What goes up must come down
Seasoned equities investors are always prepared for the rollercoaster ride that markets can deliver, but the post-U.S.-Presidential-election period has delivered a particularly dizzying ride, especially for those riding the ‘Trump Bump’. Is it over?
Investors, caught up in a wave of liquidity-fuelled Trump/bitcoin/deregulatory excitement, drove some jaw-dropping gains in theme-related stocks. From November 5 last year to its peak, Tesla, the electric vehicle giant, soared 97 per cent, Bitcoin climbed 59 per cent, MicroStrategy, the leveraged Bitcoin play, surged 112 per cent, and data analytics firm Palantir rocketed 201 per cent. It was a euphoric sprint, the kind that makes you wonder if the sky’s the limit. But as any seasoned observer knows, what goes up must eventually face gravity.
This is especially true if enthusiastic share price rises aren’t quickly followed by earnings growth…or…earnings!
Figure 1. Magnificent 7 – driven S&P500 earnings per share (EPS) growth is decelerating
Source: Polen Capital
The flip side of those meteoric rises has been brutal. Tesla has shed 45 per cent from its recent peak. Bitcoin has declined by as much as 25 per cent, MicroStrategy has seen its value slashed by half at one stage and Palantir has plummeted 35 per cent. Given that the 1987 market decline of Black Monday and Tuesday amounted to 30 per cent and was widely recognised as a crash, the latest fall in ‘Trump-themed stocks’ can also be labelled a crash. These corrections serve as valid reminders that if your investment thesis is based on nothing other than a sentiment-driven theme, you need to be able to know when that sentiment has changed and react quickly, because there is no fundamental basis for the investment.
Greed and fear, exuberance and despair, ascent and descent, are two sides of the same coin. No asset can sustain double or triple-digit growth indefinitely – if they could, the underlying companies would become as big as planet Earth. Corrections are therefore inevitable and indeed, necessary. The law of large numbers ensures limits and constraints. Bubbles eventually pop.
A bubble is evident when soaring prices are accompanied by feverish sentiment. Call it irrational exuberance, blind adoration, FOMO (fear of missing out)-fueled madness, or a belief that no price is unreasonable – whatever you call it, a bubble occurs when prices materially disengage from the fundamentals or the present and the future. Bubbles differ from a bull market or high valuations in that mania replaces discipline. In other words, prices are not just elevated they are crazy.
In the last five years, we have witnessed something of a boom in betting – from sports betting to betting on events (on websites such as Kalshi, Polymarket and Gnosis), and from NFTs (non-fungible tokens) to Memecoins and zero-day options. There has been a proliferation of fast money platforms, so it’s easy to see why some view this as a warning sign of potential bubbles in many other markets, including equities. But as long as these assets aren’t held on the balance sheets of systemically important financial institutions, they can bubble away and blow up in the background without posing any risk of contagion.
Looking ahead, it’s worth remembering, every major technological leap in modern history – railroads, electricity, the internet – has sparked a theme-based boom in associated equities. The recent ‘Trump bump’ and subsequent slump, however, serves as a valuable reminder for investors to understand whether the basis of their investment is anchored in fundamentals such as earnings growth, return on capital and market share gains, or whether it’s just based on shifting sentiment and momentum. If it’s the latter, then you must acknowledge that you are speculating rather than investing.
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.
