"Gluttony might be innocuous were it not for the fact that gluttons tend to disregard whether their self-serving behaviors harm anyone else. We don't need to look far and wide to find examples of gluttonous behavior, as they are numerous throughout the history of capital." - Simon Mainwaring
Reading article after article on the amount of debt being printed daily by the central bankers around the world is like listening to a stuck record (for those of you too young to know, in the good old days music was played on vinyl records that would sometimes hit a scratch and repeat themselves continually until you got up and moved the playing arm past the problem). As I have mentioned before the Keynesian school of economics, which seems to be being practiced across the globe in some form or another, relies on heavy government spending, lower tax rates and low interest rates to stimulate spending. A side effect of this is that large influxes of capital lower a country's currency value when measured against a basket of other currencies. Lowering a currency's value stimulates exports and local consumption allowing a country to recover from an economic downturn. Furthermore increased spending from the government should result in stimulus and the result is economic growth.
Looking around the world today and it appears that the central bankers of the world have become gluttons of their own debt. While Keynes was for stimulating I have to believe that even he would be shaking his head at this gluttony as $60 trillion of increased global debt has barely had any economic impact. Each day billions is spent buying debt created by the governments. Everyone it seems is awash with their own newly created debt but the results are not stimulus but a burgeoning debt level. It is thought that unless more stimulus is added the world will fall into a massive recession so the only option is to print more money. Stop printing and your currency appreciates making you open to a recession. Raise interest rates and who knows where the currency will appreciate to and how far the economy will tumble!
Already we are seeing the effects of the slow down in stimulus from the Federal Reserve on the dollar. As Japan is the largest glutton in the globe their currency has fallen the furthest against the dollar diving more than 30% in 30 months. Britain and Europe have also seen their currencies fall against the dollar but not by as much as Japan, Looking at the Euro/Yen exchange rate over the past two years shows only a 5% movement during the past two years as the two economic blocks fight for currency depreciation against the dollar. With this lack of currency depreciation has come limited economic growth for either of these two areas while in America the stronger dollar is causing fits for American companies as their earnings and sales are tumbling.
As I mentioned in a previous blog it appears that this currency race to zero is not having the desired effect and in fact may be the cause of the globe's tussle with deflation. Cheaper currencies mean cheaper exports leading to lower prices in the purchasing country resulting in an export of depreciation. As one of the expectations from all of the stimulus is to see inflation resume it may be that the massive global debt is creating the very thing that everyone is trying to avoid.
In the United States where quantitative easing was officially stopped almost a year ago there is the expectation that the poor numbers from the first half of the year will be magically replaced by economic growth robust enough to require the Federal Reserve to raise interest rates. Based on the above argument it seems almost impossible to imagine this happening as any further appreciation in the dollar will surely put a bullet in the heart of any economic growth and force the Federal Reserve to not only ratchet down the interest rates but to resume its quantitative easing program repeating a cycle that has produced no results.
As with most if not all gluttons it is not the starting that is the problem it is the stopping and this is the problem. How the world of gluttonous central bankers weens their way off this quantitative easing cycle is beyond me but at some point, like all gluttons, the madness has to end and it is never pretty.
Friday, June 26, 2015
Friday, June 19, 2015
Surprise, Surprise - NOT
"Humor is a spontaneous, wonderful bit of outburst that just comes. It's unbridled, it's unplanned, it's full of surprises." - Erma Bombeck
"How ridiculous and how strange to be surprised at anything that happens in life." - Marcus Aurelius
This week the Federal Reserve left interest rates at their previous record low levels. During their press release they once again sat firmly on the fence of caution and optimism leaving the markets guessing as to their next step. Consensus still expects an interest rate increase later in the year, possibly as early as September. The market reacted as if the decision to leave interest rates alone was surprising but readers of this blog should not have thought it strange at all. In fact I found it strange that the market actually responded positively to the news as clearly the Federal Reserve still considers the economy too weak to handle even a 1/4 point move higher. Furthermore it is clear that the market is still firmly drinking from the fire hose that is low interest rates and that any move higher will stick a knife right through its heart.
It almost seems like the record is stuck as once again the growth projections were ratcheted down from a range of 2.3% to 2.7% to a range of 1.8% to 2.0%. I would not be surprised if this range is lowered further later in the year. Certainly there has not been much if any of an economic uptick in the data through the end of May. Consumption dropped in March and April, both months with no cold weather impacts, and industrial production has now fallen for five months straight. For these reasons some economists argue that the United States is in a "secular stagnation". Secular stagnation refers to the economic theory where savers do not invest their proceeds into the economy and so the economy stagnates.
Looking at America it seems hard to push the economy malfunctions into the secular stagnation box although as has previously been written in this blog the inequality of earnings is now at its highest level since 1928. High earners are more likely to save rather than invest so this may point to some of the problem but companies are borrowing money at greater rates than at any time in the past and margin debt is also at a record high.
To me the problem is the access to capital. Large corporations have access to as much capital as they can or are willing to acquire while small growth companies are unable to access capital regardless of their outlook. These large companies compete on the world stage which is really struggling and does not create much demand at home. Now of course this is a very broad brush but in the main it holds true. In addition while the unemployment rate has dropped the middle class continues to be squeezed and this uneasiness closes wallets. In my sphere it is rare to hear of a small business owner who is truly optimistic about the future. They are still on edge and have been since 2008. To them nothing has really changed. Sure the economy has not imploded again but it certainly does not feel like it has come even close to recovering.
With this outlook it is no wonder that the economy continues to splutter. If more were done to free up capital and level the playing field to assist the small business owner I firmly believe that this economy would be flying. Instead the world sits watching the Federal Reserve play games with interest rates and soon we will be barraged with a bunch of horse manure from the potential presidential candidates as to how they are going to grow the economy by magically finding jobs and cutting taxes. Until they wake up to the fact that the economy needs a complete revision to the rules of the game we will continue to splutter along and will probably waste another decade. During this time it should be no surprise to my readers if the Federal Reserve keeps interests rates low far longer than anyone can imagine as they really have no metric to hang their higher interest rate hats on. They will continue to blow hot air around their stuffy conference room but unfortunately this will not result in a humorous outburst - surprise, surprise; NOT.
"How ridiculous and how strange to be surprised at anything that happens in life." - Marcus Aurelius
This week the Federal Reserve left interest rates at their previous record low levels. During their press release they once again sat firmly on the fence of caution and optimism leaving the markets guessing as to their next step. Consensus still expects an interest rate increase later in the year, possibly as early as September. The market reacted as if the decision to leave interest rates alone was surprising but readers of this blog should not have thought it strange at all. In fact I found it strange that the market actually responded positively to the news as clearly the Federal Reserve still considers the economy too weak to handle even a 1/4 point move higher. Furthermore it is clear that the market is still firmly drinking from the fire hose that is low interest rates and that any move higher will stick a knife right through its heart.
It almost seems like the record is stuck as once again the growth projections were ratcheted down from a range of 2.3% to 2.7% to a range of 1.8% to 2.0%. I would not be surprised if this range is lowered further later in the year. Certainly there has not been much if any of an economic uptick in the data through the end of May. Consumption dropped in March and April, both months with no cold weather impacts, and industrial production has now fallen for five months straight. For these reasons some economists argue that the United States is in a "secular stagnation". Secular stagnation refers to the economic theory where savers do not invest their proceeds into the economy and so the economy stagnates.
Looking at America it seems hard to push the economy malfunctions into the secular stagnation box although as has previously been written in this blog the inequality of earnings is now at its highest level since 1928. High earners are more likely to save rather than invest so this may point to some of the problem but companies are borrowing money at greater rates than at any time in the past and margin debt is also at a record high.
To me the problem is the access to capital. Large corporations have access to as much capital as they can or are willing to acquire while small growth companies are unable to access capital regardless of their outlook. These large companies compete on the world stage which is really struggling and does not create much demand at home. Now of course this is a very broad brush but in the main it holds true. In addition while the unemployment rate has dropped the middle class continues to be squeezed and this uneasiness closes wallets. In my sphere it is rare to hear of a small business owner who is truly optimistic about the future. They are still on edge and have been since 2008. To them nothing has really changed. Sure the economy has not imploded again but it certainly does not feel like it has come even close to recovering.
With this outlook it is no wonder that the economy continues to splutter. If more were done to free up capital and level the playing field to assist the small business owner I firmly believe that this economy would be flying. Instead the world sits watching the Federal Reserve play games with interest rates and soon we will be barraged with a bunch of horse manure from the potential presidential candidates as to how they are going to grow the economy by magically finding jobs and cutting taxes. Until they wake up to the fact that the economy needs a complete revision to the rules of the game we will continue to splutter along and will probably waste another decade. During this time it should be no surprise to my readers if the Federal Reserve keeps interests rates low far longer than anyone can imagine as they really have no metric to hang their higher interest rate hats on. They will continue to blow hot air around their stuffy conference room but unfortunately this will not result in a humorous outburst - surprise, surprise; NOT.
Friday, June 12, 2015
Ignorance is Bliss
"Ignorance is bliss. I wish I still had some." - Adam Pascal
Sometimes while I am reading economic reports over a quiet lunch the chatter of happily ignorant people reaches me and I have to wonder what it must be like to go through life with the ignorant belief that someone, somewhere, the "theys" of modern society (I still have no idea who "they" are but apparently "they" are always looking out for everyone's best interest and will come to the rescue in our hours of need), is looking out for our well being. There is no need to plan for retirement or worry about any future market turmoil as it will all work itself out and that magically, when it comes time to retire, the nest egg will suddenly lay itself and will produce a smooth 8% year over year return that will more than satisfy their needs.
As I am sitting at my table surrounded by economic inputs showing increasingly poor numbers that the Federal Reserve believes can be rectified with ever more debt, it is completely clear to me that this bubble that the majority of people live in will soon be popped. Not that I am predicting a popping tomorrow or even next week as that would be absurd to place a date or time on something that is unknown but with every fiber of my body and with more than 30 years of experience under my belt it is crystal clear that the policies followed by the central bankers of the world are leading us to a bitter end.
Some of the numbers that I look at show company GAAP earnings falling more than 8% year over year while GDP growth declined 0.7% in the first quarter. Furthermore US corporate revenues are declining while price to earnings ratios reach levels not attained outside of 1929, 2000 and 2007. The stock bulls believe that everything will once again return to growth magically in the second half of the year but there is little evidence to show that their expectations will be met. In the meantime citizens live like turkeys, ignorant that Thanksgiving is around the corner.
So for those of us who have lost our ignorance virginity the solution is to minimize risk or, better still, become antifragile. In his book "Antifragile", Nassim Taleb describes that in order to benefit from the expected collapse that one's portfolio needs to be convex. A convex portfolio has limited losses but large profits which is contrary to the current state of the market where there is minimal upside or profits with the potential for large losses, in other words concave results. The way to detect whether your portfolio is concave or convex is to determine the acceleration of harm (or benefit). This is critically important and will determine whether you should remain in an investment or exit.
Now not everyone is a statistical genius as he is but we can all run some simple models that can extrapolate results. These results may not even be accurate but, assuming that you have done a half way decent job of capturing the larger variables, then changing the inputs will quickly show you whether your investment is convex or concave. As an example if the Federal Reserve has added (which they have) $4 trillion dollars and the result is a mediocre increase in GDP then adding more debt should show limited returns. This is called the utility function in economics where every additional dollar has less of an impact. However, if interest rates spike then the downside to this investment is huge. So limited upside but massive downside is a seriously concave investment and is being replicated throughout the world by all of the central bankers. In essence they have created the mother of all concave investments.
Hopefully you have a chance to take a good rational look at your investment portfolio and ensure that it is smiling rather than frowning and if it is not then take this time to turn that frown around so that you are not let down when everything else is. Make sense of that last sentence if you can but I am sorry to say that if you have read this far then you too have lost your ignorance so it is now time to spring into action!
Sometimes while I am reading economic reports over a quiet lunch the chatter of happily ignorant people reaches me and I have to wonder what it must be like to go through life with the ignorant belief that someone, somewhere, the "theys" of modern society (I still have no idea who "they" are but apparently "they" are always looking out for everyone's best interest and will come to the rescue in our hours of need), is looking out for our well being. There is no need to plan for retirement or worry about any future market turmoil as it will all work itself out and that magically, when it comes time to retire, the nest egg will suddenly lay itself and will produce a smooth 8% year over year return that will more than satisfy their needs.
As I am sitting at my table surrounded by economic inputs showing increasingly poor numbers that the Federal Reserve believes can be rectified with ever more debt, it is completely clear to me that this bubble that the majority of people live in will soon be popped. Not that I am predicting a popping tomorrow or even next week as that would be absurd to place a date or time on something that is unknown but with every fiber of my body and with more than 30 years of experience under my belt it is crystal clear that the policies followed by the central bankers of the world are leading us to a bitter end.
Some of the numbers that I look at show company GAAP earnings falling more than 8% year over year while GDP growth declined 0.7% in the first quarter. Furthermore US corporate revenues are declining while price to earnings ratios reach levels not attained outside of 1929, 2000 and 2007. The stock bulls believe that everything will once again return to growth magically in the second half of the year but there is little evidence to show that their expectations will be met. In the meantime citizens live like turkeys, ignorant that Thanksgiving is around the corner.
So for those of us who have lost our ignorance virginity the solution is to minimize risk or, better still, become antifragile. In his book "Antifragile", Nassim Taleb describes that in order to benefit from the expected collapse that one's portfolio needs to be convex. A convex portfolio has limited losses but large profits which is contrary to the current state of the market where there is minimal upside or profits with the potential for large losses, in other words concave results. The way to detect whether your portfolio is concave or convex is to determine the acceleration of harm (or benefit). This is critically important and will determine whether you should remain in an investment or exit.
Now not everyone is a statistical genius as he is but we can all run some simple models that can extrapolate results. These results may not even be accurate but, assuming that you have done a half way decent job of capturing the larger variables, then changing the inputs will quickly show you whether your investment is convex or concave. As an example if the Federal Reserve has added (which they have) $4 trillion dollars and the result is a mediocre increase in GDP then adding more debt should show limited returns. This is called the utility function in economics where every additional dollar has less of an impact. However, if interest rates spike then the downside to this investment is huge. So limited upside but massive downside is a seriously concave investment and is being replicated throughout the world by all of the central bankers. In essence they have created the mother of all concave investments.
Hopefully you have a chance to take a good rational look at your investment portfolio and ensure that it is smiling rather than frowning and if it is not then take this time to turn that frown around so that you are not let down when everything else is. Make sense of that last sentence if you can but I am sorry to say that if you have read this far then you too have lost your ignorance so it is now time to spring into action!
Friday, June 5, 2015
Human Capital is the Key
"The worth of a human being lies in the ability to extend oneself, to go outside oneself, to exist in and for other people." - Milan Kundera
Human capital is a very interesting economic concept and one that is not brought up in the normal course of investment strategies but this is a mistake. Human capital is the inherent ability that we as individuals have to make money. Each of us has a certain amount of human capital which we use up as we get older. By the time that we retire the majority of our human capital is used and we are then reliant almost exclusively on our investments to support us. So over time the idea is to maximize your human capital and turn as much of it into an investment pool as possible which can then be used to provide a good retirement.
Taking this at face value it can quickly be seen that an investment in your human capital is not only of utmost importance but should be continued throughout your career. To some this would mean that a university education is of utmost importance but as I have argued in a previous blog there comes a point where the cost of the education obtained exceeds the benefit to human capital. In these cases it would be more beneficial to learn through an apprentice program but the point is that education and learning are key ingredients to maximizing human capital. Looking at the world as a whole just getting everyone a high school education would lift the globe's total human capital enormously and would lift the GDPs of numerous countries significantly. It would seem like a no brainer for governments to provide this education at a minimum but power and politics can unfortunately often get in the way. Why educate the masses when they may then not vote for you once educated and you lose your cheap labor pool? As shameful as these policies are the other side of the equation is where the long hand of politics and government reaches into the university market and drives the cost of education through the roof. Worse still is the amount of interest charged to students by the government entities providing the loans. All of these policies limit human capital and therefore GDP growth.
Outside of education another way that human capital can be enhanced is through productivity growth. Looking back in time the benefits to this can be seen in the mid to late 1990s as the "miracle that is productivity growth" (Alan Greenspan) drove GDP growth through the roof. Since then there has been a slowdown in the acceleration of productivity growth This can be seen clearly in the graph below and is one of the main reasons that growth has stagnated in the United States.
Combining this productivity slowdown with the lowest labor participation rate in decades and you can clearly see why the United States and other countries around the globe are struggling with expanding their GDP. As amazing as it is then the Federal Reserve and other central bankers still believe that this problem can be repaired by throwing money at banks and lowering interest rates. Still more confounding is that economists continue to expect a recovery in the second half of the year driven by consumer spending! Until human capital growth resumes itself the globe will be stuck with slow GDP growth and the consumer will not be the driver of growth.
Hopefully the consumer is spending their money on developing new skill sets to grow their human capital rather than invest in the stock market as this will provide a far greater return on capital than the alternative and will allow the world to move out of its stagnation cycle and into a new era of economic growth.
Human capital is a very interesting economic concept and one that is not brought up in the normal course of investment strategies but this is a mistake. Human capital is the inherent ability that we as individuals have to make money. Each of us has a certain amount of human capital which we use up as we get older. By the time that we retire the majority of our human capital is used and we are then reliant almost exclusively on our investments to support us. So over time the idea is to maximize your human capital and turn as much of it into an investment pool as possible which can then be used to provide a good retirement.
Taking this at face value it can quickly be seen that an investment in your human capital is not only of utmost importance but should be continued throughout your career. To some this would mean that a university education is of utmost importance but as I have argued in a previous blog there comes a point where the cost of the education obtained exceeds the benefit to human capital. In these cases it would be more beneficial to learn through an apprentice program but the point is that education and learning are key ingredients to maximizing human capital. Looking at the world as a whole just getting everyone a high school education would lift the globe's total human capital enormously and would lift the GDPs of numerous countries significantly. It would seem like a no brainer for governments to provide this education at a minimum but power and politics can unfortunately often get in the way. Why educate the masses when they may then not vote for you once educated and you lose your cheap labor pool? As shameful as these policies are the other side of the equation is where the long hand of politics and government reaches into the university market and drives the cost of education through the roof. Worse still is the amount of interest charged to students by the government entities providing the loans. All of these policies limit human capital and therefore GDP growth.
Outside of education another way that human capital can be enhanced is through productivity growth. Looking back in time the benefits to this can be seen in the mid to late 1990s as the "miracle that is productivity growth" (Alan Greenspan) drove GDP growth through the roof. Since then there has been a slowdown in the acceleration of productivity growth This can be seen clearly in the graph below and is one of the main reasons that growth has stagnated in the United States.
Combining this productivity slowdown with the lowest labor participation rate in decades and you can clearly see why the United States and other countries around the globe are struggling with expanding their GDP. As amazing as it is then the Federal Reserve and other central bankers still believe that this problem can be repaired by throwing money at banks and lowering interest rates. Still more confounding is that economists continue to expect a recovery in the second half of the year driven by consumer spending! Until human capital growth resumes itself the globe will be stuck with slow GDP growth and the consumer will not be the driver of growth.
Hopefully the consumer is spending their money on developing new skill sets to grow their human capital rather than invest in the stock market as this will provide a far greater return on capital than the alternative and will allow the world to move out of its stagnation cycle and into a new era of economic growth.
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