Search Results for “permanent”

The Permanent Portfolio

Posted on 19 March 2017 by David Merkel

==========================================

I will admit, when I first read about the Permanent Portfolio in the late-80s, I was somewhat skeptical, but not totally dismissive.? Here is the classic Permanent Portfolio, equal proportions of:

S&P 500 stocks
The longest Treasury Bonds
Spot Gold
Money market funds

Think about Inflation, how do these assets do?

S&P 500 stocks ? mediocre to pretty good
The longest Treasury Bonds ? craters
Spot Gold ? soars
Money market funds ? keeps value, earns income

Think about Deflation, how do these assets do?

S&P 500 stocks ? pretty poor to pretty good
The longest Treasury Bonds ? soars
Spot Gold ? craters
Money market funds ? makes a modest amount, loses nothing

Long bonds and gold are volatile, but they are definitely negatively correlated in the long run.? The Permanent Portfolio concept attempts to balance the effects of inflation and deflation, and capture returns from the overshooting that these four asset classes do.

What did I do?

I got the returns data from 12/31/69 to 9/30/2011 on gold, T-bonds, T-bills, and stocks.? I created a hypothetical portfolio that started with 25% in each, rebalancing to 25% in each whenever an asset got to be more than 27.5% or less than 22.5% of the portfolio.? This was the only rebalancing strategy that I tested.? I did not do multiple tests and pick the best one, because that would induce more hindsight bias, where I torture the data to make it confess what I want.

I used a 10% band around 25% ( 22.5%-27.5%) figuring that it would rebalance the portfolio with moderate frequency.? Over the 566 months of the study, it rebalanced 102?times. ?At the top of this article is a graphical summary of the results.

The smooth-ish gold line in the middle is the Permanent Portfolio.? Frankly, I was surprised at how well it did.? It did so well, that I decided to ask, what if we drop out the T-bills in order to leverage the idea.? It improves the returns by 1%, but kicks up the 12-month drawdown by 7%.? Probably not a good tradeoff, but pretty amazing that it beats stocks with lower than bond drawdowns. ?That’s the light brown line.

Results	S&P TR	Bond TR	T-bill TR	Gold TR	PP TR	PP TR levered
Annualized Return	10.40%	8.38%	4.77%	7.82%	8.80%	9.93%
Max 12-mo drawdown	-43.32%	-22.66%	0.02%	-35.07%	-7.65%	-14.75%

Now the above calculations assume no fees.? If you decide to implement it using SPY, TLT, SHY and GLD, (or something similar) there will be some modest level of fees, and commission costs.

?What Could Go Wrong

Now, what could go wrong with an analysis like this?? The first point is that the history could be unusual, and not be indicative of the future.? What was unusual about the period 1970-2017?

Went off the gold standard; individual holding of gold legalized.
High level of gold appreciation was historically abnormal.
Deregulation of money markets allowed greater volatility in short-term rates.
ZIRP crushed money market rates.
Federal Reserve micro-management of short-term rates led to undue certainty in the markets over the efficacy of monetary policy ? ?The Great Moderation.?
Volcker era interest rates were abnormal, but necessary to squeeze out inflation.
Low long Treasury rates today are abnormal, partially due to fear, and abnormal Fed policy.
Thus it would be unusual to see a lot more performance out of long Treasuries. The stellar returns of the past can?t be repeated.
Three hard falls in the stock market 1973-4, 2000-2, 2007-9, each with a comeback.
By the end of the period, profit margins for stocks were abnormally high, and overvaluations are significant.

But maybe the way to view the abnormalities of the period as being ?tests? of the strategy.? If it can survive this many tests, perhaps it can survive the unknown tests of the future.

Other risks, however unlikely, include:

Holding gold could be made illegal again.
The T-bills and T-bonds have only one creditor, the US Government. Are there scenarios where they might default for political reasons?? I think in most scenarios bondholders get paid, but who can tell?
Stock markets can close for protracted periods of time; in principle, public corporations could be made illegal, as they are statutory creations.
The US as a society could become less creative & productive, leading to malaise in its markets. Think of how promising Argentina was 100 years ago.

But if risks this severe happen, almost no investment strategy will be any good.? If the US isn?t a desirable place to live, what other area of the world would be?? And how difficult would it be to transfer assets there?

Summary

The Permanent Portfolio strategy is about as promising as any that I have seen for preserving the value of assets through a wide number of macroeconomic scenarios.? The volatility is low enough that almost anyone could maintain it.? Finally, it?s pretty simple.? Makes me want to consider what sort of product could be made out of this.

=======================================================

Back to the Present

I delayed on posting this for a while — the original work was done five years ago. ?In that time, there has been a decent amount of digital ink spilled on the Permanent Portfolio idea of Harry Browne’s. ?I have two pieces written:?Permanent Asset Allocation, and?Can the ?Permanent Portfolio? Work Today?

Part of the recent doubt on the concept has come from three sources:

Zero Interest rate policy [ZIRP] since late 2008, (6.8%/yr PP return)
The fall in Gold since late 2012 (2.7%/yr PP return), and
The fall in T-bonds in since mid-2016 (-4.7%?annualized PP return).

Out of 46 calendar years, the strategy makes money in 41 of them, and loses money in 5 with the losses being small: 1.0% (2008), 1.9% (1994), 2.2% (2013), 3.6% (2015), and 4.5% (1981). ?I don’t know about what other people think, but there might be a market for a strategy that loses ~2.6% 11% of the time, and makes 9%+?89% of the time.

Here’s the thing, though — just because it succeeded in the past does not mean it will in the future. ?There is a decent theory behind the Permanent Portfolio, but can it survive highly priced bonds and stocks? ?My guess is yes.

Scenarios: 1) inflation runs, and the Fed falls behind the curve — cash and gold do well, bonds tank, and stocks muddle. ?2) Growth stalls, and so does the Fed: bonds rally, cash and stocks muddle, and gold follows the course of inflation. 3) Growth runs, and the Fed swarms with hawks. Cash does well, and the rest muddle.

It’s hard, almost impossible to make them all do badly at the same time. ?They react differently to?changes in the macro-economy.

Upshot

There are a lot of modified permanent portfolio ideas out there, most of which have done worse than the pure strategy. ?This permanent portfolio strategy?would be relatively pure. ?I’m toying with the idea of a lower minimum ($25,000) separate account that would hold four funds and rebalance as stated above, with fees of 0.2% over the ETF fees. ?To minimize taxes, high cost tax lots would be sold first. ?My question is would there be interest for something like this? ?I would be using a better set of ETFs than the ones that I listed above.

I write this, knowing that I was disappointed when I started out with my equity management. ?Many indicated interest; few carried through. ?Small accounts and a low fee structure do not add up to a scalable model unless two things happen: 1) enough accounts want it, and 2) all reporting services are provided by Interactive Brokers.

Closing

Besides, anyone could do the rebalancing strategy. ?It’s not rocket science. ?There are enough decent ETFs to use. ?Would anyone truly want to pay 0.2%/yr on assets to have someone select the funds and do the rebalancing for him? ?I wouldn’t.

Can the “Permanent Portfolio” Work Today?

Posted on 6 August 20146 August 2014 by David Merkel

Another letter from a reader:

Dear Mr. Merkel:

I just discovered your blog through Valuewalk, which I read most days. I haven’t read much yet on your blog, but from what I’ve seen, I really like your insights and comments.

I’ve been thinking for a long time about the idea of a permanent portfolio concept, based on writing from years ago of an investment analyst, Harry Browne, now deceased. I’ve been thinking about this for my own investment requirements and also because I intend to write a book on the subject.

The big problem with a permanent portfolio today, versus 30 years ago, in my judgement, is identifying a long term fixed income vehicle would survive a major financial collapse. Browne always used 30 year US Treasury bonds, in an era when it seemed clear those bonds could survive a monetary deflation.

Of course, the Fed isn’t about to institute a policy of sustained monetary deflation any time soon, on a voluntary basis. Any such deflation would occur, either because the Fed were unable or unwilling to monetize assets fast enough to head off cascading cross defaults and massive bonk failures; or because the Fed decided to let the house of cards collapse, in some future recession-panic, because it became obvious to a plurality of Fed governors that to prop up the house of cards would guarantee hyper inflation in short order. Of course, a hyper inflation would not only destroy the financial system, including the central bank; it would overturn the established political order, and cause a famine as the division of labor fell apart.?

I think a monetary deflation will happen sooner or later, because of a financial “accident” (that reasonable people can foresee). Even if the central banks were to cause a hyper inflation, when that inflation ends after two or three years, the currency must be renounced. Then we would get deflation for a while via some new currency.

Since I think the deflation risk is realistic, I’m trying to figure out what-if any-bond instruments could survive deflationary destruction. Obviously, in a monetary deflation, all investment prices plummet, except default-free bonds. Default free bonds would rise in price, as interest rates plummeted. However, I’m not clear as to what bonds might work as vehicles in a permanent portfolio, because T bonds are no longer a reliable safe haven from eventual political default.

There might well be sovereign bonds in other countries that are more friendly to free enterprise and private property than contemporary US, and hence less prone to sovereign bond default,? but this introduces the risk of currency fluctuations. So it’s not a perfect solution. Perhaps some foreign sovereign debt combined with US Treasury debt would partly work. It has also occurred to me that some US utility or pipeline firm etc. might offer debt or preferred stock or other forms of fixed income debt/equity ownership that would survive default. In a terrible depression, I’d assume some utility companies would continue to function although, of course, not flourish. Obviously, any such debt or equity would be a very special situation, since most firms are now loaded to the gills with debt, making them poor risks to survive a crushing deflation.

My impression is all this is right up your ally. (Except for my musing-theorizing about the risk of monetary deflation, which no doubt makes me seem like a religious fanatic or political crazy.) Anyway, I’d be interested if you think this problem can be solved. In other words, do you think some private debt issues that are long term or even medium term exist to be discovered that could avoid default in a huge deflationary depression? How would you go about conducting a search for such safe U.S. corporate bonds or other fixed income instruments?

What I really need to do is immerse myself in reading about fixed income analysis. Which I hope to get to in a few months.

None of my fixation with bonds has to do with forecasting a decline in interest rates; until the next crisis, rates on the long end could easily climb. I’m looking for a secure volatile instrument that would gain in price as other investments were falling during a financial panic and subsequent depression.

Thanks for reading through all this. I look forward to spending a lot of hours in the future on your blog.

Yours truly,

Dear Friend,

I have written about the Permanent Portfolio concept here. ?I think it is valid. ?At some point in the near term, I will update my analysis of the Permanent Portfolio, and publish it for all to see, which I have not done before.

In a significant inflation scenario, gold would soar, long T-bonds would tank, T-bills would actually earn nominal but not real money, and stocks would likely trail inflation, aside from investors that invest in low P/E stocks. ?The permanent portfolio would likely do okay.

Same ?for a deflation scenario. ?Stocks will muddle. T-bonds will do well. ?T-bills will do nothing. ?Gold will do badly. ?That said, the permanent portfolio concept is meant to be an all-weather vehicle, and has done well over the last 44 years, with only 3 losing years, and returns that match the S&P 500, but with half the volatility.

I’m usually not a friend of ideas like this, but the Permanent Portfolio chose four assets where the price responses to changes in real rates and inflation fought each other. ?The rebalancing method is important here, as it is a strategy that benefits from volatility.

With respect to where to invest in fixed income?to benefit from a depression is a touchy thing — it’s kind of like default swaps on the US government, which are typically denominated in Euros. ?How do you know that the counterparty will be solvent? ?How do you know that the Euro will be worth anything?

Personally, I would just stick with long US Treasuries. ?The US has the least problems of all the great powers in the world. ?You could try to intensify you returns by overweighting long Treasuries, but that is making a bet. ?The Permanent Portfolio makes no bets. ?It just takes advantage of economic volatility, and rides the waves of?of the economy. ?As a group, stocks, T-bonds, T-bills, and gold, react very differently to volatility, and as such do well, when many other strategies do not.

Warren Buffett is “scary smart,” so says Charlie Munger, who is “scary smart” himself. ?I think Harry Browne was “scary smart” with respect to the Permanent Portfolio idea. ?But am I, the recommend-er “scary smart?” ?I do okay, but probably not “scary smart,” so take my words with a grain of salt.

Sincerely,

David

PS — As an aside, I would note that if everyone adopted the “Permanent Portfolio” idea — gold would go through the roof, because that is the scarcest of the four investments.

Permanent Asset Allocation

Posted on 6 January 2012 by David Merkel

	Short run		Intermediate		Long Run
	Nominal	Real	Nominal	Real	Nominal	Real
Stocks	+	–	+ small	– big	+	0
Bonds	–	0	0	0	+	0
Cash	+	–	+	–	+	–
Gold	0	–	+ small	–	+	–




	Short run		Intermediate		Long Run
	Inflation	Real	Inflation	Real	Inflation	Real
Stocks	+	0	– small	– big	+	+
Bonds	–	–	0	0	+	+
Cash	+	0	+	0	+	0
Gold	0	–	+ small	– small	+	0

(Note: Nominal = Real + Inflation)

This article is meant to tie up some loose ends, and suggest the outline of what might be a clever way to do asset allocation.? Who knows?? At the end, there might be a surprise.

I’ve done two articles recently on the effects of inflation expectations and real interest rates on two asset classes in the short run — gold and stocks.? Tonight, I want to extend that two directions, to bonds and cash, and whether the effects aren’t different in the long run.

First, bonds in the short run.? Interest rates rise, bond prices fall.? Interest rates fall, bond prices rise.? Doesn’t matter whether that comes from real rates rising, or inflation.? That’s pretty simple, because most bonds are mostly interest-rate driven.

Second, cash in the short run.? Leaving aside financial repression, for the most part cash assets return in line with inflation.? Cash is simple… so what happens in the short run is also what happens in the long run.

Okay, now let’s lengthen the time horizon.? In the long run, gold keeps pace with inflation, nothing more, nothing less.? Bond returns rise if interest rates rise over the long term because of higher reinvestment rates for cash flow, and again, it doesn’t matter whether that comes from inflation or real rates.? Opposite if interest rates fall.

Think of 1979-82: by the time bond yields were nearing their peak levels, bond managers were making money in nominal terms with rates rising because the income from the coupons was so high, and it set up the tremendous rally in bonds that would last for ~30 years or so.

In that same era, stock multiples collapsed.? But eventually stock prices stopped going down even with competition from bond yields, because the earnings yields were so large that book values roared ahead, supporting prices.? That also set up the tremendous rally in stocks that would last for 18 years, until it finally overshot, giving us the present lost decade-plus.

But high rates, whether from inflation or real rates, presage high future bond and equity returns.

One nonlinearity here: in the intermediate-term, rises in real rates kill stocks, but rises in inflation nick stocks.? Why?? Inflation may improve nominal revenues at the same time that it raises the cost of capital, but rises in real rates indicate capital scarcity, raising the cost of capital with no increase in revenues.

=-=–=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-=-==-=–=-=-=-=-=-=-=-=-==-=-=–==-=-=-

Harry Browne proposed a “permanent portfolio” back in 1981, composed of equal portions of cash, bonds, gold, and stocks.? Reading about the idea in Barron’s in the late 1980s, I did not think much of the idea.? I think differently now.? After my last few articles on related issues, mentioned above, I realize that each of the four asset classes react differently to macroeconomic stimuli in the short run, with a lot of overshooting.? A mean-reverting strategy has a lot of power in this context, and it is double-barreled, in that it lowers volatility and raises returns.

My clients will receive the full details on this as an asset allocation strategy, but my readers have enough from this that if you want to do a little work you can figure this all out yourselves.

All that said, I am surprised at how well the strategy works.? Too easy, and easy strategies rarely work.

Estimating Future Stock Returns, June 2023 Update

Posted on 12 September 2023 by David Merkel

Image Credit: Aleph Blog || Has the return on assets for public equities permanently risen? The return on bonds has risen for now.

From the last piece: “At March 31st, 2023, the S&P 500 was priced to return 2.41%/year over the next ten years. Given the rally since then, that return has shrunk to 0.49%/year. Currently the 10-year Treasury yields 3.76%. In investment grade corporates, you could earn more than 5% with considerably lower risk.”

There was an error in that statement, the return had only shrunk to 1.64%/year. A similar adjustment would have to be made to the second graph, which would look more like the graph below.

At June 30th, 2023, the S&P 500 was priced to return 1.65%/year over the next ten years. Given the rally since then, that return has risen to 2.03%/year. Currently the 10-year Treasury yields 4.29% [bond-equivalent yield, add 0.09% to annualize]. In investment grade corporates, you could earn around 6% with considerably lower risk.

Here’s my current outcomes graph:

Image Credit: Aleph Blog || Upside capped, long left tail…

So, on average no price change for 10 years. You just collect your dividends.

There are several ways to get better outcomes from stocks. First, go abroad, there are much better values available in Europe, Japan, and in the emerging markets that respect the rule of law. Second, decouple from the high-tech growth stocks. I’m able to find a lot of stocks in the US with good balance sheets that are small-to-midcap that are cheap relative to growth prospects. Away from the “cool” sectors of the market there are many large-cap stocks with reasonable prices relative to prospects.

That’s all for now. I may blog more, I may not. Business is taking up more of my time. Watch your risks to keep your returns.

Estimating Future Stock Returns, March 2023 Update

Posted on 17 June 2023 by David Merkel

Image Credit: Aleph Blog || Has the return on assets for public equities permanently risen?

At March 31st, 2023, the S&P 500 was priced to return 2.41%/year over the next ten years. Given the rally since then, that return has shrunk to 0.49%/year. Currently the 10-year Treasury yields 3.76%. In investment grade corporates, you could earn more than 5% with considerably lower risk.

But, maybe it’s different this time. Yes, I know the danger of the phrase. What if AI increases total productivity of assets and labor by 1%/year on net, permanently? Will companies make more money as they need fewer smart people to do the same amount of intellectual work? Or, will we reach a new equilibrium as the smart people who are laid off start using AI to create totally new businesses, or create even leaner competitor businesses that eat into the profits of those slow to adapt?

Really, I don’t think AI will permanently increase productivity. The system should adjust and things should remain mostly the same.

Image credit: Aleph Blog

The graph above shows what the outcomes have been when the share of investor funds held in equities has been as high as it is now, 49.0%. (Range: 21.9% — 52.7%, average 35.6%) Returns have typically been poor.

So, maybe buy the 10-year investment grade bonds. Inflation is going down, and the US government can’t finance all its debt if rates rise too much. Bonds are a real alternative now.

One last note: the estimated rate of return over the next ten years more than you would ordinarily expect as the data series underlying this model made significant revisions to past data values.

Anyway, be cautious. Bond yields have risen, equity yields (E/P) have fallen. This rally is more speculative than most think… momentum blinds many people to stretched valuations. Unless, we are genuinely in a new era. Which I doubt.

Estimating Future Stock Returns, December 2022 Update

Posted on 25 March 2023 by David Merkel

Picture Credit: Aleph Blog || I know this is late, but still, here it is…

At December 31st, 2022, the S&P 500 was priced to return 3.26%/year over the next ten years. Given the rally since then, that return has shrunk to 3.12%/year. Currently the 10-year Treasury yields 3.38%. In investment grade corporates, you could earn more, but… really, who knows?

They say the stock market climbs a wall of worry. We’ve got enough worries to go around.

Wars. With the superpowers posturing and fighting proxy wars, trade wars, and real wars, it doesn’t take that much for a bigger conflict to emerge. Oh, and are we replacing the stocks of weapons that we have been giving away?
Plagues. Okay, we’ve been through that recently. Maybe we don’t get that again for a while.
Famine: Partially due to the Ukraine war, partially due to weather, there are many places in the world facing food scarcity.
Social Insurance plans facing a crackup. Notice the protests in France from moving the retirement age from 62 to 64? Things like this will happen in many developed countries. And for those of you who don’t remember an old piece of mine on Social Security, there will be a payment event around 2032.
Around that same time, maybe 20% of US states will have severe events regarding the defined benefit plans for public sector employees.
With the yield curve inverted, money is getting sucked out of bank deposits and into T-bills, or something like them.
The Fed does too much. After years of being a “superhero,” trying to create permanent prosperity, they have created an economy that has too much debt. Congress and the President regularly run huge deficits with the tacit support of the Fed. After creating the problem where many bank assets are below par, they offer a one-year program allowing the banks to value the assets at par. Will it only be one year, or will the accounting chicanery become permanent?

I may be a little cranky at this point, but I remain fascinated at politicians and policymakers in DC who engage in magical thinking. There is a great advantage to have the world’s reserve currency, but it is not unlimited. At some point, the notional credit line will be exceeded. If/when there is a tipping point, it will be ugly.

Let me show you one more graph regarding possible future outcomes for the S&P 500 in early 2023:

The above graph assumes a 2% dividend on the S&P 500, and uses prior market periods +/- 1% in terms of expected returns. There is a long left tail, but not as long as the Great Depression, which of course can never happen again, right?

Valuations are still extended. We are still in the 95th percentile as far as this model is concerned. You might do better with value stocks, foreign, emerging market, and small stocks, but this is still an awkward time to be long the winners of the last bull phase of the market.

One final note: 80% of my total net worth, and 95% of my liquid net worth are invested in the strategies in which my clients are invested. I still maintain a posture of 70% invested in risk assets and 30% in safe assets. To me, it is a happy medium balancing risk and return.

Also, I know I haven’t been writing much, but I plan on writing more. That said, time is short for me.

Sorted Weekly Tweets

Posted on 4 February 2023 by David Merkel

Picture Credit: David Merkel, with an assist from the YouImagine AI image generator || Chibi Gautam Adani surrounded by Twitter birds

Adani Group

“Foreign investors are clearly watching.” Billionaire Gautam Adani is battling the worst crisis of his corporate life and that’s raising big questions about India’s credibility as a destination for global investors https://t.co/zkvzRS87R6 Indian cronyism affects foreign investors Feb 04, 2023
S&P Global slashes the outlooks on Adani Group’s credit scores to negative as investors grow concerned about potential governance risks and funding challenges https://t.co/Z2FSJfUxyB Not so big, just neg outlook, not neg watch Feb 03, 2023
In six trading days, Gautam Adani has lost more than Sam Bankman-Fried and had his wealth wiped out almost as fast as Elon Musk https://t.co/WXJ7aMZhPC Easy come, easy go. Wealth does not grow that fast, unless there’s too much leverage employed. Feb 02, 2023
Gautam Adani recently had a $147B fortune. Now, he’s facing billions of dollars in losses, a short seller’s accusations of fraud and a canceled $2.5 billion stock sale. https://t.co/7VxW1TRVgV He never had a $147B fortune. The float is small, and the debts are high. Price<>Value Feb 02, 2023
Adani says his ports-to-power conglomerate would examine its capital market strategy after pulling his flagship firm’s $2.5B stock offering following fraud allegations made by Hindenburg https://t.co/uUIaQfzKnm If you think you can grow without free cash flow you are nuts Feb 02, 2023
The flagship company of beleaguered Indian tycoon Gautam Adani pulls a record $2.4 billion share sale https://t.co/iJMW4nnV4F Time for the financing methods of last resort https://t.co/3rqY8GgZ6e Feb 01, 2023
The crisis plaguing Gautam Adani takes a sudden turn for the worse, with a record 28% plunge in his flagship company’s stock raising questions over the collateral he needs to cover loans https://t.co/4b2HYe4IDc When the is no free cash flow, you can’t fight back against shorts Feb 01, 2023
Adani Group put up $300 million worth of its shares on Friday to maintain its collateral cover on a $1 billion loan, sources say https://t.co/au2vrOHbt7 This looks risky, or at least dilutive. Why not borrow directly? Jan 31, 2023
Abu Dhabi-based IHC says it will invest $400 million in the $2.5 billion follow-on share sale floated by Indian billionaire Gautam Adani’s flagship https://t.co/oyEscsd9yy They are as shady as Adani Group, and are using many of their techniques. Jan 31, 2023
A plunge in dollar bonds of Adani Group companies quickened on Monday after a rebuttal by the Indian conglomerate failed to ease concerns following a scathing report by short seller Hindenburg https://t.co/RjJU0HJcSO If I were speculating on the bonds, I average in slowly Jan 30, 2023
RT @AlephBlog: Billionaire Adani Says India Will Add $1 Trillion to GDP Every 12-18 Months https://t.co/FAbMGwkyV5 Not likely. When this ov… Jan 30, 2023
Adani Group fired back at an American short seller, but the group’s 413-page response didn’t stop a slide in the shares and bonds of its companies https://t.co/72zaxIzoDE Maybe some margin calls? Also IHC of Abu Dhabi has similar issues. Debt, complexity, fast stock price rise… Jan 30, 2023
These are the guys who bought $400 million of stock in an Adani Group subsidiary. Birds of a feather flock together. https://t.co/HOgpd9E0sX Jan 30, 2023
For more on International Holding Company, look here: https://t.co/QUAfU9B2PR https://t.co/fz6Y0WzVMv Jan 30, 2023
Adani says Hindenburg’s conduct “is nothing short of a calculated securities fraud” https://t.co/OskrHOfmQj As we say near DC, “Never believe anything until it is officially denied.” Also, saying, “Same as above” many times does not answer the question. Same as *what* above? Jan 30, 2023
Also, cheaters often label accusers they way they themselves should be labeled. Calling Hindenburg “Madoff” increases the likelihood that Adani is engaged in fraudulent activity. https://t.co/weWJnxUD9w Jan 30, 2023
Adani responds to Hindenburg report, but stocks continue descent https://t.co/HhxMJ4RJGn Fascinating that Adani Group for all of its size, needs to get a measly $2B secondary IPO done. They don’t want to give up control, but they probably need liquidity https://t.co/IIDr73q2hH Jan 30, 2023

Portfolio Management

Cathie Wood is having a scorching start to the year and she wants investors to know it https://t.co/unUdiVze8B Humility is not her strong suit. Feb 03, 2023
How many stocks should a portfolio hold? https://t.co/AsYvvxPmoo Usually, I think 20-35, but it depends on what types of stocks, and what other assets you own, and your time horizon. Feb 03, 2023
Legendary ‘Big Short’ investor Michael Burry issues an ominous warning after the latest stock market rally: ‘Sell.’ https://t.co/fY3XdLg8IX We are in the 97th percentile of valuations as the equity share model goes. But I don’t see weakness in financials. Analogy 2000-2002? Feb 03, 2023
Michael Platt built an $11 billion fortune by turning his back on outsiders’ money to focus on tending his own — with some perilous losses along the way https://t.co/UQZnbki7tO Odds of flaming-out are nonzero. Feb 02, 2023
After the Darkest Hour Comes the Dawn https://t.co/RbSkvVGTo3 European Value looks promising Jan 31, 2023
European de-equitisation comes of age https://t.co/d8KHqn7eR9 Interesting, probably positive for European stocks. Jan 31, 2023
The Forgotten Lessons of 2008: Seth Klarman https://t.co/BwtgKTbq21 Worth reviewing. Valuations are still stretched, and debt levels are high, though not at the banks. Jan 31, 2023
Heard on the Street: After an epic 15-year run, hedge fund Universa’s Mark Spitznagel says the financial system is poised for a crisis—eventually https://t.co/YobK8GMFHH Has anyone gotten a look at what Spitznagel uses for hedging? I assume credit default swaps, but am I right? Jan 31, 2023
How Do Active Managers Invest Their Own Money? @ritholtz https://t.co/OrOH6x4j1F Many active managers invest passively. I invest over 90% of my liquid assets in my active strategies. It would be dishonest for me not to have significant skin in the game as an active value manager. Jan 31, 2023
Pension-fund investment in private-market loans reached an eight-year high in 2022, even as banks pulled back on lending and default rates inched upward https://t.co/Ke7N42SMx9 If CALPERS has shown up, the bull cycle is near its peak. Jan 30, 2023

Companies

British companies are starting to pay a premium for staff who work five days a week in the office, according to recruitment giant Reed https://t.co/S1TAegZiZC This shouldn’t be a surprise. Being able to interact more freely is valuable. Feb 02, 2023
A startup that sells $555,000 flying motorbikes will soon start trading on Nasdaq, making it the rare Japanese company to trade on the American bourse https://t.co/X7hU6RFRYk Not useful in its present form, but with improvements who knows what this could bring? Feb 02, 2023
Industrial companies like Caterpillar, UPS and Dover appear to be moving full steam ahead on investments amid chatter about a downturn https://t.co/icbGmSukui I would be skeptical for this to persist Feb 01, 2023
Blackstone’s $69 billion real estate trust hit a monthly redemption limit in January, ramping up the pressure on the massive vehicle for wealthy individuals https://t.co/UINfs7x4Le Get out if you can. Feb 01, 2023
AIG Terminates Interim Finance Chief Mark Lyons https://t.co/j5r5pNwWhy Odd. $AIG Jan 31, 2023
Why Does It Feel Like Amazon Is Making Itself Worse? https://t.co/18JZI92WOm Interesting thought. As a facilitator of third party sellers, $AMZN works less well than as a first party seller. But maybe they just want to be a middleman. Jan 31, 2023
Lawler: D.R. Horton (DHI) Net Order Price Declined “Roughly” 10% from Peak https://t.co/AofAP4Hh8C Housing prices continue to sag Jan 30, 2023

Non-US

Ghana plans to convert an estimated $3.3 billion of loans owed to its central bank into bonds, making it the single biggest holder of domestic government securities and exposing it to an ongoing debt restructuring, sources say https://t.co/eHkTOgg9bB No free lunch Feb 03, 2023
Maybe sending tanks and escalating in Ukraine is the only way to end the war. But Western leaders haven’t earned the benefit of the doubt https://t.co/3YG0EfLg4M This does need to be talked about more as the EU & the US are depleting stockpiles of armaments… is this worth it? Jan 30, 2023
Parts of Johannesburg are being subjected to renewed water-supply cuts as ongoing electricity shortages disrupt pumping operations https://t.co/HpuzaIrv3j Theivery & corruption plague Eskom. When will S. Africa’s leaders focus on the good of the nation and clean up Eskom? Jan 30, 2023
Will accusations of dirty governance tactics in India spur global investors to change course? @shuli_ren https://t.co/HqEmEeOSFX Given the complex holding company structure, how much debt might not be disclosed because of joint ventures, etc? Jan 30, 2023
For Russian gas to reach India, it will have to build pipelines through Afghanistan and Pakistan, writes @JLeeEnergy. Good luck with that. https://t.co/ZQuFDe6PN6 Putin does not care for his own people. He has semi-permanently damaged his own economy. Jan 30, 2023

Central Banking

Understanding the FOMC through the eyes of a child https://t.co/yV3G6wDvV8 Avoiding bravery and panic — be humble. https://t.co/OrNU6vBsyS Feb 01, 2023
‘Colossal’ central bank buying drives gold demand to decade high https://t.co/enUPd28Dad Gold is a nice neutral asset to hold, particularly during wars and trade wars Jan 31, 2023
Banks tighten lending standards in an uncertain economy https://t.co/qF6FEzgBQ6 Credit deteriorating on the low end Jan 31, 2023
The Goose That Stopped Laying Golden Eggs https://t.co/8P3aOUZE4g Central Banks should keep their assets short, and not play around with the yield curve. Jan 31, 2023
The Fed Is Asleep At The Wheel And Americans Are Feeling The Consequences https://t.co/qRWqSx032A Falling M2 and ODL, inverted yield curve, weakness in housing and autos. Time to cut rates. Drive through the windshield, not the rearview mirror Jan 31, 2023

Legal

A former Allianz fund manager says the lawyers who were engaged to represent him in a fraud investigation switched sides to become government informants https://t.co/YA8HSihKdn Maybe we are getting to the point where employees need to purchase their own E&O policies. Feb 03, 2023
A derivative lawsuit in Delaware seeks to hold McDonald’s directors and officers liable for failing to sufficiently intervene in a sexual-harassment scandal. https://t.co/9vAJDklSRo If appealed, it will likely be reversed. In other news: D&O insurance premiums rise again. Feb 03, 2023
A court ruled that Johnson & Johnson can’t use the bankruptcy system to administer tens of thousands of talc claims because the fund the company created to pay claimants had too much money. https://t.co/ZLQ19Ldgrh To me it seems like a form of fraudulent conveyance of a liability Feb 03, 2023
Johnson & Johnson will probably face years of litigation in courts around the US before it can resolve baby-powder lawsuits https://t.co/utpZ8D5wyq Until now, it has been difficult to deny a bankruptcy petition, even from solvent entities Feb 03, 2023

Crypto

New York Digital Investment Group, one of the largest crypto lenders, is repossessing 27,403 mining machines from bankrupt miner Core Scientific https://t.co/J44Dyp7kW8 If selling the machine isn’t profitable, why should running them be profitable? Feb 03, 2023
A trader faces criminal charges for allegedly manipulating the decentralized exchange Mango Markets and draining more than $110 million of cryptocurrency https://t.co/Lv4MUKJAoE Some may think “code is law,” but there are more general laws that exist outside computer code Feb 03, 2023
When a one-time TV and film producer’s company bought Farmington State Bank, it got a name change and a new shareholder: Sam Bankman-Fried’s Alameda Research https://t.co/3iqIKi0PVl Could be wrong, but crypto can’t be a reserve asset at a bank. Maybe it could be held as surplus Feb 03, 2023
Crypto’s Tax Shelter Problem https://t.co/V6X2S0G0Mo Secrecy on the part of tax havens compounds the difficulty of getting money back Feb 01, 2023

Financial Plumbing

The glitch at the New York Stock Exchange has become a pawn in the ongoing battle over a rewrite of stock-trading rules proposed by US regulators https://t.co/JsCnvxwy2x One central order book would be nice Feb 02, 2023
“We are at the beginning of a reckoning.” Scott Peng, one of the first people to call out Libor, is now sounding the alarm over its successor https://t.co/3ot0DVxfzm “Corporate borrowers… can’t enter into paid term SOFR swaps, given the ARRC’s recommendations” #liborwasbetter Feb 01, 2023
Smart money is betting on insurance money to fund fast growth https://t.co/zJyogt1VbS The bad old days for life insurers returns. Insurers/reinsurers are taking too much asset risk. Some regulators should disallow reserve credits for insuring asset performance by weak reinsurers Jan 31, 2023
if I wanted to talk to an institutional expert on deep out-of-the-money put options, who should I talk to? Feb 01, 2023

Politics

Biden administration proposed an end to an exemption allowing health plans to exclude coverage of no-cost birth control on moral grounds, part of work to protect access to contraception since Roe v. Wade was overturned https://t.co/yPPi43RP3n Supreme Court already ruled on this Feb 03, 2023
How Biden Officials Bungled a Better Vaccine https://t.co/xgUujkehiy Argues that C19 isn’t merely seasonal, & that the J&J vaccine offers more durable immunity FD: + $JNJ Jan 30, 2023
Missouri Camping Ban Squeezes Rural Homeless Population https://t.co/ENuahUJzJX This fits my ruralization of poverty theme, and now rural areas fight back. Jan 30, 2023

Personal Finance

Most Americans stayed the course with their retirement savings in 2022, even as the stock market fell and inflation rose https://t.co/1kmr4sqigB Retail investor driving through the rear-view mirror, which is temporarily self-reinforcing Feb 03, 2023
Penalties on early 401(k) withdrawals stop some workers from putting money away because they fear they won’t be able to access it https://t.co/wpMqKLcr68 This is the price of getting tax deferral. Sorry, this is fair. Feb 02, 2023
In the event of an emergency, you can crack your nest egg, but financial advisers say it should be a last resort. https://t.co/keHuFmuUWF Think hard before doing this. It might be better to do a home equity loan, or borrow from the 401(k). But sometimes the present trumps future Feb 02, 2023

Energy

Models of collapsing oil demand look increasingly at odds with short-term trends https://t.co/YDN6mmjV4c If the end of 2022 didn’t teach us that the transition will be slow, what will? Feb 02, 2023
Diesel prices have receded from record highs, but pressures on supply signal that gains at the pump may have run out. https://t.co/IoGwx0s6yD Diesel supplies are tight, especially on the east coast, which spills into jet fuel pricing https://t.co/n7X7Me2SGi Feb 02, 2023

Credit

Another company could be pulling a J. Crew https://t.co/IGsDlbtsYa What you get for lending without significant protection from covenants Jan 30, 2023
Worries loom for used-car market https://t.co/rK8o23mFYT More downward pressure on prices Jan 30, 2023

Odds & Ends

17 Most Dangerous Toys of All Time – Banned Kids Toys https://t.co/l1tbGC3HCP I remember catching a Jart in my hand after an errant throw had it flying at my face. That hurt a lot, but healed well. That said, it was a fun game, and played it many times without accident. Feb 03, 2023
The 31 Most Hard-to-Pronounce Words https://t.co/NozETlULPg Aside from 2 ridiculous words that I never heard of, I think most well-educated people pronounce these correctly Feb 03, 2023
26 Ridiculously Hard Jeopardy! Questions to Stump Your Brain https://t.co/Evqk8kqQ28 I got 5 right, 3 wrong, and 18 I had no idea Feb 03, 2023
This ‘airliner of the future’ has a radical new wing design https://t.co/L3NZBQvFrs Looks flimsy. Feb 03, 2023
“The more you put in the store, the more bandwidth it requires,” said Ahold Delhaize USA CIO Rom Kosla https://t.co/dYXVUeYEgs Tech equipment is inexpensive for what it can do & there are many alternatives for how to do it. This shouldn’t be so tough. Feb 02, 2023
U.S. home prices declined in November from the prior month as higher mortgage-interest rates made home purchases less affordable for home buyers https://t.co/Kaufh1fxEW Absent economic weakness, mortgage rates are at their lowest level in 5 months. Price declines should slow Feb 02, 2023
“Miracle Mineral Solution,” or MMS, is easy to find on Amazon despite FDA warnings on how toxic and dangerous the potion can be https://t.co/R3khPhWkz2 Astounding that people would drink bleach. Feb 01, 2023
It’s the new chicken-and-egg question: Should I just buy some birds? Some shoppers thought that was the answer to record egg prices. It’s often not so simple. https://t.co/ILUzbLmmSk There are simpler ways to save money. Jan 31, 2023
Medical Schools Bail on Academic Merit and Intellectual Rigor https://t.co/Lzp8C3xNMU This is a place where you should value competence over ideology. Jan 30, 2023

Unforced Errors

Posted on 8 November 20219 November 2021 by David Merkel

Photo Credit: Paul Kagame || Hail Emperor Xi, the greatest since Qin Shi Huang!

Ready for a cold winter? Much of the world is not. Many places have discouraged using hydrocarbons to produce power, ostensibly for environmental goals, whether those are valid or not. Whether by the fiat of the Chinese Communist Party, or because some Eurocrats push a green agenda, many people are facing a winter where power/heat may be limited. And even if there may not be absolute shortages everywhere, higher prices for all forms of energy, will pinch the budgets of many in the lower middle class and below this winter in the Northern Hemisphere.

Part of this stems from central planning. China is the easiest example. Xi Jinping has arrogated to himself more and more power over time, changing the dynamics of the Communist Party, which once at least had some factions, to a unitary party that has only one leader, ~~Emperor~~ President Xi. Some of it came about by eliminating corrupt rivals, but the rest from instilling fear within the Party.

Almost every evening, my wife and I read the Bible together. Recently we have been going through the post-exilic portions of the Old Testament where the Jews live under the rule of the Babylonian and Medo-Persian Empires. Those rulers were typically absolute monarchs: do what I say or die! In going through Esther, my wife commented that it was stupid to have laws that cannot be altered. (The same thing is stated in the Book of Daniel.) My comment back to her was if you were an absolute monarch in that era, you were God walking on earth, and could never be wrong. Thus no decree of an Emperor could be wrong.

And so it is for President Xi: everything he says is right. He may be an atheist, but to the Chinese in Red China, he is “God walking on Earth” in at least the Hegelian sense. As such, he makes a decree, and those serving him are scared to do anything more or less than he wants. But with vague directives, what does he want?

Unilateral authority is particularly vulnerable to making mistakes. In the intermediate-term, China is likely to get weaker because of the increasing concentration of power of President Xi. That’s not to say that capitalist democracies can’t run off the rails, but typically with enough dissenting voices, the worst outcomes don’t usually take place. There are exceptions though.

The first exception is regulators with too much discretionary authority. By pursuing one limited goal in the short-run, such as long-term environmental objectives, they may harm the interests of ordinary people in developed markets by making it hard to get food, fuel/energy, and other necessities. And applying the same rules in foreign policy, they may well condemn the developing world to permanent poverty. The developing world thinks the developed world doesn’t care. They are right, and they will ignore what their current leaders have promised in order to curry temporary favor with the developed world.

Now where there is the ability to self-correct, eventually societies will remove regulators, politicians, etc. That said, some things are more entrenched than others. I speak of the cult of stimulus.

What is more untouchable than the central banks? It’s hard to think of anything more unaccountable. They may technically be beholden to the local parliament, but practically, no one ever messes with them aside from despots pursuing hyperinflation (Venezuela, Turkey, Lebanon, etc.).

What gores me is that the unaccountable central banks never ‘fess up to errors. Listen to this:

�Asset prices remain vulnerable to significant declines should investor risk sentiment deteriorate, progress on containing the virus disappoint, or the economic recovery stall,� the Fed said in its twice-yearly Financial Stability Report released Monday.
Fed Warns of Peril in Run-Up of Risky Asset Prices, Stablecoins

That serial blower of bubbles, the Fed, warns us about the height of risky asset prices. Fed policy works via encouraging economic actors to borrow less or more. They have been running a more aggressive monetary policy than they ever needed to, and in the process have inflated housing prices, stocks, bonds of all sorts, private equity, etc. This is not just true of the Fed in the US, but in most developed country central banks.

This was an unforced error. Monetary policy could have been tightened in mid-2020, and I mean raising the Fed funds rate, not just stopping QE. When the equity markets race to new highs so rapidly, why should any stimulus exist at all?

We don’t need stimulus from Congress either. When demand is so strong that supply chains creak, buckle, and seize up, it is not time to stimulate more, rather, it is time to balance the budget.

I would like to think that supply-chain troubles, inflation, and growth are all transitory. But if in an effort to force growth higher than it should be in the short-run, the growth will still be transitory, but the supply-chain troubles and inflation will persist.

Beware the experts that say they run things for your good; they likely don’t know what they are doing.

=============

Ending note: one more thing, beware the inflation numbers, particularly on items in short supply. If the economists reduce the weights on those things in short supply, it will artificially understate inflation.

How to Avoid �Breaking the Buck� Redux

Posted on 1 September 2021 by David Merkel

Picture Credit: All pictures today are by me. Aleph Blog

What sounded simple yesterday proved harder to put into a spreadsheet than I expected. Nonetheless, I got it done. As an aside, I wanted to mention one thing I don’t think I have disclosed before: I competed in the Modeloff competition four or five times. I always got to the second round. One time my first round score had me in the top 20, and one time my second round score had me in the top 1%. I never made it to the finals — it is no place for old men. I asked one of the organizers if I was the oldest guy in the contest, and he said, “No, there is one guy older than you.”

The grand challenge of this model was solving two messy simultaneous equations to find the loss percentage. That took me two hours to solve, due to repeated errors where I tried to do it too quickly. Always go back to first principles, and solve things step by step.

Tonight, I am only changing one variable, the most important one for this discussion, what are the assets worth at the close, prior to withdrawals. In my first example, that value is $996,100, leaving the Closing Pro-forma Shadow NAV at 99.51%, which doesn’t break the buck by a hair. The withdrawals get paid in full, and the fund lives to fight for another day with no press release.

In the second scenario, the closing assets prior to withdrawal are $995,900, leaving the Closing Pro-forma Shadow NAV at 99.49%, which breaks the buck by a hair. The withdrawals get paid at a 3.04% discount. The small withdrawers lose additional units, but the amount of money they requested comes in full. The large withdrawers don’t get paid in full. A large withdrawer is asking for all or almost all of their money back. The assumption in this set of scenarios is that the large withdrawers are asking for 92% of their assets back in aggregate. The calculation balances the losses between a payment discount, and loss of most of the remaining units.

In the third scenario, the closing assets prior to withdrawal are $985,000, leaving the Closing Pro-forma Shadow NAV at 98.13%, which breaks the buck. The withdrawals get paid at a 8.48% discount. Those staying still have all of their units at greater than par.

In the fourth scenario, the closing assets prior to withdrawal are $980,000, leaving the Closing Pro-forma Shadow NAV at 97.50%. The withdrawals get paid at a 10.00% discount. Those staying also lose units, but their higher income rate will compensate for that, unless the losses are permanent from defaulted assets. Nonetheless, the losses they take are minor relative to those who withdrew from the MMF.

In the fifth scenario, the meltdown scenario worse than Reserve Primary, the closing assets prior to withdrawal are $950,000, leaving the Closing Pro-forma Shadow NAV at 93.75%. The withdrawals get paid at a 10.00% discount. Those staying also lose units, but their higher income rate will compensate for that, unless the losses are permanent from defaulted assets. Nonetheless, the losses they take are less than those who withdrew from the MMF.

My contention is this: a structure like this would prevent money market panics. Would it stop something like the Great Financial Crisis? (2008-9) Of course not. The disaster was going to happen regardless. The money market funds were in the wrong place at the wrong time. The repo markets were far more significant, and still have not gotten fixed.

When I get a moment, I will submit this to the SEC, as I did the last time after the Great Financial Crisis. I talked with two of the lawyers at the SEC, who said my idea was promising, but too radical. We’ll see what happens this time. It will likely be nothing, but who can tell? Gensler might be willing to consider something radical.

The Rules, Part LXX

Posted on 30 June 2021 by David Merkel

Picture Credit: Infoletta Hambach || I suppose Euros are manna from somewhere, though not Heaven. After all, they appear out of nowhere [ECB], and there is no guarantee that any government will receive them in the long run.

“The lure of free money brings out the worst economic behavior in people.”
David Merkel, often said at Aleph Blog

Where is there “free” or at least “inexpensive” money?

Jobs that are overly compensated compared to the skills needed.
Demanding that the government give free money to people.
Constraining interest rates to be low.
Various “one decision” investment ideas.
The prices of houses only go up.
The government bails out bad investments.
Various investments involving derivatives where one is implicitly short volatility

I started writing this two weeks ago, and then the idea for �Welcome to our Country Club!� came into my head, partially stimulated by a young friend of mine becoming a lifeguard at a swanky country club. It made me think back on my time as a youth being a caddy at a similar club. (And being one of the smallest guys there, I had to learn to defend myself, but that is another story.)

A number of parties have directly and indirectly mused about what I what analogizing in �Welcome to our Country Club!� Real Clear Markets put up a Bitcoin logo. I commented there:

Well, you made explicit what I left implicit. Good job, but you can also throw in penny stocks, meme stocks, some SPACs, etc. Thanks for mentioning me.
Me

In the bullet point above, I listed seven classes of cases where there is free money, or at least subsidized money. I’ll take them in order.

Jobs that are overly compensated compared to the skills needed

There’s always some of that naturally, but it tends to adjust over time unless the government does something to achieve a social goal. That can be unions with a closed shop as an example, or restricting the ability to enter into a simple business, if licensing is too tight. There are corrective mechanisms for both, but they take a long time. Technology can reduce the need for labor in certain types of simple jobs. Or, it can create a competitor to those in a regulated industry (think of Uber, Lyft, Airbnb). In some cases businesses move to non-union venues whether a different part of the US, or another country.

Demanding that the government give free money to people

I’m not in favor of Universal Basic Income. I’m fine with non-subsidized unemployment insurance (though I never tapped it the three times I was out of work — desperation is a good thing).

Many quotes are attributed to Ben Franklin than he actually said. Here’s an alleged one that is interesting:

However, when McHenry made the story public in the 15 July 1803�Republican, or Anti-Democrat�newspaper, it had evolved. Now the exchange was:
Powel:�Well, Doctor, what have we got?
Franklin:�A republic, Madam, if you can keep it.
Powel:�And why not keep it?
Franklin:�Because the people, on tasting the dish, are always disposed to eat more of it than does them good.
How Dr. McHenry Operated on His Anecdote

If the quote is accurate, it fleshes out the ideas that Republics have to be limited in scope to survive, and that once people that they can use the republic for their self-interests. Even in the recent mini-crisis, knew of a lot of organizations that got PPP loans that didn’t really need them — they profited from the free money. They were organized, with clever accountants, and milked Uncle Sugar while he was throwing money around. (Here’s a particularly notable case.) But there are other places where this happens as well — corporations have gotten very good at slipping ta preferences into the tax code. Even if the US Government wants to encourage a certain behavior, if they are generous, they get overused. This applies to many mass programs as well such as Crop Insurance and Flood Insurance, both of which are subsidized.

The list goes on and on, whether for the upper classes, who benefit the most from this, and the lower classes, who get enough to blunt desperation.

Constraining interest rates to be low

With the Fed following a theory close to ~~Modern Monetary Theory~~ Banana Republic Monetary Theory, it has inflamed three areas of the bond market — Treasuries, Conforming Mortgage Backed Securities, and Junk Corporates. This has pushed housing prices higher, and facilitated high government budget deficits (and the unrealistic spending goals of many), and aided malinvestment by firms that have access to cheap capital, when they should have gone broke.

As Cramer would say, it’s time for me to ‘fess up. I was wrong on my piece Hertz Donut. Cheap capital and the end of the C19 crisis gave equity holders a big win. I know I will sound like the Grandpa from Peter and the Wolf, “What if Peter had not caught the wolf? What then?” To those who didn’t listen to me and won, congratulations. To those who listened to me and lost, I’m sorry. I gave orthodox advice that worked 99% of the time over the prior 60 years. I will give the same advice next time, because you can’t rely on the capital markets to do a favor for you.

When the history books are written 30 years from now, the historians will point at the easy monetary policy of the Fed from Greenspan to date as the major reason US markets overshot and crashed in real terms, along with underfunded promises made by the US and State governments.

Various “one decision” investment ideas

This was the main point of �Welcome to our Country Club!� This can apply to the FANGMAN stocks, promoted stocks whether penny or meme stocks, private equity, cryptocurrencies, etc. There are no permanently good ideas in the markets. Every sustainable competitive advantage is eventually temporary. You don’t own a right to superior returns, at most you can temporarily rent it. Even the idea of buying and holding an S&P 500 index fund means that you will have to endure 50-70% drawdowns once or twice every twenty years or so.

Few truly have “diamond hands.” Perhaps Buffett could have them, but even he makes changes to his portfolio. Let me give a practical example: few people wanted to default on their mortgages during the 2007-2012 crisis, but many were forced to sell at an inopportune time because of unemployment, death, disease, disability, divorce, etc. And far more panicked. There are very few people (and institutions) that are willing to buy the whole way down, and concentrate their holdings into their best ones during a crisis. It hurts too much emotionally to do so, and looks stupid in the short run.

Don’t deceive yourself. Keeping some measure of slack capital (“dry powder”) helps keep you sane. You will look stupid at times like now, but over the long haul you will persevere.

The prices of houses only go up

At least we know from recent memory that residential housing prices can decline across the nation as a whole. On the bright side, current financing terms are not as liberal as they were in 2004-2008. Loan quality is reasonable. But the recent run-up in prices is considerable, in real terms higher than the financial crisis. If we have a significant recession, will there be another crisis?

The government bails out bad investments

One of the failures of the financial crisis was to protect industries that were larger than what was needed. Too many banks, too many houses, too many auto companies, etc. The government, including the Fed, could have protected depositors, but let those who speculated on the continual rise in housing prices fail. They bailed them out with two negative impacts: 1) unproductive investments continue, rather than bein liquidated, which slows growth, and 2) moral hazard — firms take more risk because they know there is a decent chance they will be bailed out in a crisis.

I feel the same way about the recent mini-crisis. We should not have bailed out anyone. The Fed should not have provided excess liquidity. If you don’t let recessions clean out those who have been taking too many chances, you end up with a lot of underperforming junk-rated companies that are non-dead zombies. Over the last 30 years, this is why GDP growth has slowed, we don’t let recessions eliminate subpar uses of capital.

Various investments involving derivatives where one is implicitly short volatility

This was the portion of Where Money Goes to Die that was right in the short-run. During bull markets, many short volatility strategies will make seemingly risk-free steady profits. There are other strategies like it that do well in bull and placid markets, but get killed in a bear market, even a mini-version like early 2018.

Avoid complexity in investing, and stick to simple investments like stocks, bonds, and cash. Stick to things where custody of the assets is almost certain. Cryptocurrencies and derivative strategies typically have weaknesses in custodial matters, such that there are sometimes losses from misappropriation.

Summary

Good investing and good work result from taking moderate risks on a consistent basis. Avoid situations where other are running after what is seemingly free or subsidized money — those situations often come to a bitter end.

And against the advocates for ~~Modern Monetary Theory~~ Banana Republic Monetary Theory, I will tell you that eventually all of the borrowing and spending will come to an end. As in the Great Depression, the rich will ask to have their claims honored at par, while the rest of the nation suffers. Whether the government goes with the rich or not is an open question. But one should not assume that inflation will be the way out… after all, that route could have been taken in greater degree in the Great Depression, but it wasn’t.