Momo Bad News: JPM's Quant Guru Kolanovic Confirms Tech Bubble Has Burst... Again

Tyler Durden's picture




 

Just over two weeks ago, JPM's Marko Kolanovic, whose unprecedented ability to predict short-term market moves is starting to seem a little bizarre, warned that the next "significant risk for the S&P500" was the bursting of the "macro momentum bubble." Specifically, he said that there is an emerging negative feedback loop that is "becoming a significant risk for the S&P 500" adding that "as some assets are near the top and others near the bottom of their historical ranges, we are obviously not experiencing an asset bubble of all risky assets, but rather a bubble in relative performance: we call it a Macro-Momentum bubble."

In retrospect, following tremendous valuation repricings of several tech stocks, last week's LinkedIn devastation being the most notable, he was once again right. And over the weekend, he did what he has every right to do: take another well-deserved victory lap.

This is what he said in his February Market Commentary: "Tech Bubble Burst?"

In our 2016 outlook and recent reports, we identified a macro momentum bubble that developed over the past years. We explained its drivers (central banks, passive assets/momentum strategies, etc.) and called for value to outperform momentum assets. We also highlighted the risk of a bear market and recommended increasing exposure to gold and cash as well as increasing exposure to nondollar assets relative to the S&P 500 (EM Equities, Commodities, Value Stocks, etc.). Our view was that a likely catalyst would be the Fed converging toward ECB/BOJ (rather than proceed with planned ~12 rate hikes by end of 2018). In line with these published forecasts, the best performing assets YTD have been Gold (+9%) and VIX (+20%) while S&P 500 and DXY are down (-7%, and -2%, respectively). Momentum stocks are down more than 10% with an acceleration of the selloff in last days. Emerging Market and Energy stocks are starting to outperform the S&P 500 (MSCI Latin America by +5% and Energy by +1% vs. S&P 500 YTD). This specific pattern of asset moves is consistent with a Value-Momentum convergence. We think the outperformance of value assets over momentum assets is likely to continue.

Investors often ask us how significant are distortions and risks in equity sectors that are related to a “macro momentum bubble.” Specifically, the question is that of valuations in the Technology sector, i.e., “is there a Tech bubble”? Before we share our views, let’s first review how passive investing and momentum strategies may have impacted performance of various equity sectors.

Imagine a world in which most of the assets are passively managed and investors are focused on liquidity and short-term risk/reward. Companies that increased in size recently would keep on increasing, and those that got smaller would see further outflows. Past winners would also be considered low-risk holdings compared to past losers. The most successful managers would be those that replace fundamental valuation with a simple rule: buy what went up yesterday and sell what went down. Passive funds would do the same. It is hard to imagine this makes economic sense long term, but it is close to what equity markets experienced over the past several years. In 2013, the Sharpe ratio of the S&P 500 was ~2.7. Assuming a normal distribution of active asset returns, one could (incorrectly) conclude that being just an average (passive) investor one will outperform ~95% of all active investors. In 2014 and 2015, various momentum strategies delivered Sharpe ratios >2. The winning strategy was not just to go with the crowd, but to do what the crowd did yesterday. This type of trend following does not only apply to extrapolating price trends, but also extrapolating trends in fundamental stock data such as growth and earnings. Beyond a certain point, passive investing and trend following are bound to result in distorted equity valuations and misallocation of capital.

While some parts of the Technology sector certainly have reasonable and even low valuations (see our US equity strategy outlook), segments of the Tech sector disproportionally benefited from momentum investing as well as investing based on extrapolation of past growth rates. For instance, a popular group of stocks held by investors is known by the abbreviation “FANG” (Facebook, Amazon, Netflix, Google). We use these stocks as an illustration for a broader group of similar stocks that have the highest rankings according to momentum and growth metrics (and surprisingly in some cases even low volatility metrics). Given that traditional value metrics look expensive when applied to this group, one can compare these momentum/growth companies on a new set of metrics. For instance, one  can look at the ratio of current price to earnings that the company delivered over all of its lifetime (instead of just the past year). Another metric could be a ratio of CEO or founder’s net worth to total company earnings delivered during its lifetime (see below):

Aggregating all FANG earnings since these companies were listed, one arrives at a ratio of current price to all earnings since inception of ~16x. This can be contrasted to a ratio of price to last years’ earnings for all other S&P 500 companies also at ~16x. We think this is extraordinary given that FANGs are neither small nor new companies. In fact, these are some of the largest companies in the S&P 500 and among the largest holdings of US retirees. Given that the three largest FANG stocks are now twice more valuable than the entire US S&P small-cap universe (600 companies), a legitimate question to ask would be “is such a high allocation by long-term investors to these stocks prudent?” Statistically, over a long period of time smaller companies outperform mega-caps ~75% of times. Note also that the current size ratio of mega-cap stocks to small-cap stocks is at highest level since the tech bubble of 2000. Furthermore, such allocation is also questionable from a risk angle. For example, the idiosyncratic risk of holding three stocks in one sector is certainly much higher than the risk of owning, e.g., ~1,000 medium- or small-cap companies diversified across all sectors and industries.

Investors in high-growth stocks expect innovations to drive growth and sustain high valuation. They may even put their hopes in moonshot projects such as cars built by electronics makers, car makers building spaceships, or internet companies building drones. While many of these could result in important technological breakthroughs, they may also be signs of excess and destruction of shareholders’ capital in the future. Recent examples of capital impairment in the tech sector are illustrated here and here, and more peculiar examples of past excess can be found here and here. In addition to extrapolated and often optimistic growth forecasts, some of the tech sub-industries have high idiosyncratic risks that are likely underappreciated by the market. Standard valuations models incorporate revenue, growth, and profit forecasts but often do not discount for the lifecycle risk of a business. To illustrate: while we are still traveling in aircraft designed over 40 years ago, social network users’ preferences have changed drastically over the past decade (e.g., Friendster and Myspace). A shorter lifecycle is related to low barriers to entry and rapid changes in what is deemed fashionable by young generations (e.g., one cannot build a jetliner in a dorm room, and they don’t go out of fashion as apps do).

In summary, we think that the biases of momentum investing and passive indexation have resulted in valuation distortions across assets as well as equity segments including Technology. Over the past years this trend has picked winning assets, sectors, and stocks often with less regard to fundamental valuation and more regard to momentum and extrapolated growth. We believe that 2016 may result in a reversion of this trend that will give an opportunity to active and value investors to outperform passive indices and momentum investors. Even if this rebalancing comes as a result of market volatility and broader equity declines, long term it will benefit capital markets and the efficient allocation of capital.

* * *

Only problem is that this capital reallocation will means countless momentum chasers 'smart money managers' will be out of a job in very short notice.

Then again, judging by some initial reactions, even formerly steadfast believers in the FANGs are starting to bail: moments ago CNBC reported that Mark Cuban announced that he purchased options to sell against his entire stake in Netflix, to wit: "For those of following my stock moves, I just bought puts against my entire Netflix position."

Cuban posted comments on Cyber Dust social media platform on Friday. Result: NFLX already down -4%, with FB and other tech momos hot on its heels.

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Mon, 02/08/2016 - 09:40 | 7155214 Cognitive Dissonance
Cognitive Dissonance's picture

It may not repeat, but it certainly rhymes.

Mon, 02/08/2016 - 09:42 | 7155221 Winston Churchill
Winston Churchill's picture

Human nature doesn't change, so of course it rhymes.

Mon, 02/08/2016 - 09:46 | 7155233 Took Red Pill
Took Red Pill's picture

Sell Mortimer, sell!

Mon, 02/08/2016 - 09:49 | 7155240 VinceFostersGhost
VinceFostersGhost's picture

 

 

Live forever Duke and Duke!

Mon, 02/08/2016 - 10:07 | 7155318 pods
pods's picture

I was taking note of all the .com commercials last night during the game. And there was a SOCK. Okay, bit of a stretch as it wasn't a .com mascot, but there was one.

pods

Mon, 02/08/2016 - 12:31 | 7155889 Surviver22
Surviver22's picture

I can't believe. Actually this is what Donald Trump was talking about! 

http://howtogetrichsuccess.com/final-bubble-review/

Mon, 02/08/2016 - 10:18 | 7155363 RockySpears
RockySpears's picture

But then again, sometimes there's ASSonance.

Mon, 02/08/2016 - 10:25 | 7155368 falak pema
falak pema's picture

it does more than rhyme it chimes : Madoff times !

Good movie : Blue Jasmine by Woody 'Manhattan' Allen

Mon, 02/08/2016 - 09:40 | 7155215 slaughterer
slaughterer's picture

Short FANG/ Long R2K pair trade is on, obviously.  

Mon, 02/08/2016 - 10:22 | 7155356 CPL
CPL's picture

Watch the short interest levels from institutions in the 2 to 10's. +20% are fit for a highway robbery on a rebound panic.  Let whatever you pick float for a day once the knife drops when the herd needs to cover the watering hole.  Cover on 10%, stop loss at 2%.  Follow the ladder up if you can fix a trailing stop loss.  Avoid x3's. 

Their teeth and blood from net to center ice, show these fuckers how the game is played.  Sticks down and Game on.

GLTA

Mon, 02/08/2016 - 09:41 | 7155219 new game
new game's picture

wow-i learned a lot, cue pe of fangs...

Mon, 02/08/2016 - 09:43 | 7155225 Grandad Grumps
Grandad Grumps's picture

A. Is it true ... or a lie designed to manipulate us?
B. Can and will action be taken to fleece people because of it?

Mon, 02/08/2016 - 09:44 | 7155227 kliguy38
kliguy38's picture

Cuban is a douche.....NFLX is an overpriced pile of steaming shit...nothing like having money to burn Mark.....and your money in NFLX WILL burn

Mon, 02/08/2016 - 09:53 | 7155256 TradingIsLifeBrah
TradingIsLifeBrah's picture

I really don't understand NFLX's valuation.  NFLX introduced a lot of people to watching videos online and then those people quickly figured out that there are tons of shows available online for free with an everyday search engine.  Most people I know are cutting their Netflix subscription out (and will likely never go back since NFLX punishes new subscribers with higher rates).  NFLX (much like GPRO) is at the peak of its possible market share and fame potential yet it is not making much of any money at this point so what is the upside?  Creating your own content is very expensive so NFLX is shifting to a business model that will promise even less profits/cash flow in the future.  I really don't know what investors see in this company.

Mon, 02/08/2016 - 10:15 | 7155351 pods
pods's picture

You need a translator.

I put in "no cash flow" and the second translation was "facilitate innovative applications" which is about right for NFLX.

All these dot com things are just sooo new we need new tools to describe them, like:

http://dack.com/web/bullshit.html

pods

Mon, 02/08/2016 - 10:35 | 7155429 SixIsNinE
SixIsNinE's picture

yes - i checked out their free trial month in november - any "good" movies i wanted had to have the dvd sent in.  that was included in the free trial, so I utilized it, it works very well and I got to see 5 or so movies that I had been wanting to see...

every 18 months or so they'll email you that you can have a free trial month again...

otherwise, the streaming options looked pitiful.  did catchup on SEason 5 of Archer though, love that series!

i did cancel at end of free trial

Mon, 02/08/2016 - 09:47 | 7155234 new game
new game's picture

ppt, get to work. problems on all fronts. 

the whale on the other side of the world is taking on harpoons. 100 billion type hits.

this will all climax when the whale washes up with 3.2 trillion holes in it, then the mother of all mothers can be exposed for the fraud it is - king dolla...

Mon, 02/08/2016 - 09:49 | 7155239 TradingIsLifeBrah
TradingIsLifeBrah's picture

That settles it, as soon as LNKD gets back to $180 and I'm back to breakeven I'm selling out /sarc

Mon, 02/08/2016 - 10:18 | 7155358 Sages wife
Sages wife's picture

Chancey bugger.

Mon, 02/08/2016 - 09:50 | 7155244 db51
db51's picture

A Macro-Momentum Bubble.   LMFAO.   Let's invent some more bullshit terminology to describe fraud.

Mon, 02/08/2016 - 09:52 | 7155249 Spungo
Spungo's picture

I sure hope Tesla hits a market cap of $500B. My child's college fund is 100% invested in it. Fingers crossed!

Mon, 02/08/2016 - 09:57 | 7155278 TradingIsLifeBrah
TradingIsLifeBrah's picture

Don't worry, if it doesn't just vote for Bernie and college will be "free" for all.  I just wonder why we stop at college and healthcare, wouldn't society be so much better if everything was free?  #FeelTheBern like the realization of a bad decision after a one-night stand

Mon, 02/08/2016 - 09:56 | 7155266 Dre4dwolf
Dre4dwolf's picture

If you had 50,000$ would you trust yourself with using it to make a profitable business?

Why do you trust someone you dont even know?

^^?

If you are going to gamble just go to the casino and atleast have some fun and stop pretending all the charts ruled by algos are going to save you.

Mon, 02/08/2016 - 10:26 | 7155396 redd_green
redd_green's picture

MUCH worse odds at the Las Vegas casinos.   Much MUCH worse.   At least at the Wall Street casinos, you can find a trend once in a while.  

Mon, 02/08/2016 - 09:57 | 7155279 Whiteblob
Mon, 02/08/2016 - 10:27 | 7155403 Lyman54
Lyman54's picture

If you want to see something really weird google up "happily married American couple" and search images.

Mon, 02/08/2016 - 10:38 | 7155438 RockySpears
RockySpears's picture

Image search on Google:

Beautiful American Couple,

Beautiful American White Couple

American Business Owner

 

Now tell me that is not telling you something?

 

(Don't know why I used capitals, but, Oh well)

Mon, 02/08/2016 - 09:58 | 7155281 2muchtax
2muchtax's picture

These companies exemplify our modern values. The most valuable companies in the world add nothing to productivity, in fact the opposite (no hypocrisy, ZH is anti-productivity).

One day, real things will be back. Bytes will eventually seek their intrinsic value. Parents, spring is coming, unplug you're kids and show you them how to grow a vegetable.

Mon, 02/08/2016 - 09:59 | 7155289 buzzsaw99
buzzsaw99's picture

One does not simply say "Macro-Momentum bubble".

Mon, 02/08/2016 - 10:38 | 7155437 SixIsNinE
SixIsNinE's picture

how about Mac & MoMo's with CheesyPoof Bubbles ?

Mon, 02/08/2016 - 10:10 | 7155332 One And Only
One And Only's picture

The most valuable investment is in yourself.

Mon, 02/08/2016 - 10:30 | 7155411 shovelhead
shovelhead's picture

Thats what I tell myself everytime I bought something expensive that I didn't need.

Like that boat.

Mon, 02/08/2016 - 10:37 | 7155435 Ghordius
Ghordius's picture

+1 boats are in the same category as mistresses and daughters. they sink you just to keep them afloat

having said that... a man has to live for something. though I would put emphasis on daughters, first

they are reliable in spending 10% more then what you can make, but they are also generally speaking reliable, period

Mon, 02/08/2016 - 10:59 | 7155497 Han Cholo
Han Cholo's picture

haha...you DO realize that "boat" stands for "break out another thousand"? 

Mon, 02/08/2016 - 10:16 | 7155352 Calculus99
Calculus99's picture

Livermore -

"There's nothing new on Wall Street".

Meaning, the same shit happens time and time again. We humans never learn...

Mon, 02/08/2016 - 10:16 | 7155353 bugs_
bugs_'s picture

name your own price

Mon, 02/08/2016 - 10:23 | 7155383 401K of Dooom
401K of Dooom's picture

"What difference does it make?"  to quote the old hag!

Mon, 02/08/2016 - 10:24 | 7155384 gm_general
gm_general's picture

Hmmm....

Ooops:

http://blogs.wsj.com/marketbeat/2013/04/12/j-p-morgans-thomas-lee-we-cap...

Here's one from the exact top since then in gold:

http://www.cheatsheet.com/business/jpmorgan-likes-gold-why-goldcorp-is-a...

Ooops I did it again:

http://blogs.wsj.com/moneybeat/2016/01/26/j-p-morgan-reverses-bullish-20...

and let's not forget their early 2000s call to dump gold at $370 an ounce! But of course if they have anything to say that agrees with our position, it MUST be correct this time.

Mon, 02/08/2016 - 10:24 | 7155389 redd_green
redd_green's picture

Heh,   re "JPM's Marko Kolanovic, whose unprecedented ability to predict short-term market moves",  Yah. Right.   he reads Zero Hedge. 

Mon, 02/08/2016 - 10:25 | 7155391 shovelhead
shovelhead's picture

It might take a while but once that iWatch catches on...

Mon, 02/08/2016 - 10:48 | 7155472 Vlad the Inhaler
Vlad the Inhaler's picture

In summary- the trend is your friend... until the end.

Mon, 02/15/2016 - 08:43 | 7187256 halcyon
halcyon's picture

When will these dimwiths learn what "negative feedback loop" actually means?

If you don't know the concept, don't fucking use it.

 

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