I tried to find a link for this article so I could credit it and excerpt but I could not. Byron Wien seems to be an advisor at Blackstone today. The piece below It came from an investment professional I have a lot of respect for and I cut and pasted in entirety. Good read and conforms with much of what I think about the Market and economy.
Blackstone is pleased to offer the following Market Commentary by Byron Wien which shares his thinking on global economic developments, market insights and other factors that may influence investment opportunities and strategies. Learn more about Byron
|
The Smartest Man Sees Many Opportunities
November 2009
Several times a year, generally on more than one continent, I try to get together with the person I have come to think of as The Smartest Man in Europe. He earned that title in my mind over a period of more than twenty years by consistently identifying major shifts in geopolitical power, new investment themes and changes in the financial services industry. He correctly anticipated the dismantling of the Berlin Wall, the economic fall of Japan, the rise of Eastern Europe, the end of communism in Russia and the growing economic importance of China and India. More recently he saw the dark clouds forming over the world financial markets. My 2007 essay about our early summer meeting had the title “The Smartest Man is Wearing Rain Gear” and in 2008 the essay was called “Overcoat Time for the Smartest Man.”
I have always been curious about how people with a special anticipatory intelligence got to be that way. In Outliers, Malcolm Gladwell suggests it is a combination of when you were born, your support network and 10,000 hours of hard work. In the case of The Smartest Man, I think his ancestry has something to do with it. He is the descendant of a mercantile family whose roots go back to the operation of canteens selling food, weather protection and travel gear along the Silk Road hundreds of years ago. After his education, he arranged through Middle East contacts to be trained in New York at some of the leading investment banking firms. He returned to Europe to make his fortune as an investor and investment advisor as the continent recovered from the devastation of the Second World War. Although he is not a Rothschild, he is comfortable allocating his assets in real estate, art and financial instruments, as they did. Here are his thoughts, based on some conversations we had at the end of June, but confirmed with him prior to the publication of this essay.
The environment has changed dramatically since the summer of 2008. The demise of Lehman Brothers and Bear Stearns, the merger of Merrill Lynch into Bank of America, the enormous investment by the U.S. government in American International Group and other financial institutions, and the automobile industry debacle and subsequent government involvement there have brought us to a new place in economic history. America is no longer free market capitalism at work and you cannot expect the economic vitality of the old days to return any time soon, if ever. We are in a serious period of reflation and assets will have to be allocated accordingly. Over the last two years I have been worried that the world was becoming too dependent on the continuous accumulation of debt at every level (from the consumer through the federal government), and that had to come to a bad end. That meant the stock market had to decline substantially and real estate prices had to fall from their debt-inflated levels. Consumer spending would drop sharply as a result and unemployment would rise everywhere. European countries and the United States would slide into recession.
In spite of all that has been done the policy moves have probably been insufficient. Both the government (through stimulus) and the Fed (through monetary expansion) have to do more. Some of those so called “green shoots” are turning brown. I wonder if the U.S. lawmakers realize that down the road, taxes are going to have to be raised and entitlements are going to have to be cut. That is the only way to bring the budget deficit back in line. It’s part of the dose of reality that America will have to taste. It will be politically unpopular but there will be no other choice. It will be a true test of leadership. I am also worried that the U.S. doesn’t realize that its dominant position in technology innovation is eroding and the government must do something to get it back on track since this area is part of the lifeblood of America. The only way to keep enough money flowing into the economic system so that the U.S. economy avoids slipping back into recession is for the Federal Reserve to become an agent of the government and thus lose its independence. Bernanke may resist this and if he does, Obama will have to replace him.
With so many people out of work, there is no wage pressure, so inflation stays low even though commodity prices may be rising. Oil continues to move higher because consumption in the Middle East, China and India keeps climbing and the Organization of Petroleum Exporting Countries cannot keep up with the rising demand. Their most productive wells are depleting about as fast as the world finds new sources of supply. China and India continue to grow at 5% or more even though the United States and Europe are in recessions and are importing fewer goods from Asia. China and India have 2.5 billion people, an expanding middle class, and the continuous need for improved infrastructure. As a result there will be further upward pressure on industrial commodity prices. I don’t have an opinion on agricultural commodities.
In time, after the recovery in the West picks up, there will be some wage pressure as well. The fact that so much money will be available will cause some increase in inflation, but I don’t expect to see anything like what we had in the 1970s when inflation surged past 10%. I think we will have 4% inflation and 2% real growth. That’s a nominal expansion of 6% and in that context earnings can improve and stock prices can do well. If I am wrong and inflation moves up beyond 6% to 7%, I believe that the U.S. government will institute wage and price controls. I know that seems unlikely now, but it will be part of facing up to the fact that we are in a new era. I know you are worried about the growth prospects for the United States once the stimulus is spent, but your country cannot afford to go back into recession, so if the economy weakens, I think we’ll have a second wave of stimulus. Basically I see the pattern of a “W” in the U.S. Stock prices will rise later this year, fall back sometime in 2010 and then rise again when the second stimulus-induced recovery phase becomes clear. I don’t see 10-year Treasury yields rising much above 4%. Rates higher than that would create too much of a problem for the housing industry. The Federal Reserve would step in with quantitative easing if rates got beyond 4%.
Life in America will continue to be good, but the standard of living may decline somewhat. That might not be a bad thing. I read where 35% of your people are overweight. Perhaps a period of hard times will force them to slim down. People may have to work harder and adjust their aspirations but America will still be a major economic power for a long time to come. It can no longer afford to be the police force for the world, to provide extensive foreign aid to countries everywhere and to spend so much on maintaining its military strength. The U.S. is hardly in a position to go around the world preaching about human rights. After what you did to Native Americans when you expanded your territory westward, your treatment of the slave population, the Japanese internment camps during World War II and finally Abu Ghraib, it’s tough for you to lecture others. America believed it could dictate foreign policy for the rest of the world because of its economic and military strength. That is no longer true. That’s also part of entering the new era. Asia is much more important now and China, India, Russia and ultimately Brazil are going to want to exercise their influence. The sun is setting in the west and rising elsewhere.
The countries with the fastest growth are where the opportunities are, so that’s where I’m investing in equities. You can make money in the United States and Europe, but you can probably do better in the BRICs even though their markets have recovered. We haven’t yet seen a decoupling between the major industrialized stock markets and the emerging markets. The volatility in New York has been exported everywhere making investors apprehensive. If, on the next down wave, China and India decline less and rise sooner, the decoupling will be confirmed. I think the price of oil will continue to rise but it may not go much beyond $70. At that level the Middle East countries will have enough money for their internal needs and yet the price won’t be so high that it will inspire a major alternative energy effort. I am very bullish on gold. In the reflationary world I see developing, the price of gold has to rise. Major industrialized countries will suffer weakening currencies and that will drive the trade surplus countries to buy more gold. I know you have a target of $1,200. I can see that being realized sometime this year or next but ultimately the price will get to $1,800 or even higher. The dollar may not weaken too much because Europe and Japan are in bad shape also and who wants to own their currencies? If you want to have some paper money, buy Swiss francs. I cannot understand the rise in the Japanese stock market because it is my understanding that nothing good is really happening in the domestic economy there. It may be a reflection that the recovery in China is real and Japan is a beneficiary. I think the meeting of the BRIC countries in Siberia was a significant event. They talked about using a basket of currencies in which the dollar was still dominant but gold was a component. The rising standard of living in the BRIC countries will also increase demand for gold. It is underrepresented in all global institutional portfolios and it can also serve as an inflation hedge.
Taking a look at some of the larger issues, your President Obama is certainly an improvement on the second Bush, but he is not the hero abroad that he appears to be in the U.S. His most important recent speech was in Cairo. There he reached out convincingly to the Muslim population everywhere and the response was positive. No Western head of state has ever been able to do that. Considering the number of Muslims in the world today and their growing influence, he has started to build a critical bridge. Fear is a factor on both sides of the Atlantic. Europe will have a slower growth rate going forward than the U.S., but no inflation. The European Central Bank will have to lower rates to stimulate economies there. In Europe they are worried about excess stimulus creating Weimar-like inflation. This is driving Germany toward Russia because they believe Russia’s growth can fuel German prosperity. In the U.S., there is a sense that your children won’t have the same opportunities you had and that’s discouraging spending.
I think this is a fantastic time to be a macro investor. You don’t even have to be a stock picker any more. You can have a concept of what is going to work and there is an Exchange Traded Fund out there for you to implement your idea. There are 1,400 of them, every conceivable permutation of an investment idea. Once again asset allocation is the key. It’s much more important than individual stock selection. My biggest worry is that Western leaders are too defensive psychologically. They are not sure what to do and whether what they’re doing will work. That’s part of the reason they haven’t done enough. The Chinese and Indians know they have to invest in infrastructure. Eventually the Chinese consumer will start to spend more and save less. That’s when that economy will really take off.
There is a bright future out there for hedge funds, but it will take time to develop. All kinds will flourish: long/short, macro, natural resources and credit. Long-only funds will have a tougher time. Creative investors will also make money in Egypt, Morocco and South Africa, although it’s hard to put big money there. Since March the investment environment has been evolving as I believe it should. The BRIC markets are doing well, the dollar is weak, U.S. equities are strong and gold is making new highs. So I’ve taken off my raincoat and I’ve stored my overcoat and I’ve rolled up my sleeves, because I am starting to make some serious money again.
