The old trading axiom that a trending market can be wrong longer than an investor can remain solvent applies to everyone – including Paul Singer, one of the largest hedge fund managers in the world.
Paul Singer: Challenges of a long career in money management
In a recent letter to investors reviewed by ValueWalk, Paul Singer notes one of the main challenges of a long career in money management is making the correct call on a market that is trending in the opposite direction and waiting for that market to reverse. “The distance (in terms of time and cost) between an intelligent conclusion that prices are massively wrong in either direction, and the actual reversal of valuations toward the range of ‘reasonableness,’ can sometimes be too long to bear,” he notes.
See other Q3 letter highlights – Paul Singer Blasts “Krugmanization” of Economics, Paul Singer vows to hunt for Argentinian assets, George Soros And Kyle Bass Battle It Out With Paul Singer In London Court and Singer sees strength in commercial RE but weakness in residential
Such is the quandary as many quantitative investment managers eye unusual valuations in bonds, currencies and run the math on the forthcoming debt crisis that few seem to pay attention to other than certain hedge fund geeks. But when mathematical logic meets a strong market trend, often the trend wins in the short term.
Paul Singer and his team at Elliott have seen this movie before. In 1995 when stocks were trading at 22 times earnings, all time highs reached only in September 1929 and March 1972, both serious peaks, they logically thought the market trend would end. It didn’t, and stocks didn’t top out for another five years when in early 2000 they reached 40 times earnings.
With the often illogical power of market trends in mind, Paul Singer offers timeless money management wisdom:
“When markets are trending, they can appear unstoppable. Every sale in a rising market feels like a bad one, and every purchase in a rapidly falling market is punished by losses within minutes or hours. It is so much less painful to go along with the trend than to buck the trend – at least in the short or possibly medium term. Furthermore, in the modern world of super-leverage and group-think, valuations can go far beyond the estimates of every expert and practitioner. That is, of course, until they stop.”
Paul Singer: Expanse of mathematically illogical market trends
Today Paul Singer looks across the expanse of mathematically illogical market trends, many of them driven by artificial market manipulation that one assumes will explode like a child playing with gasoline around a fire.
“Today, one could be bullish on the long-term value of gold and be not only sitting on losses but also experiencing incoming ridicule and schadenfreude. In the same vein, based on the extraordinary monetary policy being practiced by the world’s central bankers, one could be completely convinced that medium- and long-term bonds are staggeringly overpriced, with nowhere to go but down in price (up in yield). But watching bonds persist in their long-term uptrend regardless of money printing, and watching gold prices languish with no understanding by investors that throughout history gold has always been considered the only real money in a world of monetary fakery, is concerning to say the least. Maybe history has stopped.”
The hedge fund with the current hot hand, the one who idenitified a market trend and stuck with it, may be the fund manager de jour. This manager may seem invincible, with market ideas that can’t go wrong. But this in itself is wrong. Longevity in money management means survival through a variety of market environments and planning for when the manager is wrong, which inevitably occurs just like the force of gravity.
“There must be a “Plan B” when purchasing or selling assets, so that capital is kept intact even if trends or turning points do not follow expectations. Being ‘wrong’ may (or may not) be a temporary thing, but money managers who want to stick with long or short positions must determine how they are going to trade, hedge, or increase or decrease their positions if the prices continue to go against them.”
Paul Singer: Illogical bond market valuations
Then Paul Singer hits upon one of the key points that quantitative investment managers point to as the most illogical bond market valuations in light of repayment risk, an area that could be in need of risk management assistance and “Plan B” analysis if prices suddenly reverse (and potentially trigger countless and unknown swaps derivatives exposure).
“These are particularly important issues at present, with bonds across the globe still absurdly treated as “safe havens.” They are not safe havens with the 30-year euro swap rate trading at 1.85%, or the Japanese 20-year swap rate at 1.35%.”
Paul Singer words in the current investor letter are likely to be ones that might not seem appropriate in the current market environment, but perhaps three, five or even ten years from now, in hindsight, might make perfect sense when viewed in light of mass market delusions.
“There is a current set of delusions that is powerful and dangerous: that monetary debasement can be infinitely pursued without negative consequences; that the financial system is now solid and sound; that the low volatility and high prices of stocks, high-end real estate and bonds are real; that bonds are a safe haven; and that large financial institutions which get into trouble in the future can be unwound in a much safer way than they could be in 2008. We have discussed each of these elements in the pages of this report and previous ones in an attempt to reveal the fallacy and unsustainability of such beliefs. But, as stated above, they will only enter the history books as mass delusions if they are unmasked in the future as unjustifiable and erroneous beliefs at the time they were held. We think that test will be met, perhaps soon.”