Weekend Reading #171
This is the hundred-and-seventy-first weekly edition of our newsletter, Weekend Reading, sent out on Saturday 4th June 2022.
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What we're doing.
This upcoming week we are travelling to Southeast Asia for the first time in a LONG time. After quietly focusing on the performance of our Three Body Fund for 2 years and with the upcoming launch of our self-seeded crypto vehicle, we are off to Manila and Jakarta. After more than 2 years of getting used to our comfort zones, it's time to get out there again and to see for ourselves what is happening on the ground. Lots has changed especially in the crypto world, and we are excited to see everyone again and to meet lots of new people too. If you are a reader and are based in any of these two great capitals, hit us up!
What we're thinking.
If anyone were to look at the S&P 500 on a month-to-month basis, the month of May would have looked like a rather inconsequential month, with the change in the index coming in for a grand total of +2 points from 4130 to 4132, or just under 0.05%. Of course, headline numbers mask the underlying volatility that came to pass over the month, and while the headline ended up unchanged on the month, the same cannot be said about single stocks.
Dispersion is increasingly becoming the name of the game, but what is even more interesting is how we tend to speak of this as if it were a new phenomenon. We of course have no reservations levelling criticism of the “old school” methodologies of relying on “fundamental value” as the gospel truth in markets; on the flipside, we also acknowledge that “fundamental analysis” emerged as the orthodox approach to idea generation exactly because dispersion was the name of the game before. Good, profitable companies see their stock prices go up, while poor, loss-making companies see their stock prices go down.
Just as the algo for the passive ETF manager says, “if you give me money, I'll buy; if you ask me for money, I'll sell”, the “algo” for the active, fundamentals-based active manager is (over-)simplified to “if this looks cheaper than its historical average multiple, I'll buy; if this looks more expensive than its historical average multiple, I’ll sell”. Are we seeing a shift back to the “old ways”? In some ways, it seems the answer is yes, as we see profitable, cash-generative companies being bid up on earnings growth. Clearly, there is a recognition that SOMEONE is making money in this market and owning everything isn’t the ideal modus operandi in markets like these.
On the other hand, just as the risk on the passive algo comes from outflows triggering indiscriminate selling, the risk on the “active algo” is failing to recognise permanent changes in the structure of the economy and relying on the fallacy of historical averages to discern “value”. Mistaking a re-rating of energy stocks, for example, as a symptom of mean-reversion coming in the rest of the market could lead to rather unfortunate outcomes.
On this point, this tweet thread from Kuppy gives much to ponder. Oil prices continue to remain strong despite the flurry of supposedly negative news hitting the oil market. For all of the action we see, oil continues to trade near all-time highs, suggesting that the expectations of higher oil prices are strong and persistent.
What we really do need to think about is what a world of materially higher oil prices could look like especially in terms of energy and food security, the most basic requirements of everyday life that perhaps in the past decade have been taken for granted.
The possibilities that emerge from that exercise very quickly become rather sobering.
And what about crypto? What do its prospects look like in an environment that looks increasingly dismal? The narrative that is circulating in the market is cause for despair amongst crypto aficionados: the easy money is gone, numba go up is now numba go down, at best this is the hangover like the aftermath of dot com bubble, but at worst this was all a pointless ponzi.
With his usual eloquence, Arthur Hayes puts out another essay clearly articulating some of the ideas we’ve touched on before: that politics dominate economic policy, with profound ramifications not just for asset prices (including a little theory on what triggered Luna’s demise) but also for the livelihoods and survival of millions around the world. Importantly, these ramifications are also circular: with elections on the calendar, political considerations ultimately weigh on economic decisions, with the desire to have the best of all worlds putting policies like Yield Curve Control on the table. Ultimately, these decisions are arguably strong arguments in favour of owning Bitcoin and Ether – but even if these arguments hold water, the road there will be tough and volatile.
What we're reading.
I’m typically not someone who reads a book more than once but one of the few I keep coming back to is Daniel Kahneman’s Thinking Fast and Slow. It was a truly life changing read for me back when it first came out and got me thinking actively about how the way we think determines so many things about fund management. It led to a complete shift in the way that I manage money, with a focus more on process and potential mistakes rather than a veneration of ideas per se. So many of the lessons from this book are applicable on a day-to-day basis that I just leave the book permanently on my desk and often just open it up and have a quick look. One of the famous experiments referred to in the book is the bat and ball problem - a seemingly simple bit of maths that almost everyone gets wrong. If a bat and a ball together cost $1.10 and the bat costs $1 more than the ball, how much does the ball cost? Most people jump without thinking to an answer which their “system 1” or surface level brain thinks obvious. You can google for the answer if you haven't seen this problem already. This problem gives rise to so many questions about how our brains work and how many flippant conclusions we often arrive at without truly thinking properly. Then again it also questions intuition and other research has shown how important intuition can be. It's well worth a deeper dive!
Also this week I finished the second book in RF Kuang’s Poppy War fantasy trilogy called The Dragon Republic. Having recently read the first one, this was more of the same and it was excellent. The first book was filled with so much of the vivid violence of war that one could be forgiven for forgetting it is a fantasy novel. This series so far is so visceral in its depiction of humanity’s bad side that despite the world of gods and monsters, one can learn so much. The analogies with Chinese history are also thinly veiled and the plot meanders along with clear references to both China’s internal struggles, its regional rivalries and ultimately its ideological differences with the West. It's truly gripping and I’m on to the final book of the trilogy for this coming week’s travel to Southeast Asia. DC
An old friend of a book that I re-read over the last weekend was from one of my favourite authors, Julian Barnes. The Sense of an Ending won the Man Booker Prize for Fiction in 2011 and is a brilliant novel from a writer who, at the time, was at the very height of his powers and, to my mind, ever since, has remained at the very top of the literary tree. The story tells of Tony Webster, a retired man, who thought he’d left most of his life behind, especially so given the fact that his marriage and his family and career have fallen into an amicable divorce and retirement. But the novel opens with Tony being presented with a mysterious legacy that obliges him to reconsider a variety of things he thought he’d understood all along, and to revise his estimation of his own nature and place in the world. It’s a wonderful, short, powerful book, one that encourages you to think about the transience of time, the passing and changing of events, and makes you feel every one of your years in a melancholic but warm way. A worthwhile and rewarding read. EJP
What we're listening to.
I listened to The Knowledge Project podcast this week featuring Luke Burgis, whose book about mimetic desire I have written about before. In this chat he covers the key ideas from his book as well as the application of these ideas to the real world. When I was in my 30’s and looking to take over the world I succumbed to almost every single one of the pitfalls that mimetic theory highlights. I didn’t realise it at the time and found my way out of it on my own (maybe just as a function of age and experience), but had I read this book or been aware of the theories of Rene Girard, I may have been better equipped to understand human nature and especially my own even better. If you don’t want to read the book, then this is a great entry point.
Elsewhere this Bankless episode with Marc Andreessen and Chris Dixon of a16z is exactly what you should to listen to if you are crypto sceptic. Andreessen, as the godfather of venture capital, has bet the farm on crypto and has just raised a fresh $4.5 billion to invest in the space. That is a massive amount of money, and listening to him talk about his conviction for crypto and its analogies with the early internet is just superb. Critics of crypto point to scams, ponzis and bad actors and there are definitely lots of those. But as time goes on, our view is that the technology it introduces to the world is era defining. Anecdotally, I think I worked out where the name, a16z, comes from. Andreessen is “A” plus nine letters. Horowitz is 7 letters plus the “z”. Together that’s an “A” then 16 letters and then a “z”. Makes sense, no? DC