Casino at the Top: Options Mania, AI Froth, Policy Fog

By the Curmudgeon with Victor Sperandeo

Stock Market Overview:

Shrugging off the government shutdown and driven by unprecedented speculation, the U.S. stock market is surging, up for five consecutive weeks, and hitting new record highs almost every day (see charts below, courtesy of the Aden Forecast).

The Dow Jones Transportation average continues to be the laggard, which represents a Dow Theory non-confirmation of the raging bull market. Elliott Wave International notes that nearly every major stock market peak of the past 100 years has been attended by a Dow Theory non-confirmation.

Extreme optimism is on display in the options market as well. Over the last 20 sessions, an average of 40 million call contracts have traded per day, by far the most on record, data from Goldman Sachs trading desk going back to 2010 show.

Yet the louder the alarm bells are blaring about the stock market rally getting excessive, the more investors appear to be tuning them out. For more on this, please read the Confirmation Bias section below.

Victor’s Comment:

Dow Theory, published by Robert Rhea in 1932, was my #1 stock market indicator. It has served me very well over many years, so I always follow it. The non confirmation of the Dow Transports can cure itself by making a new high before either the DJI or DJT make new lows (which would be below their April “Liberation Day” lows.

However, the U.S. government and the Fed changed the game after the last real recession ended in June 2009. Consistent Neo-Keynesian government spending, with the Fed accommodating the resulting huge deficits have created speculative, casino-like markets that have made many people extraordinarily rich.

It has been my view that only a recession will change this bullish sentiment, especially the thinking of always buying the dip because equity markets don’t stay down for very long. That is the only way Wall Street changes, IMHO. Much more in my Conclusions below.

Macro-Economic Update:

The reports continue to indicate economic weakness or stagnation.

l Pending Home Sales for Existing Homes increased 3.8% from last year, however they remain at a historically low level as the housing market remains stagnant.

l Consumer Confidence from the Conference Board declined 3.6 points in September, pulled lower by a 7.0 drop in the Present Situation Index as consumers’ views of the current economy deteriorated. Read our Market Insight to dive deeper into this report.

l The Institute for Supply Management (ISM) Manufacturing Purchasing Managers’ Index (PMI) rose slightly from 48.7% to 49.1% but remained in contraction (<50%). This marked the seventh consecutive month of contraction. The manufacturing sector of the U.S. economy has been in contraction for 33 of the last 35 months as businesses struggle with rising prices.

l The ISM Services Index (see chart below) fell 2 percentage points to 50%, indicating stagnation. The figure was weaker than all estimates in a Bloomberg survey of economists. Respondents noted softening business conditions as price pressures also continue to weigh on businesses.

l The ISM Business Activity Index, which is like the ISM’s factory output gauge, fell more than five points and into contraction territory for the first time since May 2020.

l New orders dropped 5.6 points to 50.4, erasing almost all the prior month’s gain. Export orders also fell.

l Steve Miller, chair of the ISM Services Business Survey Committee, said in a statement, “Employment continues to be in contraction territory, thanks to a combination of delayed hiring efforts and difficulty finding qualified staff.”

l The BLS Jobs Report, which includes the unemployment rate, has been delayed due to the U.S. government shutdown.

l The ADP National Employment Report revealed that Private Sector Employment shed 32,000 jobs in September.

“There’s a certain amount of nihilism," Steve Sosnick, chief strategist at Interactive Brokers, told Yahoo Finance on Friday. "All news is good news, and no news matters. By not getting this [jobs report], that’s one less impediment in the market’s relentless rise.”

Is Confirmation Bias Driving Multiple Manias in Risk Assets?

Confirmation bias is the tendency to seek out and interpret information that confirms one's existing beliefs. During a strong bull market, investors and speculators tend to focus on positive news and dismiss or downplay any negative signals. They blissfully ignore concerns about high valuations, potential economic risks (e.g. tariffs, trade wars, immigration policy, recession), or geopolitical tensions in favor of analyst upgrades and positive stock market headlines about fresh new highs and fear of missing out (FOMO). Please refer to this Curmudgeon/Sperandeo post: FOMO: “You've Never Been Paid Less to Take on Risk”

Social media platforms can act as echo chambers, reinforcing confirmation bias. Investors follow and interact with like-minded individuals, creating a closed system of information where alternative viewpoints are dismissed or totally tuned out and never heard.

Overconfidence leads to increased risk taking (e.g., all time high in margin debt, call volume, leveraged long stock ETFs and mutual funds, etc.), which fuels speculation in riskier assets (e.g. meme stocks, volatile momentum stocks, cryptocurrencies, leveraged gold mining shares, etc.). The potential for continued high returns is significant, but so are the great risks, especially as asset bubbles inflate. This creates a "speculative surge" that is extremely powerful, but ultimately unsustainable.

The AI Bubble:

The current AI mania is one of the greatest speculative surges of all time (see chart below). That’s despite industry experts like Amazon’s Jeff Bezos and OpenAI’s Sam Altman saying that AI is in a bubble.

A technical breakdown of InvesTech’s AI index would indicate that the speculative bubble has begun to pop. Where these stocks go, so will investor sentiment, and the market will likely follow.

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The AI bubble manifests itself not only in stock prices of AI companies, but in over investments and huge debt to fund AI data center buildouts, Also, private company valuations (e.g. OpenAI at $500B) that are totally detached from reality.

According to MacroStrategy Partnership, the AI bubble is 17 times the size of the dot-com bubble, and four times greater than the 2008 global real-estate bubble. And it doesn’t stop there! Mis-allocated capital, especially for AI data center buildouts, is also at an all-time high, according to MacroStrategy.

The research firm calculated a Wicksellian deficit (see graph below), which includes not only AI spending but also housing and office real estate, NFTs and venture capital. That’s how you get the chart below on misallocation — a lot of variables but think of it as the mis-allocated portion of gross domestic product (GDP) fueled by artificially low interest rates.

MacroStrategy’s conclusion is very stark: the U.S. economy already at stall speed will fall into recession as both the data center and wealth effects plateau and then reverse, just as they did when the dot-com bubble burst in 2001.

“The danger is not only that this pushes us into a zone 4 deflationary bust on our investment clock, but that it also makes it hard for the Fed and the Trump administration to stimulate the economy out of it. This means a much longer effort at reflation, a bit like what we saw in the early 1990s, after the S&L crisis, and likely special measures as well, as the Trump administration seeks to devalue the US$ in an effort to onshore jobs,” they say.

Finally, few analysts are paying attention to ever increasing AI Hallucinations.

From a San Jose Mercury news article titled,

Chatbot dreams generate AI nightmares for Bay Area lawyers

A Palo Alto lawyer with nearly a half-century of experience admitted to an Oakland federal judge this summer that legal cases he referenced in an important court filing didn’t exist and appeared to be products of artificial intelligence “hallucinations.”

A specialist in computer law, Jack Russo found himself in the rapidly growing company of lawyers publicly shamed as wildly popular but error-prone artificial intelligence technology like ChatGPT collides with the rigid rules of legal procedure.

Hallucinations — when AI produces inaccurate or nonsensical information — have posed an ongoing problem in the generative AI that has birthed a Silicon Valley frenzy since San Francisco’s OpenAI released its ChatGPT bot in late 2022. In the legal arena, AI-generated errors are drawing heightened scrutiny as lawyers flock to the technology, and irate judges are making referrals to disciplinary authorities and, in dozens of U.S. cases since 2023, levying financial penalties of up to $31,000, including a California-record fine of $10,000 last month in a Southern California case.

Victor’s Conclusions:

A 2008-like recession would cause a horrendous bear market, which would change the prevailing view that equity markets never go down for very long (e.g. Covid crisis in 2020 and Liberation Day tariff tantrum this April). A war involving Russia or China, might be that catalyst, but the threat of nuclear war would be catastrophic. I strongly believe that war is the greatest risk to the world.

Bullish excuses have gone to unbelievable dimensions. Macro strategist Jim Bianco of the well-respected Bianco Research has argued that due to lower immigration and increased deportations, the U.S. economy no longer needs to create as many new jobs each month. This perspective challenges the historical assumption that consistent, high job growth is always necessary to maintain a healthy labor market.

Along with this crazy concoction goes the saying we can have a “jobless economic expansion.” On September 16, 2025, Yahoo Finance reported that a "jobless expansion" was becoming "the market's latest bull case," as investors hoped a weaker jobs market would prompt the Federal Reserve to cut interest rates. “The S&P 500 keeps notching record highs even as hiring cools and unemployment rises — “the curious case of a jobless expansion," as JPMorgan dubs it. The bet is straightforward: Weaker jobs push the Fed to cut interest rates, lower rates lift valuations, and slower wage growth fattens margins.”

Gregory Daco, the chief economist at EY, agreed, saying a "jobless expansion" is a plausible but fragile possibility for the U.S. economy. Daco also opined that investors' enthusiasm for potential Fed rate cuts was driving up stocks, rather than strong economic fundamentals.

-->This mockery of human intelligence is insulting.

The Tulip Bulb Mania in Bitcoin is based on the belief that something is valuable because it has limited production, not that it is used for any economic purpose other than money laundering.

The South Sea Bubble of today is AI. It will likely keep going until investors and speculators (really gamblers) start to lose big money.

End Quote:

"The first lesson of economics is scarcity: There is never enough of anything to satisfy all those who want it. The first lesson of politics is to disregard the first lesson of economics"

From Thomas Sowell's 1995 book The Vision of the Anointed.

This quote highlights that scarcity—the fundamental lack of sufficient resources to meet

limitless human desires—is the core principle of economics.  Sowell then contrasts this

with politics, suggesting that political actions often ignore this basic economic reality,

leading to unrealistic promises or policies that fail to acknowledge resource constraints.

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Wishing you good health, success and good luck. Till next time……

The Curmudgeon
ajwdct@gmail.com

Follow the Curmudgeon on Twitter @ajwdct247

Curmudgeon is a retired investment professional.  He has been involved in financial markets since 1968 (yes, he cut his teeth on the 1968-1974 bear market), became an SEC Registered Investment Advisor in 1995, and received the Chartered Financial Analyst designation from AIMR (now CFA Institute) in 1996.  He managed hedged equity and alternative (non-correlated) investment accounts for clients from 1992-2005.

Victor Sperandeo is a historian, economist and financial innovator who has re-invented himself and the companies he's owned (since 1971) to profit in the ever-changing and arcane world of markets, economies, and government policies.  Victor started his Wall Street career in 1966 and began trading for a living in 1968. As President and CEO of Alpha Financial Technologies LLC, Sperandeo oversees the firm's research and development platform, which is used to create innovative solutions for different futures markets, risk parameters and other factors.

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