Why It's So Important to Be Wise Right Now

A massive influx of new traders... Lots of luck and little expertise... Big guys are following the fools... Peloton to halt production... Don't forget about the good stocks... Why it's so important to be wise right now... Predicting the Fed's next move... The market is not a machine...

Last week, I implored you not to be a fool...

I was referring to the masses of inexperienced individual investors who have stormed financial markets since the coronavirus-induced crash of March 2020.

According to the Wall Street Journal, an estimated 10 million Americans opened brokerage accounts in 2020, followed by another 15 million in 2021... Individuals bought $292 billion (net) of U.S. stocks and funds in 2021 ‒ more than seven times as much as in 2019.

Early data suggest we're in for another big year of trading in 2022.

Until 2018, monthly net purchases by individuals had never exceeded $8.4 billion (February 2018's tally)... The COVID-19 crash and ensuing lockdowns changed all that... big-time.

Since March 2020, the lowest monthly tally, in November 2020, was $17.8 billion of net buying by individuals... Individuals routinely buy more than $20 billion of stocks per month.

Roughly half of those 25 million new brokerage accounts of the last two years have been opened on Robinhood, the mass-market trading app. And these folks are not exactly sophisticated investors...

A February 2021 paper posted on SSRN showed that traders on the Robinhood trading app are less sophisticated and more likely to run in herds, buying and selling the same stocks. And Robinhood traders tend to ask different questions than those at other brokerage firms, the papers authors say...

Consistent with lack of expertise, the three most common FAQs pages visited by Robinhood investors are: "What Is the Stock Market," "What Is the DJIA," and "What Is the S&P 500." In contrast, the most common FAQs at the other major retail brokers are slightly more complex, for example, "What Are Stock Splits," "What Is an ETF," and "What are Puts and Calls."

We've all seen the results of lucky timing and lack of expertise...

GameStop (GME) and AMC Entertainment (AMC), among perhaps a dozen other meme stocks, rose more than 1,000% as individual investors posting on Reddit publicly conspired to crush short-selling hedge funds...

They famously succeeded, with one large fund – Melvin Capital – shutting down permanently five months after making huge losses on its GameStop short when fools posting on social media message boards pushed the stock's share price from $17.25 on January 4 to a high close of $347.51 on January 27... That's a 20-fold increase in 23 days.

They repeated the exercise with AMC, though it took a little longer. AMC closed at $2.01 on January 4, and at $62.55 on June 2 ‒ a 31-fold increase in five months.

As we've detailed in previous Digests, both stocks are likely zeros... They're shrinking, indebted companies in dying industries ‒ brick-and-mortar vintage video-game retail and movie theaters.

Melvin Capital's failure was symbolic...

It meant that the tide has turned. Retail is in charge of the market now... Chris Berthe, co-head of global cash equities trading at JPMorgan Chase (JPM), told the Wall Street Journal recently...

The flow from retail is not something you can ignore if you are a professional investor. It's a whole new investor class... and [it is] actually getting themes right.

Berthe's definition of "right" is odd, considering how GME and AMC are both trading more than 50% off their highs... But the perception that retail investors are right is enough to inspire Wall Street firms and their biggest clients to invest time and money in the monitoring of these fools. The article in the Journal continues...

Fund managers who might have once derided small-time day traders as "dumb money" are scouring social-media posts for clues about where the herd might veer next. Some 85% of hedge funds and 42% of asset managers are now tracking retail-trading message boards, according to a survey by Bloomberg Intelligence.

JPMorgan Chase & Co. in September introduced a new data product that includes information on which securities individual investors are likely buying and selling, as well as which sectors and stocks are being talked about on social media. About 50 clients, including some of the largest asset and quant managers, are testing the product, the bank says. JPMorgan equity traders are also using it to help manage their own risk.

It's as if the entire financial industry just watched someone win the lottery, so now all its finance PhDs have lined up to buy Lotto tickets and study astrology...

One European asset manager seems unperturbed by the horrible crashes in retail investor favorites like AMC and electric-truck maker Nikola (NKLA)... A unit of Norway's largest financial firm, DNB Asset Management, recently tripled its stake in AMC and "significantly raised" stakes in Apple (AAPL), Nikola, and Chinese electric-vehicle maker NIO (NIO).

Apple is a great business and I have no opinion on NIO, but Nikola's revenue was zero until about a month ago... Since then, it has sold and delivered a grand total of one truck. Its stock trades around $8.60, roughly 90% below its June 2020 high.

The lucky fools' time has passed...

All Nikola buyers from here on are just suckers...

Assessing risk takes some degree of imagination... and Wall Street has shut down its imagination. It now follows a herd of people who need to reference the FAQ page to learn what the stock market is.

At the same time, my own ability to conjure up alternative viewpoints seems to be firing on all cylinders. Unlike the herd, I can easily imagine GME, AMC, and NKLA all going to zero... I can imagine AMC shutting down all its theaters... GME closing all its stores... and NKLA delivering its second and final truck...

Those events would be on par with exercise-equipment maker Peloton Interactive (PTON) announcing that it is halting production of its exercise bikes and treadmills amidst declining demand ‒ which it did yesterday.

I've written about Peloton more than once... I started warning you about it in my September 3, 2019 Digest, about three weeks before the company went public.

I made fun of it for marketing overpriced products that were just exercise bikes with TV screens attached and claiming that it "sells happiness."

The stock closed its first day of trading at $29... It closed at $167.24 on January 13, 2021, amidst soaring pandemic-fueled sales. Today, it's trading around $25, down more than 80% from its 2021 peak... and below its first day of trading.

The company says the production halts are temporary...

I doubt it, but only time has the answer... I said that I couldn't imagine the company would exist in five years. That gives me until September 3, 2024 to be proven right... So far, so good for my prognostication ‒ I don't do predictions, as you know ‒ and so far, so truly awful for Peloton and its shareholders.

In that first Peloton Digest, I noted that the company said it wasn't merely an exercise-equipment company. I showed you the following graphic from an early company presentation...

It's the same sort of nonsense we heard from WeWork, the office-sharing company that tried to go public at a $48 billion valuation and failed... It eventually went public via a special purpose acquisition company ("SPAC") and has a $7.4 billion market value today.

As I pointed out in my 2019 Digest, Peloton is none of those things... Though it touts itself as 10 different businesses, it's just an exercise-equipment company. And like other exercise-equipment companies, it is exposed to fads that make it a highly cyclical, high-risk investment.

In fact, such a company is never truly an investment, because your principal is never truly safe...

This is a typical outcome of an initial public offering ("IPO") in a bull market... The business promised much and grew sales quickly. The future that came true much faster than anyone ever dreamed bears zero resemblance to the one taken for granted by the early ascent of its share price.

The warnings I gave about Peloton on the way up never seemed believable to the herd of fools until after the stock eventually plummeted. That's true, even though it's the exact same scenario that plays out in every other wild bull market...

Every investor is a genius in a bull market...

Every new business is the next Amazon (AMZN) or Apple (AAPL). Every CEO of every new public company thinks he can take over the world...

It always starts out looking like a new era and ends up being the same old song and dance, when a whole generation learns the difference between brains and a bull market...

You can't demonstrate you know anything about money except by making it and hanging onto it... As I've said before, saving money is the primary skill, without which you cannot succeed as an investor.

Yet now, after years of investors (gamblers) getting rich by owning garbage like GameStop, AMC, and Peloton, Wall Street now wants to own the same garbage... The financial establishment is finally showing its true colors.

Imagine being a client of JPMorgan or DNB... You've just found out that your high-priced, highly touted investment manager is using your money to chase garbage stocks...

And that they are doing so because they are following a bunch of know-nothing Robinhood customers with a few thousand bucks in their accounts and no financial knowledge in their heads... If you're not throwing up, at least a little, you have a strong stomach.

As I've told you in several previous Digests, this is how it feels just before a market boom turns into a massive market bust...

All the crappy companies whose stocks soared on blue-sky promises are crashing. They're showing how little anyone knows about the future.

If my bearish Spidey sense is right, we're in for a lot worse action in the stock market than the minor unpleasantness of the last few weeks. I have no idea when that worse action arrives and whether it's preceded by a rally or not... But so far, the market is still in spitting distance of its highest valuation ever.

As you read through today's Digest, perhaps, like me, you're wondering...

If the market is ignoring the lousy fundamentals and extreme downside potential in stocks like GME, AMC, and NKLA... and finally seeing the light on stocks like PTON... then is it also ignoring stocks with upside potential and solid fundamentals?

We've previously discussed two areas of upside opportunity currently ignored by the market: cannabis stocks and silver-mining stocks. Let's add one more, courtesy of Drew Edwards and Rick Friedman at asset manager GMO, who recently published a white paper titled, "Japan Equities: Entrenched Perceptions Ignore Improving Reality."

The authors contend that Japanese equities are a good choice for long-term investors today, summing up their views as follows...

Most global equity managers today are underweight Japan. They harbor a view that Japan is a slow growth, low profit, and low return place to invest due to demographic headwinds and a paternalistic corporate system. We believe reforms have driven a rise in profitability and a more shareholder-friendly environment in addition to representing important secular tailwinds.

Japanese companies tend to hoard cash and focus on long-term survival. The extra cash depresses their returns on equity, making them less appealing to Western investors...

But when companies everybody thought would grow forever start shutting down production and losing 70%, 80%, 90% of their market value, you'd think a country full of conservatively run, cash-rich businesses focused on long-term survival would start to wise up and revert to better ways...

But as the GMO authors point out, Japan's appeal currently escapes today's professional investors, who – like the Robinhood clients they want to imitate – are less interested in undervalued companies focused on survival than in finding the next meme stock with more potential to go to zero than to the other end of the chart...

You have to admit, the kind of stocks I've recommended in Friday Digests – oil, silver miners, cannabis, Japan – are a lot different than what Robinhood fools are buying.

That's what it looks like when you're not acting like a fool...

Not acting like a fool looks foolish right up until it starts to look wise... And when is that? you ask.

Not long after all the stocks that fools thought made them look smart start blowing up.

In other words, it's becoming more important each day to make sure your portfolio is free of foolishness and loaded with stocks that appear foolish only to short-term fools...

I'll share one last example of the professional investor class indulging foolish behavior... its predilection for predictions.

Basing your investments on the ability to predict the future is foolish, as all Peloton shareholders now should know. But that hasn't stopped JPMorgan Chase CEO Jamie Dimon from publicly making predictions.

On JPM's recent conference call, Dimon said he expects the Federal Reserve to raise interest rates six or seven times this year. Dimon isn't the only one... JPMorgan Asset Management's head of global fixed income Bob Michele did his boss one better and predicted that the Fed would raise rates eight times this year... Marathon Asset Management CEO Bruce Richards told Bloomberg that he too expects the Fed to raise interest rates eight times this year.

Six... seven... eight rate hikes...

Those are aggressively high predictions compared with the expectations priced into the market right now... Charles Schwab Chief Investment Strategist Liz Ann Sonders says that the Fed Funds futures market seems only to be predicting four rate hikes in 2022.

The more aggressive predictions are based on the belief that the Fed will use its interest rate policy to curb rising inflation. Dimon cited former Fed Chair Paul Volcker's famously aggressive policy that eventually resulted in the 30-year Treasurys yielding 15% by 1981.

The predictions are all nonsense...

None of those people have any idea what the Federal Reserve will do. That's true because the Fed is famously reactive... It watches the stock market like a hawk, and when the market falls, the Fed swoops in to lower interest rates and provide financing to troubled companies... The Fed doesn't know now what it is going to do this year.

Jerome Powell is not Paul Volcker, and the current environment is nothing like the late 1970s when inflation had been ravaging the economy for more than a decade... Back then, total public debt was less than 40% of gross domestic product. It has been above 100% since 2012 and is currently 122%.

That's a massive incentive to keep rates low, since higher rates increase the interest payment burden on the government and the taxpayers who support it.

Last week, on the Stansberry Investor Hour podcast, Bloomberg commodity strategist Mike McGlone suggested that the Fed is currently in "jawboning" mode... That is, it's talking about the potential for printing less money, buying fewer Treasury bonds, and targeting higher overnight interbank lending rates... But it's not yet ready to do those things.

If stock and other asset prices fall far enough, McGlone suggested, the Fed won't actually have to do anything... Inflation will have been pushed out of asset prices. I would add that, if the market falls far enough, the Fed will do what it really wants to do, and lower rates into negative territory.

McGlone – a former Chicago pit trader – also mentioned his respect for the long-term trend in interest rates, which has been down, down, down since 1981 ‒ a bond bull market now in its 41st year... Betting against that trend has been a lousy idea for more than four decades. It's likely to be one for longer than you ever dreamed...

The examples of Japan and Europe provide some guidance, too...

Their central banks, like all central banks, are fools with hammers who think every problem is a nail... They've pushed interest rates on sovereign debt into negative territory, primarily because they have no other tools to use.

A central bank is a blunt instrument. It can print money and buy securities or lend the money out... The Fed is trapped not because interest rates are already low, but because it's a central bank, and central banks have tiny skill sets.

Markets were less expensive when the Fed raised rates in 2018, and the S&P 500 Index fell nearly 20% from September through Christmas Eve that year... Then the Fed took rates back down.

I'm not making interest rate predictions... I'm giving you both sides of the story and showing you why there are as many reasons to believe rates will stay low as there are that they'll go higher... I'm showing you why it's foolish to try to predict the Fed's next move.

And all this is beside the fact that, as I've said more than once, markets aren't machines that respond predictably to mechanical fixes... They're natural phenomena that can't be controlled by humans.

Humans didn't create markets. Markets happen because we're human. Big difference.

Don't follow know-nothing investors. Don't buy garbage. Don't ignore attractive opportunities like the ones we've mentioned in this and other Digests.

And for goodness' sake, don't sit around trying to guess the Federal Reserve's next move.

In short, be wise. Don't be a fool.

New 52-week highs (as of 1/20/22): Osisko Mining (OBNNF).

In today's mailbag, feedback on Stansberry Venture Technology editor Dave Lashmet's comments in yesterday's Digest mail about the Omicron variant... Do you have a comment or question? E-mail us at feedback@stansberryresearch.com, and have a great weekend.

"With respect, I disagree with the comments from Dave Lashmet. Pandemics do not end with a vaccine specific to a particular variant. After all, how useful is the current vaccine that is specific to the Wuhan variant? It didn't stop Delta, did it?

"Viruses evolve all the time meaning new variants occur over time but science tells us that the virus gradually evolves to something milder and less lethal. This is how the virus perpetuates – or else it would simply die out as its host (i.e. us) dies out.

"Consequently, we now have Omicron which will probably become the dominant strain – because it is mild and highly contagious. Which means everyone will get it and almost everyone will recover from it – vaccinated or not.

"This will mean that everyone will have natural immunity – an immunity which is superior to vaccine induced immunity because it is broad spectrum, i.e. immunity to all variants not just a single one. This is because natural immunity targets all proteins of the Covid virus not just the particular instance of the spike protein from the Wuhan strain that is in the Covid so called vaccines (they are not real vaccines but that is another topic)." – Paid-up subscriber Steven I.

Good investing,

Dan Ferris Eagle Point, Oregon January 21, 2022