Monthly Archives: February 2016

Faking it. Excerpted from Elliott Management’s Paul Singer letter to investors.

Nobody knows when reality will overtake the rhetoric, lies, phony statistics, wishful thinking, fake prices and tiresome poseurs pretending to be world leaders. The situation is universal, a consequence of incompetent leaders and careless (or ignorant) citizenry. Global problems are continuing to mount, along with the risk that the consequences of years of bad policies and inept leadership compound (as sometimes happens) in a short window of time. Let us start by unpacking some current examples of fakery, and then try to explore the consequences.

Monetary policy.

Either out of ideology or incompetence, all major developed governments have given up (did they ever really try?) attempting to use solid, fundamental policies to create sustainable, strong growth in output, incomes, innovation, entrepreneurship and good jobs.The policies that are needed (in the areas of tax, regulatory, labor, education and training, energy, rule of law, and trade) are not unknown, nor are they too complicated for even the most simple-minded politician to understand. But in most developed countries, there is and has been complete policy paralysis on the growth-generation side, as elected officials have delegated the entirety of the task to central bankers.

For their part, the central bankers are proud and delighted to be providing the primary support for the global economy. Their training for this role took place in the decades before the 2008 financial crisis, when central bankers (led by “The Maestro,” Alan Greenspan) “deftly” headed off crisis after crisis. These policy responses “worked,” we were told, and they promised a new era of fine-tuning, moderation in markets and complete control of the economy by central bankers. The words in quotes are meant to be ironic, of course, because in fact, the Federal Reserve Board’s moves disguised hidden – but serious and real – future costs, which came due in 2008. The ensuing crisis introduced the term “moral hazard” (not meant to be ironic) into the mainstream, meaning that risks were taken by financial institutions and others seeking private reward, while the costs of the risks were borne primarily by the taxpayers. Central bank manipulation of prices and risk taking has become the norm over the last six years, because it is so hard for investors to see the downside. QE and ZIRP have been “free,” as far as most people are concerned, in terms of stability, asset price and economic growth, and economic recovery. “Free” in this context means devoid of future countervailing negative consequences. Unfortunately, this particular magic bullet is illusory – the negative consequences are in the early stages of revealing themselves.

Among the worst consequences of the delegation of responsibility from political leaders to central bankers has been the increasing arrogance of the latter group and their inability to understand the rapidly evolving nature of the world’s major financial institutions. Prior to the crisis, central bankers were unable to understand the risks that were building up in the global financial system and the economy. They did not see the 2008 collapse coming, nor did they perceive how fragile the system had become, or that the major financial institutions had become the largest and most leveraged hedge funds on earth.

This lapse was a catastrophic error, not just of execution but also of theory and structure. During the 2008 crisis, the central bankers (rightly) applied standard (more or less) responses to financial collapse (flooding the system with liquidity and reducing interest rates), which of course truncated the crisis and stabilized the system. But their inability to understand the financial system, or to take responsibility for their massive failures in causing/allowing the crisis to occur, has resulted in a seriously deficient economic recovery phase. Central bankers do not understand that it was their tinkering, manipulation, bailouts and false confidence that encouraged and enabled the insanity that led to the fragility and collapse. Partially as a result of that misunderstanding, the developed world has doubled down on the same policies, feeding the central bankers’ supreme self-confidence. Political leaders have been content to stand aside and watch the central bankers do their seemingly magical and magnificent work.

The believers in the wisdom of this central-banker-centric economic world have been crowing and gloating that those (like us) who have raised concerns about the risks posed by the post-crisis, monetary-dominated policy mix (inflation, distortions, growing inequality, lower growth) are just “wrong” and should apologize for a “massive error.” This, shall we say,“Krugmanization” of a substantial portion of the economics profession and punditocracy is in its triumphalist phase, and whether its smug non-stop “victory lap” ultimately represents an embarrassing high-water mark is for subsequent events to reveal.

However, let us look at the policies that have been implemented post-crisis (in the absence of the kind of solid pro-growth policies that we and others have been advocating) and compare them to the policies that were in place during the run-up to the 2008 crisis.

  • Pre-crisis, the Fed funds rate was 1% for 2-1/2 years. There was no asset buying by the central bank (QE), but the persistently low Fed funds rate fueled bubbles in leverage, real estate and structured products. The balance sheets and derivatives books of financial institutions went from crazy to colossally insane. 
  • Following the crisis, the Fed funds rate has been effectively zero for six years, and QE has put several trillion dollars of government and mortgage debt on the books of the world’s major central banks. Indeed, a substantial portion of government spending in the past six years has been “financed” by QE. If the gibberish that passes for explanations of why this is not just money printing makes sense to you, then please give us a call so we can be educated. The explanation makes no sense to us.

ZIRP has allowed insolvent corporations to issue debt at almost no premium to government bond rates. Companies that should be shuttered or taken over and chopped up are instead able to pursue projects that should never have seen the light of day, and to create fake demand that essentially borrows growth (and jobs) from the future.

A good deal of the economic and jobs growth post-crisis is false growth, with little chance of being sustainable and self-reinforcing. It is based on fake money conjured by the Fed to buy assets at fake prices.What happens when interest rates are normalized and QE stops (and reverses) globally is a question that nobody wants to contemplate. The financial system is fragile, still ultra-leveraged and reliant upon a continuation of superlow interest rates. Thus, the appearance of stability and low volatility is also illusory.

Government economic data.

Some of the most important government data is unreliable, starting with inflation. Reported real GDP growth has been in the 2% annualized range for the last few years. The 4% annualized real growth rate reported for the second quarter of 2014 only reversed the terrible first quarter numbers, so year-over-year growth was still only in the 2% range for the twelve months ended June 30, 2014. Only if third and fourth quarter real GDP growth reaches 3% or higher, and only if that rate persists next year, will it be fair to say that the U.S. economy has finally recovered from the crisis (six tough years later).

But regardless of the purported results for the rest of 2014 and into 2015, all of the reported growth numbers are too high, because the official inflation number is too low. Over a long period of time, these figures have become politicized, always in the direction of under-reporting inflation.Constant repetition has resulted in most policymakers and economists now just accepting the adjustments and tricks that have become part of the reporting culture. From the notion that there is “core” and “non-core” inflation; to ignoring house prices and using “rental equivalence”; to “hedonic adjustments” according to which, if your computer is “better” than last year’s, then you should subtract an amount from the actual price every year to reflect that improvement, even though it is subjective and not really quantifiable; to a handful of other nonsensical adjustments, inflation is understated.Inflation is also distorted by the increasing gap between the spending basket of the well-off and that of the middle class (check out London, Manhattan, Aspen and East Hampton real estate prices, as well as high-end art prices, to see what the leading edge of hyperinflation could look like).

Said differently, inflation is the degradation of the value of money. Money has no meaning beyond the value of the real things for which it can be exchanged. The inventions and tools of modern finance have made things look really complicated, but stripping inflation to its essence is critical to understanding what is real and what is false. The inflation that has infected asset prices is not to be ignored just because the middleclass spending bucket is not rising in price at the same rates as high-end real estate, stocks, bonds, art and other things that benefit from QE and ZIRP. Money is losing value in those areas. This is inflation, plain and simple. If and when the situation gets to be Argentina-like, with generalized increases across the entire spending spectrum, it will be clear to everyone. In the meantime, sadly, policymakers do not recognize the reality of the peculiar and sectoral inflation, in some cases massive and growing, that has been caused by money printing and bad policy.

Even apart from rising prices in high-end goods, all of this suggests that CPI inflation is being understated by some unknowable amount, which we estimate is between 1/2% and 1% per year. This is a big difference in a 2% or 2-1/2% per year reported real GDP growth environment. Middle class citizens who are paying more at the supermarket and for college tuition and for many other goods and services feel that inflation is higher than reported, but they lack access to reliable data. The well-off think that it is their exquisite good choices that enable them to sell their overpriced $10 million co-op apartment and buy a $20 million overpriced Hamptons beach home. Neither group is coming to grips with the insidious and tricky nature of modern inflation, and the government just uses its tone of complete confidence to ignore what citizens see with their own eyes.

Unemployment figures are also a source of faulty or misleading data. The headline currently reported unemployment rate of 5.9% is deeply misleading. A 35-year low in the workforce participation rate, a policy-driven transition from full-time to part-time jobs, and the transition from high-paying jobs to relatively low-paying service jobs, all combine to make the headline rate a poor measure of employment health. Support for our statement is provided by the data on real wages, which have been stagnant during the entire post-crisis period.These figures for trends in real wages avoid the distortions we have described above, and are consonant with the polling numbers which show that Americans believe their country is on the wrong track and that the future prospects for themselves and their children are poor.


The 16th Geneva Report on the World Economy (published in September of this year by the Centre for Economic Policy Research) says that the total burden of global non-financial debt, private and public, has risen from 60% of national income in 2001 to almost 200% after the crisis in 2009 and to 215% in 2013. Contrary to widely held beliefs, the world’s leading governments and financial institutions have not yet begun to de-lever, and the global debt-to-GDP ratio is still growing to record highs, even before taking into account entitlement programs.

*  *  *

Nobody can predict how long governments can get away with fake growth, fake money, fake financial stability, fake jobs, fake inflation numbers and fake income growth. Our feeling is that confidence, especially when it is unjustified, is quite a thin veneer. When confidence is lost, that loss can be severe, sudden and simultaneous across a number of markets and sectors.


The Big Short

El valor del no (o del pensamiento contrarian),  este bien podría ser el título alternativo de la excelente película de Adam McKay La gran apuesta, inteligente y cinematográficamente efectiva adaptación del libro homónimo de Michael Lewis sobre la historia detrás cd algunos de los gestores de hedge funds que sí vieron la gran estafa de las hipotecas subprime que acabó por llevarse por delante el conjunto de la economía global en 2008.

La película se basa de las historias de algunos de los variopintos personajes que sí tuvieron la inteligencia suficiente para analizar la realidad del mercado hipotecario estadounidense en el tumultuoso periodo desde principios de la década de los 2000, viendo la realidad con sus propios ojos, críticos, y no dando por sentados los mantras que se repetían entonces (como el manido “el mercado inmobiliario no puede estar sujeto a burbujas” o “la vivienda nunca baja”); y, al mismo tiempo, el coraje suficiente para decir NO, esta tendencia es insostenible; de no cabalgar con la ola y denunciar que el Rey esta desnudo; y vaya si el Rey iba desnudo.


Se trata de una película -y un libro- altamente recomendables donde se puede leer buena economía (el libro ofrece, en mi opinión, la mejor explicación sobre el buen y mal uso de los productos derivados y otras sofisticaciones financieras), y permite reflexionar sobre algunas de las virtudes que siempre se sitúan en la base del éxito personal (cualquiera que sea el ámbito).

La crisis de 2008 no fue algo inevitable, ni tampoco fue una sorpresa para unos pocos que escogieron abrir los ojos y mirar evitando seguir el “patrón rebaño”, la alternativa cómoda, de nadar siguiendo la corriente. La crisis no fue una crisis “cíclica” (los ciclos han pasado a la historia, ahora vamos de burbuja en burbuja, pero sobre eso hablaré otro día); fue esencialmente una crisis estructural que hunde sus raíces en una arquitectura monetaria de dinero fácil al servicio de los bancos privados convertidos en verdaderos casinos en donde se realizan peligrosas apuestas con dinero ajeno. Mientras la ilusión deuda/inflación sube, no hay problema: todos felices; cuando la música deja de sonar, el sistema se desmorona como un frágil castillo de naipes en donde da igual lo que uno haya participado de la locura financiera, los costes se colectivizan bajo el peligroso argumento de “hubiera sido peor”.

La Gran Apuesta explica como unos pocos inversores -más de diez, menos de veinte, según Lewis–  no únicamente fueron capaces de entender la falla sistémica del funcionamiento de los mercados de crédito sino que tuvieron el coraje de tener una posición de riesgo en coherencia con esta visión: es decir, ponerse en corto contra el mercado hipotecario americano, algo así como ponerse corto (apostar a la caída) del conjunto del sistema (“skin in the game”, según la terminología de Taleb). En efecto, la descomposición fue denunciada por no pocos economistas, pero tan solo unos pocos tuvieron la pericia y el valor de tomar posiciones de riesgo acorde con esta visión pesimista (realista) con respecto a un sistema estructuralmente disfuncional que favorece la irresponsabilidad de los bancos privados tendiendo irremediablemente a la iliquidez. Todo lo anterior estaba sustentado por teorías falsas, limitadas o ya superadas, que observan de forma equivocada la realidad bajo el prisma neoclásico de expectativas racionales y sistemas de ecuaciones que pretendían explicar la complejidad (creciente) de los mercados.

Las historia de Michael Burry y Steve Eisman (Mark Baum, en la adaptación cinematográfica) son especialmente emotivas por su comportamiento honesto, y por momentos heroico, cuando defienden sus posiciones antes sus clientes en contra del pensamiento generalizado y soportando la burla de los grandes gigantes de Wall Street (la escena de Burry solicitando garantías a Goldman Sachs para asegurarse el pago de sus permutas de riesgo de crédito en caso de falla de la solvencia del banco es sencillamente sensacional). Burry y Eisman, también otros (como el célebre John Paulson, quién más fuertemente apostó contra los bonos hipotecarios basura; la historia de Paulson marca el relato de otro libro notable sobre la misma temática de Gregory Zuckerman, The Greatest Trade Ever), supieron ver lo que los demás se negaban aceptar, y mantuvieron sus posiciones aunque esto supusiera alzar la voz en contra, con las consecuencias sociales y laborales que este tipo de comportamiento suele acarrear.

Este sesgo negativo en contra las voces disonantes, sobretodo cuando estas son negativas o contrarian al pensamiento dominante son una constante en la historia. Meses antes de la gran caída bursátil de 1929, Paul Warburg, preminente banquero y miembro ilustre del establishment de Wall Street, tuvo la osadía de alertar sobre una inminente caída de la bolsa que pondría en peligro la solvencia del conjunto del sistema y que tendría un impacto fortisimo en terminos de crecimiento y empleo. Su voz fue desoída y sus críticas le supusieron cierto abadono social y desprecio por no saber lo decía. Lo explica muy bien Niall Ferguson en su libro (muy recomendable para los amantes de la banca) High Financer: The Lifes and Time of Siegmund Warburg.

Con cada generación, olvidamos los errores del pasado, con cada proceso de gestación de burbujas, solo unos pocos son los suficientemente inteligentes y valientes como para recordárnoslo. Lección que nos recuerda una película que, por otro lado, se llevará más de una estatuilla.