The End Is Always Nigh

The end is always nigh. There is a lot of hot air in the markets right now – AI hype, predictions of financial doom. How much should you care about the noise? It depends.

Here's a simple framework:

• If the threat is imminent and actionable → Use tactical, scenario-based modeling. Powell's Jackson Hole speech last Friday is a perfect example. A bit of a banger as it turned out, with Powell channeling his inner dove. Going in, we knew markets would move. Going in, it was essential for investors to have a game plan. If you owned risk, and you ran some basic scenarios (hawkish, dovish, neutral) and assigned any reasonable weight to a hawkish Powell, you'd have bought some insurance. Yes, you would have lost the premium on puts, but better to win less than lose big.

  
  

• If the threat is hypothetical and ambiguous → Stick to a strategic expected return framework. "Dotcom 2.0" lives here. You can ignore the obvious "Equities at all-time highs!" fever pitch headlines - I mean, equities are at or near all-time highs around 50% of the time. That's a feature, not a bug.

Despite the hyperbole, there are legitimate concerns. There is a risk that capex is overdone, that AI will disappoint in the short-term, that there will be some sort of geopolitical catastrophe. But remember, drawdowns and volatility are also features of an equity allocation. You get paid for the risk.

The expected return, though, is highly positive in the long run. If you'd bought QQQ at the peak of the dotcom bubble (March 2000) you'd still be annualizing close to 8% over the last 25 years.

Pick a metric -- CAPE Shiller, Market Cap to GDP, it doesn't matter. Investors who used those as a guide to drop equity allocations invariably ended up worse off, even through brutal drawdowns.

The hard questions for bubble timers:

• How much do you sell?

• When?

• What do you buy instead?

• When do you get back in?

Rather than worrying about market timing you could spend the energy tightening up your strategic allocation. Who knows? Maybe you are over-risked, but let your process guide you, not the headlines.

A decent, multi-asset allocation and liquidity should see you through the worst the market has to throw at you. (Maybe rethink a static 40% allocation to the Agg, though).

I'm a reformed bond bull. I’ve been over-hedged and under-risked my entire career. But, looking at AI’s potential: Upside is the real risk.