Interest Free Risk
By Julien B. Booth
June 4, 2020
Good Afternoon:
I hope this note finds you and your family doing well.
I am writing to let you know that we have been preparing for this macro environment and are ready. The context of this note is not next week, it is a longer duration expectation (months to years).
Attempting to communicate the trends unfolding in the capital markets has always been a very challenging task. Post Covid crisis (kind of) I found I have little filter left. Please be forewarned at my sober bluntness.
We have gone over the waterfall. The Financial Bubbles are too big to fail now and human behavior seldom changes.
Businesses and investing, by definition, are the deferral of consumption today, with the expectation of return in the future. This concept has been completely lost on most investors.
The chronic addiction of Instant Space valuation (of everything) has made the “Long Term” investor a borderline day trader obsessing over the immediate pricing of their assets, with little appreciation for their underlying quality-or lack thereof.
Additionally, turning every asset into a tradeable ETF has broadly INCREASED volatility amongst ALL assets and made the historic correlations between asset types MOOT. (simple diversification is broken and has become a false reality).
We now have short-term interest rates pinned at 0%, and a 10 year US Treasury yields 0.79% as of this writing. All income assets generally trade at a spread to these numbers based upon their underlying time premium.
The collapse of interest rates has BROAD reaching problems for everyone funding a long duration need (retirement etc.).
Furthermore, and looking more broadly, excess liquidity by the Federal Reserve, and the buying of bonds (including junk rated) is artificially propping up all asset prices in the US, and similarly outside the U.S..
The Federal Reserve is creating $Trillions of dollars of new $money monthly (US collects about $2T in taxes per year for comparison).
We have gone over the waterfall (repeated).
Monetary policy is a relative and contagious game (D. Parilla) and the new paradigm will demand central banks fight one another via currency devaluations and/or corresponding tariffs. Stagflation is a high probability outcome.
Global central banks will not let the ever growing bubbles fail and will continue the existing policies ad infinitum, so FOMO (fear of missing out) will continue for some time. The Venezuela stock market went up alot too!
We started our own research company approaching the fiasco of 2006-2009 created by the conflicts between Wall Street-mortgage bankers etc.
We cherish and appreciate the need to understand the cash flows of a business. It is a novel concept, caring about the underlying value. Now it seems to be all about Monetary Policy.
With interest rates at zero, and a deteriorating macro environment, our investment policy is quite simple and geared to preserve and protect assets while attempting to earn a positive real yield (net of inflation).
As the founder of Forest Capital and the operating manager of the successor company I would not be sincere if I did not prepare you for these realities.
Sales pitches, and other broker sold investment “products” will continue along with the FOMO (fear of missing out), but as a child of the 1970’s I recognize a slow growth environment characterized by political and economic conflict.
We are ready and have prepared for this environment for some time now. While most people have become reactionary, we have attempted to warn: https://www.brcwm.com/2019/08/01/cutting-rates-intellectual-reckoning/
Now is a time to understand the durability of value and quality investment research.
Thank you for your interest.
JBB
