A few weeks ago, I discussed some comments made by Bridgewater Co-Chief Investment Officer Bob Prince at the Davos World Economic Forum, in which he said the boom and bust cycle has been effectively ended by the actions of central banks.
Since Bridgewater is an enormous financial institution with $160 billion in assets under management and Prince is a respected voice in finance, naturally the comment made a lot of people take notice. Now while his argument was a little bit more nuanced than initially reported, it did seem to me that this kind of reasoning - that the rules of the game have permanently changed - seemed a little flawed.
So I was interested to hear a very different opinion coming out of Davos, this time from Guggenheim Chief Investment Officer Scott Minerd. In an interview with Bloomberg, Minerd expressed the opinion that monetary policy has been propping up the market for some time now, so when the music stops, a lot of investors will pay the price.
Is it all a Ponzi scheme?
Minerd believes that since the 1970s, monetary policy in the U.S. has been "bubble to bubble," that is, in order to salvage the financial system from each crash, the Federal Reserve creates the conditions for the next bubble and crash. For instance, low interest rates that were brought in to encourage lending after the dotcom crash created a massive bubble in the real estate market that burst spectacularly in 2007-08. After that crash, ultra-low interest rates and quantitative easing have inflated asset values across the board. This much is obvious - the debate is over whether these elevated valuations constitute the new normal, or whether they will at some point undergo a precipitous decline.
Minerd clearly believes it is the latter, even going as far as referring to the market as "a Ponzi scheme," where valuations are driven by pure speculation:
“The only reason investors keep adding to risk is the fear that prices will be higher tomorrow...Asset prices go up on an escalator, and they come down in an elevator. Since nobody I know is smart enough to figure out when the music stops, I think [the turning point is] a really difficult thing for people to try to time.”
He followed up by saying that the liquidity that central banks are pumping into the credit markets is leaking out into all other asset classes and “you could be buying baseball cards and it wouldn’t matter.” With all that being said, by labelling the market a Ponzi scheme, Minerd doesn’t mean that there is some evil mastermind pulling the strings. He simply means that investor behavior now has become untethered from the fundamentals of the market, and that investors are willing to take on more and more risk for less and less potential return. But if the end result is the same, and these reckless investors end up losing their money, then it doesn’t matter whether there is a Bernie Madoff pulling the strings.
Read more here:
- How to Invest According to Howard Marks
- When the Cure Is Worse Than the Disease
- Is It Really 'Different This Time?'
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