December 10, 2008
Hola One and All,
On most military posts, officers with the rank of colonel and above often have preferred parking spots directly in front of places like the PX, the Headquarters Building, or the Officers’ Club. If you’re not careful, these little perks can go to your head.
Thank goodness there are women (usually wives) who pop our inflated egos. One day a few months ago, one of our colonels got a little too prideful for his wife’s taste. As he pulled into “his parking spot,” Martique turned to him and said in her lilting southern drawl, “Honey, I love you and am proud of you, but until you have a reserved parking spot at Wal-Mart, I am not impressed.”
All of which leads us to this week’s theme of flattery. We all love it. We all soak it up. We all get fooled by it. Leaders are especially susceptible to it. Believing in flattery can lead to very bad military decisions, awful economic policy, and horrible investment advice.
Thus, this week’s missive will draw on the wisdom of an ancient Nordic King who had some humility and knew the limits of his power. I hope you find it interesting and edifying.
Signed, Your Drives-Around-Wal-Mart-Looking-For-A-Parking-Space-Just-Like-Everyone-Else Soldier,
Greg
Around 1026 AD, Viking King Canute (originally spelled Knud) was sitting on his throne when his courtiers came to him and told him that he was, “So great, he could command the tides of the sea to go back.” This bothered the king, so he ordered some of his servants to take his throne to the seashore. At the shore’s edge, and with all of his staff around him, King Canute seated himself on the throne and ordered the tide to recede and the waves to stop crashing.
His point was made. He demonstrated that he was not all that powerful. He chided his staff for false flattery. There were forces in the universe far more powerful than he, he opined.
I like King Canute. He had humility. He knew his limits.
So what does this have to do with investing?
Just as there are immutable laws of nature that cannot be overridden by the decrees of man, there are immutable laws of economics that cannot be altered as well. No matter how hard we try, busts follow booms, pessimism follows optimism, and fear follows greed. Things cycle. Things balance.
This is why a “light-hand-on-the-tiller” is sometimes the best remedy for an era of “doing something.”
This is a hard concept for most Americans. We are people of action. Letting things run their natural course is counter-intuitive for us in difficult times. Yet, some of our best leaders knew when to not interfere.
For example, historians often criticize President Eisenhower for not doing enough. Yet, in the 1950’s, Ike presided over a growing, prosperous, and peaceful nation. He knew when to leave well enough alone. He knew that over the previous two decades the Axis powers had done a lot of “something.” DDE instinctively knew a period of governmental calm was key to healing the wounds of WW II and Korea.
As an aside, imagine how much happier the world would have been had Hitler, Mussolini, and Stalin adopted the same philosophy.
Anyway, bringing this concept forward to today, it is clear that in the previous economic era we did a lot of “something.” (And no, I am not comparing anyone to Stalin and Hitler.) Government, Wall Street, and the Federal Reserve are all to blame.
Government’s “something” was nosing its way into the housing markets via FNMA and Freddie Mac. A large reason behind the sub-prime lending crisis was the existence of Freddie and Fannie in the first place. Very few ever bothered to ask why government should be in the mortgage business.
As one would expect from a political entity, the politics of Freddie and Fannie distorted the natural, self-correcting forces of the markets. The result was greed, opacity, deception, and fraud. Thus, if today we were to choose to let things run their natural course, Freddie and Fannie would fail. Good. Why reward a failed concept?
Instead, we are doing the opposite and in greater measure. Not only are we papering over Fannie’s and Freddie’s failures, we are nationalizing the banking industry as well. If government can’t profitably run AMTRAC, the Postal Service, & FNMA, why would we expect them to run banking efficiently?
Unfortunately, government is not alone in its desire to do something. Wall Street’s “something” was the creation of exotic (and toxic) investment products that had no basis in reality. Wall Street created faux-wealth via leverage, and then marketed this so-called wealth using hedge funds. They tried to reach into the future and bring “profits” into the present…all at the expense of the next generation I might add. They succeeded for a while, but the whole concept was inherently immoral and doomed to fail.
Allowing market forces to work would ensure the management, shareholders, and bondholders of CitiGroup, AIG, Goldman, JP Morgan, et al would suffer the consequences of their actions. That is as it should be. Instead we are doing “something” called bailouts. This will effectively transfer the pain to the American taxpayer…both present and future.
This brings us to the Federal Reserve where “doing something” has proven to be exceptionally harmful.
In 2001, recession was on the horizon. It was overdue and needed. The exuberance of dot com had to be purged. The Fed Chair at the time, Alan Greenspan was determined that he could do something to stop the inevitable. He dropped interest rates to artificially low levels and pumped the system full of liquidity. In an attempt to save the stock markets, he inflated the real estate bubble.
Had he not interfered, the recession would be in our rear view mirror and we wouldn’t be dealing with the crises we are dealing with today. The system would have corrected itself. Doing something delayed and exacerbated the problem.
Today, we see the current Fed Chair, Ben Bernanke, following the same script. He, too, is determined to do something. Helicopter Ben (he is called “Helicopter Ben” because he promised to drop money from helicopters to get the economy moving) is now proposing to drop interest rates to zero! Plus, he recently announced his plan to back the economy with $7.4 trillion of printed money. This punishes the savers and the responsible members of society who will see the product of their hard work debased.
If home prices were allowed to fall, average Americans might once again be able to afford them. Beyond this, speculators who got greedy and decided “flipping houses” was the way to easy wealth, would learn their lessons and move on…chastened, but smarter.
Instead the Fed Chair is proposing that taxpayers (again, both present and future) pay the price of others’ profligacy. It’s not right; and the ones who will suffer the most are the ones who have no voice in the debate.
You see, we are committing our children to pay for these “fixes”. They are not old enough to vote or to enter into contracts, but we are obligating their future income streams to higher taxes. We are also burdening them with more debt and sentencing them to lower standards of living. All of this so our generation doesn’t have to suffer the consequences of our actions.
All of this begs the question, “Why?” Why do good, decent, well-intentioned people do such things?
I think it’s because we don’t have many King Canutes left. In many ways, those coming to ask for the bailouts are like Canute’s courtiers, “You must do something!” they say. “You have the power to save us from ourselves!” they urge. “Everyone, even the innocent, will suffer if you don’t act now!” they cry. It is all very flattering to those in power. “I can do something!” they think. “It is up to me to save my people!” they announce. “Maybe they will name the airport after me!” they daydream. In reality, they might as well be telling the tide to recede and the waves to stop crashing.
Truth be told though, there is no political downside to “doing something;” and the politicians know this. If the “something” fails (or makes matter worse), at least they can say they tried. It takes a leader of remarkable strength to refrain from compounding a problem. It also takes a leader of exceptional skill to explain why restraint is the best path.
Therefore, if you are looking for clues about the direction of the markets (and the nation for that matter) watch the nightly news through the lens of King Canute. If you see leaders who have the courage, humility, and strength to recognize the limits of their power, then the Canutes are winning. You should then be optimistic and prepared to go back to mainstream investing.
If, however you watch the nightly news and start kicking the sofa and screaming at the TV, “What are you guys doing!? Are you nuts?!” (Uhhh, not that I ever do that or anything), then you believe the Canutes are losing. Pride and hubris will still be dominating the political and economic landscape.
In that scenario, keep your powder dry. Hunker down in the low-tech tech investments that are like the tides…the ones that historically can’t be stopped. Oil, gas, food, gold, silver, coal, etc. may recede for a time. They may even coincidentally recede when the leaders hold out their hands to demonstrate their power. Still, these investments will be like the tides, they will come back and wash away at the feet of the earthly throne.
