Business Insider Senior Finance Correspondent Linette Lopez spoke with famed short seller Jim Chanos at the Nasdaq Market Site about the reintroduction of inflation to the market for the first time since the financial crisis – and it is causing volatility unseen in years. Chanos also touched on Tesla, China, and what he refers to as “the rent-seeking behaviour” of corporations.
Following is an edited transcript of the video.
Linette Lopez: Hi, I’m here with Jim Chanos, founder and president of Kynikos Associates, the world’s largest short hedge fund.
So, we just had the highest CPI print in 13 years. It looks like inflation is sort of back. The market is changing. Legendary trader Paul Tudor Jones just said it’s making him feel like he’s in his 20s again, all this volatility. How do you feel about this market, and do you feel like you’re in your 20s again?
Jim Chanos: Well, I want to take whatever he’s taking to feel like he’s in his 20s again.
There’s more volatility. But compared to historical – when Paul was in his 20s and I was in my 20s – I mean it’s kind of nothing. Back then the 30-year bond, which is what we used to look at, would trade in a 30-basis-point band in a day. Now it moves three basis points and people get terrified.
Lopez: It’s crazy because there are so many young Wall Streeters who have never seen a market like this. They have never been chained to their chairs. They have never been, you know, glued to their screens in the way they have to when the market is volatile. Do you have any advice for those kids?
Chanos: Well, back in my day … I mean no one wants to hear that. What Wall Street has benefited from, among many things, is basically a probably once-in-a-lifetime move in rates from 14% to basically 2% or zero per cent, depending on whether you’re looking at short-term rates. And we’re not going to repeat that, I’m pretty safe in saying. So what Wall Street hasn’t seen – with the exception of a few graybeards like Paul and myself – is high interest rates or rising interest rates for any sustainable period of time. And the big change will come when that changes. So I don’t know if that’s what’s happening now. We’ll see. But, you know, when you see things like Greece borrowing at rates lower than the US for two-year notes –
Lopez: It’s a little wonky.
Chanos: It’s a little crazy. And so things are happening in the credit markets that are making people a little uncomfortable. We’ve moved to almost 3% on the 10-year. But based on where nominal growth is right now – I mean with or without a rising CPI – the 10-year should be north of 4%. So we’re still in a very accommodative environment.
Lopez: We seem to have a stew going here. We have this tax cut. We have this massive budget agreement between the Democrats and Republicans that’s going to add to the deficit. And it seems like corporations are really winning out. And it seems like labour – you have regular people like me who are kind of losing in this equation. This has been going on for years. How do you stop it?
Chanos: Yeah, the rent-seeking economy.
Lopez: The rent-seeking economy.
Chanos: You know, it really is a puzzle. And I was reading a column in The New York Times this morning talking about that. And why we haven’t seen more competitive forces bringing returns down to where rates are. In a highly competitive economy, if interest rates are so low, returns should be dropping. Instead, returns and corporate assets are remaining high. And some of that might be technology. Some of it might be just simple lobbying – rent-seeking. And I think it’s probably a combination of both. But what it does lead to is stagnating wages, lower capital investment, and a disproportionate amount of the economy going to the corporate sector and shareholders. And that’s great for equity holders; it’s not really great for everybody else.
Lopez: Back to your 20s, back than your nemesis was a CEO named Morley Thompson, the CEO of Baldwin Piano. That was your first big short. Now it seems like you’ve set your sights on another CEO. His name is Elon Musk. He’s got this little company called Tesla.
Chanos: I’ve heard of it.
Lopez: Yeah, what’s wrong with Tesla?
Chanos: Well, I mean, first of all, Morley Thompson who ran Baldwin United had to be the greatest salesman of all time. He started out selling pianos door-to-door.
Lopez: That sounds difficult.
Chanos: And anybody that can do that and then rise to CEO, you know, had to be able to sell pretty much anything. And that I think is Elon’s greatest quality. He’s a pretty good salesman. He’s always pitching the next great idea. The problem is that the execution of the current ideas is falling short. And that’s where I think it’s problematic. And on top of that, I think – increasingly – he’s making promises that he knows he cannot keep. And I think that’s a much more ominous turn.
Lopez: What is the most recent promise that he’s made that he can’t keep?
Chanos: Well, I think the biggest whopper that I’ve seen – and we have a spreadsheet of Elon’s whoppers – along with a longer spreadsheet of all the executive departures at Tesla. But I think the latest one that kind of stunned me was when he unveiled the semitruck – EV.
Lopez: But he hasn’t really even given us a regular car. The $US30,000 car that he promised everyone.
Chanos: Well, forgetting that, he said that truck will be out in 2019. And if that’s the case, those production lines have to be up now. That factory has to be up now. And where is that? I mean, what factory line is going to be making a truck in 2019 and a roadster sports car that he unveiled in 2020? You can’t simply say things like that without having some evidence to back them up. You’re a public company’s CEO. And, you know, I’d want some clarification on where exactly this truck is going to be built to be out in 2019. But, you know, he’s missed production estimate after production estimate. He thought there’d be 10,000 Model 3s a week by the end of ’17.
Lopez: Isn’t it 5,000?
Chanos: Now it’s 5,000, by June. I think even worse is that people have thought they were getting a car for what amounted to $US27,500 – the $US35,000 base plus the federal tax credit. Now they’re realising that the federal tax credit’s going to, basically, be over by this year. And every manufacturer has a limit.
Lopez: So then it’s a $US60,000 car?
Chanos: Well, the Model 3s he’s delivering now are $US50,000 base pretty much. And with delivery charges and sales tax they’re probably closer to $US55,000. So they’re almost twice what he promised people. And the car for $US55,000 is not a particularly great car in our view. It might be for $US27,500. But it competes against basically luxury cars at $US55,000. And that’s a pretty competitive area and going to get more competitive.
But he’s already talking about the Model Y.
Lopez: And Mars?
Lopez: Yeah, I mean, Mars looks good, I guess.
Chanos: And Mars doesn’t have a current extradition treaty with the US, from what I understand.
Lopez: He could go; it’s fine. So you once said that the single most important market in the world is the Chinese property market. China has been incredibly quiet in 2018. We didn’t see our normal China puking that we do every year at the beginning of the year. So what’s going on there? And is it still the most important market in the world?
Chanos: I do think it’s the most important single asset class globally. Because residential real estate represents roughly half of China’s investment and investment represents roughly half its GDP – give or take. And so that means that the Chinese residential real estate is probably a quarter – roughly – of the Chinese economy – or almost $US3 trillion. $US3 trillion is 4% of global GDP for one asset class that I think most would realise is simply being bought for speculative purposes. They don’t need to build 20 million apartments a year, but they do. And in urban environments,
The amount of depreciation and net inflow to the cities, you know, means they have got to be building six or eight or nine million, not 20. So it really is the most important asset class. It drives commodity markets. It drives China’s GDP. It certainly is the backbone of their banking system in terms of credit. So if you wanted to look at one asset class, you know, maybe the US Treasury market might be up there as well. But the Chinese real-estate market – residential real-estate market – is probably the most important market.
Lopez: So Wall Street is a place full of geniuses. I’m sure that in your 30 years you’ve found that.
Chanos: I just ask them.
Lopez: Oh yeah. So given all the geniuses that we have on Wall Street, what are you tired of hearing in this market? What do you hear over and over and over again that kind of drives you a little bit crazy?
Chanos: Well, I mean probably one of the things that I think we look at – a little bit askance – is the idea that we can just keep discounting the same amount of good news over and over and over again. So whether it was tax reform, which powered the market higher at the end of 2017. And people were just simply, you know, every single day coming in and saying, “tax reform is going to be amazing; tax reform’s going to be amazing.” But the S&P 500 estimates for 2018 are no higher than they were when it became apparent tax reform was going to pass in the summer. And so it’s not as if we didn’t quantify the impact of tax reform. But yet people wanted to get more and more excited about it and keep discounting it. And that’s just the nearest term. But in bull markets people will find all kinds of reasons to discount news over and over and over again. And they do the opposite in bear markets.
Lopez: OK, we’ve talked about one silly place – Wall Street. Let’s talk about another one: Silicon Valley.
Lopez: OK, we’re seeing ICOs. We’re seeing fewer IPOs. Where is all that money going?
Chanos: Yeah, and we’re seeing lots of pro-forma earnings, which is also kind of fun in Silicon Valley. They have resurrected that.
Lopez: You have a weird notion of fun, but OK.
Chanos: Yeah, you know, I think that that the sense has been there’s been such a deep private market for deals that no one has needed to go public. Now some would argue that some of the business models that have these incredible valuations in the private market like Uber and Airbnb might not like the scrutiny of public markets.
Lopez: I would never go public.
Chanos: So if you can get a unicorn-type valuation of $US50 billion without going public, who needs it?
Lopez: Right, but who’s giving them all that money?
Chanos: Well, I mean, first of all, it’s not a deep liquid market, right? So it’s a round of financing of maybe another billion dollars, but at a higher price. So these are not companies capitalised with, you know, hard assets, and cash of $US50 billion. They are being, basically, valued at that based on the last round of financing. And that’s an entirely different thing. That’s pretty ephemeral and can go poof as it did in ’01 and ’02.
Lopez: Would you short Uber?
Chanos: I’d have to see the numbers. You know, like anything we value businesses based on the numbers. From what I’ve heard, it seems to be a pretty interesting business model that works off basically, you know, the rent-seeking – for lack of a better term – on the back of the drivers.
Lopez: I know that you love a good executive-departure list too. So I feel like that would be an interesting one.
Chanos: Probably, although it’s hard to beat Tesla’s. I mean, I haven’t seen an executive-departure list like that since Valeant.
Lopez: What does it remind you of? Tesla. Valiant. What in the past has?
Chanos: Enron – Enron had the same level of executive departures. Valiant and Enron had similar executive – I think Tesla actually beats it.
Lopez: Have you closed your Valeant short?
Chanos: We still are short some Valeant. We think that the equity might be worthless.
Lopez: Jim, thank you so much for coming by.
Chanos: This was fun, thanks.
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