Investor Mark Spitznagel predicts a bursting market bubble, is he right? 

Investor Mark Spitznagel predicts a bursting market bubble, is he right? 

Doom-and-gloomers, of which there are many, are the Henny Pennys of the financial world; those who constantly fear the sky will fall in, so warn others of its imminent inevitability. Are there any worth listening to? Perhaps we have found one. 

Henny Pennys know that accurate predictions are difficult – especially predictions about the future – and so, to be eventually right, they forecast often. Most investors are right to ignore them even though occasionally they will look rather sage. 

However, when the Henny Penny in question is Mark Spitznagel, an investor might at least give a few minutes to hear them out. 

Mark Spitznagel is a quant protégé of The Black Swan author Nassim Taleb (who himself predicted the global financial crisis (GFC) and was a student of mathematician Benoit Mandelbrot, the pioneer of fractal geometry and chaos theory). Spitznagel runs an investment firm in the U.S. called Universa, which has a very specific purpose. It provides long-only equity investors with a hedge against fat tail risks – the risk of a calamitous share market decline. It’s a risk with a low probability of occurring but one that can be very expensive when it does. 

That hedge then renders long-only investing comfortable while providing long-only investors with extra cash to invest when the market does collapse, albeit temporarily.  

Adding a little more credibility is that a portfolio with 98 per cent invested in the S&P 500 and two per cent invested with Universa has modestly beaten the S&P 500 over five years (thanks to the benefits of the strategy during the Covid-19 sell-off in 2020) and trounced a typical 60/40 portfolio, which invests 40 per cent in bonds to achieve some stability, over the same period. 

Part of the recipe for this is investing on the other side of those who enter put-spread collars. A put-spread collar holds stocks long in a market, buys an out-of-the-money put to protect the downside, sells an out-of-the-money call option to help pay for the bought out-of-the-money-put option and then, finally, sells a put option with a strike price below the strike price of the other out-of-the-money put, which makes the whole hedge cheaper or allows the investor to raise the strike price on the call option, reducing the possibility of the stock being called. 

If it sounds unnecessarily complicated and expensive to you, take comfort in the fact that Spitznagel agrees with you. He takes the other side and profits in direct proportion to the drag the strategy creates on long-only stock investors’ returns. 

Perhaps another reason we should spend a little time listening to his thoughts is that while he believes we are heading for a “really, really bad” crash, one worse than the GFC, he also believes investors are best served by doing nothing, that Cassandras make terrible investors, that staying passively invested in stocks is the best long-term strategy, and that those who can stomach steady contributions to a fund despite scary headlines will do fine. 

As an aside, you’d expect a manager who sells tail risk insurance to long-only fund managers to say exactly that – “Stay long but something bad is coming”. 

And that’s his message today. 

Right now, Spitznagel agrees we are in a “Goldilocks phase” – that the rally will continue for months and become a proper bubble as inflation falls and the U.S. Federal Reserve (Fed) eases rates, fueling bets on further gains and pushing the market up. He describes a relatively dovish Federal Reserve and bullish market sentiment as “juice” and that we have a bit more to run. Note he said the same to Business Insider back in April, and over the past twelve months, he has been quoted as saying we are in “the greatest credit bubble in human history” and will see “the worst market crash since 1929.” 

Rate cuts often ring the bell of an imminent market top, which is, by definition, almost followed by a market reversal. Spitznagel again predicts an even worse shakeout than the GFC, describing the excesses today as even more extreme. Pointing, as so many do, to extremely high public indebtedness, which limits the Central Bank’s and Treasury’s ability to bail out investors, Spitznagel described the current market as being in the “greatest bubble in human history”, adding stocks could lose as much as 50 per cent of their market value.  

Spitznagel also sees the current benign slowdown in inflation overshooting. In fact, he thinks the U.S. economy will slow down so much that it could enter a recession by the end of the year.  In recent days, Fed Chair Jerome Powell has hinted that inflation is finally coming under control.

For what it’s worth, I have suggested good times for investors in 2023, 2024 and 2025 because the unwinding of the bearishness that pervaded 2022 takes some time. Inertia, an uneven distribution of information and the reassurance of rising prices that is first needed by many investors, means a bear market tends to take a few years to turn into a fully-formed bubble. By the end of this one, microcap stocks, cryptocurrencies and even art, wine and collectible cars could all hit unprecedented highs. 

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Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.

This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.