Stocks are about to crash as the 'perfect bull market cocktail' of the last 4 decades ends, veteran investment chief says

In an interview with Insider, the CIO of Gateway Credit Partners explains why stock valuations are set to crash as global productivity declines.

Stocks are about to crash as the 'perfect bull market cocktail' of the last 4 decades ends, veteran investment chief says

The world economy is shifting away from a high-growth bull environment and undergoing macro, secular changes that will drag down stock valuations in 2023 and beyond, according to Tim Gramatovich, chief investment officer of Gateway Credit Capital.

The market conditions that lifted markets in previous decades won't necessarily continue in the future, he told Insider.

"We had the perfect bull market cocktail starting in the early 1980s — incredibly low valuations and the beginning of globalization and all its benefits, huge growth, low costs," he said, adding that slowing population growth threatens the productivity of the workforce. "We are now looking at the mirror opposite going forward: very bad demographics globally, and a spent dividend on globalization and technology. So extrapolating valuation over the last couple decades makes no sense."

2022 has been a tough year to make money in the stock market.

Equities suffered a broad and deep sell-off this year, with investors panicking about a potential recession, rising interest rates, and Russia's invasion of Ukraine.

Growth stocks have led the downturn, with the Nasdaq down 32%. Some retail and even professional investors are experiencing their first prolonged bear market after two years of record-breaking outperformance from major indices and the extended bull run in the decade after the 2008 financial crisis.

Insider asked a number of veteran Wall Street strategists which books have helped them better understand bear markets, recessions, and stock market crashes.

They shared 20 top picks, ranging from Michael Lewis's "The Big Short," which tells an important story of the 2008 financial crisis, to "Reminiscences of a Stock Operator," a 1923 novel written by the journalist Edwin Lefèvre.

Michael Lewis' "The Big Short" chronicles three sets of investors who bet against the US housing market ahead of the 2008 financial crisis. It was later adapted into an Oscar-winning film that starred Christian Bale as Michael Burry.

The book details how Burry, hedge fund manager Steve Eisman, and Cornwall Capital's Jamie Mai, Charlie Ledley, and Ben Hockett used unconventional methodologies to identify the US' housing bubble — and then shorted bank stocks and bought credit default swaps against subprime mortgages to profit from the stock-market crash.

Recommended by: Amanda Rebello, head of passive sales at DWS Group

In "Stocks for the Long Run," famed markets guru Jeremy Siegel shares his ultimate stock-picking strategies, with a particular focus on the impact of the 2008 financial crisis. The Wharton School professor recommends that investors should avoid bonds due to their weak long-term performance, instead preferring index funds for their passive income.

"It's a must-read primer for investing in the stock market," Bernstein Private Wealth Management's co-head of investing strategies Alexander Chaloff told Insider. "You don't buy stocks for a month, or a quarter, or even a year. You buy them for the long run. And this book captures that concept."

Recommended by: Nancy Tengler, chief executive of Laffer Tengler Investments; Alexander Chaloff, co-head of investment strategies at Bernstein Private Wealth Management

Roger Lowenstein's "When Genius Failed" chronicles the rise and fall of hedge fund Long-Term Capital Management. In four years, the $100 billion fund suffered enormous losses, not only sending ripples through Wall Street, but the world's financial system at-large.

"It's good to study other people's mistakes," Court Hoover, head of research at Pervalle Global, said. "There's an old quote that says 'Every trade either makes you richer or wiser.' When you get something right, there's a tendency not to think about it. You made money. If you get something wrong, you really study it, but that's a really expensive way to learn a lesson."

Recommended by: Court Hoover, head of research at Pervalle Global

Edwin Lefèvre's "Reminiscences of a Stock Operator" is a first-person chronicle about a master stock market trader who made and then lost all of his fortune. Written in 1923, the book details a fictionalized account of prominent Wall Street speculator and day trader, Jesse Livermore.

Recommended by: Michael Wang, founder and chief executive of Prometheus Alternative Investments

Jack D. Schwager's "Market Wizards" features interviews with 17 of the most successful Wall Street vets including Paul Tudor Jones, Bruce Kovner, Richard Dennis, and Michael Steinhardt. Published in 1989, the book recalls how each person had unprecedented success, turning small sums of capital into large fortunes.

Recommended by: Michael Wang

Liaquat Ahamed's "Lords of Finance" retells the events that led to the 1929 Wall Street crash, focussing on central banks in the US, the UK, France, and Germany.

"'Lords of Finance' is more of a dire-warning book, but it's helpful to understand the dynamics that can create market crashes that are driven by central bankers," Bernstein's Chaloff told Insider. "This is my recommendation to people who ask 'how bad can it get' — a world war and a great depression, that's how bad."

Recommended by: Alexander Chaloff

In "The Asian Financial Crisis," author Russell Napier recounts his time writing for institutional investors amid an economic downturn, when the US dollar value of certain Asian stock markets sunk 90%. The catastrophe led to the loss of billions of dollars and hundreds of lives in rioting .

"Understanding financial crises is really important because they present such opportunity. In order for there to be a financial crisis, it has to be unforeseen by the majority of participants," Hoover said. "Otherwise, it wouldn't occur in the first place. And those sorts of unforeseen events offer the most asymmetry in terms of prospective returns."

Recommended by: Court Hoover, head of research at Pervalle Global

In "The Black Swan," Nassim Taleb details times throughout history when highly improbable events have occurred like the enormous success of Google or catastrophes like 9/11. The book explores the implications of these as well and what readers can take away from them. Black Swan events have three major characteristics, per Taleb, including their massive impact, unpredictability, and that later people try to explain the phenomena to make it seemingly less random and bizarre.

Recommended by: Amanda Rebello

Written by Princeton economist Burton Malkiel, "A Random Walk Down Wall Street" popularized the "random walk hypothesis " – a financial theory that argues traditional stock markets cannot be predicted, and, well, are random. Malkiel critiques popular investing strategies like technical analysis and fundamental analysis, adding that the traders cannot consistently outperform market averages.

Recommended by: Kevin Philip, partner at Bel Air Investment Advisors

Many investors are now aiming to identify the bottom of the bear market so that they can start snapping up undervalued stocks that are well-positioned for long-term growth.

In "Anatomy of the Bear," Russell Napier investigates what causes bear markets to end. The investor and economic historian read over 70,000 old newspaper articles to try to pinpoint when sentiment on Wall Street started to shift the stock market bottoms of 1921, 1932, 1949, and 1982.

Recommended by: Patrick Diedrickson, equity analyst at Ameriprise Financial

Charles P. Kindleberger outlines the speculative panic associated with major financial crises, along with the mismanagement of money and credit, in his 1978 book "Manias, Panics, and Crashes." From the so-called "South Sea Bubble" of 1720 to countless stock market bubbles since, the book engages readers by detailing financial explosions throughout the centuries.

Recommended by: Marc Chandler, chief market strategist at Bannockburn Global Forex

Before money, anthropologist David Graeber argues, there was debt and credit. "Debt" by anthropologist Graeber explores how it seeps into every major social institution like marriage, religion, government, and war.

Recommended by: Marc Chandler

In "Stabilizing an Unstable Economy," Hyman P. Minsky argues that our financial systems are inherently dubious and prone to tottering. Published in 1986, Minsky makes sense of why the United States undergoes phases of rising unemployment, debilitating inflation, and even credit crises.

Recommended by: Marc Chandler

In "Triumph of the Optimists," the authors compare and contrast the performance of the US stock market over time to markets in 16 other developed nations.

"The big reveal is that equities have upward bias regardless of jurisdiction," said David Waddell, chief investment strategist and CEO at Waddell and Associates. "A bet against global equities is quite simply a bet against human progress. The best way to survive bear markets is to zoom out!!!"

Recommended by: David Waddell, chief investment strategist and CEO at Waddell and Associates

In "A Short History of Financial Euphoria," economist John Kenneth Galbraith proves the age-old adage of history repeating itself by exploring major market collapses over the last 300 years in the US economy.

"When you talk about volatility, this classic never goes out of style," said Dan Kimerling, founder of venture capital firm Deciens Capital. "There are cycles of irrational exuberance throughout history in all kinds of assets and those bubbles are not permanent."

Recommended by: Dan Kimerling, founder of Deciens Capital

In "Too Big to Fail," esteemed financial journalist Andrew Ross Sorkin recounts a gripping retelling of the 2008 economic crash, presenting the crisis from two points of view: both the regulators and the most powerful leaders of the biggest investment firms. One of the book's highlights is that it reads just like a novel without slipping into over-technical territory for readers who may come from an extensive finance background, said Robert Johnson, CEO of Economic Index Associates.

Recommended by: Robert Johnson, Creighton University finance professor and CEO of Economic Index Associates

Originally published in 2000, Nobel laureate Robert Shiller wrote "Irrational Exuberance" to explain the stock market's cyclical peaks and troughs and make the case that the US stock market was significantly overvalued – one month before the historic burst of the dot-com bubble. Since then, two editions have been published: one in 2005, prophetically warning readers of an impending housing bubble crash, and one in 2015, cautioning against holding long-term bonds.

Recommended by: Robert Johnson

In "Boom and Bust," authors Quinn and Turner dive into the history of financial busts to explain the actions investors and speculators took leading up to these crashes.

"The authors use creating fire as an analogy to bubbles. Just as fire needs fuel, heat, and oxygen, the necessary elements for a bubble are; excess money, easy liquidity, and speculation. Oftentimes, new technology acts as the spark to set things in motion," said Garrett Aird, Northwestern Mutual Wealth Management Company's vice president of investment management & research.

By providing this historical context, the book highlights the three key elements of a financial bubble to help future investors predict an upcoming economic decline.

Recommended by: Garrett Aird, vice president of investment management & research at Northwestern Mutual Wealth Management Company

Charles MacKay's book, written over 150 years ago, is a classic early case study of crowd psychology. In "Extraordinary Popular Delusions and the Madness of Crowds," MacKay dissects historical market crashes like the Dutch tulip mania and the South Sea Company bubble in the early 1700's to prove that market speculation has always been around.

"The underlying causes may be different, but human nature hasn't changed," Aird explained to Insider. "The book is helpful in understanding herd mentality and avoiding groupthink."

Recommended by: Garrett Aird

Robert Hagin's "The Dow Jones-Irwin Guide to Modern Portfolio Theory" is an encyclopedia of risk management, portfolio strategies, and asset valuation. Hagin, a former executive director at Morgan Stanley, breaks down investing and financial concepts, recalling lessons he learned in his 40-year career on Wall Street.

"In my opinion, it's a master class of individual investment analysis and portfolio allocation, which was really pivotal in my growth as an investor and capital allocator," Franzen told Insider in a statement.

Recommended by: Caleb Franzen, senior market analyst at Cubic Analytics

He expects these structural shifts to leave a larger impact than any cyclical market trends. For example, critical costs for services labor, energy, food, and capital are going to remain high over the long term, even as overall inflation data shows recent signs of cooling.

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All this is poised to hinder global growth, Gramatovich warned, which leads him to believe that stocks should be trading closer to 10 times earnings, rather than today's multiples of 18 or 20.

For stocks to stage a sustainable rally, company earnings must be strong and robust, he said, but that would likely push central bankers to continue raising interest rates, which would subsequently weigh on equities once more.

Meanwhile, he pointed out that small-cap companies in particular present a valuation trap.

"When the tide goes out, large companies with lots of liquidity tend to be very aggressive on pricing to cover their fixed costs, crushing smaller competitors," Gramatovich said.

But while stocks are poised for a downtrend, the outlook on debt is brighter. Helped by central bank rate hikes, the loan market's main indices offer roughly 9% yields, he said.

"The next decade plus looks like a potential golden era for corporate credit. Given the central banks' actions — you now have real yields available in high quality names which we haven't seen since before the [Great Financial Crisis]."

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