling as much as $50 billion... despite the firm's assets of only $10 billion.

Everything started to unravel for Archegos last week when the banks issued a margin call...

That's a demand to put up more collateral for the positions... But Archegos couldn't do it.

The banks reportedly agreed to hold an orderly liquidation in a call last Thursday evening (March 25). But by Friday morning, Bloomberg reported that "it was everyone for themselves"... with banks selling Archegos' positions in a "mad dash."

The Economist estimates that the Friday "fire sale" involved "at least $20 [billion] worth of equities." The Wall Street Journal put the total sales near $30 billion last Sunday night. J.P. Morgan Securities analysts estimated the losses at the banks in the range of $5 billion to $10 billion.

The action in some of Archegos' biggest holdings over the past week – including ViacomCBS, Discovery, and Baidu – has been brutal. Just look at the following chart...

The lessons here are simple, and the questions seem endless...

The obvious lesson is... don't use leverage.

Would a real "moneymaking genius" – again, as Hwang has been described – expose himself to such a spectacular blowup if he were of sound mind? Buffett once wrote...

Rational people don't risk what they have and need for what they don't have and don't need.

If you had $10 billion, I bet you'd never even consider borrowing another penny as long as you lived.

And what about all these banks? Why would they expose themselves to billions of dollars in losses? Did they forget all the well-publicized times this didn't work out over the past few decades?

Hwang violated all three Delphic entrance maxims... He didn't know himself, and he indulged in excessive leverage. But he really went out of his way to show his contempt for the third maxim...

Hwang appears to have been trying to feed a massive, voracious ego...

I don't know for sure... But the "genius" label, Wall Street pedigree, violation of SEC rules, and massive leverage feels like the sort of cocktail you mix up to feed a massive ego.

His behavior is overflowing with "hold my beer" hubris...

Anybody with that kind of background who thinks he'll get away with that much leverage automatically falls into that category. Like the Greek myth of Icarus – who I told you about in the December 18, 2020 Digest – Hwang made wings of wax and flew straight at the sun.

I wonder if Hwang will have anything left after the banks get done liquidating him... And potentially even more alarming, I wonder how long it will be until some young banker with no memory of this episode lends him the money he'll need to blow up again.

I don't think this Archegos episode is necessarily the start of a contagion. It's more about speculative excesses in the equity market than excesses in the credit markets. And it might not even be the best example of sheer, unbridled, in-your-face hubris this week...

You see, European Central Bank ('ECB') President Christine Lagarde might be asking Hwang, 'hold my beer'...

Lagarde is giving Hwang a run for his money (which is now the banks' money, of course).

Lagarde walked straight up to the third Delphic entrance maxim earlier this week... and smashed it with a hammer. From a Bloomberg TV interview...

Bloomberg: [Markets] seem to be continuing [to test] central banks...

Lagarde: They can test us as much as they want. We have a mandate. We have an aim. We're going to be riveted to that, and we're going to do what is required to deliver on that... And we have exceptional tools to use at the moment, and a battery of those, and we will use them as – and when – needed in order to... deliver on our mandate and deliver on our pledge to the economy.

They can test us as much as they want.

If that doesn't translate to "hold my beer" in Bankspeak, nothing does.

Has Lagarde never read the Bible? As Proverbs 16:18 says, "Pride goeth before destruction, and a haughty spirit before a fall."

For the buttoned-up lot of central bankers, "They can test us as much as they want," is as haughty as it gets. I suspect Lagarde's fall will be no less spectacular than Hwang's. She may as well have said, "If you short stocks anywhere in the Western Hemisphere, I'll make you feel like a levered family office way over its skis in total return swaps."

Lagarde's unflagging confidence is not merely in the ECB's ability to protect asset prices... but also to not create enormous systemic risks that blow up even worse than Hwang (meaning the 2008 financial crisis on steroids).

Maybe all that swagger is just a European thing that we humble Americans don't get...

Remember Lagarde's predecessor, Mario Draghi?

Back in 2012, Draghi said that the ECB would do "whatever it takes." And he wasn't kidding...

Draghi pushed interest rates into negative territory... to 5,000-year lows. And yet, European economic growth was still going sideways near zero just before the COVID-19 lockdowns.

That leads me to my point about Lagarde's 'hold my beer' moment...

Anyone familiar with the work of Austin-based Hoisington Investment Management knows there's a teensy-weensy, little problem with the idea of a central bank financing government spending to generate economic growth...

In Hoisington's 2020 Fourth Quarter Review and Outlook, the firm cited research showing that highly indebted countries – those with central government debt greater than 60% of GDP – generate negative growth when they engage in noninvestment fiscal spending. (You know, like handing out stimulus checks and most of the huge spending that governments undertook to fight the effects of their COVID-19 lockdowns in 2020... and most of the newest $2 trillion-plus spending package proposed by the current administration.)

Hoisington said increasing the amount of debt becomes "a persistent drag on economic activity that restrains growth despite the best efforts of monetary and fiscal policy."

And in a recent interview with financial TV outlet Real Vision, Hoisington's Lacy Hunt pointed out that, early in his career – back in the 1960s and 1970s – $1 of government spending might have generated as much as $4 or $5 of GDP within a few years. But today, according to Hunt, that multiplier is negative... It's about -0.2, resulting in -$1.20 roughly three years after $1 of new fiscal spending.

The belief that the ECB, the Federal Reserve, or any other central bank in a highly indebted economy will generate real economic growth by financing higher debt-fueled fiscal spending is exactly what you'd expect...

It's a fantasy based on a past that bears no relation to today's economic reality.

Not to be outdone by Archegos or Lagarde, ARK Investment Management is bringing its beer to the party, too...

The investment firm and its suddenly iconic founder Cathie Wood launched its latest innovation-focused technology exchange-traded fund ("ETF") earlier this week – the ARK Space Exploration and Innovation Fund (ARKX).

At about 8.5% of the ETF's assets, Trimble (TRMB) is ARKX's largest holding. That seems to make sense... Trimble is a software company that gets about a fifth of its revenue from geospatial technologies.

But ARKX's second-largest holding is where things start to get a bit more controversial...

You see, it is ARK's own 3D Printing Fund (PRNT), at about 6%. Nothing says "hold my beer" and shatters the third Delphic entrance maxim like betting on yourself within yourself... especially when the bet-within-a-bet has nothing to do with the alleged theme of the new portfolio!

Meanwhile, Virgin Galactic (SPCE) – a company whose business is taking people into outer space – is only the 20th-largest holding... It makes up less than 2% of the fund's assets.

Perhaps the most mysterious of all ARKX holdings is Deere (DE). It comes in at No. 13, making up a little more than 3%.

Yes, we're talking about the company that makes farming vehicles, lawnmowers, and other heavy machinery. Who knows... maybe ARK Investment Management's portfolio managers saw Matt Damon struggling to grow potatoes on Mars in the 2015 film The Martian and figured they would get ahead of the trend. Otherwise, I'm not sure I have an answer here.

I couldn't help but chuckle as Cale Flage, a financial adviser in Florida, poked fun at Deere's inclusion in ARKX on Twitter yesterday. He shared the following "evolution of space flight"...

While it's the most mysterious, Deere isn't the only un-spacey stock in ARK's new ETF...

The fund also includes the following companies...

• JD.com (JD) – No. 5, 4.9%
• Amazon (AMZN) – No. 14, 3%
• Alibaba (BABA) – No. 23, 1.6%
• Netflix (NFLX) – No. 26, 1.3%

I searched for "space exploration" on Amazon and got more than 10,000 hits... mostly books or Prime Video titles. I would do the same on JD.com or Alibaba – two of China's largest e-commerce companies – but I don't want to accidentally type some freedom-y sounding words and wind up being kidnapped by Chinese secret agents.

Meanwhile, you can watch a lot of Star Trek on Netflix, and there's probably a documentary about Elon Musk's space company or something on there... So I guess that makes sense.

And of course, I'm certain that Wood didn't throw these companies in there simply because they're huge, liquid, extremely popular names that have generated some of the biggest returns among all global equity markets in the past several years.

No, she would never do that.

I've praised Wood for her achievements here and on the Stansberry Investor Hour podcast. As I noted in the February 26 Digest...

Look, you can't take anything away from the performance of Wood's ETFs over the past year. They've helped a bunch of investors make a lot of money. And I can see why some folks... would reason that Wood is a brilliant fund manager.

Wood has been ahead of several major tech trends since founding ARK back in 2014. And all of her funds were up triple digits last year. So I get it...

She can be considered a genius who has built a great business. She's firing on all cylinders, with a stellar year of returns behind her... And with her recent track record, she could probably attract investor assets with a coal and buggy whip ETF if she wanted to try.

But calling ARKX a 'space exploration and innovation' ETF takes an incredible amount of hubris...

It seems cynical – or at least disingenuous – to me.

It's a thinly veiled attempt to attach a sexy-sounding tech investment theme to a basket of stocks only marginally related to space exploration.

My local Walmart (WMT) has a pharmacy... Does that make it a biotech stock? Costco Wholesale (COST) sells produce and pays a dividend... Is it a farm REIT?

Wood is apparently so far ahead of space exploration as an investment trend that it hasn't actually started yet...

The public doesn't seem to care that it's buying more shares of Amazon and Deere than Virgin Galactic in the new ETF. Nearly $300 million of ARKX traded hands on Tuesday, its first trading day... That made it the eighth-largest ETF debut in stock market history.

Only time will tell how successful ARKX is...

Until then, you might love the 38 stocks in it. But my point is that you are investing very little in space exploration compared to the many other industries in the ARKX portfolio by buying shares.

The three examples of Hwang, Lagarde, and Wood show that even the most sophisticated people in finance are susceptible to the hubris that's all too typical of a speculative frenzy.

It's frankly refreshing to take the focus off the retail investors for one week – or maybe not...

I'm talking about the folks looking for a good time to get back into overhyped stocks like video-game retailer GameStop (GME) and electric-car maker Tesla (TSLA).

At first glance, some of those poor know-nothing gamblers appeared to have developed an unexpected and brutally self-deprecating appreciation for the first Delphic entrance maxim ("Know Yourself")...

Novice investors who found easy success in stocks over the past year have talked on Reddit about how little they actually know. For example, Danny Tran said in a TikTok video in January... "I don't know what the [expletive] I'm doing. I'm just making money."

The 22-year-old unemployed shoe salesman told veteran Wall Street Journal reporter Jason Zweig last week that he had money and was bored back in January... but also said he's too lazy to do research. And yet... he turned $2,500 into $6,500 in less than three months.

Zweig reported that members of the WallStreetBets forum on Reddit "insult each other's – and their own – intelligence as terms of endearment and badges of honor."

But at the same time, Zweig noted that 95% of the stocks in the Wilshire 5000 Index – the broadest index of publicly traded American companies – had a positive return over the past 12 months (through March 23). So he reasoned, rhetorically, "Why waste time and energy educating yourself when sheer ignorance pays off so easily?"

These retail investors seem against all odds to know themselves... but they're really filled with hubris. In other words, they're also joining the "hold my beer" parade.

As Zweig correctly identifies, in a twisted way, their deprecating remarks are really compliments to others and bragging when applied to themselves. And as the third Delphic entrance maxim states... that kind of overconfidence – or surety – will lead to ruin.

Like their richer, more famous counterparts who I discussed earlier, the folks on Reddit are a classic sign of a late-stage bull market... They will likely wind up with a lot less money than they started out with.

Before I sign off, I must mention the non-fungible token ('NFT') market once again...

We covered NFTs a couple weeks ago – in the March 12 Digest.

As I said at the time, "We are in the midst of a full-blown NFT mania." I talked about the "latest and most insane sign" of the NFT mania – a digital artist known as "Beeple" selling a collection of 5,000 pictures that he created for more than $60 million.

Even though it didn't fetch anywhere near that much money, the latest and craziest entry in the NFT mania just topped Beeple's digital art...

Say what you will about Oleksandra Oliynykova, but one thing is for certain... When it comes to NFTs, the 20-year-old Croatian tennis player has skin in the game – literally.

You see, Oliynykova recently sold exclusive lifetime ownership of a six-inch-by-three-inch patch of skin between her elbow and shoulder on the inside of her right arm. She made the sale on popular NFT marketplace OpenSea for three Ethereum tokens (about $5,400 on the day of the sale).

Ownership allows the owner to commission a tattoo or temporary body art on Oliynykova's arm. She's essentially turning herself into a human billboard... telling the piece of skin's owner in the listing, "I will bring your art object or message to every tennis court I play."

The move to sell her skin comes with more upside than at first appears for Oliynykova...

For one, the Ethereum cryptocurrency she accepted as payment could be worth a lot more than $5,400 someday. For example, as we go to press, it's worth about $5,900. And if more athletes do the same, the Croatian player says she "will always be the first who did it."

That's sort of true... While she's the first to do it with NFTs, the sale has a precedent in the early 2000s – when beach volleyball players, boxers, and others sold temporary tattoos called "body billboards."

I must admit, the young tennis player seems to have a decent grasp of the three Delphic entrance maxims...

Having several tattoos already, she knows that she won't mind getting another. There are certainly people out there who've gone to much greater excesses with body art. And she accepted a mere three Ethereum tokens in payment... That's more of a sign of humility than hubris.

Could it be that selling a piece of your skin via NFTs is more sane and rational than buying stocks via total return swaps, running a central bank, or launching a new ETF?

At the "hold my beer" phase of the investment cycle, you bet it is.

New 52-week highs (as of 3/31/21): Home Depot (HD), Invesco S&P 500 BuyWrite Fund (PBP), ProShares Ultra S&P 500 Fund (SSO), and U.S. Concrete (USCR).

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"We received some money from a company we had sold years ago. We didn't know where to invest it. We are a middle-class American family, so every dollar counts for us.

"We listened to a video and subscribed to Stansberry Research where [our founder Porter Stansberry] talked about bitcoin. We heard about it, but didn't know what it was exactly.

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Corey McLaughlin comment: We're thrilled to hear this story, Robert and Diana. Thank you for the note...

If anyone is in the same boat today – feeling uncertain about bitcoin or cryptos – we urge you to check out the latest "Beyond Bitcoin" presentation from our cryptocurrency expert Eric Wade. Thousands of people have tuned in already... You can join them right here.

And of course, Eric's existing Crypto Capital subscribers and our Alliance Partners can check out all of his great analysis and content right here... His latest research includes a few newly updated special reports and revised "buy up to" prices for some recommendations.

Good investing,

Dan Ferris
Somewhere in the Pacific Northwest
April 1, 2021