Learning to dance in the rain

“People are trapped in history and history is trapped in them.”

• James Baldwin.

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The following Modern Investor’s Manifesto is adapted from ‘Investing Through the Looking Glass’ (published Harriman House, 2016).

Any subsequent emphasis is ours.

1. The Communist experiment of the planned economy did not work.

2. Not only did it not work, it impoverished, and killed, millions.

3. Western central banks, their client governments, and agents in the economics ‘profession’ seem unaware of this fact, or wilfully disregard it.

4. People respond to incentives. Everything else is detail.

5. Adam Smith’s invisible hand does work, if left well alone by the dead arm of bureaucracy.

6. In the aftermath of the breakdown of Bretton Woods, developed governments have amassed unpayable mountains of debts.

7. A culture of entitlement has made these debt mountains higher.

8. These debts will never be repaid, except in devalued money.

9. The Fed has said as much – this is a secret hiding in plain sight.

I0. The debt overhang will depress economic growth for the foreseeable future.

11. But a cult of economic growth at any cost has infected the modern psyche.

12. In the real world, there are practical limits to growth. Beyond a certain level in any mature system, further growth is tantamount to either obesity or cancer.

13. Pre-financial crisis economic growth throughout the Western economies was illusory. It was established on the unstable sands of credit creation and borrowed from the future.

14. Until the stalemate is resolved, asset markets will reflect, and oscillate between, fears of deflation and inflation. Money may be made, but much more will be lost, in both nominal and real terms.

15. Free markets, if allowed to operate, would prefer that the system cleanse itself through a deflationary shock.

16. “Falling prices or price deflation are not the cause of economic and financial crises, but their consequences – and at the same time their cure.”

17. Indebted governments and insolvent banks cannot afford that deflationary shock. It poses an existential threat to the finances of incumbent governments and the ongoing existence of the unreserved banking system.

18. As the parlous state of government finances becomes clearer, governments and the media have disingenuously blurred the distinction between tax avoidance and tax evasion.

19. Tax avoidance is an entirely legitimate and legal behaviour. When governments squander taxpayers’ money on fraudulent, crony capitalist grifts, tax avoidance practically becomes a moral duty.

20. “No man in the country is under the smallest obligation, moral or other, so to arrange his legal relations to his business or property as to enable the Inland Revenue to put the largest possible shovel in his stores. The Inland Revenue is not slow, and quite rightly, to take every advantage which is open to it under the Taxing Statutes for the purposes of depleting the taxpayer’s pocket. And the taxpayer is in like manner entitled to be astute to prevent, so far as he honestly can, the depletion of his means by the Inland Revenue.”

21. If governments wish to make certain tax avoiding behaviour illegal, it is in their powers as lawmakers to do so.

22. The monetary policy response to this economic stalemate can only be to attempt to ignite inflation (and attempt to destroy savers and those on fixed incomes in the process).

23. “Money and credit growth can never make a nation prosperous. It may bring about a shift in income and wealth from some groups to other groups, but it inevitably tends to impair the prosperity of the whole nation.”

24. Base money creation is inherently inflationary.

25. “The most important thing to remember is that inflation is not an act of God, that inflation is not a catastrophe of the elements or a disease that comes like the plague. Inflation is a policy.”

26. It will become true inflation as and when bank lending recovers and the velocity of money rises.

27. If inflationary pressure rises even as interest rates are kept artificially low, there is a risk of widespread currency collapse. The markets cannot be fooled forever.

28. In the meantime, markets are trapped in a no man’s land of sub-par growth, artificially suppressed interest rates, and artificially boosted financial asset prices. The bull market will not last forever; the interest rate cycle will turn, whether central banks like it or not. (History will show the cycle turned in mid-2020, after which the prices of bonds and property have both behaved disastrously – as one might well have expected.)

29. Artificially low interest rates will give rise to malinvestments, notably in property, but also in bonds and stocks. The dismal cycle will replay itself again.

30. Sensible entrepreneurial endeavour cannot occur in an economy where the cost of capital is a plaything of central bankers. Any so-called ‘recovery’ will be largely a function of government spin.

31. The price mechanism has been largely destroyed.

32. Sensible low-risk investment cannot occur where the term structure of interest rates and the so-called risk-free rate are also the playthings of central bankers.

33. Monetary policy makers are trying to replace a bubble of inflated property prices with a new bubble of inflated property prices.

34. Higher notional property prices are not wealth.

35. Quantitative easing helps nobody beyond a narrow financial elite with prioritised access to new money and benefiting from notional gains in financial assets.

36. Any policy of zero and negative interest rates ensures that saving is depressed.

37. Depressed savings ensure sub-optimal levels of investment.

38. Money is too important to be left to the state.

39. Dishonest money destroys capital, savings and the economic calculation of entrepreneurs.

40. The experience of the 1930s should have taught us that beggar-thy-neighbour economic policies, including competitive currency devaluations, do not work. ”An eye for an eye only ends up making the whole world blind.”

41. Beggar-thy-neighbour competitive currency devaluations are being practised by just about every major economy.

42. No unbacked paper currency has ever lasted. And no government attempts at wage and price controls have ever succeeded.

43. The tide of financial repression will rise.

44. The future is unclear but the failure of the current system seems increasingly likely.

45. Gold is an answer, but it is not the answer. The productive and purposeful endeavour of entrepreneurs is also an answer – but only at an appropriate price, provided one can even be assessed in a system wherein financial calculation has been made all but impossible.

46. ”An investment in knowledge pays the best interest.” But we are drowning in information and starved of knowledge.

47. Modern communications, efficient though they are, have destroyed patience and discipline. We crave immediate gratification and returns from our investments.

48. “Wide diversification is only required when investors do not understand what they are doing” – or when the underlying investment landscape is fraught with unprecedented risks, and peppered with unexploded ordnance.

49. Nobody can say with certainty what is to come – central bankers least of all.

50. For most investors, capital preservation in real terms should be more important than capital growth in notional terms.

51. Money illusion is encouraged by venal and inflationist governments.

52. For the wealthy, “the practical utility of any gain in portfolio value inversely relates to the size of the portfolio.”

53. In plainer English, the more significant your investible asset base, the less aggressive you should be in the pursuit of growing it, and the fewer risks you should be willing to take.

54. Investors – being human – are typically loss-averse. We feel the emotional impact of equivalent gains and losses disproportionately. This does not mean we should avoid considered risks.

55. Investing dispassionately is difficult when most of the investment media behave like participants in an ongoing circus. If the business of investing is either entertaining or exciting, the chances are you’re doing it wrong.

56. The answer is obvious: turn off CNBC and all their publishing equivalents.

57. True diversification remains the last free lunch in finance.

58. Having fatally tainted monetary policy, the dismal science of Keynesian economics has wrought damage across investment theory as well: homo economicus does not actually exist, and markets will never be wholly efficient until all people are, too.

59. “The investor’s chief problem – and even his worst enemy- is likely to be himself.”

60. The pursuit of sensible and successful investment is part art, part science. The business of investing is simple, but not easy.

61. General investment principles are not arcane. They should begin with the avoidance of loss.

62. Starting valuation is the most important characteristic of any investment.

63. Risk is poorly defined as volatility. It is better defined as the possibility of a permanent loss of capital.

64. “Operations for profit should be based not on optimism but on arithmetic.”

65. Don’t buy poor-quality investments pushed by sell-side interests, and by the same token don’t overpay for high-quality investments.

66. The equity/bond/property/ cash paradigm struggles fundamentally in an environment where all of these asset classes appear overvalued.

67. Indexation and benchmarking are anathema to successful investing.

68. Contrarianism is easy to discuss but astonishingly difficult to practise.

69. The only benchmark appropriate to the private investor is cash (or inflation, provided that the reporting of it can be trusted). Relative returns cannot be taken to the bank, especially when they are negative.

70. Beating the market is a questionable pursuit, and most who attempt it are predestined to fail. Sensibly assessing a relevant personal objective is more important.

71. Most investors overtrade. Most successful investors do not.

72. Liquidity is overrated. For capital that can be safely committed to the longer term, it is irrelevant.

73. “In the world of securities, courage becomes the supreme virtue after adequate knowledge and a tested judgment are at hand.”

74. Private investors are often poorly served by the asset management industry.

75. The asset management industry appears to have become detached from its original source code – assuming it ever had one, other than the accumulation of profits.

76. The medical profession has the Hippocratic Oath: first, do no harm. (This oath has not done well during the Covid years.) The asset management profession nevertheless lacks such an explicit expression of fiduciary commitment to its clients.

77. The larger the fund management organisation – whether by assets or by staff – the larger the likely number of conflicts of interest.

78. Banks have no place peddling investment products to their private clients. They’ve done enough damage to the economy already.

79. The asset management industry is overpopulated by product.

80. Once a fund management company’s fund range grows materially higher than a single digit number, it may be legitimate to ask precisely what it either specialises in, or stands for. Other than greed.

81. Collective investment funds are, akin to insurance products, as often sold as bought.

82. The asset management industry is not exactly short of economic agents.

83. Economic agency risk – the lack of skin in the game – must account for many of the mispricings and bubbles within financial markets. Most bond fund managers, for example, do not have any meaningful personal exposure to their own funds.

84. Sometimes incredible investment opportunities arise in the form of anomalies between current valuation and prospects for subsequent return. In 2023, we believe the commodities and precious metals mining sectors represent such opportunities. These opportunities are unlikely to be identified by fund managers slavishly tracking a benchmark or index.

85. Given a choice between an economic agent and an asset manager meaningfully invested within his area of expertise, it is probably best to favour the latter. Investors should prefer to work with chefs who eat their own cooking.

86. Private investors may, all things being equal, be better served by small, unlisted, private partnerships than by global, publicly listed, full service investment brands.

87. An asset manager cannot be all things to all people; it may be better not to try.

88. Asset managers may sometimes be better off in the long run by refusing business than accepting clients nursing incompatible objectives, aspirations or attitudes.

89. Rising compliance and regulatory pressure reduce variety in the asset management business. This is unlikely to be in the best interests of private investors.

90. Every asset manager ultimately faces a decision: to remain an asset manager, or to become an asset gatherer. They are not the same thing. They are polar opposites.

91. The more intermediaries and interest groups between the client and the investment product, the more mouths that need to be fed, and the greater the fee burden that the client will incur.

92. Private investors should be more interested in identifying principled managers with a definable and repeatable process, than focusing on short-term returns and rotating between managers.

93. All things being equal, higher fees equate to lower returns.

94. This does not imply that low fee products are automatically appropriate. Why pay modest fees to ensure that one’s capital declines precisely in line with an index?

95. While there is a place for performance fees in niche investment areas with finite capacity, investors are generally poorly served by paying performance fees, especially in mature and more efficient markets.

96. “The line separating investment and speculation, which is never bright and clear, becomes blurred still further when most market participants have recently enjoyed triumphs. Nothing sedates rationality like large doses of effortless money.“

97. Asset managers are only human. Good managers sometimes perform badly. No financial asset or investment necessarily sees its price and value rise in a straight line. Provided the asset manager is clearly and consistently following a pre-agreed process and investment philosophy, the end investor should have no cause for complaint. “Periods of excruciating short term underperformance are a burden that all genuine value investors have to endure.”

98. When interest rates remain close to all-time lows, the printing presses are running and a gale of financial repression is blowing, the merits of deep value but profitable, well- managed, listed businesses seem more than usually compelling – compared to just about any other asset or asset class.

99. Distrust anybody who claims to have all the answers.

These are not auspicious times for savers or investors. The financial system has yet to be properly restructured after its near-death experience in 2008. Currency wars continue to rage. Central bank monetary activity has distorted asset prices globally. Economists and central bankers continue to flaunt their ignorance of, and overconfidence in, the practical limits of their false sciences.

It is difficult, though happily not impossible, to identify compelling value opportunities from around the world. Notwithstanding the distortions and mispricings of so many types of assets, it is still possible to construct diversified portfolios of prudent and sensible investments. While the uncertainty of our times is uncomfortable, craving certainty about the future is unrealistic. We must play the hand we’re dealt. In the words of the author Vivian Greene, “Life isn’t about waiting for the storm to pass. It’s about learning to dance in the rain.”

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As you may know, we also manage bespoke investment portfolios for private clients internationally. We would be delighted to help you, too. Because of the current heightened market volatility we are offering a completely free financial review, with no strings attached, to see if our value-oriented approach might benefit your portfolio -with no obligation at all:

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Tim Price is co-manager of the VT Price Value Portfolio and author of ‘Investing through the Looking Glass: a rational guide to irrational financial markets’. You can access a full archive of these weekly investment commentaries here. You can listen to our regular ‘State of the Markets’ podcasts, with Paul Rodriguez of ThinkTrading.com, here. Email us: info@pricevaluepartners.com

Price Value Partners manage investment portfolios for private clients. We also manage the VT Price Value Portfolio, an unconstrained global fund investing in Benjamin Graham-style value stocks.