“The price you pay determines your future returns” is an old adage in financial literature. This is a simple way of saying that when you buy at high prices, your future returns are lower. Conversely, when you buy at low prices, your future returns are higher. Buy low, sell high. It all sounds right, but is it true? Or is this phrase just an antiquated relic of times past when money did not grow on government balance sheets, and asset prices didn’t always go up? That is a fair question, but it is not a simple one.
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The question investors need to grapple with today is whether or not they believe in the government’s wizardry, or whether they accept the metaphysics of Parmenides and, well, the entire western tradition.
The absence of moral hazard is desirable because it encourages good behavior and fosters a healthy and prosperous society. Sadly, moral hazard has flooded our financial system as of late. And the responsibility for this perverse capital system lies at the feet of the dukes of moral hazard: The Federal Reserve.
In the real world there are no free lunches. There is only your lunch, or someone else’s. This assumes you don’t count the Federal Reserve’s all-you-can-eat buffet, where you get your money for nothin’ and your checks for free.
Fragile economies are incredibly vulnerable to external shocks. When an economy has very little savings, massive amounts of debt, and asset price bubbles everywhere, it doesn’t take much to plunge into a recession. The Coronavirus, as it turns out, isn’t just especially dangerous to fragile people. It’s especially dangerous to our fragile economy as well.
“These are the times that try men’s souls.” Thomas Paine, The Crisis.
The Coronavirus is an unpredictable event that has disrupted supply chains, shut down economies, and created fear and panic in the markets. Any time there are sudden declines of this magnitude, we can expect prices to rebound in some fashion. This is often referred to as a “dead cat bounce”, which is perhaps not the best visual at times like these. But it’s meant to convey the idea that even things that are destined to end badly can have moments of optimism.
We too live in a “pretending age”, where in-depth evaluations of important subjects are rare. Often, shallow analysis is passed off as game-changing discoveries instead of the fodder they are for title gazers. Such is the case with the recent obituaries published for the 60/40 portfolio. When it comes to investing, there is perhaps no issue more important than asset allocation. It is, in fact, the greatest determinant for portfolio returns over time. So with that in mind, let’s discuss the death of depth in the death of the 60/40 portfolio.
Most investors are simply unprepared for what is coming. They continue to believe their 60/40 portfolios will do fine. But in addition to the stock market being 50-60% above it’s fair value, the bond market is incredibly vulnerable. It’s time for investors to change their strategies. By the time you see the corporate zombies on the front lawn, it’ll be too late to move.
The capitalistic social order acquires meaning and purpose through the market. Hampering the functions of the market and the formation of prices does not create order. Instead it leads to chaos, to economic crisis.