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Hubris Cubed: Valeant Won't Be the Last to Fall


Valeant is to health care what New Century was to home mortgages in 2006.

Confidence is like a Lego tower: It takes a long time to build; but it can be destroyed in an instant.

And when the tower is frantically built to the sky, the pieces fall far and wide.

How far and how wide?

As it relates to Valeant, far, far further and much, much wider than anyone thinks today.

At the risk of an inflammatory overgeneralization, Valeant (VRX) is to  health care what New Century was to home mortgages in 2006 -- a very late arrival to a party whose entire existence was only sustainable thanks to extraordinary overconfidence.

The worst always go first when confidence turns down, and from what I've seen so far, Valeant (and its extended overconfident entourage) has many of the same hubris-driven behaviors seen in subprime mortgage lenders whose failure was thought to be "contained" at the start of the housing crisis. 

If history holds,  health care will be to 2016 as housing was to 2008.

Actually, I am afraid for those involved it will be much, much worse.

To see why I offer such a grim forecast, first let draw your attention to these charts of Valeant and New Century shares:

In less than 90 days, Valeant has lost almost two-thirds of its value. For New Century, that same percentage price decline took almost a year.

Valeant's stock price didn't just drop, it crashed.

Investor patience today is far shorter than it was in 2006. Asset managers are selling first and asking questions later.

And it isn't just in Valeant shares where this can be seen. Just look at the bungee cord pattern in the major indices over the past six months. Valuations are becoming binary. Investors are either all in or all out. They are becoming as extremist as the political candidates we now see debating on television.

I believe that the market's intensifying manic behavior is a function of declining confidence.

Volatile people trade in a volatile manner, creating volatile markets.

As this chart of Gallup Economic Confidence shows, since the beginning of the year, Main Street confidence has fallen sharply. The markets are beginning to mirror this decline in confidence.

But there is a second and more important element to this.

Main Street confidence today is far lower than it was at the very beginning of the banking crisis in 2005. And average consumer confidence levels are about the same as they were back in the fall of 2009 - just six months from the end of the banking crisis.

While we have seen an economic and market recovery over the past six years, there has been little rebound in consumer confidence.
As I have shared before, it is not the depth of a recession that matters as much as its length.

There are signs that large segments of America have just about had enough. Beneath an increasingly thin veneer, anger is rising.
This change in social mood can be clearly seen already in the media.

The chart below plots the New York Times' use of the terms "inequality" and "civil rights. 

"Civil rights" is now being referenced in 1 in every 50 Time's articles, a level not seen since the early 1960's.
"Inequality" is running closely behind.

Those who thought Thomas Piketty would be a one-hit wonder have been sorely mistaken.

He tapped into something far bigger than anyone ever imagined.

Not only is financial inequality a major concern today, but inequality of all kinds is troubling us deeply.

Today's "haves" encompass a very small group of establishment insiders across every dimension of our lives -- political, economic, sexual, racial, religious etc.

What this 1% has now bothers us.

As a result, the breadth of potential "outsiders" today -- the 99% -- is far larger than what we saw during the late 1960's/early 1970's. 
What we have seen in the fracturing of the Republican and Democratic parties looks to be only the beginning of the problems for the establishment "haves."

If social mood remains weak, splinter groups of all kinds are going to explode onto the scene, creating extraordinary challenges for today's incumbent business and political leaders. As mood falls even further, niche social tribes will become common as Americans mirror individualized micro-brewed craft beers.

Most vulnerable to the decline in social mood ahead, though, are the Ferrari-driving ultra-wealthy financial/political elite establishment. Whether on Wall Street, on Constitution Avenue, or in Silicon Valley, those who have most benefitted from the relationship web at the very top of American finance, politics, and technology are especially vulnerable.

To be clear, I write this with malice toward no one.

My comments merely reflect the trajectory that I see based on the current trend in social mood. The figures from the New York Times' above suggest that the genie that is about to pop out of the lamp won't resemble Robin Williams.

This one will be angry.

To get a sense for this, look at Valeant.

Weak social mood on Main Street and Wall Street/Silicon Valley euphoria are on a collision course. Biotech/ health care will be the victim.
The recent takedown of Valeant wasn't just a bear attack. It was like something out of Lord of the Flies. And importantly, it was prompted by a group of "outsider" analysts. With their critical review, a heretofore unknown analyst team at Citron erased 30% of Valeant's valuation in seconds. Valeant shareholders were "Trump'ed" in one fell swoop.

Rule of law was replaced by the law of the jungle. The hyenas smelled weakness and attacked.

Given Citron's success and current social mood, I expect that we will see plenty more of these assaults.

Wall Street and corporate America are about to be Edward Snowden'ed. And with stock valuations far decoupled from Main Street reality, the price declines will be fierce.

But please appreciate just how frail today's hedge fund billionaires will be against these kinds of social mood-driven attacks.

Bill Ackman (of Pershing Square) and Ken Griffin (of Citadel) have been exhibiting PEAK confidence behaviors.

Between their condo purchases and their new office space leases, the term "Edifice Rex" doesn't do them justice.

As mood falls, Mr. Ackman, Mr. Griffin, and their hedge fund brethren will be easy prey in the media, especially where their money touches  health care.

And by their money, I don't mean just their money. Their fund investors are also at great risk as social mood falls. If you thought big deposits at troubled banks were "hot money," wait until you see hedge fund investors.

Rather than facing extraordinary negative press and scrutiny, investors are going to run for the exits, causing co-investment risk to soar.
Not to be flippant, but would you want to be known as the individual (or worse the state pension fund CIO) who gave money to the next Martin Shkreli?

I think not.

Profiting off the backs of naïve consumers is only socially acceptable when social mood is rising.

When mood falls, the rules change. Somewhere along the line -- even with the horrific experience of the mortgage lending industry staring them in the face -- investors in the  health care space missed this.

Having been betrayed by Wall Street in housing, Main Street isn't just going to sit back and take it as the excesses in billionaire biotech/pharmaceuticals and  health care are revealed -- especially in a time of weak social mood.

If you thought Occupy Wall Street was bad, just wait.

The political and social pressure on prescription drug costs and health insurance rates will be relentless.

The financial costs to those violating the public trust will rival what we saw in the banking crisis.

Even more, where Wall Street avoided criminal charges, the unfolding biotech/ health care bubble burst will be filled with them.
This time, lives are at stake.

And don't expect next year's presidential election to change the outcome.

health care bashing is going to be a bipartisan campaign event.  Even more, it will be an exceptionally deflationary event.
In 2008, policymakers worked to boost asset values because voters were homeowners. In the world of  health care, voters are users. Lower prices are what voters want, especially given weak wage inflation. 

As mood falls, "faceless" shareholders and billionaire hedge fund titans won't stand a chance.

Finally, I would be remiss if I didn't also highlight how the bursting biotech/ health care bubble will roil the collegiate scene, too.
For universities, the intersection of research and biotech/ health care is full of with money.

I noticed this first hand walking around MIT recently. While admittedly an extreme, as the new chart shows, the "adjacency" of pharmaceutical firms to the campus is striking.

Then again, money follows confidence.

As any banker will tell you, during the housing crisis, the worst place to be was where mortgage lending, the consumer, and regulation overlapped.

The price paid for preying on naïve consumers was extremely high.

I'd offer the same has been and will continue to be true for higher education.

The for-profit colleges -- the subprime of higher education -- and their investors have already been brutally burned.

As we move forward, I expect that we will see even harsher punishment for those at the intersection of the consumer, consumer regulation, and financialization (in all of its hedge-fund, asset management, and private equity etc. forms) in health care.

Given current social mood, where these overlap, there will be immense pain. The financial penalties and regulatory backlash will be fierce.
By the time things are over, Dodd-Frank will feel like a lullaby.

Again, and to be clear, I don't wish malice on anyone. What I am sharing reflects my work as a socionomist and a researcher in confidence-driven decision making.

Confidence in the  health care space is now turning down.

The first major victim of this was Valeant. But the experience of the housing crisis and the for-profit higher education collapse suggest that Valeant won't be the last.

With falling mood, things won't be contained.

The Lego tower of confidence has been walloped.

Coupled with rapidly weakening social mood, the pieces are about to fall very far and very wide.

Peter Atwater's groundbreaking book "Moods and Markets" is now available on Amazon and Barnes & Noble.
"Peter Atwater brilliantly provides a framework for understanding both the socioeconomic hubris that led to the great credit bubble of the past decade and the dark social-psychological hangover that has resulted from its collapse. In so doing, he offers an invaluable guide to what promises to be a very difficult and turbulent period ahead as we experience what he calls the 'me, here, and now' behavioral tendencies of the post-crash world."  -Sherle R. Schwenninger, Director, Economic Growth Program, New America Foundation

Twitter: @Peter_Atwater
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