Morocco just sent Spain home from the World Cup. Read that again if you need to. You are right to be surprised, as Morocco was a +525 underdog to defeat Spain. Plus, how did Morocco make it to the knockout rounds in the first place?
On November 19th, just several weeks ago before the World Cup kicked off in Qatar, Morocco was a +20,000 bet to win the World Cup. By comparison, Spain began at +800, 25x more likely to win the tournament than Morocco. The odds that Morocco would even make it out of the difficult Group F, alongside Belgium (world rank 2), Croatia (world rank 7), and Canada (ranked 41 but finished ahead of Mexico and USA in World Cup qualifying), were unlikely to say the least. At +1100, they wound up winning the group. Anyone silly enough to take that bet, two things to say to you: 1) what were you thinking? 2) congratulations, and apologies for calling you silly, great wise one.
A thorough review of statistics, pouring over data, examining the analytics, and ultimately identifying the conditions that dictate probabilistic outcome is sports betters do. It is no better or less, but by definition, it is less sophisticated, and results are far more immediate. Different stakes, beholden to different people / institutions, and generally completing this process more meticulously with more tools, economists perform many of the same processes too. While sports betters can do so on a whim, all professional market participants must place money after conducting specific research.
Whether day trading options, swinging longs and shorts, managing a hedge fund, or putting together a prospectus for a rules based portfolio -- whatever it may be, this research is a necessity. It is a full time job, and even putting in a full 40-50 hours a week is never truly enough for a global market that never sleeps in a world that produces new geopolitical tensions from moment to moment. For comparison, what is the likelihood that a sailor without access to sophisticated technology, limited prior training, and nothing more than a bit of basic study of oceanography, could just hop on a ship and successfully sail the seven seas? Extremely unlikely, but not impossible. Surely nobody who is serious about wealth management would actively rely on this type of "beginner's luck."
Why is it that there is room between extremely unlikely and impossible? Because quantitative analysis of data and underlying conditions can only provide probabilistic outcome. Everything that comes before the equal sign is part of the equation. In markets, like in sports, and in the World Cup Round of 16 in this case, the components to the left of the equal sign indicated that a win for Spain would be found on the the right of the equal sign. Instead, we find the unlikeliest result to the right of the equal sign, despite all data indicating the result would be different. As in the photo above, Spain had more than three times the amount of possession of the ball, more than double the amount of shots, 9 corner kicks compared to 0 for Morocco, and furthermore is considered one of the elite teams of the 21st century, having won the World Cup as recently as 2010. To the left of the equal sign. conditions favored the Spanish side to beat the feisty Moroccans. To the right of the equal sign, the result was otherwise.
Digging deeper, what do we know about African sides at the World Cup? There have been some excellent African teams throughout history. Notably, Ghana (2010), Senegal (2002), and Cameroon (1990), all of which made it to the quarter finals. Is this piece of tangentially applicable data relevant to the matchup between Morocco and Spain? "Every once in a while, an African team advances to the quarterfinal, therefore Morocco will do so in 2022." At best, this is a lazy argument, and far from a compelling case. At worst, even though it has proven to be true, it is a dumb assertion that should not by itself be taken seriously. Nonetheless, here we are, and if Morocco wins its next matchup against Portugal in the quarter finals, they will advance to the semi finals, something no African side has ever done in the history of the World Cup. Early betting odds have Morocco as a 5 to 1 underdog against Portugal. Extremely unlikely, but not impossible.
In financial markets in 2022, extremely unlikely, but not impossible seems to be something of a theme as well. Inflation becoming a years long battle -- 'no, that will only be transitory,' they said. Negative GDP in quarters 1 and 2 signal a recession -- 'no, the economy is strong,' they said. To be fair, in this case, BOOM came Q3 GDP prints, positive with signs of continued growth into Q4, but now they are saying 2023 could bring about the recession. Fake outs have been common in markets and in sentiment as we recover from the pandemic. An estimated $13-14 trillion dollars were printed during Covid, which itself, apparently, was an extremely unlikely but not impossible event.
At a restaurant, you can keep ordering more food, more wine, desert, more wine, so on and so forth. Regardless of your preferences when dining out, where you stand in terms of economic theory, and for the love of all things holy not to mention politics, we can all agree that eventually, one way or another. Debt servicing that kind of money, in addition to what is already owed ($30+ trillion on the balance sheet), is expensive at low rates, let alone at a historically quickly increasing fed funds rate. Underlying conditions had clearly display macroeconomic tailwinds, and now strongly suggest serious headwinds.
A housing bubble was a common narrative. Bitcoin as an inflation hedge existed in certain circles. Cash is king, some continue to argue, while others stick to their assertion that, despite its recent performance, cash is trash. Overvalued tech stocks seemed to be a common consensus. Eventually, the market determined that there was something of an "everything bubble," and a pullback / correction is merely a sign of heathy market activity, at least for now. What happens next? Anyone's best guess. What do we know for sure? Every professional and pseudo-professional will be able to explain exactly why it happened. Note: God bless them, but they are full of shit.
In any event, to my knowledge, nobody was calling for the long-term treasury market to have some of the absolute worst returns of any asset class. And how could you have predicted that? Firstly, it has always been the case that the bond market is a safe haven during economic uncertainty and recession: risk-on = speculate; risk-off = buy long term bonds. Secondly, when data models, historical research, and quantitative analysis is your method of identifying probabilistic outcome, how on God's green earth could you think that $TLT will underperform the $SPY during an economic downturn?
When Covid caused a panic in March of 2020, $TLT shot up to around $170, having started the year under $140. The $SPY (S&P 500 index), on the other hand, began the year at around $330, and by March of 2020 had fallen below $230. This is the type of inverse correlation that is expected to happen. In other words, the likelihood of $TLT outperforming $SPY during times of economic tailwind & headwind is multitudes higher than, for example, Morocco handing Spain a defeat at the World Cup. Have a look below to see just what an anomaly we have on our hands.
The first image shows that while $SPY has been down ~20% in 2022, $TLT sank even further by a shocking ~35%. The second image shows that this year, in relation to the biggest drops in the S&P 500 over the past 60+ years, long term treasuries have never underperformed equities. Not once. This gives whole new meaning and perspective to the idea of extremely unlikely, but not impossible.
Like the brash sailor taking on Mother Nature, I root for a successful journey across the seven seas. Similarly, I root for the Moroccan team to do what no African side has ever done at a World Cup and continue to win against all odds. In financial markets, I hope the "soft landing" rhetoric that central bankers have used does come to fruition. And as for the investors, professionals, institutions, and retailers alike, I urge you to leave no stone unturned in your research toward identifying probabilistic outcomes and for your investments to appreciate in value. Just remember: sometimes the 2-7 off suit beats pocket aces.
Follow me on Twitter: @SokolCapital
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