My mother tells me I predicted the housing bust.  My father tells me I predicted the market crash in 2008.  Readers believe I predicted the flash crash last year.  None of this is true.  I don’t predict anything.  I can’t predict anything.  No one can.  But that doesn’t mean you can’t take highly calculated risks. The intelligent investor does not need to be able to predict the future.  He/she merely needs to know when to fold ‘em and know when to hold ‘em.  In the investment world, nothing is more important than knowing when to fold ‘em.

When I review the housing bubble I was far from predicting what ensued.  I didn’t ever imagine the crisis that would unfold.  All I knew was that there was a trend in US housing prices that was unprecedented, inconsistent with underlying fundamentals and unsustainable.   I recognized a disequilibrium in the market.  But my conclusion was not of the magnitude of “genius” like John Paulson, Kyle Bass or Michael Burry.  No, my conclusion was far simpler.  I just stayed away.

You see, playing with bubbles is a dangerous game.  The difference between being John Paulson (who shorted sub-prime) and Julian Robertson (who shorted the Nasdaq bubble too soon) is a matter of months in the life of a bubble.  Without a doubt both men are market geniuses.  The difference, however, is that one had lucky timing and the other didn’t.  I would argue that the truly intelligent investor simply pulls his chips back and steps away from the table for awhile in the midst of such irrationality.  Warren Buffett is probably the best case of “don’t mess with what you don’t understand”.  And in the case of bubbles, I would argue that no one understands the market’s behavior.

As I have previously discussed, market bubbles are the most severe cases of disequilibrium.  It is the point in the market cycle where the system becomes highly unstable to the point of losing all linearity and entering an entirely chaotic orbit.  This makes for a market environment that can be highly rewarding, but astronomically risky.   But market don’t have to be in bubbles to be extraordinarily risky.  What appears like a perfectly stable system can very quickly devolve into a nightmare.

With that said, are there examples of this in today’s markets?  Are there markets that warrant a “do not enter” sign?  I believe so.  And if I were an investor in the following markets I would merely pull my chips off the table, take a long deep breath and walk away from the table.

1)  China

China remains one of the great “if it’s too good to be true it probably is”.  This economy is growing at a rate that is incomprehensible to most westerners.  But the cracks have started to show in the facade.  Between their reverse mergers, supposed GDP fraud, accounting scandals, highly flawed monetary policy and insanely inflationary fiscal policy (where they just build empty cities in the middle of nowhere) I have to wonder what breaks the back of this economy at some point?  My guess is that inflation will rage in China to the point of public discontent and ultimately harsh economic repercussions.  The bottom line: the risks of investing in China are enormous.  For the majority of us, it’s simply not worth taking the risk. 

2)  Municipal bonds.

I don’t think there’s a major municipal bond crisis on the horizon.  I’ve been fairly vocal about that.  On the other hand, I have to accept the reality that the risk of a funding crisis is very real.  This would most likely arise in the form of austerity due to politics, but the odds are that it could happen.  With so many other options in the bond world one has to ask him/herself why they would bother taking the risk of buying municipal bonds?  The mere potential for collapse in what is supposed to be a fairly low risk asset class is too much for me to bear. 

3)  Silver

This is not a popular call, but investing isn’t a popularity contest.  The bottom line is that silver prices are on an unsustainable course.  If I had to pick one bubble in the world today it would be the silver market.  As is always the case, the fundamentals are always superb in a bubble, however, the market action never quite correlates appropriately.  As I’ve said before, silver prices could double from here.  On the other hand, they could also crater.  If I am going to invest in precious metals there are lower risk ways to obtain exposure.    

4)  European equities (particularly periphery nations)

Few things are more confusing in the world of macroeconomics today than the crisis in Europe.  There is simply no telling if the region will collapse or unite.  And while I think we are likely moving closer to some form of unity I have to also acknowledge that collapse is a very real potential.  In the broad world of equities there is simply no reason to bother investing in European equities.  This is particularly true for the periphery nations which are now serving as high beta form of their core brethren. 


Got a comment or question about this post? Feel free to use the Ask Cullen section, leave a comment in the forum or send me a message on Twitter.

Cullen Roche

Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services.

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  • boatman

    yogi- ‘its getting late earlier now’

  • boatman
  • apj

    Wow, greeny is really thrashing about to stay relevant. Now he’s trying to get a notch on his belt for calling a bubble (in US government debt, of all things)? And this from a guy who says that you just can’t predict these things….Why can’t he get on down to Del Boca Vista already?

    I’m on PC’s side here. Risk assets are not worth the hassle right now. You’re essentially betting on QE3, which is a bit boneaheaded.

  • Anonymous

    TPC: “You see, playing with bubbles is a dangerous game. The difference between being John Paulson (who shorted sub-prime) and Julian Robertson (who shorted the Nasdaq bubble too soon) is a matter of months in the life of a bubble. Without a doubt both men are market geniuses. The difference, however, is that one had lucky timing and the other didn’t.”

    As far as I know, Robertson shorted the Nasdaq outright, whereas John Paulson used the very cheap CDS insurance to short subprime. His timing was also largely off as he started already in 2005, but his choice of expressing the trade allowed him to stay in till 2007.


  • Jay B.

    When does a banking crisis related to the mortgage/MBS mess become a large enough threat to join your list? It appears a collapse of the Mortgage Electronic Registry System with its 60 million+ mortgages is likely in the near future. Court decisions against the banks are accumulating. Huge investor law suits are ramping up. And main stream media is starting to cover the mess. The major bank’s potential MBS-no-true-sale exposure is more than their capitalization. Are you confident their next rescue, even in our current anti-bank political context, will shield us from risks associated with that potential crisis?

  • freemarketeer

    Correct on Paulson, but the size of his bet nearly broke his trade. As luck had it, it made him instead.

  • Bastiat

    Standard & Poors didn’t get the memo.

  • The Dork of Cork

    The silver phenomena is now simply a refection of deposits built up during the credit bubble – people are simply transferring some of their accounts to silver money.

    However the lack of silver on CB balance sheets makes this a problematic monetory metal.
    Its a form of true monetory rebellion against the priesthood which makes it inherently risky.
    That said every family should have a monster box if they have 6 -7 figure savings.
    PS I ain’t buying silver at these prices but euro gold is still at very attractive prices given the inevitable monetization coming down the ECB tracks.
    If they don’t your bank deposit Euros are dead anyway and a Euro economy based on just physical cash and checking accounts in circulation would be a very nasty place.

  • Frank

    This author is right about one thing, an investor has to 1) gather the data and, 2) honor the data. An investor who fails to follow either of those two rules will fail.

    On specifics, gold and silver are “fear-based investments”. As long as there is fear, those two will continue to rise and I don’t see any diminishment of fear anytime soon. People will ALWAYS flow money to safety in the midst of fear.

    It’s stupid to believe that a mass of municipal bond failures or even one failure will occur due to what he calls “austerity due to politics”. These bonds represent communities not corporations. The citizens of these communities can’t simply fold up their tent like a corporation and continue life like people owning a corporation. The reason that municipal bonds have strengthened in 2011 is precisely because those politicians have decided to not incur more debt and balance their budgets rather than incur more debt with new issuance.

    This author needs to heed his own advice and stop extrapolating situations to fit his beliefs.

  • boatman

    managed money(speculators?) not responsible for silvers rise:


  • Oroboros

    I don’t see how a significant downturn in China or Europe will not affect almost all asset classes (including potentially real estate and municipal debt if the downturn is significant enough). There’s too much correlation these days between world markets, markets & commodities, and even global markets & local economies. If the downturn is significant enough even PMs tend to correct, as happened in 2008.

    Avoiding China or Europe but being long America or EMs or even commodities means effectively betting China / Europe are due at worst tepid growth / soft landings, but not negative growth / hard landings. A hard landing in any major market is going to ripple through to all markets.

    Bottom line, there are fewer and fewer non-correlated, non-intertwined markets as time goes on.

    Though not as actively covered as once upon a time, has anyone been keeping up with the latest Consumer Metrics Institute readings?


    So, where is the [credit] expansion?

    ► The reported headline number comes exclusively from seasonal adjustments. The unadjusted total and 5 of the 7 unadjusted subcategories show continued contraction.

    ► The only category showing substantial growth is student loans.

    ► While it might be nice to think that student loans are replacing unemployment checks, even that assumption doesn’t pass credibility tests when you look back further in that series. Since 2008 that line item has grown by nearly 250%. That kind of growth in total outstanding student loans over a three year period simply doesn’t pass the “smell test,” given that Federal Student Loans have been a staple of higher education since the passage of Title IV of the Higher Education Act of 1965 — nearly a half century ago.

  • prescient11

    That’s why shorting is so dangerous. You can go long and just wait for the chips to fall.

    I agree with China in 5-10 years. Agree on munis and Europe. Silver call though, I think long term the price will settle in the $40-50 range for the next several years.

    Although it could explode in a true bubble past $100 and change.

    I will maintain that the bubble is in government paper, not hard assets. Once that is accepted, and that is beginning to be the case, then things will have to be repriced, to the upside…

  • Rharaz
  • http://www.pragcap.com Cullen Roche

    Yeah, isn’t that nice. We are saddling our kids with debt….

  • eatmilos

    “The burden of debt is no more when someone else foots the bill.”

    Education keeps getting more and more expensive. Just this past weekend a local university announced that tuition rates will be raised 10% starting this fall semester; but this announcement will not deter the neophytes from getting into debt since the pols have now made higher education a right for everyone.

    A student loan is easy money for the universities and the pols will go along with ANY rate increases. Rinse and repeat.

    I wonder what would happen to tuition rates if Sallie Mae shut down.

  • mojo


    Do you consider gold as a bubble, or not quite yet? When do you think gold price would start entering the bubble territory?


  • http://jamesgoodeonthemoney.blogspot.com/ OntheMoney

    Absolutely agree on China. The fallout would also create tremendous opportunities for trades in metals, miners, oil etc.

    The interesting news for those looking to exit these markets or go short is that Hong Kong, Australian and other EM indicies, are currently giving a screaming – and imminent – technical tell.


  • Bob

    Hedge Fund Loser Julian Robertson

    Robertson was the head of Tiger Management, which had $23 Billion under management at the time. When he shut down the firm, there was only $6 Billion left. Where did the $17 Billion go?

    Later Robertson confessed, the Times of London reported, “We are in a market I don’t understand.”

    The bubble popped and Julian Robertson escaped to New Zealand with the loot.



    Failed Hedge Fund Manager Julian Robertson Threatens Lawsuit


  • HoyaSaxa

    Very well-written article. This is definitely my new favorite website. Hopefully because I am only in college it will put me miles ahead of everyone else. Mr. Roche, did you ever publish an article with a recommended reading list of books and articles for investors? If there is any type of list out there, I would love to see it.

  • boatman

    4-yr state school here just built another indoor olympic size swimming pool.

    GF used to run the academic counseling dept. there……one counselor would lock her door 11-2….another would go to get her nails done at 1pm n never come back…..could not be fired because of repercusions from minority groups.

    state employees here can sign up for the drop program after 20 years employement-they will put 100% of your yearly salary amount in your 401k for 5 years and still pay you your salary…..but u must retire at the end……at 80% of your salary.

    and its a big mystery why college costs so much….i guess we’ll just have to tax the rich and make it free for everyone!

  • boatman

    i would check out john r. talbott.

  • paul skinner

    China is NOT a risky long-term bet. Sure, its property market is grossly inflated but its stock market is cheap and likely to appreciate over the following months.

    Silver is VERY overextended but we are in a powerful bull market and nobody knows when the next medium term correction will unfold.

    Biggest risk is in owning US Treasuries and other sovereign debt. The governments of the developed world are insolvent and they will repay you in severely diminished currencies (when you lend them the money, your money will buy a loaf of bread, but by the time they return your money, the same money will buy you a slice of that bread). Well, I hope you get the idea.

    Stay away from government bonds and do NOT lend money to insolvent nations.

  • boatman

    from donald ingram:

    “1/ Someone has bought a futures options trade worth $1 million that silver will drop 37% ($25) by July?
    2/Someone else (or same someone) over the past two days has purchased a $2 million futures option that gold will jump to $1,800 by October.”

    silver being financially 1/2 gold and 1/2 copper would fall bigtime in a commodity/stock pullback.

    would be a good time to get in at close to oct. ’10 price if u were a PM bull.

  • Jal

    While most of us on the site agree that the federal government needs to boost deficit spending to avoid deflation (to counteract the balance sheet recession as bank credit continues to contract), the problem many have is WHAT the government spends it on. Bailouts create asset bubble incentives. Similarly, the Fed’s actions also stimulate asset bubbles. These are highly DEFLATIONARY in that they promote excess capacity.

    The government would be far better served putting stimulus money into a lottery that deposits money into millions of random accounts, thereby injecting more money into the system without distorting incentives. A literal “helicopter money drop.”

  • chris

    i would agree on silver, although my smallish zsl position is currently red.

    i like housing at this stage. i have built a largish position in itb that is flat now.

    both investments are built on mean reversion thesis, where housing and silver are each at multiple decade extremes. bubble is an overused term, but when i look at housing and silver charts over multiple decades, i think the contrarian bet “should” work.

    having said that, the long treasury shows a similar multiple decade chart pattern, but my tiptoeing into tbt has been a disaster

  • El Viejo

    Good depiction of the mindset required to keep from losing what you have, also now days you have to watch not just what is happening here, but also foreign economies and China is so massive and so centrally controlled that the staying power could be twice as long as artificially propping up the US Markets with duct tape, hype and psychology. Some say watch out for China three years from now. I think Peter Peterson’s book The Grey Dawn predicted a Boomer-like demographic effect like Japan and US around 2030 (I think) Anyway it’s a great 10 year old book that has proven to be prescient. See: http://www.pgpf.org/

  • El Viejo

    From Article: “As I’ve said before, silver prices could double from here. On the other hand, they could also crater.”

    This bifurcation reveals psychology, underlying market forces and possibly economic ignorance at work and future market forces as yet undetermined. Every asset has a set of weighted characteristics. Silver and especially gold has a worship factor that I can’t contend with.

  • John1025

    Cullen: My wife and I just returned a couple weeks ago from a trip to China, Taiwan, and Japan. I worked for many years in the three countries beginning in the early eighties. The changes in China to me are simply astonishing, especially when I compare to 30 years ago. So many new expressways, high speed trains, and gigantic skyscrapers. We took the fastest train in the world from Hangzhou to Shanghai. My former company now is building its 15th plant in China. We visited a joint venture fiberglass plant between Taiwan’s NanYa Plastic and PPG Industries plant near Suzhou. It is one of the largest factories I have ever seen.China is producing hundreds of thousands of high quality engineers. I have personally hired engineers in China to help me with design work and we do most of it on the internet. They are very, very good. One friend in Shanghai is a man I hired in the eighties. He went on to do other things including building a specialty metals plant. He made about $300 a month in 1987 but he is now a millionaire. In my view, China has an unbelievable future. I do agree that investing China by people not familiar with the place is very tough.

  • http://www.pragcap.com Cullen Roche

    Good insights John. Thanks. Perhaps China is beyond my realm of understanding. Something just doesn’t add up to me. Who knows? I am probably just a dense westerner.

  • http://jamesgoodeonthemoney.blogspot.com/ OntheMoney

    ‘In my view, China has an unbelievable future.’

    On current evidence who could disagree? No one is denying that China is an incredible story and is set on a powerful long term journey.

    But that doesn’t mean there can’t be major detours along the way. You could have waxed just as lyrical about the ‘Japanese miracle’ in the late 1980s. You could, quite correctly, have said that the internet had an unbelievable future in December 1999. But a great time to by the QQQs? No indeedy.

    As Chanos keeps reiterating, the numbers are what they are. The oncoming train wreck in Chinese construction is now clearly in sight and I suspect their markets will shortly begin factoring this in.


  • John1025

    Cullen: Your a very insightful guy. You should make an effort to visit especially China (and if you have time Taiwan, Japan, and Singapore) and see for yourself. Unfortunately, visiting China for the first time n your own is
    a bit overwhelming. I speak Chinese and my wife is Japanese which obviously makes it easier. But if you decide to visit China, please let me know and i can arrange for you to meet some people in Shanghai to help you. I can also arrange to have you meet people in Taipei that have investments in China and I have good contacts in Tokyo.

  • El Viejo

    Geithner (on Bloomberg) just said the same thing about Bush tax cuts along with: congress recognizes that the debt ceiling will have to be raised and that there will be cuts in entitlements. In other words a broad readjustment across the board including possibly increases in taxes for the rich.

  • El Viejo

    “dangerous game…”

    Some Minskians believe that too much money in the market has a destabilizing effect. Maybe 401ks are causing problems. If there was a govt retirement option maybe it could be an account like the capital, publc sector, private sector, foreign accounts and those funds could be used to mitigate large shifts in funds like recently when Americans started saving more and getting out of debt.

    nah! What koolaid have I been drinking?

  • Alex

    Agreed… even if your just there for a vacation and a good time. Asia is an incredibly fun place to visit!

  • asha101

    I am not confident that China will have a great future, but I am also not bearish.

    The strength of China is that a lot of very competent people are working underpaid. The problem of China is that honest hardworking people never get paid a fair share. On one side, China has the most modern constructions and is the largest marketplace of luxury goods. On the other side, I just heard a chinese peasant suicided because the government food price control has made him lost 2k USD this year (cabbages purchasing price from the peasants was around 1 US penny/lb last month). That’s less than what he paid for seed and fertilizer.

    The pollution is absolutely horrible and that there’s no food in China that can be trusted to be without industrial poisons, but people don’t care (I think the big part of the reason is that the media don’t talk about it), everybody is dreaming about getting rich and buying luxury goods.

    Businesses reverse engineer or copy every technology they can reach, at the same time they are extremely efficient at cost cutting by cheating workers and cheating rules. That’s how chinese businesses survive and become globally competitive.

    I have been to pretty much every place in China and been doing business with chinese firms since year 2000, but I think predicting China is extremely difficult.

    Economically I believe it will still have the best growth globally, but you may not get your share of return by owning their stocks. One thing I am sure about is gold. Despite how foreigners like RMB, no chinese trust RMB. They only believe in house and gold, rightfully, because the government has no real plan of controlling inflation in the long term. If China boom, gold will boom.

  • boatman

    sounds like u know what you are talking about, asha.

    i add: china busts, PboC papers over insolvency(after all, they ARE the govmint there)—–gold goes up.