Things are pretty danged uncertain right now, aren’t they? I’m having difficulty remembering a time when so many big questions have such a wide swath of potential answers. Let’s do a quick rundown.
Oil, Commodities, the Price of The Universal Input
Perhaps they should rename it Schrödinger’s Strait. It’s open! It’s closed! A huge amount of the world’s oil and other natural resources like hydrogen transit the Strait of Hormuz. “Iran has agreed to never close the Strait of Hormuz again!” claimed President Trump. “The President of the United States made seven claims in one hour, all of which are false!” retorted the Spokesperson of the Iranian Parliament.
Even if it opens tomorrow, the physical destruction that has taken place will not quickly be resolved. To cite just one example, estimates for repairs of Qatar’s Ras Laffan LNG complex are upwards of 5 years.1 Europe has 6 weeks’ reserves of jet fuel.2 At the moment, oil has ceased to become a market and has reverted to a regional, political, and physical entity.
AI Spending
For the last few years, investors could do well by simply finding companies with exposure to the massive Artificial Intelligence buildout. Basically, the only investing theme that has any real traction at this point is the physical one. Capital spending is going to be massive, we think.
Every other question regarding AI is currently in the “too hard” pile. Think about it: underwriting a hyperscaler or a services company means making a call on enterprise adoption, token consumption, or whether AI portends a collapse or surge in hiring across knowledge industries means making a call based on the unknowable. Ironically, the capex trade doesn’t work if profitable demand doesn’t materialize either.
Private Credit
It may be poorly understood that one of the primary drivers of the Global Financial Crisis was a giant pool of yield-seeking money that dwarfed demand for loans. This was solved, perhaps predictably, by creating hundreds of billions of new loans, primarily through the housing market.
One thing that happened after the Global Financial Crisis is that banks lost a bunch of money and didn’t want to lend, creating demand for financing from private equity. Early direct lenders could charge higher interest rates to borrowers who couldn’t access the banking system. In a benign economic environment, this worked pretty well, even though the wide adoption of private loans meant that competition increased in the usual way, with lower yields, spreads, underwriting standards, and so on.
Last year, two bankruptcies in the space caused concerns about what might happen when illiquid loans met unrelenting withdrawal requests. The introduction of leverage in many lending vehicles, touted as revenue-enhancement strategies, means that which is benign going up can be vicious on the way down. There’s no such thing as risk-free return, but there sure as heck might be such a thing as return-free risk.
Oh, an Election
As of April 28, the markets suggest that there is a 51% chance of Democrats taking the Senate in November,3 and an 86% chance they’ll take the House.4 The President keeps picking fights with the Fed Chair and the Pope, the heads of two rather significant houses of worship. The federal deficit for 2025 is projected to be somewhere around 5.9% of GDP, close to $2 trillion.5 A decade ago, the debt-to-GDP ratio sat at 100%; now it’s over 120%.6 US government debt has grown during that period from $20 trillion to $40 trillion.7 That’s a heck of a lot of leverage.
And Here’s The Thing
This is just a set of the hits. There are lots of other big themes that promise an outcome that might cause markets to break. China still cares an awful lot about Taiwan; China also has its own financial issues. The Ukraine war could break one direction or another, or spread. The boomer generation needs to transfer its assets, including real estate that later generations may neither want nor be able to afford. Crops could fail, weather could happen. Heck, the thing that causes the market to collapse might be good news! It’s happened before.
All told, the market’s reaction has been, what, benign? Bullish? The market is telling us it believes that we aren’t in the midst of a forever war; that we are being set up for an incredible blow-off rally; that everything I’ve just spelled out is so bleedingly obvious that most participants are waiting for stocks, bonds, the dollar, crypto, commodities, even real estate to react.
And maybe they already have. In 2020, in the middle of the most cruel pandemic we are likely to ever know, the stock market took off like a shot at the moment of peak despair. There was a day six years ago when oil was -$37.63 per barrel, and it made sense because no one was ever going to drive or fly or go on a cruise or consume ever again.
Yet, now we do all of those things once again in huge numbers, and if jet fuel stocks in Europe dwindle much further, some of us may be embargoed from doing some of these things as much as we’d like. As much as the uncertainty of it all confounds us, this is how markets work.
Being Wrong Is A Skill
I’ve been in the financial industry for just a hair under 27 years (since the late 1900’s, as the youngins might say). So if there is anything that I have a skill in, it’s coming up with excuses for predictions that didn’t work out. My primary defense mechanism against having to face faulty predictions is not to make them in the first place.
And yet the act of investing is a form of predicting. After all, for most equities, much of their value is based upon things that have not happened yet. That’s the core basis of the potential for appreciation. If everything about the value were knowable, then stocks would never really be over- or undervalued.
Of course, that’s not how it works. We think we know what a company is going to do in the future – we may even have a path laid out. But we don’t know. No one knew in 1998 that one day Amazon.com* would be one of the largest web services companies. But ultimately, a shareholder who bought in 1998 and held for the next 20 years or so benefited from that action, regardless of what he or she knew at the time.
Which leads me to a tetchy, if probably tautological, point.
One of my least favorite investing performance rationales (excuses, maybe?) is “uncertainty.”
As in “the market dropped today over uncertainty over [SOMETHING SUPER UNCERTAIN].”
Investing is the art of managing the uncertain. I’d suggest, with no proof whatsoever, that far more money has been lost by people thinking they held “sure things” than the other way around. In fact, there is a Latin proverb about this very thing: Quos Deus vult perdere, prius dementat (“Whom God would destroy, will he first make delusional.”)
This makes sense, right? Most true destructions in investing come not from being wrong, but from the financial versions of confidence: leverage and concentration. In 2021, the horrible action in a few companies made no sense until we realized that a $10 billion family office called Archegos had imploded under the weight of massive bets using enormous amounts of leverage, which needed to be unwound, messily.
A winning investing record doesn’t necessarily come from having the highest hit rate. Many good investors have the majority of their investing decisions go against them, but do more than satisfactorily through the magnitude of the profitable decisions outweighing the unprofitable ones. Great investors like Chuck Akre and Chris Mayer openly discuss looking for “100-baggers,” or companies that return one hundred times their original investments. Finding a few of those, or even companies that “disappoint” by only returning 10x or so can overcome a huge number of bad outcomes.
Markets are valued on uncertainty, not certainty. The best thing we can ever do is find companies that we believe show the capacity to survive, thrive, and adapt through their optionality and financial resilience. If you’re worried about the big things taking a company down that you own, well, maybe the company isn’t worth owning at all.
And my best advice for coping with economic and political turmoil is to just get on with it. Not because these things we fear aren’t real (and may even get much worse!) but because, in my observation, reacting to big risks has tended to cause more financial damage to investors than simply powering through them.
My second best piece of advice is to adopt the prognosticator’s creed: “If I’m right it’s skill, if I’m wrong it’s somebody else’s fault.”
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