‘Everything’s turned completely upside down’: A 41-year market vet breaks down why we’re hurtling toward a 40% crash as rampant speculation reaches dangerous heights — and says the market is due for 5-10 years of negative returns

  • Amid lofty speculation and a growing money supply, Bill Smead anticiaptes a 40% stock market crash.
  • He told Insider on Tuesday that coming inflation will be the catalyst, as investors move into bonds.
  • He said he is bullish on recovery stocks ahead of the economy reopening.
  • Visit the Business section of Insider for more stories.

Bill Smead is fed up with it all.

All of the euphoria. All of the monetary easing. All of the eye-popping price-multiple expansions at the top of the market. All of the SPAC hype. All of the stay-at-home stocks’ continued returns despite the ongoing vaccine rollout. All of it.

The chief investment officer at $2.3 billion Smead Capital Management says all of these things are adding up to form a perfect storm that will ultimately send the market tumbling in one of its biggest-ever crashes.

“There’s multiple financial euphoria episodes combined in here,” Smead said in an interview with Insider on Tuesday. “There’s the bond episode, there’s the FAANMG episode, the stay-at-home episode.”

He continued: “Everything is turned completely upside down. This is a stupidity episode among the most legendary of all-time.” He added that the crash he is predicting “might end up going into second place,” behind 1929.

Smead is calling for a minimum 40% drop in the S&P 500 and a five-to-ten year period of negative returns before the market recaptures its old highs, similar to the 2000 and 2008 crashes. He declined to give a timeline for the drop, but alluded that it could happen at any moment and recited the adage that “tops are processes.”

He blames central bank policies for the current environment, and warns that a massive wave of inflation could be on the horizon, and be the catalyst for a crash, amid an exploding money supply.

The Federal Reserve has indeed pledged to allow inflation to run hot over the next decade. Unprecedented levels of fiscal stimulus from Congress increase the odds of such a scenario unfolding, though it remains to be seen if meaningful levels of inflation can take hold.

Read More: Biden’s stimulus plan is heightening Wall Street’s worries that inflation will upend the stock market. We spoke to 4 experts on what the raging debate means for investors, and how to take advantage of it.

Heightened levels of inflation would mean price-earnings multiple contraction, as earnings figures would balloon. But it would also lead to higher government bond yields, and therefore an exodus of investors from the riskier growth stocks that lead — and make up such a large percentage of — the S&P 500, he said.

Even though cyclical stocks would fare better under inflationary pressures, and even as an economic recovery lies ahead, Smead said the outperformance of these stocks wouldn’t make much of an impact in terms of the market’s overall performance, as they make up a relatively small proportion of the S&P 500.

“There’s what, like 12% or 14% of the S&P market cap in the 250 smallest companies? A great deal of success could come out of the bottom 250 and it can’t possibly make any money for the people that own the index,” he said.

“Over 5-10 years, there is zero room for anything but losses,” he added.

Though Smead argues the broader market will see muted returns, he is bullish on recovery-oriented stocks. He said people should be buying these securities now in anticipation of the economy reopening.

While he shook his head at the euphoric frenzy that shot shares of AMC into the stratosphere last week, he said there was some irony because he thinks it will do well in the months and years ahead as vaccines are distributed.

“The best investments are in what you haven’t been able to do, not in what you have been able to do,” Smead said. “So the irony is not where they took AMC, but AMC going up actually makes some sense because the cases are falling off a cliff and the vaccines are super successful.”

Smead’s views in context

Smead’s bullishness on the recovery trade and concern for potential inflation aren’t necessarily outliers of opinions.

A lot strategists see gains in the mid-to-long term for cyclicals as the economy recovers. And the Fed itself is signaling higher inflation ahead.

But Smead’s call for a drastic 40% decline is toward the margins of market outlooks. Though some, like Morgan Stanley’s Chief US Equity Strategist Mike Wilson, have said recently that markets are due for a brief period of underperformance, he and most others see an upward path in the year ahead.

And even if inflation comes, it isn’t expected this year, with wages unlikely to grow as the job market recovers losses.

“I do think you’ll see inflation tick higher in the future, I don’t think inflation is forever gone out of style. I just don’t think it happens this year, and so that’s why we have a positive outlook for the remainder of the year,” Northwestern Mutual’s Chief Strategist Brent Schutte told Insider in January.

Still, predicting the market’s future can be a futile exercise. Though Smead’s views may not be widely shared and may not come to pass, he builds a case worth paying attention to as investor sentiment and valuations sit at heightened levels.

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