Blog

• US stocks have surged too high and are now in a “death zone”, Morgan Stanley’s Mike Wilson said.
• “Investors have followed stock prices to dizzying heights once again,” he warned in a recent note.
• Wilson has predicted the S&P 500 could crash 26% to 3,000 points within months.

US stocks have soared to unsustainable highs – but investors are behaving similarly to climbers who blindly push on towards the top of Mount Everest without properly considering the risks, according to Morgan Stanley’s Mike Wilson.

The bank’s chief US equity strategist said Sunday that he sees similarities between current valuations and the “death zone” – an area just below the summit of the world’s tallest mountain where there is so little oxygen that the human body starts to die, minute by minute and cell by cell.

“Many fatalities in high-altitude mountaineering have been caused by the death zone, either directly through loss of vital functions, or indirectly by wrong decisions made under stress or physical weakening that lead to accidents,” Wilson wrote.

“This is a perfect analogy for where equity investors find themselves today, and quite frankly, where they’ve been many times over the past decade,” he added. 

In Wilson’s metaphor, the death zone represents the excessive levels that stock prices have climbed to since the start of this year.

The benchmark S&P 500 index is up 6% year-to-date, while the tech-heavy Nasdaq Composite has jumped 13% over the same period.

Investors have scooped up stocks as they expect the Federal Reserve will start cutting interest rates by the end of the year. Lower rates tend to lift stock prices because they support higher spending and cheaper borrowing, boosting the future cash flows that make up a core part of companies’ valuations.

Wilson has repeatedly warned that the market rally won’t last. He expects inflation to prove stickier than many expect, forcing the Fed to hold rates higher for longer to bring soaring prices under control.

“The bear market rally that began in October from reasonable prices and low expectations has morphed into a speculative frenzy based on a Fed pause/pivot that isn’t coming,” he wrote in his latest note.

Wilson has said since late 2022 that the S&P 500 is likely to bottom out at 3,000 points this year – 26% below the 4,080 points it traded at as of Friday’s closing bell.

That’s noticeably more pessimistic than most of Wall Street. Some top market voices, including Wharton professor Jeremy Siegel, have voiced support for a bullish “no landing” outlook.

Compared to a “hard” or “soft” landing, in the “no landing” scenario the Fed is able to bring inflation down to 2% without having any real negative impact on the economy, thanks to the scope for rate hikes provided by the US’s strong labor market.

That sort of optimism is just another symptom of the death zone, according to Wilson.

“As [stocks] have reached even higher levels, there is now talk of a “no landing” scenario – whatever that means,” he said. “Such are the tricks the death zone plays on the mind – one starts to see and believe in things that don’t exist.”

Read more: Michael Burry, BlackRock and Morgan Stanley have warned the stocks rally won’t last. Here’s why they have little faith in the market’s best start to a year since 2019

• President Joe Biden arrived in Ukraine’s capital on Monday in a surprise visit.
• His aides had denied that he would visit Kyiv while on a trip to neighboring Poland.
• Most aides were too worried about his safety to think the trip was worth it, Politico reported.

US President Joe Biden made a surprise visit to Ukraine’s capital on Monday, even though most of his aides believed up until this month that making the trip would be too dangerous for him.

Biden arrived in Kyiv by train, in an unexpected trip when he was due to visit neighboring Poland. The visit, The New York Times reported, was kept secret over security concerns.

Many on Biden’s own team reportedly did not want him to make the trip over fears for his safety.

Politico reported on Sunday that a trip to Ukraine had been “all but ruled out” after aides looked into the feasibilty, because most felt that the risk to his safety meant the trip wouldn’t be worth it.

Air raid sirens sounded over the city as Biden visited on Monday, but there were no signs of any attacks, Reuters reported.

Zelenskyy told Biden that “Your visit is an extremely important sign of support for all Ukrainians,” according to Reuters.

Biden used the trip to affirm US committment to Ukraine as it approaches the one-year anniversary of Russia’s invasion.

He said in a statement that he was meeting with Ukrainian President Volodymyr Zelenskyy and his team “for an extended discussion on our support for Ukraine.”

He said he will “announce another delivery of critical equipment, including artillery ammunition, anti-armor systems, and air surveillance radars to help protect the Ukrainian people from aerial bombardments.”

Biden’s visit comes just four days before that one year-anniversary.

Ukraine, Western leaders and intelligence officials fear Russia could use the anniversary to launch a big new offensive, which increased the potential security risk in Kyiv for Biden.

Russia’s troops retreated from Kyiv last year after failing to take the city, and fighting has been concentrated in eastern Ukraine since then.

But Russia’s playbook includes sending drones and missiles across the country, far from the front lines, and Kyiv’s mayor, Vitali Klitschko, said that Russia may try to take the city all over again. 

Biden said in his statement that “When Putin launched his invasion nearly one year ago, he thought Ukraine was weak and the West was divided. He thought he could outlast us. But he was dead wrong.”

He said he was in Kyiv to “reaffirm our unwavering and unflagging commitment to Ukraine’s democracy, sovereignty, and territorial integrity.”

Biden is due to meet with Poland’s president as well as the leaders of eastern European countries after his visit to Ukraine.

• The SEC has stepped up its campaign to reign in what its Chair has called the “Wild West” of crypto.
• Gary Gensler has gone after the Winklevoss twins and Kraken, the world’s third-biggest crypto exchange.
• But its targeting of unregistered assets has left some in the crypto sector with one response: it’s war.

After lots of calls to clean up the wild west of crypto, it looks like the SEC is finally getting stuck in.

It’s gone after big names like Gemini and Kraken – and it’s using rules on unregistered securities as its key hammer.

We explain what those are and what the industry makes of the regulatory crackdown.

What has been targeted?

The SEC has been swift in recent weeks in its push to reprimand crypto offerings it regards as breaking the rules, leaning on the argument that they are unregistered securities.

The highest-profile suit came against the crypto giant Genesis and the Winklevoss twins’ Gemini in January, after the SEC accused its disastrous “Gemini Earn” program of being an offering of unregistered securities.

Then Kraken, the world’s third biggest crypto exchange, last week paid a $30 million settlement to the SEC and agreed to stop its “staking” program, where investors lock in their holdings of digital assets for a interest-based reward.

And this week, crypto firm Paxos was forced by the New York Department of Financial Services (NYDFS) to stop minting its Binance-branded stablecoin after a planned lawsuit from the SEC over the sale of unregistered securities. This differs from previous staking suits. 

A spokesperson told Insider it categorically disagreed with SEC staff, arguing its BUSD coin was not a security.

Why now?

The collapse of FTX in November, locking out billions of dollars in customer deposits, has undoubtedly increased the urgency to rein in potentially risky offerings, as did that event’s contagion effects on Genesis and Gemini.

But regulators’ discomfort with crypto stretches back years – as far as the asset has been popular. In October 2021, SEC Chair Gary Gensler referred to the crypto sector as “a bit of the Wild West.”

Emerging evidence suggests programs like staking have become a means for crypto firms to inflate the value of their assets using consumer funds. 

An investigation into now-bankrupt crypto giant Celsius found the company had used customer funds to prop up the value its native coin in a bid to return high yields to investors.

What is an unregistered security?

A security, most simply, is a financial instrument traded for profit. They form the basis of investment contracts for thinks like equities, debt, and derivatives.

The SEC points to the Howey Test to determine if an asset can be classed as a security. This test has four prongs, all of which need to be passed to be determined a security: [1] An investment of money [2] in a common enterprise [3] with expectations of a profit [4] to be derived from the efforts of others.

In the US, if an asset is deemed to be a security it needs to be registered with the SEC. For example, an initial public offering (IPO) of a stock newly listed on the stock exchange represents the first offering of its freshly registered securities. 

Securities need to be registered as it gives the issuing company the relevant shareholder information to pay dividends and provide relevant stock-related information. It also helps reduce fraud by keeping on record the legitimate owner of the security.

According to the SEC, an unregistered security is simply one that hasn’t been rubber-stamped by the regulator. 

Unregistered securities have been the subject of several scams, with the SEC saying their hallmarks include the promise of high yields with no risk, aggressive sales tactics, and are backed by unqualified investment professionals. As such, their use is limited.

Only accredited investors, defined as those with a net worth higher than $1 million or an annual income exceeding $200,000, can trade unregistered securities, essentially locking out most retail investors. The threshold is seen as a gauge of financial sophistication and suggests a buffer for eligible investors against potential losses.

The debate in the crypto world, though, doesn’t fall on whether the assets should or shouldn’t be registered, but more fundamentally on whether they should be classed as securities at all.

So, what is the confusion?

There’s long been a debate whether a digital asset – essentially, software – is a commodity like gold, or a security like an ETF. To this end, crypto is typically regulated by the Commodities and Futures Trade Commission (CFTC), indicating its status as a commodity. 

Gensler though, has argued most cryptocurrencies meet the legal definition of a security, and should be registered with the SEC.

But the evolution of the crypto sector, namely through programs like staking and initial coin offerings (ICOs), are blurring the lines and giving the SEC ammunition to pursue a clampdown. 

The crackdown focuses on firms that promised returns to clients, whether for staking their crypto for a blockchain or for lending their crypto with a guaranteed percentage return, as with Kraken and Gemini’s Earn program respectively. These could be seen as investment contracts.

Crypto enthusiasts tend to argue that the asset doesn’t pass all four prongs of the Howey test to determine a security or investment contract, as it doesn’t generate value through the effort of others.

Meanwhile, last week Coinbase’s chief legal officer Paul Grewal also rebuffed the idea of staking being a security. In a note, he argued that staking failed all four prongs of the Howey Test, not just the fourth one of value creation.

“Trying to superimpose securities law onto a process like staking doesn’t help consumers at all,” Grewal wrote. “Instead, unnecessarily aggressive mandates will prevent US consumers from accessing basic crypto services in the US and push users to offshore, unregulated platforms.”

More fundamentally, the crypto industry’s bigwigs, from Brian Armstrong to Anthony Scaramucci, have piled in on the SEC’s ruling on Kraken’s “staking” program, describing it as an attack on economic freedoms.

What’s next?

Crypto firms and the SEC will have to wait on the outcome of various lawsuits to set a precedent. The outcome could mean crypto firms having to register offerings and assets as securities, but some argue this has left them in no man’s land.

“Regulation by enforcement is puzzling for crypto enthusiasts,” Globalblock Crypto, a digital asset brokerage, said in a note.

“The SEC claim that “all crypto projects have to do is come in and register,” yet when they do, they are just told “no”. People are desperately trying to figure out how to offer a product legally whilst getting zero guidance.”

Scott Melker, “The Wolf of All Streets” crypto trader, had more choice language.

“”It is clear that the US is going to war with the crypto industry,” he tweeted.

“If it’s war they want, it’s war they’ll get.”

• Warren Buffett’s $3 billion investment in General Electric saved the company, a new book reveals.
• GE Capital faced a potential default and bankruptcy in 2008, Bill Cohan writes in “Power Failure.”
• Buffett’s cash and vote of confidence enabled GE to survive the financial crisis, Cohan reported.

Warren Buffett plowed $3 billion into General Electric at the height of the financial crisis — and the famed investor’s support likely saved the industrial titan from melting down, author Bill Cohan reveals in his new book.

The collapse of GE, the second-most valuable public US company after Exxon at the time, would have sent shockwaves through the American economy. Cohan provides a look inside the the crisis-stricken conglomerate in “Power Failure: The Rise and Fall of an American Icon.”

GE’s troubles stemmed from GE Capital, its financial-services arm. The division capitalized on GE’s AAA credit rating to borrow cheaply from commercial-paper markets, then lend money out at much higher interest rates. 

Over the years, GE Capital expanded from financing household purchases of fridges and dishwashers, to executing leveraged buyouts and overseeing a $90 billion commercial real estate portfolio.

By October 2008, GE Capital commanded $650 billion of assets, owed $550 billion of debt, and generated around 50% of its parent company’s profits.

When the housing bubble burst and credit markets froze up, GE Capital faced a liquidity crunch that threatened to force it into default and bankruptcy.

Despite being one of the largest financial institutions in the country, it wasn’t classified as a bank. As a result, it wasn’t regulated by the Federal Reserve, which could have helped it to access emergency capital, and it was excluded from the US government’s bank bailouts.

That raised the prospect of a catastrophic meltdown.

“The implications for corporate America were astonishing,” a top lawyer advising GE at the time told Cohan. He was referring to the risk of GE Capital folding, and the financial sector’s woes cascading through the wider economy.

GE CEO Jeff Immelt hoped to avoid that grim outcome by raising $15 billion via an equity offering, but widespread fear in markets threatened to scupper the plan.

He decided to invite Buffett to be an anchor investor, a role the Berkshire Hathaway CEO had served in a deal with Goldman Sachs a week earlier.

“If Buffett says no, we’re fucked,” CFO Keith Sherin told Immelt at the time.

“They were freaking out, because had they not got the stock issued, they were probably toast,” a senior Goldman banker involved in the offering told Cohan about GE’s leadership team.

Fortunately for GE, Buffett agreed to invest $3 billion in return for preferred stock paying a 10% annual dividend, and warrants allowing him to buy common stock at a fixed price during the next five years. He also required Immelt and Sherin to retain 90% of their GE stock until his preferred shares were redeemed, Cohan reported.

Immelt told Cohan that Buffett’s backing was “like having an underwriter in a sea of shit.”

Berkshire ultimately made about $1.5 billion — a 50% return — from the deal. Buffett could have squeezed harder, but he cut GE some slack given its dire situation, he noted during Berkshire’s annual shareholder meeting in 2018.

“They were going to take the terms we offered,” Buffett said. “But we actually didn’t push it to the limit because there really wasn’t anybody else around.”

Buffett may have left some money on the table, but it seems his cash and vote of confidence saved one of America’s largest companies from collapsing, and stopped the beaten-down US economy from suffering another devastating blow.