Principles and Observations

I’ve just finished reading The Man Who Knew: The Life and Times of Alan Greenspan, by Sebastian Mallaby. It is, without doubt, the most personally and professionally relevant biography I’ve read in many years.

You may remember that Dr. Greenspan was Chairman of the Federal Reserve Board and the Federal Open Market Committee from 1987 until his retirement in 2006 (just short of his 80th birthday). In various capacities, Dr. Greenspan advised every American president from Nixon to George W. Bush, excepting Jimmy Carter. In this book, Mallaby provides both the evidence and the theme for Dr. Greenspan’s reputation. In American industry and in Washington, D.C., he was “the man who knew”.   An obsessive researcher, he always had the facts, and everyone knew it.

If we were in a position to ask, Dr. Greenspan would likely tell us three things that are especially pertinent to this essay. First, no one can reliably predict the future, either of the economy or the stock market. Several Nobel prize winners, and countless PhD’s have blown themselves up trying to prove otherwise. The second thing is that investors and other economic decision makers sometimes behave irrationally. Third: Human nature never changes. Together, these points inform the first principles of our philosophy:

We have to choose to be rational, and at the same time admit that we may not know everything. We can never have enough information to predict with absolute certainty what’s about to happen. But like Dr. Greenspan, we do know from our study of history that well diversified investment portfolios—backstopped with optimism—will stand the test of time:

Patience, Discipline, and Confidence in the Future.

Still, in making an investment plan, the context of your life matters. So, we ask you to help us understand both your current financial situation and your long range goals. In turn, you expect us to provide both investment wisdom and economic perspective. To wit:

The year 2016 began with a decline in the S&P 500 Index of about 11%, bottoming on February 11. The financial media blathered endlessly about that being the worst start to a year since the dawn of time.

Then on June 23, the people of England voted to leave the European Union. Investors—abetted again by financial media—sent stock markets around the world into a spectacular nosedive. That paroxysm lasted for all of a day and half.

In the early morning hours of November 9th, as it became clear that Donald Trump would win the presidential election, the Dow Jones Industrials fell by more than 800 points, only to be reversed when the Sun rose over Wall Street. As I write this on the evening of December 12, 2016, the S&P 500 Index* is at 2256.96. That is 23% above the February 11 low.

The lessons here are: Financial journalism is not your friend, and correlation is not causation.

On February 5, 2016—in the midst of the aforementioned disquiet—we held a little seminar at Baden Square to discuss our outlook for the year. As must always be the case at such events, I told you more than I really knew. I said that the Dow Jones Transportation Average and industrial commodity prices were forecasting a global economic recovery.

As of tonight—and as luck would have it—the Transportation Average is up more than double the S&P 500 Index (year-to-date +24% vs +11%).   Industrial commodities—even coal—are still up across the board. All of which suggests improved manufacturing output and a stronger job market in the coming year.

I’ve also just finished James Rickards’ new book, The Road to Ruin, wherein he predicts financial calamity by 2018. James is very smart, and presumably well-connected in Washington D. C. and on Wall Street. That’s why I read his books. But, he has been predicting a global currency crisis since at least 2010, always pushing out the due date. (The last one was in 1997, so they do happen.)

In this book, as in his previous books, Rickards makes some quite valid economic points. In particular, he criticizes the “equilibrium models” that the Federal Reserve and other central banks use to create their economic forecasts and to formulate monetary policy. Interestingly, Alan Greenspan has always doubted them, too.

James Rickards is probably right about a future economic crisis, though the depth and timing are uncertain. But, both Alan Greenspan and James Rickards affirm that such crises come and go; and economic life continues for those investors who are sufficiently diversified and unleveraged. Indeed, in most so-called ‘crises’ a majority of the population continues with daily life virtually unaware of the changes surrounding them.

Now, don’t take offense—PLEASE:

Donald Trump was not my first choice to be our next President, and I still have some serious reservations, particularly regarding trade policy. But, I am hopeful and optimistic. Only time will tell, of course, but most of the early indications are that we’re likely to experience a better business and tax environment than we’ve known since the Reagan years. As always, though, the best policy for investors will be to focus on great companies, not politicians. Business is the most creative, most adaptable, and most consumer-focused institution ever devised by the mind of man. Politics is—ur, uh—well, you know.


*The Standard & Poor’s 500 Index is a capitalization weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.