The recent turmoil to hit the U.S. financial markets comes as the Federal Reserve starts to unwind its multitrillion-dollar asset purchase program, which has been in place almost constantly since the financial crisis.
The program has had plenty of critics who attacked the Fed for printing too much money too fast and destabilizing global financial markets with rock-bottom interest rates.
Historically, when policymakers have resorted to money printing to try and ease financial situations, it has resulted in dramatic inflation.
Until late 2021, it seemed like this time would be different, but then everything began to change. Prices began to rise significantly, and these were not temporary increases. Price hikes have become more sticky as companies have realized they can pass on higher costs to consumers, which are more than happy to pay the additional cost. This means it is less likely prices will revert to normal levels in the long run.
Only time will tell what will happen as the Fed begins to tighten. We are already seeing the impact of higher interest rates in the housing market. The 30-year mortgage rate has surged above 6%, and companies in the real estate sector have begun cutting jobs in anticipation of a drop in demand.
Private company valuations have also begun to decline as investors reconsider their growth prospects and other opportunities.
The upcoming storm
While it is very easy for me to say investors should have seen this coming with the benefit of hindsight, it is something they should have been preparing for.
Indeed, Charlie Munger (Trades, Portfolio) warned of the upcoming storm at this year's Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial) annual meeting:
"We’ve (The United States) done something pretty extreme, and we don’t know how bad the troubles will be yet …Whether we’ll be like Japan or something a lot worse. I think we do know that we’re flirting with serious trouble."
There have been many other similar warnings over the past decade. Munger's comments on these topics are always notable because he is so widely read. The billionaire investor spends all of his time reading and dissecting different topics. Much like the founder of Bridgwater, Ray Dalio (Trades, Portfolio), who has used history to construct different models of how current-day economic situations might play out, Munger understands enough about the past to see how historical economic developments might have some relevance to the current day.
An all-weather strategy
Unlike Dalio, Munger is not a trader. He does not try to time the market or buy different investments for different market environments. His strength lies in finding high-quality companies trading at low prices, and he does not deviate from this strategy.
However, he has an advantage over other investors by being aware of potential upcoming disasters. There is always going to be the risk of a market downturn or macroeconomic trouble, and investors should choose their assets accordingly. We usually don't receive any warning of when the next downturn is about to occur, which means it's all the more important to find companies and assets that will be able to weather the market cycle.
Some investors might choose to own gold or inflation-linked bonds to provide protection against uncertainty and macro volatility. Others might prefer to invest in commodity stocks. There are different strategies available to every investor, so we should choose the strategy that we feel most comfortable with.
Munger has always preferred to buy the companies that he feels comfortable owning and sticking with them through thick and thin. He will only buy a stock if he thinks it is going to be a good ultra-long-term investment (over several decades) and has the qualities required to prosper throughout all market cycles.
We don't have to follow the strategy, but it might be sensible to learn from Munger that the best way to avoid getting caught out by the market is to invest for all environments all the time.
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