Bubble Talk

Nobody Rings a Bell at the Top

Everyone and their mother seems to have a take on where we are in the market right now.

The bears call the top every week. The bulls won’t shut up. And both sides sound way too certain for my liking.

I saw a tweet from Citrini the other day that I thought was genuinely well put:

People keep confusing a bubble with “stocks go up and get overvalued”. A bubble is when a prevailing trend and a prevailing misconception about that trend interact reflexively, each reinforcing the other until the gap between perception and reality becomes unsustainable. A bubble is not when everyone realizes that right now every iota of AI demand eventually, at some point upstream, must move through memory OEMs. Nor is it when estimates continue rising because things are better than expected. And it’s not just when stocks trade expensive to historical valuations. The reason behind the moves in the AI infrastructure layer so far have been simply that we don’t have enough. They’ve been driven by the fundamental reality more than the perception of the future. It’s why the bulk of the most bullish parts of this cycle have been lumpy and centered around earnings season when companies uniformly come out and confirm there’s still not enough. In the bubble, the reality is driven by the market - not the other way around. Everyone keeps saying “people are gonna freak out if it’s not a bubble!”. I think that’s silly, we have a transformative new technology that needs crazy capital to fuel it coming to fruition, that has and always will result in a bubble as long as we have financial markets. But if you want to call the top in a bubble, you need a much stronger view on what the misconception is and what negative catalyst forces broad perception to align with realizing it than you do on valuation.

I think he’s right about the definition. And I think he’s wrong about where we are.

Or maybe not wrong. I don’t know. That’s sort of the whole point of what I want to say here.

I think AI is almost certainly a bubble. I also think that’s a completely normal and expected thing to say about a revolutionary technology.

Railroads were a bubble. Radio was a bubble. The internet was a bubble. The technology was real every single time. The valuations just got ahead of themselves because humans are humans and financial markets are financial markets.

That’s the part people always forget. Calling something a bubble tells you almost nothing about timing.

You can be completely right and still get destroyed financially because you were early.

Druckenmiller told a great story about this years ago. He had already called the top in early 2000. Sold everything. Thought the tech mania had gone too far. He was right. But then he watched younger traders around him making absurd amounts of money every day while he sat there in cash feeling like an idiot.

Eventually he cracked and bought billions worth of tech stocks almost right at the top.

“So like around March I could feel it coming. I just, I had to play. I couldn’t help myself. And three times the same week I pick up the phone, don’t do it. Don’t do it. Anyway, I pick up the phone finally. I think I missed the top by an hour. I bought $6 billion worth of tech stocks, and in six weeks I had left Soros and I had lost $3 billion in that one play. You asked me what I learned. I didn’t learn anything. I already knew that I wasn’t supposed to do that. I was just an emotional basket case and I couldn’t help myself” — Druck

This is one of the greatest investors ever. Four decades without a down year. And even he got sucked into it emotionally at the worst possible moment.

So when I see people acting completely certain on either side of this market, it honestly annoys me a little.

The person arguing that the fundamentals are real might be right today and still get crushed later when sentiment turns.

The person calling this another 1999 might also be right and still watch these stocks double before it matters.

Neither of them knows. I don’t know either. I just think admitting that is more useful than pretending otherwise.

What I do feel pretty strongly about is that risk management matters a lot more right now than squeezing out the last bit of upside. And that mostly comes down to understanding what you actually own.

A lot of people think they’re being disciplined buying semis because the forward multiples don’t look insane. But cyclical businesses almost always look cheapest near the top. The estimates assume demand stays strong, pricing stays high, and customers keep spending.

Take memory. A huge chunk of the earnings explosion recently has come from pricing power, not just volume growth. HBM demand created shortages, suppliers raised prices aggressively, and suddenly stocks screen “cheap” on forward earnings.

That works until it doesn’t.

When cycles turn, estimates get cut at the exact same time multiples compress. That combination gets ugly very fast.

I wrote about this in my Folly post last month when SOXX had already gone vertical. Since then it’s gone even higher, which honestly just reinforces the point. Being early feels exactly the same as being wrong in real time.

But I’d still rather think carefully about risk now than convince myself this time is different because stocks keep going up.

I’m not saying don’t own anything. I’m not even saying don’t own semis.

I’m just saying know what you own and what has to happen for the valuation to work.

If you’re paying huge multiples for cyclical businesses because AI demand looks endless today, you need that demand to stay elevated for a long time. Maybe it will. Maybe it won’t.

That’s a very different setup than buying a good business at a reasonable price where you don’t need everything to go perfectly.

Investors willing to think three to five years out still have a lot of opportunities right now. Real ones. Good businesses, reasonable prices, actual earnings power that doesn’t require everything to go perfectly.

The hard part is looking away from the stuff everyone else is making money on. That takes discipline. Usually the kind people only develop after getting burned.

And a lot of people in this cycle have not been burned yet. So yeah. Don’t get too cute. Don’t let the timeline bully you into doing something stupid.

Anyway, make of that what you will. Nobody actually knows how this ends. Stay humble, stay diligent, and know what you own.