What’s It All About? Alpha?

What’s it all about? Alpha?
When you sort it out? Alpha?
Are you meant to take more than you give?
Do you really think that funds we run, are just a sieve?

— With apologies to Burt Bacharach and Hal David

This week’s hook is so deliciously obvious, that, as I feared when I dreamed it up, I find that it has been used before. The distinguished market economist Jason DeSena Trennert published a widely read essay under substantially the same title in 2016. Prior to this, the fabulously successful Chairman of Oak Tree Investments(Howard Marks) used the phrase as the subject line in a 2011 memo to his investors.

But I’m gonna give myself a pass here, on the (dubious) grounds of modified punctuation. Both pieces apply a comma in their use of the expression (i.e. “what’s it all about, alpha) and fail to add a question mark at the end. By contrast, I offer it up in two sentences, with the second being in the form of a query.

I also admit to having further demeaned myself by engaging in a partial re-lyric of the 1966 smash hit(“What’s It All About, Alfie”) – written by Bacharach/David, and recorded, as only she could — by Dione Warwick – fifty-five long years ago.

Probably, very few of you even know what I’m writing about, and those to whom this applies are certainly unaware that the tune is the theme song of a rather mediocre movie of the same name – a film that failed to merit consideration on the AFI 100. It tells the story of a London Louse/Lothario, swinging his way through Carnaby Street during the days when swinging your way through Carnaby Street was just the thing to do.

Alfie (played by a young Michael Caine) is a chauffeur who wreaks a lot of damage as he navigates the left side of the streets of that singular British Metropolis. And doesn’t care.

The same perhaps, can be said about Alpha – that elusive object of investor desire, for which we sacrifice so much of our Blood and Treasure — often, and at times like these, with such tragic futility.

And never more so, in my experience, than over the last few months. As is consistent with the slippery vibe that characterizes this note, there are many definitions of Alpha. However, for our purposes, we will define it as it is widely applied to portfolio management. Specifically, it is the extent to which a portfolio achieves (or fails) to outperform the market. Me and my guys have simplified it even further: market outperformance (or lack thereof) is measured by the difference between actual portfolio returns, versus those implied by the amount of market exposure embedded in the investment book itself. If we assign (as we often do) the role of “the market” to the Gallant 500, a fully invested portfolio would, at present have needed a 17.5% ytd return to have recorded a positive Alpha result; anything less devolves to the negative a showing.

Well, as of now, we have more Alpha painted in red, deep red, than I have experienced in my career. The Benchmarks continue to soar to the heavens. Portfolio performance, across the board, lags, in woeful fashion.

I ascribe a good portion of this debacle to the divine, Newtonian laws of investment – the part that instructs us that “what goes up must come down” (the first line from a 1968 song that wasn’t written by Bacharach/David, but should have been). In 2020, the Gallant 500 put up 15.76%, but any investors with numbers as tepid as that would either have kept it to themselves or hung their heads in shame for such a poor performance. 2021 has been exactly the opposite kind of investment experience. Many of the portfolios I track are down for the year, and anyone who is up anything close to double digits is justifiably puffing out their chest.

If it is any consolation to any of you caught in this Alpha Hell, I believe that you have come by the condition honestly. By virtually any measure, the Big Equity Market Dogs (you know who they are) have contributed over half, and perhaps up to 75% of year-to-date SPX return. But the crew with which I roll is not paid to own large chunks of Apple. Or Google. Or Microsoft. Their investors expect more nuance, more (Alfie-like) panache. They can pay Cathie Wood (a helluva lot less) to trade the $1T companies if that’s what they want. Or do it themselves. For free.

Meanwhile, the current earnings season has matched or exceeded blowout expectations, and, for those companies that have told of glad tidings, all is well. But God help those who miss:

Of course, the small handful of earnings reports that matter are those on the docket over the next few trading sessions, with each of the ONLY IMPORTANT COMPANIES IN THE WORLD stepping up to the podium over the next week. Much as is the case with our Alpha conundrum, if they bring happy news, it is likely to further propel them – and, in, result, our benchmarks – to higher elevations. But not necessarily the rest of the market. By contrast, if they disappoint, everything is likely to sell off.

If one chooses to find a convenient source to blame, the poor retail schlump (along with the algos) is, as ever, a handy target:

And what are these market deplorables going to buy? A biotech company with a clean balance sheet and lifealtering medications in its pipeline? Nope and Nope. They gonna lap up The Big Dogs, and hope, that in this reverse Newtonian market mess, that The Big Dogs throw them a bone.

But here we are most of the way through our self-allotted space and we haven’t even addressed The Biggest Dog of Them All – our fair (well, I won’t use the vernacular term) curvaceous female dog — Madame X. It seems that no transgression on her part dampens our desire. No matter what she throws at us, at no matter at what cost, we must have more of her.

Last week, in the wake of horrifying inflation numbers, tepid auctions, dreaded Taper Talk and other unladylike actions in and around her person, we actually bid her up to a yield threshold below 1.2%, before deciding enough, at least for now, was enough, and putting her back on a pedestal that rises to a more dignified 1.28%. My guess, though, is that we’ll be lusting for more of her charms very soon.

Either way, she’ll be testing our intestinal fortitude all week. Her chaperone – Fed Chair Powell – will offer his latest FOMC wisdom on Wednesday. And, while there’s no chance on earth that he will back off on his own showering of gifts to curry her favor, he may be (politically) obliged to threaten to cut the crippling allowance he has for so long granted, at some specified date in the future.

Once we have slept on these mysteries, we can awaken to an introductory look at Commerce Department Q2 GDP estimate. Going into this interlude, the folks from Atlanta are showing some estimate fatigue:

One way or another, the lower the actual number, the more we will seek the warm embrace of Madam X.

And the Big Alpha Dogs.

So, what’s it all about?

I’m glad you asked. The capital economy is awash in a liquidity bubble the likes of which has not been witnessed since those swinging days of the Weimar Republic (which didn’t end well). Where there is not paralysis among policy makers in Washington, the only moves they can make are the wrong ones (tax increases, huge stimulus). But nothing, at this point, is gonna happen till Fall – if then.

So, my investment peeps wanna take this cash hoard and invest it, but are so timid, so bereft of imagination, that the only place they will do so is in The Big Dogs or in Madame X.

Unless, of course, you wanna add Big (Junkyard) Debt Dogs, because, apparently, the obligations of potentially insolvent companies are also highly appealing:

This, my friends, is what an impossible market looks like. I believe it continues, that indices continue to rally, while Alpha, oh that elusive excess over Expected Return, extends its descent into the Underworld.

I wish there was more I could do to help you. But I’m so lost without you for the moment, so heartbroken about what I’ve put you through this year, that I’m having trouble looking in the mirror and carrying through.

However, I can do this much. I can advise you to keep risks tight till further notice.

Yes, Alpha giveth and Alpha taketh away. In our titular film, Alfie got his comeuppance – both from the people he abused and at the box office. He figures out who he really loves but finds that she has moved passed him. Meanwhile, and in addition, WIAAA was a stone-cold flop.

The tune, however, abides. It’s part of The American Songbook. It alone, gives new life to the Alfies of the world, every time it plays on an Oldies Radio Station.

Alfie always comes back. And so, too, will Alpha.

And so will I. Soon.

In the meanwhile, we just gotta hold on and stay alive. Please anyway try for me, because this, more than anything else is what I think it’s all about.

TIMSHEL

Posted in Weeklies.