Why Andy Constan Says The AI Bubble is in Earnings, Not Price

If we're in a bubble, why aren't we suing crazy PIs? It's not the P, that's the bubble, it's the E. The S and P in its entirety is expected to earn 400 billion. Where's the GDP that can do that? Now it could come from everywhere else. It could come from small businesses, private businesses, other stocks, the expectations that can allow every stock to eat at its current expectations for growth. There's just no conditions where there will be enough pie for everyone. And so to me, that represents unsustainable expectations. - Today's episode is brought to you by the unlimited HFGM Global Macro ETF ticker HFGM. Later in the show, you'll hear more about HFGM. Currently, the number one Morningstar rated fund sits in inception in the US macro trading category. Let's get into it. Monetary matters is now streaming daily as part of monitoring the situation. Join us live on X from 4 to 5 PM Eastern, Monday through Friday for live interviews and analysis, breaking down the market's most important situations in real time. - I wanna welcome Andy Constant, veteran macro trader of Damps Spring, Andy's at a long career Salomon Brothers Bridgewater, Brevon Howard, many other places, Andy, good to see you. - Hey Jack, how you been? - I've been really good. Andy, tell us, you've been writing about how you think that we're in a bubble. Tell us what exactly you mean by that. - Yeah, so I've studied bubbles all my career. I've lived through what I, really directly for one, two, five of them and I think we're in the midst of a sixth. And so what I'm describing is not so, so it has to be distinguished between like something that I find particularly useless, which is top calling or bottom calling, but really trying to say, are we in a different regime? And if we are in a different regime, a bubble regime, what does that mean for investors? - Well yeah, as a trader, when you see a bubble, there's the famous quote, I think from Soros saying, "When I see a bubble I buy, are you the type of person who when they see a bubble you're buying?" - Right, so I'm not George Soros. I don't think any of us that are listening on this are anything like George Soros nor have any of the type of information that George Soros has or had, even his protege Stanley Druckemiller rushed in at the absolute wrong time. So when I hear that quote, I think of one thing, are not George Soros and I cannot spot a bubble early enough to rush in. - All right, but Andy, I agree that the two of us sitting here, my name is Max, our viewers are not George Soros in terms of skill, accomplishments. I think many people in the investment world are like George Soros in that they believe that framework and that they, you know, so I think many of the people invested in AI and semis are true believers. We had on Matt Drafts, PM from a firm earlier this week, who seemed like a true believer in AI. I think that is not 100% of the people who are long AI and semis. Some of the people think, yeah, this is a bubble, this is a total boom, but it's gonna last two to four more years and immense money is gonna be made. - Well, I think the most important thing to say is, I don't know what George Soros's thesis is for every bubble he's ever been involved in, but I'm barely confident. He does not care at all about the fundamentals. Like you're talking about whether somebody is a believer in AI or not, and those things have nothing to do with a bubble. - So what are the fundamentals of a bubble? When you say I've lived through four of them, I know what they look like, I know what they smell like, what are you seeing now? - Right, so I think one of the key, so let me just step back and say what bubbles am I talking about? I think there was a bubble between 82 and 87 in stocks primarily. I think there was a bubble between 95 and 2000 in stocks primarily. I think there was a bubble in 2005 to 2008 in housing and credit. I think there was a bubble in, well, stepping back, there was a bubble in Japan. I wasn't so close to that one, so I'd like to keep that aside, but I do study that one. And that was in '88, '87, '89. And there was a bubble in government bonds in 2018 to 2021. And I think there's a bubble now. And so what is the key thing? The first thing is most of the time markets are not bubbling. It's a particular portion of a bull market where things get turned into a bubble. And not all bull markets end in a bubble. Sometimes events, circumstances, policy makers can cause a normal unwind of markets, but bubbles have a, I think a somewhat unique thing. And I think the first step is understanding what the fundamental conditions are. It's a combination of something new. In '87, it was the end of inflation, starting in '82, the end of inflation, the deregulation of the financial system, the savings and loans in particular, and the invention of the LBO. That created a rally and then a bubble in '87. In 1995 to 2000, you had a very reasonable market when Netscape was invented. It had came right, this was in '95. It came right on the back of a really bad experience for the central bankers, where they fed rapidly hiked interest rates in '94 due to modest inflationary pressures and caused a massacre in the mortgage market, the government bond market, even the short-term interest rate market, enough so that major hedge funds, major broker dealers and even the pension fund of Orange County, California went bankrupt, resulting in a rapid easing. And then Netscape Navigator was invented. And those conditions allowed for a substantive rally for a number of years. And then we bubbled. Same thing happened in the housing market, same thing happened in the government bond market for gosh, my entire career, government bonds rallied fairly strongly, very strongly from '82 to 2018. But it wasn't until the ZERP, then an easing post the repo crisis in the fall of 2019. And then COVID, where government bond prices went parabolic. And so there's this underlying conditions which are bullish. There's the big change, Netscape Navigator, AI, COVID, the LBO frenzy, CDOs and high leverage in the great financial crisis that then get used and cause a significant escalation. And so price escalation is one thing. Parabolic moves, typical in a bubble. High valuations, very typical in a bubble. This one doesn't actually have that. And a lot of people are confused about that. You know, if we're in a bubble, why aren't we seeing crazy PEs? That's a nuanced conversation we can get into it. But what I think it's driven by is extraordinary, unsustainable, E. And by the way, all the promises of coming to the present day, all the promises of AI could pay off. And all the earnings estimates through catbacks and then through the actual earnings from the selling of AI services could be delivered to these great companies that are innovating like crazy. And so their earnings and semiconductor earnings all could pay off. The problem is there's not enough pie for the rest of the economy to eat in that circumstance. Currently, there's a GDP growth year over year that's expected to be about $200 billion of new GDP, sorry, about a billion and a half new GDP that's a trillion and a half, right? Sorry, a trillion and a half. Yes, sorry. A trillion and a half of GDP that's going to be created. Usually corporations eat about 10 to 12 percent of that. So that's what? 200 billion, 175 billion. Just the AI stocks, the public AI stocks, are expected to earn $250 billion more next year. And so where's that money coming from? It's all and the S&P in its entirety is expected to earn $400 billion. It could be. come from small businesses, private businesses, other stocks that are not, that are, you know, the S&P is still pretty high earnings expectations, but some pain being felt by companies that are just not getting their share of pie. And I think the expectations that can allow every stock to eat at its current expectations for growth, just there's just no conditions where that will, there will be enough pie for everyone. However, there could be winners. It could be the case that 62 and a half percent of all earnings made by the S&P 500 are crew to AI companies. Could be. That's what's, that's what consensus estimates are. 62 and a half percent of all change and earnings year over year are crew to AI stocks right now. That could happen, but if it doesn't, if it's less than that, AI stocks are going to come down. If it's more than that, the rest of the S&P is going to come down. And already, it's more than double what's even available to corporations, unless GDP explodes higher. You're saying the bubble is not so much in the price, it's in the earnings. That is interesting. One of the important things is price has to go parabolic. Some are. Some are going pretty damn parabolic. You can't, you can't look at the last few weeks or last few months and say there aren't some parabolic pricing. So that's happening. Valuation is not bubbly, meaning the traditional measures of valuation, P E are not extreme. They're high because the earnings are going up so much. So you have a problem. But that's because the E is in a bubble. Yes, that all the earnings expectations across the border up and it just can't possibly be that way. Somebody has to be the loser. There are 10 companies that are the Alliance of the S&P. There has to be losers. I guess Mike just doesn't sum up to a net where everyone has enough pie. Well, I guess my question is we have a similar situation with that in the sort of broader economy, in the case shape economy that people are talking about. And you look at the pie is increasingly being eaten by the top of the K. And everyone says it's unsustainable. And it really breaks down if you look at the differences in say survey data, which survey data does not discriminate about how many, you know, how rich you are or how much money you have to spend. And the actual hard data, which is dominated by a very small number of people who just have way more money than everybody else. And so consumers continue to spend. And, you know, people have talked about the top weighting of indexes for a while. I mean, is this not the equivalent of that, the corporate equivalent of the K shaped economy coming to fruition? I hope you're enjoying today's episode. Global macro investing is in a renaissance. That's because the world is changing faster than ever with higher interest rates, rising global tensions, and AI uncertainty, representing just a few of the mounting obstacles for traditional 6040 portfolios. Uncorrelated global macro strategies can offer a powerful tool to help capitalize on economic shifts. 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Before investing, you should carefully consider the funds investment objectives, risks, charges, and expenses. This, another information is in the prospectus. Please read the prospectus carefully before you invest, which can be found on Unlimited ETFs.com/HFGM, distributed by four-side fund services LLC. Thanks for listening. Let's get back to today's interview. Maybe. That would presume that the AI guys are going to actually deliver fantastic ROI's on their investment. I think it's a good chance. I mean, I think the tools are fantastic. I've been using tools that have only that were the four fathers of all of the tools that are being used now for 40 years. It's been a slow grind from regressions to neural networks to machine learning, all driven by compute and the rapid increase in compute that has led us to AI. But we're not there yet. We're not at a place where these investments are certain to pay off and to whom. So it could be a K-shaped thing where the oligarchs who own the big companies control our lives, my own personal bias, and it matters not at all, is that's typically the way it goes. But, you know, I'm not sure. The big question to me is not how it's distributed in that I need to understand how it gets paid for and who are the customers and what can they afford. And so in terms of what they can afford, ultimately the people that are buying the new tool need to be able to save, make some productivity. And that just has not yet happened. Do I think it will? I'm pretty much of a believer, but you know, I'm not jumping up and down and saying, "Hey, it's certain that these companies will do it." And I don't necessarily know how it'll all play out. But for now, what I'm focusing on in terms of geopolitics is we still have a major inflation problem. And we have policy makers that, you know, right now, inflation, people who are long stocks don't care about inflation. Rich people don't care about inflation because they're making inflation every few weeks on the QQQs. They don't care. But they're, and the policy makers, the Fed has completely dropped the ball, never really took inflation by the horns and wrestled it to the ground. They have absolutely failed. 62 months of inflation well above target. They failed. They must have had a reason. Financial stability seems to be one of the reasons. And policy makers from the, what was that inflation reduction act, which was a spend to proposing that gasoline taxes get cut. You know, those are all inflationary policies. And tariffs were inflationary. The war is inflationary. I don't know when policy makers are going to act to help Main Street deal with inflation. But there is no sign of it. Andy, I've got this question. What specifically inclines you to think that corporate earnings are, you know, four or three to four years. I'm not going to keep on growing at the rapid pace. They haven't been. And specifically, I guess, are you focusing on that ecosystem where two AI labs, giant companies, open AI and, and, and through our spending money with the hyperscalers Amazon Microsoft Google, who then are buying everything from the semiconductor complex and video and the other things and the electricity, the data center builders, everything. That is kind of so far has been a virtuous cycle. And I'd say like everything in the economy is kind of circular, but it's has, you know, the global economy has billions and billions of participants. I don't know. I don't know that I'm going to have a new DSR next, not this one, but the next one that's going to talk about all of the deals that have occurred at a detailed level. I don't call them circular. I call them a concentrated bet amongst three major cohorts. The semis, the frontier models and the hyperscalers. And they are all getting money from wherever they can get it, canceling share repurchases, issuing corporates, doing eventually doing IPOs, borrowing from banks, borrowing from private credit. All of those things are happening because there's a big bet being made on compute. And so, That's flowing through the economy in a sensible, obvious way. But I don't consider it circular. I just consider three guys all saying, we're going all in on this bet because we think it's gonna work and pay off. And so, and the financing of that cat-backs has hardly flown through the market. We're gonna have three IPOs in the three, SpaceX and the two frontier model companies that in total, even adjusted for GDP or inflation or whatever you want, are gonna be as large as the entire proceeds from the 400 IPOs that happened between 96 and in the late 90s. Massive issuance. Now, if it gets funded, the spend is gonna get fund. Everything else is gonna follow through on that. And then we'll see if the compute delivers an ROI or not. But the ROI has to come from somebody. And so that continues to be, we can talk about lots of things, but over centuries, the GDP is the only pi available and for international companies, you can think of the global GDP. The GDP is the only thing available for companies to earn and they can take more share. That's possible. Currently, they're running a 12% share. That's up from 4% years ago. So they're already taking more share. They may take more share. If they take more share, that's less share for me and you. But they could take more share, but they have to take more share because the GDP itself is only growing based on population, based on a productivity, which could be a couple of percentage. But you're not gonna get the sort of growth in earnings over time that's gonna become untethered to GDP. And so this is why I wanna bring back, when people talk to me about bubbles, they don't, they say what you guys started with, which is these companies are printing money and they're gonna print money forever. And that may be true, but there's not gonna be any more money for anybody else. And so when I think of that, and that's because we're gonna be tethered to GDP. - So Andy, on the bubble thing, you mentioned the 400 companies that were listed between 96 and 99. And this time around it, it's very different. We're not seeing a bunch of also rands coming to market. These companies are some of the biggest companies ever. And it's one of those things where people say, it's always different this time. It doesn't look the same, but it rhymes. And at the scene of the crime of the last, I just pulled up a drawdown chart of QQQ over the last 10 years. And there have been a lot of times when it's dipped below 20%, but a really sustained move where QQQ is in a bear market, only really happened in 2022 to 2023. And that followed massive issuance of sort of these shitcoes for lack of a better word in 2021, and inflation, something that you talked about, and the rising of interest rates. We just now have, we're getting IPOs. They're not total crap companies like we had last time, but there's just so much supply to absorb. Inflation is rearing its head again. It never really went away. And for the first time, the market is starting to price in hikes next year and not cuts. Do you think we're going to have a 2022 style scenario? So let me be clear. I don't know when this bubble is going to pop. And I'm open to the possibility that it's not a bubble. I think it is, everything I've worked through my career says, we are in some part of the bubble, sometime in the post 99, somewhere in 99, not in 95 or 96, somewhere in 99, but that means we could still go 60% higher. That said, if we are in a bubble, it doesn't look like 2022. That was nothing. That is not a bubble popping. That is simply policymakers deciding to massively tighten financial conditions. If you have a bubble pop, you're talking about 70 or 80% type changes in price. Now that could come from 50% higher and still be-- it'll be obviously quite a bit lower than today. But if you actually had a bubble pop, and I don't know when it's going to happen, it could be two years from now. We're talking about something that looks very, very different from 2022. But what about just a vanilla bear market like 2022? As I said, we have the conditions. We have supply coming into the market. As you said, I mean, look, meta these companies that drew down huge amounts were great companies, and you were able to get them at fantastic prices. That doesn't mean that people who were overlevered, who were super long, all the tech stuff, didn't get carried out. Yeah, and also the companies that really went to basically 0 in 2022 were fake companies. And the point I made earlier this week, the max I made, was that we were talking about Cerberus, which IPO today, and close to double or double today, that it was a real company that was losing $100 billion. But it was growing rapidly, whereas the company's in 2022 that went public in 2021. Some of them were little frauds and fads and that kind of stuff. Only haven't seen that. It's funny that I believe directly after that segment on MTS, I believe someone was interviewed who was the CEO of a data company in space. So it's funny. Anyway, I'm not saying that that's wrong. On the speculative scale, that is definitely data-centered space is quite advanced on that spectrum. Compared to somebody who's actually making chips. Yes. Right. Well, I mean, I just want to be clear. When you talk about a bubble, and again, who knows when or if, Cisco is the biggest company in the world making the most money of any tech company, and it fell 80% in a year. So that's not a garden variety slowdown. Now, you ask me what type of conditions I would like to see to predict the type of ways, not that I would like to see. The type of ways that the economy could be sent through just a garden variety bear market. I think it would have to be a policy maker driven cool down. And that means significant. It means a lot about what Trump tried to do in the first quarter of his presidency, significantly reduce the budget deficit, significantly, like reverse the budget deficit through tariffs, through spending cuts, and not raise cut taxes. That would be a policy maker action that could slow the economy. But and the central banks could do things that could slow the economy using their tools. But there's nobody's doing that. There's no even a hint of that. So I would not have a case where you're going to get the policy makers causing this thing to roll over, particularly before the midterms. Now, on the other hand, as it relates to the policy makers, their ability to actually kill inflation is going to be is constantly offset by very high asset markets. And so as long as consumers can continue to spend despite real wages not going up by disaving, particularly the top end of the K, who also can soon, it's going to be very difficult. And this has been my hire for longer island stands for most of the last five years. This is an income and wealth driven economy, not a leverage economy. And so a garden variety recession is going to need aggressive policy maker actions. And so far, they've shown no interest in trying to do that and do it without talk going. And how long do you think this bubble is going to last? If you're correct, that it is a bubble. And are you drawing upon history of, oh, bubble stipend last four years or six years? And I mean, would you be shocked if this was the absolute top today? Would you be shocked if we're sitting here in 2029 and we're still in an expansion phase and video is making half a $2,000 a year? Yeah, I'm not going to make that call. I wish I could because I think that's the Holy Grail of investing. And the Holy Grail may not even exist, which is to be able to call the top and timing of a bubble. I'm not going to do that. Now, in terms of thinking about investing, we started with George Soros' view. There is money to be made if you're extraordinarily disciplined as the bubble expands. And that is you buy. And you have trailing stops. And the moment you're taken out, you never get back in again. What I've seen across many times is the real pain is not selling along the way, not taking profits along the way, and then doubling down after the bubble has popped. And so for very disciplined investors who can take profits, a bubble can be survived. I think it's very difficult, but because a bubble breeds on FOMO, no everybody wants to buy. Everybody that does buy pushes it higher because no one wants to miss out. And so that is just very difficult for human beings to manage. And so my view is you can manage it if you take out the human bit. Right, and Andy, so you had a piece about how to trade and time a bubble. I will link to that on X. People should read it. I believe it's free on on sub-stack. Andy, what's the trade that you have right now? Okay, we understand you got your core beta portfolio that almost almost really changes. In terms of your alpha trade, I mean, what are you, are you by puts on the S&P? How are you implementing this bubble call? Or what's the trade? Yeah, I mean, I did not anticipate this rep. And so as the war went on, I still think that oil represents a very significant negative impact on the normal economy. But I went short around 7,000 on the S&P and got my absolute face ripped off, lost a few percent in my alpha portfolio. As you said, my strongest view is, and for my entire career, is always on beta, diversified, passive, and leave it at that. But I also speculate on the market because I probably over, over, confidently think I have some edge. And I got my face ripped off recently. Now, I don't, you know, short a bubble. You don't short a bubble. What do you think about? Well, especially, what about for the people who've been long the bubble? What about coloring it? I mean, you had Mark Cuban famously coloring his, he got his stock in 99, somebody who we know very well, Dean Kernut at macro risk advisors recently profiled Intel, specifically saying that you could sell the 60% out of the money call because the call skew is so great right now, sell the 60% out of the money call and buy the 10% out of the money put on a covered position in Intel. Those, those trades, I mean, for one, Dean's a friend, a colleague from a competitor for many, many years back in the day. I'm going to see his wonderful macro minds. I'm going to attend his conference on June 4th. He's just a great guy and I retweeted that thing. It was actually on Sandisk. If I'm not mistaken. Yeah, and we can share the screen, please right now. Yeah, that's the, it's about Sandisk, yeah. Yeah, I mean, that, listen, Mark Cuban, he might probably was lucky. Like getting out like he did was pretty damn lucky. But the, the, the nature of a bubble where you have calls, extremely bid, particularly out of the money ones and puts flatter, they're still bid. Don't get me wrong because people do want a hedge, but they're flatter. You know, Dean, again, Dean's better at this than we have similar backgrounds, but Dean laid it out for you. That to me is a great way of managing a concentrated portfolio. That doesn't mean you have to get out of stocks completely, but man, there's some opportunities right now. Thanks for tuning in. Coming into HFGM by Unlimited, head to UnlimitedETFs.com/HFGM to learn more. That's UnlimitedETFs.com/HFGM. Until next time.