Worldview Investing - Ruminations on the World Economy

     Ray Dalio is the manager and co-chief investment officer of the world's biggest hedge fund, Bridgewater Associates. He has written extensively about economic cycles and has been outspoken in his warnings that the public always pays the price for their government's fiscal and monetary misadventures and are about to do so again. Here is a recent post.

                                         Source: CantonRep.com      They stand mute, shell-shocked and ashen-faced.  Finally, the central banker speaks up. I can't believe what's happened!! Who could have known that lowering real interest rates to below zero  for a decade following the sub-prime mortgage crisis - that we caused with low rates, excess liquidity and no regulatory oversight - could lead to high inflation? And who

"There is no art which a government learns sooner than that of draining money from the pockets of the people."  - Adam Smith 1723-1790     And there are those eager to facilitate that draining. Martin Wolf writes a column for the Financial Times newspaper. He is highly regarded - by those in government and academia. Larry Summers calls him "the world's preeminent financial journalist."  Mohamed A. El-Erian says he is "by far the most influential economist out there." Kenneth Rogoff calls him the "premier financial and economics writer in the world." Wolf recently penned an FT editorial, " The case for a land value tax is overwhelming ."  He wrote,

   So said Antonio in Shakespeare's  The Tempest,  to his co-conspirator Sebastian, to justify the murderous act they were about to commit. Today the phrase is used less ominously to mean that history sets the stage for what happens next. About that there can be little doubt. The present is necessarily built on the foundations of what has come before. This leads us to believe that our future will be an extension of the present. In the world of psychology, this is known as "recency bias." However, the future often plays out very differently than expected because we have misinterpreted what has actually happened and ignored obvious risks.  

                        Source: Shutterstock      Ray Dalio, CEO and former co-chief investment officer at hedge fund Bridgewater Associates, has  spent decades researching and writing about the political and financial cycles that have recurred throughout history. His book " The Changing World Order: Why Nations Succeed and Fail " is not just for historians. It is essential reading for investors. He finds that the rise and fall of major powers follow a predictable template. Armed with this knowledge, we can plot where we are in the current cycle.

                                                 "Time" is a hard word to define.  Does Merriam Webster's "a non-spatial continuum that is measured in terms of events that succeed one another from the past into the future" help you wrap your arms around the concept?  If this definition is correct, it would suggest that tripping and falling or touching a hot stove and getting burned is "time." A curious thing about time is its apparent elastic quality. As a child it felt like an  eternity between birthdays or while having to sit quietly at grandma's dinner table while the adults droned on about topics we did not understand. But when we are immersed in a good book, it seems to fly by. Often time appears to stretch forever into the future like the rail tracks above.  But as we get older, we begin to appreciate the insight of si...

       If you watched the popular series "Game of Thrones" you will recognize the warning. It cautioned that when winter comes to Westeros, it is unspeakably brutal and denizens must be prepared if they have any hope of surviving.  This is periodically true in the investment world.  Markets move in both short and long-term cycles. An investment strategy that is successful during the bull (summer) phase of a long term cycle is unlikely to be suitable for the bear (winter) phase of the cycle.  While all winters (down cycles) are tough, some are horrific. 

     Fed chairman Jerome Powell assures the world and nervous Americans that after flooding the US economy with $8 trillion of freshly minted money (causing the highest price inflation in forty years) the Federal Reserve Bank is fully capable of remedying the crisis without triggering further inflation, a stock market crash, recession or high unemployment. Believing that requires one to disregard its sorry history of trying to micro-manage the world's biggest, globally interconnected, infinitely complex economy. It also requires one to ignore the fact that it has never managed to avoid precipitating a recession once price inflation exceeds 5%. Today's government-calculated inflation rate is 8.5% (it exceeds 16% if calculated as historically done). 

President Biden, Jay Powell, Christine Lagarde (head of the European Central Bank), Boris Johnson and Andrew Bailey (head of the Bank of England) all vow to fight surging inflation. None will succeed over the long term. If investors understand why this is the case they will be far better positioned for what comes next. As is often the case, the best indicator of the future is the past. When we fail to take note of history we continue to be surprised by recurring events. History tells us what we need to know about government finance and its impact on prices and markets. Every financial crisis differs in some respects from others, but most have a common denominator. That is excessive individual, corporate and governmental debt resulting from maniacal central bank money printing.

We humans have always faced an endless series of disasters. Many are manmade: wars, inflation and social deterioration. Some are served up by nature: viruses, extreme weather, and large meteor impacts. Not infrequently, humans and nature conspire to create catastrophes: forest fires, bursting dams and earthquakes beneath poorly designed nuclear power plants. Today’s major problems include the war in Ukraine, supply line disruptions, inflation and political dysfunction. Each of these is brought to us by the world’s “elites.” We do not use that term in a flattering sense suggesting great leadership and wisdom. To the contrary, the “elites” include sociopaths (Vlad Putin), arrogant grandees (Emmanuel Macron), rules-for-thee but not-for-me (Boris Johnson) and teleprompter-reading talking heads (Joe Biden).

We have written frequently about the harmful effects of government policies on the middle and lower classes throughout the Western world. Wage gains never keep pace with rising inflation. Ever more authoritarian controls over the public constrain their freedoms and limit their opportunities. No one in politics takes responsibility for these outcomes. Rather, those in power appear to be doubling down in their efforts to further enrich the elite at the expense of the workers who produce the goods and provide the services. A LendingClub report found that nearly two-thirds of the U.S. population now lives paycheck to paycheck, up from 61% at the end of the last year. Bankrate.com reports that three-quarters of respondents say that price hikes have hurt them financially. It is not their imagination. The US government admits to soaring inflation through their consumer price index (CPI) reports but the real numbers are far worse.

Investors are facing multiple crises that span the globe. The one captivating the most attention is Putin’s brutal invasion of Ukraine, the second largest country in Europe after Russia. With 43 million people it is the eighth most populous country in Europe. As we all are now aware, it borders Russia to the west. Ukraine has an ancient history. It has been continuously inhabited since 32,000 BCE. Its population now includes 78% Ukrainians and 17% Russians - the latter of which are gathered mostly in the eastern regions and Crimea. It has a long history of being dominated by foreign powers including the Mongols in the 13th century. For six centuries it was fought over and ruled by Poland, Austria, the Ottoman Empire, the Tsardom of Russia and most recently the USSR.

Whether you own a small neighborhood retail store or are the CEO of General Motors, you need to know whether the economy is shrinking or growing. If it is the former, you may decide to cut staff, reduce inventories and defer updating your technology in order to conserve cash. If it is the latter you may choose to preemptively hire staff and buy machinery and equipment to grow your output capacity in expectation of future sales growth. The typical way one gleans this important trend is to study gross domestic product (GDP) statistics.

Over the years there have been many dramatic thefts and cons pulled off by daring criminals. In 1963 thieves stole bags from a Royal Mail train in the UK containing over $3.5 million. The Antwerp Diamond Heist in February 2003 saw thieves make off with over $100 million worth of diamonds, gold, silver and jewelry from a heavily guarded vault in the diamond district. General Sani Abacha, governor of Nigeria in the late 1990’s, is believed to have stolen $3-5 billion from his government. Philippine president Ferdinand Marcos pocketed between $5-10 billion in bribes and money stolen from the government. “Baby Doc” Duvalier in Haiti stole up to 5% of his nation’s GDP. Bernie Madoff conned investors out of billions of dollars in his huge Ponzi scheme. But these miscreants are minor league players in the world of financial embezzlements.

Inflation is at thirty-year highs. Markets are at extreme over-valuations. Fuel and winter heating costs are spiking. Governments are seeking to dictate ever more of what you can do and when you can do it. Real interest rates are at negative levels. Politics has never before been so divisive. Social activists are seeking to overturn national histories and cultures. Why have things become so fraught? Lance Morrow, writing for the Wall Street Journal, observed that everything in politics, the economy, and society is threatening to self-destruct. He tartly explained why: We are “living in a golden age of stupidity.”

The Fed assures us that the major US banks are in good health and have passed rigorous stress tests that ensure taxpayers will not have to bail them out yet again at the next financial crisis. The banks’ health is critical to the US economy. When they are stressed their ability to lend to corporations and individuals is severely restricted and the economy quickly suffers.

We want to be able to retire with enough money to support ourselves in reasonable comfort. That means saving relentlessly over the years. It also means anticipating the financial threats that face us now and in the future. We must correctly identify our enemies.

The inflation debate continues.  Of course, no one knows what the future holds.  If they did they could quickly accumulate all the wealth in the world.  While many people have an opinion about what is to come, it is just that, an opinion.  The great frustration is that very cogent arguments can be made for both temporary and long-term higher prices.  John Mauldin recently concluded his annual Strategic Investment Conference.  He presented many heavy-hitters in the world of economics, finance and investment.  Most of them addressed the inflation debate.

We are not predicting an imminent financial crisis.  But what has transpired over the last decade ensures that we will suffer major pain at some point. It is difficult to wrap one’s arms around what has happened since the 2008 sub-prime mortgage debacle.  But what has happened during just the last year is astonishing.  If you tally up all the money the Fed has  ever printed , over 40% of it was printed in 2020. 

We are all familiar with the aphorism that, “those who do not know history are doomed to repeat it.” But even those who do know history are often doomed because they convince themselves that “this time is different.” Some events occur infrequently, so we are repeatedly surprised by and unprepared for them, like recessions, pandemics, and social unrest.