Doug Kass: My Updated Market Outlook
We are not Perma Bears — we aren't Perma Anything. We simply assess risks relative to reward.
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"Risk is good. Not properly managing your risk is a dangerous leap."
- Evel Knievel
I have been of the (mistaken) view since late last year that upside reward was modest relative to downside risk and that, in the aggregate, the market's "margin of safety" was not visible.
As a result — since December 2023 — I have undertaken a low-risk strategy and positioned myself with a sliver of shorts, some straddles and an abundance of "pairs trades."
Despite my protestations, equities rolled higher during the first quarter of 2024 as animal spirits and FOMO (fear of missing out) flourished — perpetuated and extended by the influence of a changing market structure in which momentum-based strategies and products dominate the market landscape.
The market's upside momentum over the last four or five months became almost intoxicating to many traders and investors who, seeing a new paradigm, embraced the promises of AI — while ignoring the many emerging challenges we have been warning about:
* Rising geopolitical risks
* Higher interest rates for longer
* Prickly inflation and slowing economic growth — "slugflation"
* Reckless and undisciplined fiscal policy that has led to an ever-larger annual deficit and cumulative U.S. debt load
* Heady valuations
But, as demonstrated by the weakening performance of equities during the month of April, risk happens fast. The market broadened — but unlike what the bullish cabal expected ... that broadening has occurred to the downside.
Given the recent fall from grace, stocks have become less overvalued but still remain relatively expensive, especially against interest rates and when compared to the paper-thin equity risk premium:
As well, it is increasingly clear, as we have feared, that the world is a more dangerous place.
Persistent inflation continues to be a concern — a headwind we have identified over the last twelve months.
And, our leaders in Washington, D.C. continue to display a level of partisanship that argues against any foresight or fiscal discipline. Frankly, the timing of this issue on the stock market continues to be vague!
Positioning on the short side, when done effectively, protects capital while positioning on the long side creates capital. We are not Perma Bears — we aren't Perma Anything. We simply assess risks relative to reward.
All this said, although I anticipate a continued market correction, a few individual equities are beginning to become attractive — finally providing some attractive opportunities on the long side. Indeed, two or three of the recent long positions we have put on hold very large upside promise. One of those, a potential home run, I have promised to deliver shortly in my Daily Diary.
In the market decline over the last few days I have moved from modestly net short to modestly net long — with a continued heavy exposure to lower-risk "pairs trades."
I anticipate getting longer if more values emerge, but we will remain unemotional, disciplined, and analytical in our investment process.
At the time of publication, Doug Kass had no positions in any securities mentioned.
(This commentary originally appeared in Doug's Daily Diary on TheStreet Pro on April 23.)
