We live in a finite world. Finite land, finite water, and resources, and a finite life. But sometimes our patience is stretched out to infinity -or close to it. We, financial experts, and ordinary fishermen, both share the need for patience. It comes as a tough achievement, because, as Franz Kafka once suggested, long waits (he mentioned eternity) can be exasperating, “surtout vers la fin“.
Ever since Alan Greenspan started to use his monetary tool box in order to conduct and conform market behavior (October 1987), valuation has mattered less and less, and financial markets have been morphing into casinos. Monetary aggregate levels and their growth, interest rate suppression (financial repression, and the consequential quest for yield), and the Fed’s valuation model (based on the infamous “ERP”) have fully taken a front seat. It’s now been nearly a decade since these three drivers for financial pricing became the only game in town.
It is indeed a brave new world. The world where equity prices can float comfortably above the 2.3 times price to sales ratio level (US), and while at it, brush off any inconvenient events. Like Brexit, a two-year negative growth spell in profits, or an increase in the debt/EBITDA ratio for NFC’s, that ought to affect the WACC seriously, and valuation correspondingly. Impressive -to say the least.
And it does look like a Fisherian permanently high plateau at first sight. Monetary policy tools have successfully suppressed volatility, driven markets the CB’s way, and helped improve consumer confidence. Yet, stubbornly, I still don’t buy the idea that you can indulge in ordinary “long-only” asset management, in this seemingly placid environment. Financial markets are the shakiest house of cards I can remember in 30+ years of trading.
Fortunately or not, depending on your point of view, all actions come at a cost, and nothing lasts forever. After years of monetary abuse, out in the open for everybody else to see, the true nature of the so-called “monetary policy tools” has been revealed. The essence of the much fantasized and overhyped, CB monetary toolbox, is, after all, a cosmetic kit, with lots of lipstick, mascara, eye shadow, or rouge. The functional, basic health of the underlying financial system, or the economy, is unaffected by all those skin creams, lipstick, and even Botox of late.
I find it remarkable that CB’s got away so easily, doing no more than plain cosmetic manipulation, for so long -as mesmerized investors watched in awe what CB’s were apparently able to do. They did well at deceit, and their success has provided them with an invincibility aura that has kept them alive against all odds. In the meantime, we feast on supply side neglect. Nobody wants to streamline and update our productive capacities, Schumpeterian creative destruction costs votes. Votes are, literally, all that counts in politics.
Needless to say, I have been gradually running out of patience. Thankfully, not out of other people’s money. Not that past results protect you for long. We all have to remain humble, or else the market will do it for us. No, no problem with humility to report, but I am running real short of patience by now. Still some more left, but not much. I can’t wait to move on to a new phase in the solution of our global economic problems. One in which the use of Botox is forbidden. One in which I can cease to represent the Perma bear script. I’m fed up with the role. It’s boring!
We might be very close to the end. Witchcraft is “out”, as soon as the general public gets acquainted with the underlying bag of tricks. Sooner or later, somebody finds out there is no magic in what they are doing. Investors are currently dawning on the fact that Central Bankers are not the “magic people” they themselves think they are. Playing their missionary role, in the Common Knowledge game, becomes a lot more complicated from then onward. Go ask Janet.
What has changed in financial markets over the last couple of months? Two things. First, Investor perception of Central Bank’s capability to keep these Botox treated markets looking pretty enough. Second, the degree of conviction of Keynesian priests in the efficacy of what they are doing.
Nothing else has changed substantially -hey, I think I know what you’re thinking now. What about debt and leverage? Well, sadly, the underlying health of the financial system is largely irrelevant for as long as we have the CB’s back. In the meantime, debt has, of course, kept growing exponentially, and the global economy looks anything but healthy. Everybody knows that! Still, being more of the same, this perception is not really a game changer. We got used to talking debt in trillions, and it hardly bothers us anymore. Continue reading