James Fallows’ American Jeremiad

James Fallows has written a thought provoking article for The Atlantic entitled, “How America Can Rise Again“.  It’s long, perhaps best suited to the Labor Day reading stack.  Some of our favorite excerpts follow.

On Americans’ unique tendency to bemoan the moral and material state of their society, political system, and economy:

The expectation of jeremiad is so deeply ingrained in Americans’ political consciousness that it might seem to be universal. In fact, most historical accounts suggest this is a peculiar trait of our invented political culture. I recall, from living in both Japan and England, mordant remarks about the fecklessness of public officials, but many fewer “we have lost our country” broadsides of the sort that Americans have long taken for granted.

Most of Fallows’ subjects were careful to point that we shouldn’t blithely assume that things won’t get much worse, simply because we’ve tended to exaggerate in the past [might our apparent need for drama have helped Hollywood attain its global dominance?!].  Fallows himself observes that there have been far worse times in the U.S., and that our jeremiad tendencies have served us rather well overall:

Nearly 400 years of overstated warnings do not mean that today’s Jeremiahs will be proved wrong. And of course any discussion of American problems in any era must include the disclaimer: the Civil War was worse. But these alarmed calls to action are something we do to ourselves—usually with good effect.

On the historical novelty of comparing ourselves to rival powers:

In one important way, the jeremiads I have heard since childhood are not part of the great American tradition. Starting with Sputnik, when I was in grade school, they have involved comparisons with an external rival or enemy…After the Soviet Union came the Japanese and the Germans; and now China, or occasionally India, as the standard whose achievements dramatize what America has not done.

This is new. Only with America’s emergence as a global power after World War II did the idea of American “decline” routinely involve falling behind someone else. Before that, it meant falling short of expectations—God’s, the Founders’, posterity’s—or of the previous virtues of America in its lost, great days.  Since [the comparisons to the Soviet Union began in the 1950s], external falling-behind comparisons have become not just a staple of American self-assessment but often a crutch. If we are concerned about our schools, it is because children are learning more in Singapore or India; about the development of clean-tech jobs, because it’s happening faster in China.

And his current frustration with it, which is driven by his optimism about America’s cultural and economic strengths:

…whatever their popularity or utility in other places at other times, falling-behind concerns seem too common in America now. As I have thought about why overreliance on this device increasingly bothers me, I have realized that it’s because my latest stretch out of the country has left me less and less interested in whether China or some other country is “overtaking” America. The question that matters is not whether America is “falling behind” but instead something like John Winthrop’s original question of whether it is falling short—or even falling apart.

…When the Chinese produce one-quarter as much as Americans per capita, as will happen barring catastrophe, their economy will become the world’s largest. This will be good for them but will not mean “falling behind” for us…There is no reason for America to feel depressed about the natural emergence of China, India, and others as world powers.

The American culture’s particular strengths could conceivably be about to assume new importance and give our economy new pep. International networks will matter more with each passing year. As the one truly universal nation, the United States continually refreshes its connections with the rest of the world—through languages, family, education, business—in a way no other nation does, or will. The countries that are comparably open—Canada, Australia—aren’t nearly as large; those whose economies are comparably large—Japan, unified Europe, eventually China or India—aren’t nearly as open.

Fallows’ pessimism about the future is reserved entirely for the federal government:

So what could be the contrary case? It starts with the aspects of relative decline that could actually prove threatening. The main concerns boil down to jobs, debt, military strength, and overall independence…

We could correct all these problems—and that is the heart of the problem. America still has the means to address nearly any of its structural weaknesses. Yes, the problems are intellectually and politically complicated: energy use, medical costs, the right educational and occupational mix to rebuild a robust middle class. But they are no worse than others the nation has faced in more than 200 years, and today no other country comes close to the United States in having the surplus money, technology, and attention to apply to the tasks…the U.S. has in the past decade committed $1 trillion to the cause of entirely remaking a society. We know that such an investment could happen here—but we also know that it won’t.

That is the American tragedy of the early 21st century: a vital and self-renewing culture that attracts the world’s talent, and a governing system that increasingly looks like a joke. One thing I’ve never heard in my time overseas is “I wish we had a Senate like yours.”

He didn’t expound on his concerns about federal debt, unfortunately.  We get the impression that he’s as misguided as most on that issue.  Still, it’s a thought provoking article, and definitely worth a read.

A short and sweet complement to Fallows’ article is an op-ed that John Kay wrote earlier in the year for the FT.  In it, he lays out an interesting hypothesis for why bitter, ideologically driven partisanship has become a prominent feature of U.S. politics, while receding in Britain and Europe:

The collapse of socialism as an important political and intellectual force came… in the 1980s. While in Europe that collapse removed the main issue that divided the political parties, in America, it removed the main issue that united them. That is why European politics was more ideological than US politics then, and US politics is more ideological than European politics now.

Happy Labor Day, a week early!

US vs Japan: Right Shoulder Up, Down, or Level?

Yesterday, David Rosenberg lauded this recent NYT op-ed by Japanese literary professor Norihiro Kato:

In Japanese, people use the phrase “right shoulder up” to describe a graph that keeps going up, with each year’s figures rosier than the last. Of course, if that climbing line is someone’s right shoulder, it means the left is languishing somewhere out of sight. We’re seeing only half the person.

Reading the papers that morning at breakfast, I saw a graph indicating the point in the 1990s when Japan’s G.D.P. had peaked, after which the line started jagging down and up, over the long run comparatively leveling out. The relief I felt had something to do with the person I saw there, no longer so awkwardly bent. Finally we know where Japan stands — on level ground.

Kato also observed that in Japan, it’s been “right shoulder down” for population growth, rice production, and younger generations’ consumption, hedonism, and optimism; ”right shoulder up” in frugality and anxiety; and a marginal turning inward.  Kato continues (emphasis added):

It is, perhaps, a sort of maturity.

The rest of the world’s population is still exploding, and we are coming to see the limits of our resources. The age of “right shoulder up” is over. Japan doesn’t need to be No. 2 in the world, or No. 5 or 15. It’s time to look to more important things…That, the new maturity says, is still cooler than right shoulder up.

…some people don’t see things this way. The old guard — those politicians who led the charge in the heady 1970s and ’80s and fought back (however pointlessly) against the economic stagnation of the ’90s — still want to compete…They hate being beaten by China. For them, it seems, maturity only means striving to be No. 1. They won’t change. They are too settled in an earlier stage of development, in a dream of limitless growth. But society matures around them.

The new maturity may be the province of the young Japanese, but in a sense, it is a return to something much older than [Mayor of Tokyo] Mr. Ishihara and his cohort. Starting in the 19th century, with the reign of the Meiji Emperor, Japan expanded, territorially and economically. But before that, the country went through a 250-year period of comparative isolation and very limited economic growth. The experience of rapid growth was a new phenomenon. Japan remembers what it is like to be old, to be quiet, to turn inward.

Freshly overtaken by China, Japan now seems to stand at the vanguard of a new downsizing movement, leading the way for countries bound sooner or later to follow in its wake. In a world whose limits are increasingly apparent, Japan and its youths, old beyond their years, may well reveal what it is like to outgrow growth.

We shouldn’t be surprised that a literary professor can spin such beautiful prose, but what about the substance behind his argument, especially to American sensibilities?  Is it true that growth might one day be outgrown?  Could it happen sooner than we think?

We highlighted the word “cohort” in Kato’s op-ed because we think demographics might be playing a critical role in the process that Professor Kato articulated.  Consider the population dynamics in the epochs that Kato cited.  The Meiji Empire of Japan lasted from 1868 until 1913.  From 1721 until the start of the Meiji period, Japan’s population growth averaged roughly 0.10% per year.  During the Meiji period, it averaged 0.90% annually.  And from the end of the Meiji until 1975, it averaged 1.26%.  The Professor might be on to something. Note the massive “right shoulder up” in the following chart that began at the start of the Meiji Empire:

Population growth had followed a “right shoulder level” pattern for all of the 18th century and part of the 19th, until Japan’s demographic transition—a sharply falling death rate followed later by lower fertility rates—began in earnest.  It’s almost certainly not a coincidence that the rise of the Meiji Empire coincided with several generations of unprecedented population growth.  That type of shock—what economist Diane Macunovich has termed a Birth Quake—can have many material and psychological impacts.  On a national level, some of those impacts may well have stimulated outward expansion by Japan and other countries.  In fact, as soon as we acknowledge that the 20th century was a pronounced and unusual “right shoulder up” epoch, it helps us think about its many unprecedented political and economic events.  It also can help us better assess what is “normal.”  For example, Professor Kato’s “quiet”, as alien as it it may sound to anyone born in the twentieth century, is probably the normal condition of a society where population is stable or contracting.

To characterize earlier, more aggressive generations of Japanese citizens, Kato invokes Shintaro Ishihara, the incumbent mayor of Tokyo.  Ishihara was born in 1932, a time at which Japan’s rate of growth had levelled off, but was still at a very healthy clip that would be maintained for another forty years.  The competitive and expansionist character that Kato attributes to the “Ishihara cohort” may have been shaped by the myriad social and economic effects that rapid population growth can have.  As for Professor Kato, he was born in 1948, just before Japan’s population growth rate entered a pronounced “right shoulder down” phase, and the effects of that sharply slowing growth  have almost certainly shaped the prevailing views of his generation.

Relevant questions for investors are:

1. Are demographics truly destiny? If so, how?
2. Is the U.S. likely to follow the in Japan’s demographic footsteps?

On the first question, it’s hard—impossible, really—to deny that the rate of population growth has real economic impacts.  Consider that the neoclassical growth model, crude as it may be, is underpinned by population growth.  However, per capita GDP, which measures what a typical individual is capable of producing in a given period of time, largely determines standards of living.  With some qualifications, individuals alive today, though they may claim to be more frugal and anxiety-ridden than prior generations, are certainly better off than those who lived through periods like the 18th century.  There are also internal population dynamics to consider, such as age structure. By some metrics, Japan’s economic performance could surprise to the upside in the second half of this decade. 

On the second question, the U.S. is decidedly unlike Japan when it comes to historic and expected annual changes in population:

This stark contrast has been attributed to differences in fertility rates, immigration policies, and population density between the U.S. and Japan.  While expected long term growth of the U.S. population is lower than it was in preceding decades, it should confer a decided advantage relative to other developed economies, and also help us keep pace to some degree with today’s demographic and economic upstarts.

However, on certain age structure metrics, the U.S. is absolutely following in Japan’s footsteps, in that the relative share of our most demand-supportive and productive age cohorts are in decline.  For example, the population share of  young adults of is set to decline early in this decade until the late 2020s.  All else equal, that means falling rates of household formation, falling demand for homes and durables, declining credit demand and rising savings rates, and a significant long term drag on GDP, from a generation that has already been severely impacted by the 2007-2008 recession.  If public policy errors are made, it could also result in rising or persistent pessimism and anxiety.

Note that this pattern roughly follows Japan’s, with about a ten year lag:

So while the overall U.S. population should be “right shoulder slightly up” for the next forty years, we still face the kinds of age structure risks that Japan has endured since the 1990s, a fact that calls for a different investing mindset—as well as a different public policy mindset—from the one that’s prevailed since the arrival of the Baby Boomers. 

Sources of Japanese population data:

http://en.wikipedia.org/wiki/Demographics_of_Japan_before_Meiji_Restoration (1721-1872)

http://en.wikipedia.org/wiki/Demographics_of_Imperial_Japan (1872-1919) 

http://www.demographia.com/db-japanpref.htm (1921-1949)

http://www.census.gov/ipc/www/idb/informationGateway.php (1950-2050)

IMPORTANT DISCLOSURES: Symmetry Capital Management, LLC (“SCM”) is a Pennsylvania registered investment advisor that offers discretionary investment management to individuals and institutions. This publication is for informational, educational, and entertainment purposes only. It is not an offer to sell or a solicitation to buy securities, or to engage in any investment strategy. Past performance is not indicative of future results.  This material does not take into account your personal investment objectives, your personal financial situation and needs, or your personal tolerance for risk. Thus, any investment strategies or securities discussed may not be suitable for you.  You should be aware of the real risk of loss that accompanies any investment strategy or security. It is strongly recommended that you consider seeking advice from your own investment advisor(s) when considering any particular strategy or investment.  We do not guarantee any specific outcome or profit from any strategy or security discussed herein.  The opinions expressed are based on information believed to be reliable, but SCM does not warrant its completeness or accuracy, and you should not rely on it as such.  SCM is a participant in the Amazon.com Associates program, and earns a revenue sharing fee for qualified click through purchases from the Amazon.com website.  Neither the firm, nor its principals, nor its clients own securities issued by Amazon.com. Some clients of the firm own shares of EWJ, JSC, MFG, MTU.   

HR Jedi Mind Tricks: References

We’re adding a new and timely category of posts to our website that we’ve tagging ’HR Jedi Mind Tricks’.   These posts will link readers to helpful advice and resources from folks in the human resources field.  Our immediate hope is that they will be useful to readers who are currently job seeking, while also offering insights that all readers can apply in their careers.  

If you’re wondering about the name, it’s based on our personal experiences in companies with top notch HR departments, where HR professionals are sort of like Jedi Masters, always seeming to know the right things to say, having an impressive bag of tricks at their disposal, and in some important ways holding the ‘keys to the kingdom’.  Also, a classmate of ours who previously worked for one of the most progressive HR departments in the world told us that the company’s prescribed technique (yes, prescribed) for employees to express negative emotions to other employee was dubbed internally “the jedi mind trick”, because in skilled hands it was a powerful technique for influencing others. 

The Jedi mind trick tag might sound a bit cheeky, but we really do view sound advice from HR professionals as invaluable.  If you want to better understand the psychology and nuances of hiring, firing, performance, influence, reputation, advancement, etc, they are the folks to listen to.

In our inaugural Jedi mind trick post, we’re linking to a good, short audio primer on how one should handle the “references” question during an interview: http://job-search-success-secrets.com/blog/letter-reference-talk

When Smart People Are Wrong, Sort Of

It appears that even more smart people have been seduced by the ‘deficits, debt, and inflation’ meme:

Marc Faber recommends that investors flee 10 year U.S. Treasuries.

Doug Kass tweeted recently that he was “pushing hard” on his long TBT ETF (hat tip).  TBT is the ticker symbol for ProShares UltraShort (~2X inverse) Barclay’s 20+ Year U.S. Treasury ETF.

Options Monster reports significant call buying in TBT (buying opening calls in TBT means an investor is betting on higher Treasury yields).

As expected, Black Widow II is busy spinning its web in the U.S., and could end up sucking investment capital out of some talented hands.  

However, we wrote that these smart people are only sort of wrong, because on a tactical short run basis, these trades seem likely to work:

• The recent spike in market pessimism was sharp, sudden, and probably overdone.
• Reaction to Federal Reserve officials’ mention of quantitative easing (“QE2″) was probably overdone.
• If pursued, QE2 might increase inflation expectations, at least for a short time, which would be bearish for Treasuries all else equal.
• The immediate economic outlook, though far from rosy, might not be as dire as current yields imply; soft patch versus double dip is still unsettled.

Note that we have said nothing about “unsustainable deficits”, ”unsustainable debt to GDP ratios”, “debt monetization”, or actual inflation.  That’s because none of them are presently a true factor driving Treasury yields, in our view.  We still believe that structural factors such as household balance sheet deleveraging and shifting age structure argue for ten or more years of much lower real and nominal interest rates in the U.S. than most analysts, pundits, and investors are accustomed to.  Today’s discontinuity in inflation and interest rates is reminiscent of Japan’s from the early 1990s to today, and it is very likely to persist until at least the final years of this decade, if not longer.

Thus, while short term tactical bets on higher Treasury yields (falling Treasury prices) will sometimes work, over the longer term, we still strongly believe that the primary direction for longer term rates is down, as the yield curve continues to flatten while its short end remains anchored at very low nominal rates.  In fact, depending upon an investor’s circumstances and personal makeup, thirty years of “risk free” 3.6%+ coupons might still be an attractive investment!

On a related note, investing icons Jeremy Siegel and Jeremy Schwartz disagree with that last point in a recent WSJ op-ed, “The Great American Bond Bubble”.  Some of their observations are based on good old value investing techniques, but the main thrust of the editorial is (somewhat surprisingly) very weakly reasoned.  For example, there is absolutely no sound basis for comparing earning yields on tech stocks at the height of the Nasdaq to cash flow yields from Treasury securities.  Tech stocks were speculative, few paid any dividends, and the return of one’s initial investment capital was highly unlikely.  Coupon bearing Treasuries offer periodic cash flows and, if purchased at par, full return of nominal principal, guaranteed by the full faith and credit of the U.S. government.  The real puzzle is that Treasuries yielded 6% at certain points during the tech bubble, and have only slowly come down to their current levels.  Some of the investing world’s preeminent names are assessing the road ahead by looking in the rear view mirror. 

IMPORTANT DISCLOSURES: Symmetry Capital Management, LLC (“SCM”) is a Pennsylvania registered investment advisor that offers discretionary investment management to individuals and institutions. This publication is for informational, educational, and entertainment purposes only. It is not an offer to sell or a solicitation to buy securities, or to engage in any investment strategy. Past performance is not indicative of future results. This material does not take into account your personal investment objectives, your personal financial situation and needs, or your personal tolerance for risk. Thus, any investment strategies or securities discussed may not be suitable for you. You should be aware of the real risk of loss that accompanies any investment strategy or security. It is strongly recommended that you consider seeking advice from your own investment advisor(s) when considering any particular strategy or investment. We do not guarantee any specific outcome or profit from any strategy or security discussed herein. The opinions expressed are based on information believed to be reliable, but SCM does not warrant its completeness or accuracy, and you should not be rely on it as such. Some clients of the firm own long term Treasury and Treasury Inflation Indexed securities, and some clients of the firm own shares of TLT.

Kiss Your Sweet Moderation Goodbye

Volatility? You bet!!!

Only nine days ago, we lamented a severe revision-related drop in the Philly Fed’s Business Conditions Index.  Incredibly, its most recent revision pushed it to an opposing extreme, well short of the potentially recessionary territory it appeared to be in over the last couple of weeks:

The resulting whiplash motivated us to take a look at the historical data to see if its current volatility is out of the ordinary.  Using the “tentacles spreadsheet” (.zip file containing a large Excel spreadsheet), we calculated an interquartile range (75th percentile less 25th percentile) across the vintages for each day, and smoothed it using a five year moving average.  The result is a visual stunner:

The dotted line shows the median interquartile range for the data.  The current five year average is over three times its median value.

The essential message would appear to be “Kiss your sweet moderation goodbye.”

IMPORTANT DISCLOSURES: Symmetry Capital Management, LLC (“SCM”) is a Pennsylvania registered investment advisor that offers discretionary investment management to individuals and institutions. This publication is for informational, educational, and entertainment purposes only. It is not an offer to sell or a solicitation to buy securities, or to engage in any investment strategy. Past performance is not indicative of future results. This material does not take into account your personal investment objectives, your personal financial situation and needs, or your personal tolerance for risk. Thus, any investment strategies or securities discussed may not be suitable for you. You should be aware of the real risk of loss that accompanies any investment strategy or security. It is strongly recommended that you consider seeking advice from your own investment advisor(s) when considering any particular strategy or investment. We do not guarantee any specific outcome or profit from any strategy or security discussed herein. The opinions expressed are based on information believed to be reliable, but SCM does not warrant its completeness or accuracy, and you should not be rely on it as such.

The Rising Ratio of Continuing to Initial Claims: How Sustainable?

Initial unemployment claims surprised to the upside today, hitting the 500K mark on a seasonally adjusted basis for the first time since November 2009.  The non-seasonally adjusted number was more benign at 401K, but for the year to date, actual claims are coming in at an average of about 5,000 over seasonally adjusted figures.  The only dovish thing we can discern in the data is that the trend in actual unadjusted figures isn’t as bad as for the adjusted ones, which might be an artifact of the latter playing catch up to the former.  But the unadjusted claims data don’t show a discernible trend, which implies (1) continuing uncertainty, and (2) a level that is still too high for comfort economically, socially, and politically.     

What really caught our eye once again was the ratio of continuing to initial claims, which we charted here recently.  Loosely speaking, this can be thought of as the pool of unemployed to newly unemployed — though keep in mind that unemployment benefits run out at some point, so the continuing unemployed in this chart only include those who are still able to collect benefits.  If the ratio trends upwards, it means that an increasing number of people are unable to find work.  Noticing the upward trend break that appears around 2000, we wrote:     

Through the end of the last century, the median number of continuing claimants has been just under seven.  Since the turn of this century, it has been nearly eight, and at the moment it is just shy of eleven. That means that for every individual filing a new claim for unemployment benefits, there are more than ten others filing ongoing claims. On that count, the current period looks notably worse than the 1970s. However, it does require some additional analysis — specifically, has extending the duration of benefits skewed the number of continuing claims upward?     

We took the opportunity with today’s release to incorporate that data, using figures that Michael Feroli of JP Morgan Chase compiled for a piece back in March on emergency benefits extensions.  As he noted, ”In every recession since 1970 (except the short, one-quarter recession in 1980), Congress has authorized emergency benefits of one form or another, though the terms have varied significantly.”     

Feroli outlined a case for unemployment benefits raising the unemployment rate by 30% (or +1.5% assuming a long term rate of 5%).  To do so, he started with an econometric estimate from a 2006 study that each week of extended benefits prolonged unemployment by 0.2 weeks.  His inferences were widely cited by pundits and other commentators at the time, and still are.     

We’ve updated our earlier chart with bars showing periods during which emergency unemployment benefits were enacted.  The black line is a ratio of the one year moving average of non-seasonally adjusted continuing claims to non-seasonally adjusted initial claims (the blue line is a three year moving average of that ratio).     

While this does not constitute a statistical analysis, there are some interesting things to note.  First, the graph appears to lend support to Feroli’s 30% estimate; from a long term average of around seven, the long term ratio is fast approaching nine, or 130%, of the earlier rate.  However:    

• During periods where emergency unemployment benefits were enacted by Congress, the ratio of continuing to initial claimants has decreased fairly sharply. This does not support the new “funemployment” meme (reminiscent of the “welfare queen” meme of the 1990s) being floated by opponents of extending emergency unemployment benefits.
• The ratio has made successively higher lows and higher highs since the 1991 recession.  Throughout the second half of the 1990s — notably during the Clinton-GOP boom (or Dole-Gingrich or Clinton-Rubin or whatever else you might prefer to call it) — the ratio never returned to its long term lows of the 1970s and 1980s, even though emergency benefits were not in effect.
• The same is true for the period following the 2001 recession.  The ratio remained stubbornly high, even though emergency benefits had expired (and like other periods, it had dropped notably while emergency benefits were in effect).
• The duration of emergency benefits in the 2002-2004 period were in line with earlier periods, so it’s hard to argue that more generous emergency benefits in the last two recessions have somehow led to longer spells of unemployment.

These observations make us highly doubtful of Feroli’s inferences.  There’s obviously a chicken and egg problem at work in the data.  For example, does an additional week’s worth of benefits extend unemployment by 0.2 weeks?  Or does causation run the other way, i.e., do stubborn periods of unemployment cause Congress to extend emergency benefits by a commensurate and longer period of time?  And given that policymakers don’t typically enact measures for a week at a time, the literature’s 5:1 rule of thumb could be far more benign than moral hazard implies — couldn’t it?  

Judging by the Nicholson-Needels paper that Feroli used as his starting point, a great deal of energy has been focused on the issue of (and assumptions around) moral hazard, and far less on the direction(s) of causation.  Until researchers can show plausibly that moral hazard is being exploited by a significant proportion of recipients, we think the focus on (dis)incentive effects is misplaced.  To us, the far more important consideration is that there appear to be some serious structural issues at work in U.S. labor market dynamics.    

If that’s true, then unfortunately, the trend marked in our chart may very well be sustained, with all the negative social and economic effects that implies.  And these kinds of issues must be addressed when people start hyperventilating about public sector deficits.  For example, if aggregate demand is going to run short of potential output for an extended period of time due to overlooked structural factors, then fiscal austerity can be thought of as a direct tax on future generations.    

Those who ignore this fact but still harp on the alleged immorality of ‘saddling future generations with debt’ are turning substantive economic issues with major long term social implications into a morality play for simpletons, as well as grossly misunderstanding how our monetary system functions.  It needs to stop.    

Of course these folks come in all political flavors, from the “starve the beast” crowd to the “soak the rich” gang.  And if you believe, rationally, that politicians are likely to eventually try to close deficits and pay down debt at the economy’s expense via higher taxes, then starving the beast is an understandable objective, despite its likely costs.   

IMPORTANT DISCLOSURES: Symmetry Capital Management, LLC (“SCM”) is a Pennsylvania registered investment advisor that offers discretionary investment management to individuals and institutions. This publication is for informational, educational, and entertainment purposes only. It is not an offer to sell or a solicitation to buy securities, or to engage in any investment strategy. Past performance is not indicative of future results.  This material does not take into account your personal investment objectives, your personal financial situation and needs, or your personal tolerance for risk. Thus, any investment strategies or securities discussed may not be suitable for you.  You should be aware of the real risk of loss that accompanies any investment strategy or security. It is strongly recommended that you consider seeking advice from your own investment advisor(s) when considering any particular strategy or investment.  We do not guarantee any specific outcome or profit from any strategy or security discussed herein.  The opinions expressed are based on information believed to be reliable, but SCM does not warrant its completeness or accuracy, and you should not be rely on it as such.  SCM is a participant in the Amazon.com Associates program, and earns a revenue sharing fee for qualified click through purchases from the Amazon.com website.  Neither the firm, nor its principals, nor its clients own securities issued by Amazon.com or JP Morgan Chase.  

In Defense of the Gold Standard

No, not that gold standard.  Rather, the CFA or Chartered Financial Analyst designation, considered the gold standard for financial education, according to two FT reporters in a story over the weekend.  The story was slanted enough that I fired off a letter to the editor.  So far it’s unpublished, so we’ve decided to run it here:

Sir: 

While not quite a hatchet job, Rachel Sanderson and Gillian Tett’s article on the CFA (“Get me into Goldmans”, FT Life & Arts, Aug 14^th/15^th) hardly presents a fair view of the CFA designation, its holders, or the CFA Institute. As a Level II CFA candidate, I have direct experience with some of the issues they discussed, and would like to offer a few criticisms.

First, their focus on the presence of CFA charter holders in large Wall Street banks is overly myopic. Almost all of the individuals I have met through my experiences with the CFA Institute work for other employers and in a wide variety of professions other than investment banking. Comments from two CFA candidates who hope to enter investment banking hardly constitutes a valid sample (as Level I candidates learn from study of quantitative analysis).

Second, having sat for the Level II exam more times than I like to admit, I have found that the exam readings adapt quickly to industry developments and new research, and that they are (for the most part) free of bias, especially the religious adherence to efficient markets intimated in your article. From my start in the program, I have found the treatment of EMH to be circumspect overall, reflecting current academic thinking. The problem, as noted by Sanderson and Tett, is that economic and financial models that better reflect the real world are not yet easily tractable for solving the kinds of challenges we face in daily practice. That does not mean that CFA charter holders do not think or talk about them (they do so very publicly if you peruse the organization’s publications) or attempt to incorporate them into their professional practices. The article’s focus on EMH among CFAs, as opposed to the economics and finance professions in general, is myopic and likely to misguide uninformed readers.

Third, I have always been impressed by the diverse range of views CFA charter holders and candidates bring to bear on economics, finance, and other relevant subjects. This diversity is well reflected in the speakers, topics, and Q+A of annual CFA meetings. Local chapters have autonomy in their selection of guest speakers, as reflected in the article’s mention of economist Andrew Lo and behavioral economics, and judging by the chapters in my area, they are open to a diverse range of views and opinions. Simply, put, there is no top down catechism imposed upon CFA societies, charter holders, or candidates, be it on EMH or anything else.

That being said, there is one area where a diversity of viewpoints is not tolerated, and it’s ethics. At their core, the CFA Code of Ethics and Standards of Conduct require that all of us put our clients’ interests first, and our employers’ interests and the industry’s well being above our own. Unlike many trade associations, the CFA Institute has formal enforcement procedures in place for dealing with violations, and regularly publishes the nature, findings, and sanctions of its cases. I would speculate that the only comparable education regarding fiduciary duties is to be found in some law school classes. And while a small number of charter holders do run afoul of ethics (inevitably, as behavioral economists might posit), I suspect that the continuous emphasis that the CFA Institute puts on upholding the highest ethical standards is unrivalled by any profession. In my view, the gold standard status of the CFA designation is rooted almost entirely in that fact, and not in some unfounded expectation that its curriculum should be years ahead of academic research…

I simply don’t see how the authors’ assertion that the crash of 2008 may have “fatally undermined” the value of the CFA charter is plausible.

Of course, “having sat for the Level II exam more times than I like to admit,” that possibility is disconcerting to say the least!  Hence my indignance???

You can read more about the CFA charter and program at the CFA Institute’s website.

Cassandras & Chicken Littles Out In Force!

Negativity among the punditry seems to have risen dramatically over the last couple of weeks.  While we’re certainly not raging bulls, and we think that public policymakers need to do more to start pulling their weight, the stories we’ve come across in the past few days are completely over the top.

First is the foreboding sounding ‘Hindenburg Omen’ noted by some technical analysts recently, which prompted TPC to ask whether equity markets are in for a “savage downturn” in the months ahead.  If I understand correctly, we’re still waiting for a “confirming Hindenburg Omen” or two (or three, or four).  Not to say that a panic selloff or crash is an impossibility, but good grief…

Second is an absolutely over-the-top piece from Matterhorn Asset Management that was making the rounds in a highly sensitized blogosphere:

there will be no double dip. It will be a lot worse. The world economy will soon go into an accelerated and precipitous decline which will make the 2007 to early 2009 downturn seem like a walk in the park. The world financial system has temporarily been on life support by trillions of printed dollars that governments call money. But the effect of this massive money printing is ephemeral since it is not possible to save a world economy built on worthless paper by creating more of the same. Nevertheless, governments will continue to print since this is the only remedy they know. Therefore, we are soon likely to enter a phase of money printing of a magnitude that the world has never experienced.  But this will not save the Western World which is likely to go in to a decline lasting at least 20 years but most probably a lot longer.

Again, good grief.  Putting on the hip waders, one need only look around and ask themself:

• “Are assets in the real economy — be they physical capital like machines or structures, intangibles like brands, human capital embodied in every individual with even a whit of (potential) talent and motivation, or anything else that is capable of producing value to human beings – somehow negated by the existence of what the author deems ‘worthless paper’”?
• Is there anything about the U.S. or other developed economies that indicates an under supply problem, such that additional money would be chasing too few goods, services, assets, and labor and thus lead to inflation? Or is the fundamental challenge facing developed economies today one of aggregate demand falling short of aggregate supply?
• Are paper monies really worthless?  If so, then the debt that so many households are struggling under should not be much of a burden, and the real value of the deficits and accumulating public debt of sovereign governments would be much smaller than they look.  And yet households continue to struggle with deleveraging, electorates and policymakers continue to gnash their teeth over deficits and debt, and deflation fears are rising as inflation expectations recede.  So much for “worthless paper”.
• If governments were to directly monetize assets, is that inevitably going to spark inflation?  Or do the realities of  a widespread household balance sheet recession and massive shifts in age structure mean that direct monetization, be it of assets or of public budget deficits, would only prevent deflation?  As we’ve argued, inflation and deflation lie along a continuum.  The acceptance of “disinflation” should logically lead one to accept the possibility of “disdeflation”.

If you want to get academic, dig into the actual data on public deficits, public and private sector debt ratios, and inflation and deflation.  You should find that they do not support the assertions in the Matterhorn paper or the many other missives like it that are circulating.  Moreover, those assertions — especially the idea that simply ‘printing money’ is always and everywhere inflationary and thus detrimental to savers — rest on a woefully incomplete theoretical footing.  If any Austerian doubts this, they need only read the chapter on ‘Indirect Exchange’ in Mises’ Human Action.  The grand old man of Austrian economics understood that the relative value of money, like any other good or service, is a function of supply and demand (to assess the demand side of the money equation, refer back to the third question above).

Anecdotally, the pessimism embodied in the Matterhorn piece and elsewhere seems to have people thinking about stocking their bunkers.  For example, we noted from a networking site that a friend is reading The Modern Survival Manual: Surviving the Economic Collapse, a book on surviving the Argentinian credit collapse by Fernando Ferfal Aguirre.  I enjoy reading survival manuals, as they’re an interesting (and potentially useful) real life analogue to financial risk management.  And Ferfal seems to be a pretty sharp and level headed guy with some clever advice for surviving crisis situations in modern settings. 

However, in terms of the risk of economic collapse, the U.S. and Argentina are very, very different, as Steve Major of HSBC explained in today’s FT.  We highly recommend both his column and a recent op-ed by Alan Beattie as good innoculations against the viral gloom and doom of the moment.  Beattie outlined quite well how overconfidence in monetary policy, along with hysterics over public sector deficits, are likely to be counter productive in the long run (emphasis addedd):

It would help greatly if fiscal policy were pulling in the same direction as monetary, signalling that the central bank and the government will act to stimulate if growth weakens. Sadly, this is not forthcoming. Super-low bond yields show fiscal policy has more room for manoeuvre, but far too many people – congressional Republicans, Harvard historians moonlighting as economists [take that, Niall Ferguson!], cable television pundits – seem to believe with almost no evidence that a debt crisis and possibly high inflation are just around the corner. According to this view, an anaemic economy shovelling extremely cheap money at the Treasury is somehow signalling it wants the government to stop borrowing.

This is a problem. We have been here before – during Japan’s long struggle with deflation in the 1990s and 2000s. Some of today’s debt crisis brigade have drawn the lesson that large-scale fiscal infusions do not work. In reality, as shown by Adam Posen of the Bank of England’s monetary policy committee, Japan became airborne in the early 2000s after the twin engines of fiscal and monetary policy were finally run together. [Posen's book is highly recommended; it helped change our thinking on Japan's policy experience.]

Before then, Japanese policy was disjointed and half-hearted. Serial-killing fiscal and monetary authorities repeatedly choked off growth whenever the economy flirted with recovery, and sometimes undid each other’s work.

There is no such obvious disagreement between government and central bank in the US. But divisions elsewhere are destroying the coherence of fiscal policy. A stimulus-phobic Congress is blocking the White House. And with the recent departures of senior officials Peter Orszag and Christy Romer, there are signs of division and exhaustion within the administration’s economics team.

Stasis and wrongheadedness in fiscal policy makes the Fed’s job harder [as we've argued previously, fiscal policy errors worsen the zero bound "trap"; conversely, smart fiscal expansion would make the Fed's job easier]. The FOMC is not just trying to operate in highly uncertain circumstances with highly uncertain instruments but also has too much of the burden. Central bankers are no more omnipotent than they are omniscient. Investors, the public and the Congress may be forced painfully to find that out.

Again, we’re not raging bulls, and we think the coming decade will be a tough one for both stock markets and economies.  But we’re not stocking the backyard bunker either. 

IMPORTANT DISCLOSURES: Symmetry Capital Management, LLC (“SCM”) is a Pennsylvania registered investment advisor that offers discretionary investment management to individuals and institutions. This publication is for informational, educational, and entertainment purposes only. It is not an offer to sell or a solicitation to buy securities, or to engage in any investment strategy. Past performance is not indicative of future results.  This material does not take into account your personal investment objectives, your personal financial situation and needs, or your personal tolerance for risk. Thus, any investment strategies or securities discussed may not be suitable for you.  You should be aware of the real risk of loss that accompanies any investment strategy or security. It is strongly recommended that you consider seeking advice from your own investment advisor(s) when considering any particular strategy or investment.  We do not guarantee any specific outcome or profit from any strategy or security discussed herein.  The opinions expressed are based on information believed to be reliable, but SCM does not warrant its completeness or accuracy, and you should not be rely on it as such.  SCM is a participant in the Amazon.com Associates program, and earns a revenue sharing fee for qualified click through purchases from the Amazon.com website.  The firm, its principals, and its clients do not own securities issued by Amazon.com.

A Picture of Pain (and Confusion)

Want to see something ugly? Look at this chart from the Calculated Risk blog:

Note that the steep initial fall in employment in the recent (2007) recession was similar to the trajectories in 1948, ’53, ’58, ’60, and ’70.  However, in those episodes, there was a strong snap back after one to two years; 1974 showed the steepest initial drop, but turned around after six months and recovered after fifteen. 

Employment losses in the recessions of 1969 and 1980 were shallow and short.   1981 was not pretty, with employment falling by 3%, and taking over two years to recover.  1990 was fairly shallow, but was drawn out over two and a half years.  2001 followed a similar trajectory to 1990, but employment declined a bit further and was depressed for longer, taking almost four years to recover. 

If you were looking at those data before 2007, you might infer that recessions were becoming longer and shallower, perhaps due to continuing innovations and improvements in macro policy (e.g., counter cylical stabilizers, transparency, better managed expectations), shifts in the composition of the domestic economy (e.g., towards less cyclical industries), closer trade and financial integration, demographics, etc.  It also looked like there was a clear tradeoff, in terms of job losses, between the depth of a recession and its duration. 

But we’re now faced with a downturn in which employment has contracted by over 6%, its deepest decline in the post war period, and it’s painfully clear that a full recovery will take much longer than it did in the 2001 recession.  In other words, the depth and duration tradeoff is dead this time around.  We’ve got the worst of both for the first time since the Great Depression.  It’s not entirely clear what roles macro policy, economic composition, trade and financial integration, demographics, and other factors are playing this time around, though most of us have our theories, of course.

While the turnaround that started in early 2010 is a welcome sign, there’s clearly a long, tough slog ahead.  Advocates of austerity or ”fiscal (in)sanity” (in our view that includes anyone who wants to raise taxes or lower spending) have to take this reality into careful consideration.  And those who would assert that current unemployment levels reflect a new equilibrium that we have no choice but to get used to should be prepared for a long, tough political slog; one that’s sure to be accompanied by plenty of (undesirable) social intrigue.

IMPORTANT DISCLOSURES: Symmetry Capital Management, LLC (“SCM”) is a Pennsylvania registered investment advisor that offers discretionary investment management to individuals and institutions. This publication is for informational, educational, and entertainment purposes only. It is not an offer to sell or a solicitation to buy securities, or to engage in any investment strategy. Past performance is not indicative of future results.  This material does not take into account your personal investment objectives, your personal financial situation and needs, or your personal tolerance for risk. Thus, any investment strategies or securities discussed may not be suitable for you.  You should be aware of the real risk of loss that accompanies any investment strategy or security. It is strongly recommended that you consider seeking advice from your own investment advisor(s) when considering any particular strategy or investment.  We do not guarantee any specific outcome or profit from any strategy or security discussed herein.  The opinions expressed are based on information believed to be reliable, but SCM does not warrant its completeness or accuracy, and you should not be rely on it as such.  SCM is a participant in the Amazon.com Associates program, and earns a revenue sharing fee for qualified click through purchases from the Amazon.com website.  The firm, its principals, and its clients do not own securities issued by Amazon.com.

Mosler: Dovish on GDP & Equities, Bearish on Wealth & Income

Interesting comments from Warren Mosler yesterday:

The fact that q2 earnings were very strong even as Q2 GDP was not so strong is a good sign for stocks.

Congress has extended unemployment benefits, approved 26 billion for the states, and is toying with extending the tax cuts set to expire, all indicating there will not be any serious deficit reduction interference for at least the rest of the year.

Last I checked Federal revenues had bottomed and were starting to rise indicating an underlying positive tone to the economy.

8%+ continuing Federal deficits are a very large tailwind that I expect to keep GDP in positive territory.

Weekly claims are on the high side, but not at double dip levels and continuing claims continue to fall. And the combo of hours worked and new jobs shows ongoing improvement.

Lack of consumer credit expansion (borrow to buy) keeps it all moderate, though poised for expansion as debt to income ratios have continued to fall due to the federal deficits.

Federal deficits have added to net financial assets and incomes of households, allowing them to spend from income and also add to savings, as indicated by firm final demand in the Q2 GDP revisions.

Mosler followed up with this in the comments section:

It’s just a guess that 8%+ deficits will keep things muddling through with very modest top line growth until the ’savings deficiency’ is filled and eventually starts over flowing. Before the surplus years of the late 90’s seems deficits averaged maybe 4% over 10 year periods (?) and unemployment was often 5% or less. So maybe the underlying need for deficits to offset the demand leakages and support the resulting credit structure that keeps unemployment at 5% or less is 4%? That means 8%+ deficits have been sustaining some growth and also been filling the savings hole as both savings have been high and increasing, and unemployment at least stabilizing. When the savings deficiency gets neutralized the next step should be expanding consumer credit for the likes of cars and houses.

We think Mosler’s overlooking age structure effects at his peril.  For example, it seems unlikely that there will be enough demand for car and house purchases and financing to make a meaningful dent in unemployment levels.  And as Mosler has previously noted (pdf), “high and lingering unemployment…contain real wages and direct real wealth towards rentiers and upper income individuals.”

That prediction brings up the concern we expressed yesterday, whether ”distribution of income won’t become as serious an issue in the years ahead as it was at the turn of the 20th century,”  and we noticed this morning that Marshall Auerback addressed it in a rather provocative way back in June:

…my point was not that corporate tax receipts are required for the government to spend, but more that the threat of taxation might induce the corporate sector to do some of the government’s “heavy lifting” on the job creation front. There’s some political advantage here because, as we are witnessing today, there are profoundly strong forces currently mobilizing against government spending on the spurious grounds of “fiscal sustainability.” 

So let’s call their bluff.

There are additional social benefits to be derived from this proposal. If the government taxes excess corporate savings, it means there are fewer corresponding opportunities for corporate financial engineering, control frauds, etc., and therefore greater financial stability as you have an economy less prone to financialisation. That’s an unalloyed social good.

In effect, this becomes a tax aimed explicitly at the corporate rentiers who are not reinvesting their super profits in tangible capital equipment, except in tech/telecom bubbles, or in Chinese malinvestment schemes, etc. And it serves an ideological purpose of a) forcing nonfinancial capitalists to, well, be capitalists, not speculators, and b) ties the deficit reduction initiatives, which, as we have argued many times in the past, are insane and suicidal, but are nonetheless being carried out, to making the rentiers pay their “fair share.”

Things are fluid in macro land to say the least.

We do agree with comments Mosler has made recently that equities are interesting in this environment, but like Marc Faber and others, we believe that stock picking will be favored over buying and holding an equity index in the decade ahead.  And as Mosler noted elsewhere, “the economy is flying without a net.”  That means that risk management remains paramount for investors.

IMPORTANT DISCLOSURES: Symmetry Capital Management, LLC (“SCM”) is a Pennsylvania registered investment advisor that offers discretionary investment management to individuals and institutions. This publication is for informational, educational, and entertainment purposes only. It is not an offer to sell or a solicitation to buy securities, or to engage in any investment strategy. Past performance is not indicative of future results.  This material does not take into account your personal investment objectives, your personal financial situation and needs, or your personal tolerance for risk. Thus, any investment strategies or securities discussed may not be suitable for you.  You should be aware of the real risk of loss that accompanies any investment strategy or security. It is strongly recommended that you consider seeking advice from your own investment advisor(s) when considering any particular strategy or investment.  We do not guarantee any specific outcome or profit from any strategy or security discussed herein.  The opinions expressed are based on information believed to be reliable, but SCM does not warrant its completeness or accuracy, and you should not be rely on it as such.  SCM is a participant in the Amazon.com Associates program, and earns a revenue sharing fee for qualified click through purchases from the Amazon.com website.  The firm, its principals, and its clients do not own securities issued by Amazon.com.