Burry thinks investors are in denial, warns crash could come within nine months

The U.S. stock market could crash within the next nine months, writes in a new blog post Michael Burry, the real-life investor portrayed in the "Big Short." Although the S&P 500 continues to set all-time highs, most of its constituent stocks are trading well off their highs. This divergence points to weakness in the market, in Burry's view.  

Burry sees an additional threat to the market in the enormous investment in AI infrastructure, which is increasingly reliant on debt. He estimates that liabilities related to data center construction, equipment purchases, and leases on unoccupied facilities total $3 trillion. Rising interest rates and problems among lenders could deprive these projects of the financing they need and accelerate the market’s decline, he believes.

Investors pass through several psychological stages before a market crash, Burry believes. He now sees signs of the first stage, denial, when investors ignore warning signs because stocks continue to rise. It is during this period, which can last six to nine months and possibly longer than a year, that the market reaches its peak, he notes.

A similar situation happened before the dot-com bubble burst in 2000. Signs of serious problems emerged in financial markets following Russia’s default and the collapse of hedge fund Long-Term Capital Management in 1998. In spring 1999, shares of several internet companies, including millionaire.com, began to retreat. The market nevertheless continued to rise, allowing Webvan, eToys, Pets.com, and other companies to complete IPOs several months later before their stocks crashed. The Fed raised rates three times in 1999 and another three times in the first half of 2000, yet this did not stop the Nasdaq from climbing 84% from October 1999 through its March 2000 peak.

Ahead of the 2008 crisis, the first signs of trouble in the credit market emerged as early as February 2007. Credit spreads on credit default swaps widened sharply, signaling growing investor concern about debt defaults. However, the S&P 500 did not peak until autumn 2007, while some stocks continued to rise well into 2008. Burry also points out that stocks kept climbing ahead of the 1929 crash even as industrial production, including steel production, declined. In the early 1970s, the stock market continued to rise even after inflation began accelerating again.

After denial comes “anger,” according to Burry, with steep selloffs alternating with sharp rebounds. That gives way to “bargaining,” as investors hunt for beaten-down stocks, try to predict when the decline will end, and the market gradually adjusts to the new environment.

Burry analyzed the performance of S&P 500 stocks over the last 35 years and found that at the peak of a typical bull market, around 20% of the index’s stocks trade at least 20% below their highs. In a bear market, that share naturally increases.

That pattern broke down ahead of the dot-com crash, Burry writes. Following the collapse of Long-Term Capital Management in 1998, a growing number of stocks declined from their highs even as the S&P 500 continued to rise. By March 2000, 71% of the index’s stocks had lost at least 20% from their highs, with the share reaching 80% in some weeks.

Burry now sees a similar picture. On his numbers, 55% of S&P 500 stocks are trading at least 20% below their highs, while more than 80% have lost at least 10% – the same share as at the market’s March 2000 peak. Half of the index’s stocks have declined at least 22.3% from their highs. Over the last 35 years, this figure was worse only ahead of the dot-com crash. Burry believes the S&P 500’s all-time highs are masking a serious deterioration among most of its constituents.

Burry sees the investment race around AI as another threat to the market. In his view, Microsoft, Amazon, Google, and Meta are spending enormous sums not to preserve their businesses, but in the hope of gaining control over the AI market. The companies expect to create an oligopoly whose influence governments will be unable to ignore. OpenAI, Anthropic, and Oracle are also seeking to join the ranks of the biggest players. Burry, however, doubts that future profits will justify such spending.

The continuation of this investment race largely depends on access to borrowed money. Burry warns of issues with asset valuations at private equity funds, private credit firms, and insurers financing data center construction. The situation is complicated by rising long-term interest rates, while the projects will take far longer to complete and generate returns. Burry estimates that construction in progress, purchase orders, and leases on unoccupied facilities total $3 trillion. He fears that mounting problems among lenders could disrupt financing for data center construction. In his view, this could undermine investor confidence in AI, one of the main drivers of the current rally.

Burry has already begun preparing for a possible market reversal. He is looking for opportunities to profit from a recovery in beaten-down stocks. The short seller expects that once the bull market ends, capital will begin flowing away from the current market leaders and into other S&P 500 companies and similar stocks that have so far remained in the shadows.

Even the most attractive undervalued stocks could suffer during the initial selloff, Burry believes. He acknowledges that the market could continue to rise despite deteriorating fundamentals. He is therefore not relying solely on his prediction of an imminent crash and continues to focus on stocks’ fundamental value when selecting investments.

Burry also expects to profit from short positions, for which he now uses options exclusively.