Ten Seconds Into 2022. Possibilities and Strategies.

Long horizon


The COVID crisis has been with us for about 2 years now. It is but the most recent in a random distribution of crises that punctuate our history. Generally, life progresses until it is interrupted by biological, environmental, or political crises, which end when the number of hosts, inhabitants or combatants is sufficiently depleted. That or human ingenuity finds technological or diplomatic solutions.

There is an optimal population size below which land and resources are adequate and beyond which we begin to denude the environment. The sharp acceleration in global growth and consumption have led us to this moment when we realize that the current trend in environmental degradation is not sustainable.

There is an optimal population size below which collaboration leads to growth and beyond which tensions lead to fracture. The size of the habitat and the efficiency of communications are factors. For a given size of the physical habitat, communications allow both collaboration and competition. At that point when the dynamics of competition dominate that of collaboration, the population must migrate or expand into a greater space or face political or social crises.

Foreign policy is usually influenced by the exigencies of domestic politics. Liberal democracies are particularly susceptible, but autocracies are not spared. Electoral competition as much as chauvinism drives national representatives into complex engagement strategies.

That climate change is the consequence of human activity is moot. Solar and planetary factors including seismic activity are also factors in global temperature, but the anthropogenic impact has dominated in the last century. Sharp accelerations in fossil fuel use in the 1950s precipitated accelerations in global temperatures with long lags of some 30 years. This lag has shortened to about a decade as temperatures continue to rise with fossil fuel use.

Studies regarding climate change focus on trends and averages but do not focus sufficient attention on ‘noise’ or the random fluctuations of actual data around averages. This is a risky oversight as sufficiently frequent spikes above certain thresholds can have cumulative and long-term effects on the environment. The current and expected response to climate change will likely be insufficient. The result in the long term will be a radical reduction in land and resources able to support human habitation. Competition for land and resources could increase the risk of conflict. Volatile climatic conditions are conducive to biological mutation both good and bad.

Capitalism tends to unequal outcomes. Whereas physical resources are finite and exhaustible, technology is not. Owners of labour can only accumulate a limited amount of intellectual property. Owners of companies can accumulate intellectual capital without bound. Thus, owners of capital compound their returns and can pass this wealth to their progeny. A capitalist economy thus naturally tends exponentially towards greater wealth inequality. Progressive taxation and fiscal policy can slow this tendency but cannot stop it. In the past, a well-defined ruling class made for clear targets for revolution. The distributed nature of wealth provides no clear targets for revolution. Discontent will find alternative avenues for expression.

Alternative socioeconomic organizations such as communism have largely failed. The brand practiced by China is an amalgamation of capitalism with socialist/communist features. Many contradictions remain unresolved and represents a structural weakness. The information deficiency which led to suboptimal outcomes for central planning from the early to late 20th century has receded through technology. Central planning may theoretically be efficient and viable if we ignore certain practicalities. An enlightened central planner faces less asymmetric and imperfect information than has hobbled past attempts at central planning. The question of whether a practical example exists today remains unanswered. China comes closest but the informational deficiency remains insurmountable at the present time.

Democracy is the most robust political system. Crises and deficiencies of diverse origins plague all societies. Monarchy presents a highly visible and obvious target for blame. Single party communist or socialist societies also present a single target for the allocation of blame. These create the risk or opportunity of regime change and discontinuity. Democracy, by presenting multiple alternative targets for blame preserve the system at the expense of specific governments.

Similarly, capitalism places the rewards and blame on the individual thus diverting such from the system. For this reason, capitalism is robust. This is especially true when capitalism is coupled with democracy. The more diverse the ownership of capital and power, the more robust is the system. Social mobility across capital and power increase robustness. Entrenchment reduces robustness.

In the very long run, democracy is the asymptotic equilibrium of history. In shorter time frames, cycles are likely. Democratic capitalism has dominated in the last 100 years and with the end of communism has arguably peaked. Power and money have become increasingly entrenched reducing the robustness of the system. When crises can no longer be ascribed to actors but to the system, democratic capitalism will recede. Democratic capitalism will only be restored when its once forgotten rewards are remembered and balanced against its costs. Until that time, society may experiment with and cycle through various social systems.


Medium horizon.


Almost half a century of benign inflation may finally give way to rising prices. Substitution of robustness for efficiency for practical reasons or political ones may extend the durability of this trend. Fiscal expediencies of redistribution and state support in times of economic stress when monetary policy is at its limits or otherwise constrained could exacerbate matters. The complexity of the financial system could add to policy errors and create a negative feedback loop where policy meant to cool instead serves to stimulate.

Inflation hits hardest the poorest who have no buffers and who tend to face the most volatile consumption baskets. The unequal distribution of wealth means that greater numbers will suffer disproportionately from high inflation.

Governments who fail to address the inflation problem will find themselves out of government. Also, there is the risk that policy makers no longer understand how the economy or society responds to policy, and that their efforts are ineffective or amplify the problem.
An accidental policy in response to a financial crisis may succeed in quenching inflation but it is difficult to rely on serendipity.

Environmentally sustainable policies, goods and services cost more. While costs will fall as more eco-friendly output is produced, costs will rise relative to the old non-eco-friendly output simply because of non-commercial constraints and factors in the production function. The investment in transition is also inflationary even if it is temporary. The scale of the investment necessary could make the transitory period quite long and the cost impact significant.

Almost half a century of falling interest rates has the effect of inflating the value of income streams and thus asset prices. Long duration assets like equities and real estate rise as interest rates fall. The future trajectory of interest rates will have a profound effect on such long duration assets. Rising rates will increase debt service costs. Demand for assets might also fall if fiscal budgets were financed with more progressive tax codes which transfer wealth and income from high savings rate individuals to low savings rate individuals.

Robustness X Efficiency = a constant. The world economy has spent multiple decades improving efficiency at the cost of reduced robustness. At some stage, circumstances can conspire to reverse the trend. In the financial industry, it was the 2007/8 crisi which reversed the trend. Years of deregulation and innovation in shadow banking led to substantial improvements in the efficiency of financial intermediation at the cost of increasing fragility. The mortgage crisis afflicted securitization markets, then structured credit, before infecting the formal banking system. The regulatory response, begun in 2008, continues to be felt today. The financial system is better capitalized and structured to withstand shocks, rather than to deliver optimal returns on capital.

Industrial supply chains have been increasingly optimized for maximum efficiency and just-in-time delivery. With the COVID pandemic and disrupted supply chains triggering transient shortages and other frictions, businesses are reorganizing themselves for more robust production and delivery, integrating supply chains, securing supply of materials and intermediate products, often at the expense of cost and capital efficiency. This is likely just the beginning and will present many diverse investment opportunities.


Investment strategy.

Always buy that which, in future, people want to have. In the last 40 years, buying future cash flows, real or promised was attractive, as inflation and interest rates were low and falling. Buying cash flow generating assets such as real estate, bonds and equities was profitable. Buying diversely and indiscriminately had little cost as entire asset types rose in monetary value.

If inflation does in fact take hold, and if interest rates rise, then a new strategy is required. Fixed income will very likely lose money. Floating rate debt is preferred but even then, the fixed spread over the floating rate will be eroded by a higher discount rate. Debt instruments may be created with coupons that step up at a fixed rate to compensate for inflation and rising rates. Richer capital structures may emerge to address the needs of investors with different risk and return targets.

Real estate rents are often indexed to inflation. The business risk of leasing premises will rise and may encourage some businesses to buy their premises. The ability of real estate to collateralize the issuance of debt at fixed rates is also attractive.

Under high inflation, value stocks outperform growth stocks. Income oriented, high dividend paying stocks also suffer. Volatility tends to be higher. 

A more progressive fiscal policy, the shoring up of supply chains, the strengthening of balance sheets, will make capital relatively scarcer. The provision of capital will offer a higher premium.

Inflation erodes the value of cash. This is obvious. However, as it erodes the value of all cash flow generating assets, and assets represent a leveraged exposure to interest rate sensitivity, the unlevered nature and the optionality of cash will be valuable. Having cash as interest rates and inflation rise effectively put one in a Dutch auction of over-supplied fungible assets with dry powder to spare.

Market timing and a gamble. The virtues of falling interest rates are manifold. Central banks should seek to maximize the time interest rates spend falling. Given that most central banks are close to their zero bounds on interest rates, a strategy could be sought to raise rates quickly and when the impact is expected to be least painful. Inflation provides such cover. Fiscal policy could provide support while monetary policy is sharply reversed. Interest rates would be raised significantly to levels which allow for a multi-year fade. This is a risky strategy and difficult to execute. Volcker did it in the early 1980s and left it to Greenspan to reap the rewards in the two decades after.

There may be opportunities arising from investing in non ESG businesses which trade at discount to market or fair value. The influx of capital into ESG investments has created an ESG premium and an ESG discount. Thermal coal, alcohol, and energy businesses present attractive commercial opportunities. The profits from a portfolio directed at such negative ESG investments could be entirely directed to philanthropy. In some cases, activist strategies for improving the ESG profiles of such companies or aiding their transition, can lead to correlated positive impact and commercial outcomes. Opportunities as yet unexplored such as seeking outcome payers to pay for an orderly liquidation strategy, might emerge.


One last thing.

We appear to be in the middle of a multi-year inflexion point already underway. To sow in the hope of harvesting within this inflexion is a strategy ambitious and fraught. Some tactical and higher frequency investors such as traders and hedge funds will find this environment conducive. To longer term investors, recognizing the prevailing regime can allow them to focus on sowing to harvest further in the future. Self-awareness is increasingly important in investing today.


Ten Seconds Into the Future. History.

Perhaps history is inevitably punctuated by crises. Life naturally grows until interrupted by environmental, social or political crises when the number of hosts, inhabitants or combatants is decimated, halting the crisis, and setting the stage for a potential but by no means guaranteed recovery.

There is an optimal population size below which collaboration leads to growth and beyond which tensions lead to fracture. The size of the habitat and the efficiency of communications are factors. For a given size of the physical habitat, communications allow both collaboration and competition. At the point when the dynamics of competition dominate that of collaboration, the population must migrate or expand into a greater space or face environmental, political or social crises.

Equilibria are characterised by balance. The trend following tendencies of humans leads to overshooting strategies approaching then exceeding points of balance. History therefore tends towards cycles. The further a system exceeds equilibrium, the more energy is accumulated for reversion to equilibrium.



Macro Themes and Thoughts September 2021.


  • Growth.


    • Likely to slow from the high pace of recovery.
      • + Base effects.
      • + Diminishing marginal returns to policy. Also, the need to reset policy to mitigate future crises.
      • + Substitution from efficiency to robustness.
      • + energy transition may cause loss in efficiency.
      • – Innovation in artificial intelligence, energy efficiency, supply chain optimization post re-shoring.
      • – continued loose fiscal and monetary policy.
      • – redistributive fiscal policy and progressive tax codes.
    • Expect oscillations. Amplitude of oscillations may exceed trend growth.
      • + Fiscal and monetary policy approaching extremes. Changes in policy may have big impact.
      • + Inequality. Social compact stressed. Risk of social instability is high.
      • + Climate volatility impact on inflation and policy.
      • + Medium term impact of COVID lockdowns still not well known.


For many years global growth rates have been maintained at beyond natural rates through unconventional monetary policy. These policies are reaching their limits. One serious constraint to further monetary stimulus is inflation which has recently risen above targets and forecasts.

Fiscal policy has recently been drafted to help where monetary policy may become less effective. Fiscal policy has in the past faced political hurdles but these have been cleared by the global COVID pandemic. Fiscal policy is a relatively new factor and may be able to drive growth rates further before it faces its limitations. A budget neutral redistributive tax code is also supportive for growth.

One moderating factor in growth rates is the substitution of robustness for efficiency. This was witnessed in the banking and financial sector after the financial crisis of 2008 and is a growing theme with multiple contributory factors including the desire for national self-sufficiency.


  • Inflation. Inflation is partly transitory and partly persistent. It is likely that inflation will subside but not to pre 2019 levels.
    • Partly transitory.
      • Base effects from 2020 lockdowns.
      • Recovery from re-opening of economy.
      • Supply bottlenecks ease.
      • Innovation.
    • Partly persistent.
      • Substitution between efficiency and robustness.
      • Less globalised supply chains.
      • Redistributive fiscal policy.
      • Net fiscal deficits.
      • EM demographics.

After over three decades of modest inflation, prices are rising quickly once again. Much of it has to do with supply chain bottlenecks exacerbated by the COVID lockdowns and fiscal stimulus. If these were the only factors then the central banks would be right in thinking that they were transitory. There are reasons to expect some significant portion of inflation to be persistent.

Fiscal deficits added to monetary stimulus are inflationary. If fiscal discipline was reinstated quickly then this factor might be discounted.

The efficiency versus robustness trade-off is just beginning. The Balkanization of the world economy is driving this need for more robust supply chains. As supply chains are designed for more redundancy and self-sufficiency, cost efficiency falls.

One of the most significant factors in keeping inflation in check was cheap Chinese labour. The last couple of decades have seen Chinese wages rising, and the labour force growth slowing. India still has a young and growing labour force but cannot compensate for a maturing Chinese population. A China plus One production strategy has been adopted by many multinationals for almost a decade now.

Inflation is a failure of human ingenuity, and humans have yet to be beat. Innovation and collaboration have been hallmarks of the species. Advances in robotics, energy efficiency and artificial intelligence may yet prolong the goldilocks environment of growth and moderate price rises.

On balance, it seems that rising inflation has become a reality and is likely to be more persistent than central banks and investors hope.


  • Policy
    • Fiscal policy gaining more acceptance globally. COVID has led to emergency fiscal deficits breaking the taboo.
    • Monetary policy may be limited by inflation.
      • Can central banks maintain low rates and asset purchases under rising inflation?
    • Coordination of monetary and fiscal policy to manage sovereign debt service.
    • Are asset markets also a policy tool?

Expansionary monetary policy balances downward pressure on interest rates and upward pressure on prices. Expansionary fiscal policy puts upward pressure on both rates and prices.

The popular acceptance of fiscal deficit policy has been telegraphed a long way ahead. COVID has provided the justification and acceleration of fiscal policy. Economic analgesics are difficult to wean off. On balance, fiscal deficits can be expected to grow or be more persistent. Even a budget neutral but incrementally progressive tax code will lean towards being inflationary though stimulative.

Monetary policy is expected to be coordinated with fiscal policy to maintain cheap funding for governments and the public sector. The complicating factor is inflation which could force central banks to tighten credit conditions more than they would like.

On balance there is a likely substitution of fiscal policy for monetary policy even as both policies remain expansionary. The result will be gentle pressure on short term interest rates and greater pressure on prices and longer term interest rates to rise.


  • Socio-political factors.


    • Rivalry between US and China.
      • How much of this is driven by domestic politics?
      • What is the nature of the rivalry? Is it a struggle between philosophies such as communism and capitalism or is it a more prosaic economic and commercial rivalry?
      • Consequences for Europe, Africa, Middle East, Rest of Asia?


    • Central planning versus free market economics.
      • Efficiency of each under different assumptions of information completeness. This could, however, mitigate one of the failures of resource allocation under extreme inequality.


    • US policy.
      • Focus on domestic issues.
      • External policy through the lens of domestic dynamics.
      • Mid-term elections.


    • China policy.
      • Addressing market failures.
        • Free riders.
        • Rent extraction.
        • Monopoly.
        • Inequality.
        • Tragedy of the commons.
        • Other interventions to maintain balance and stability. Here also is an example of a repositioning from efficiency to robustness.
      • Execution risks. To what extent does the means confound the ends?
      • Is there a fundamental departure from market economics?


China is at an inflexion point. The actions of government and regulators could be indicative of a change in paradigm either in favour of more inclusive market economics with its market failures addressed and mitigated, or towards a more oppressive regime of central authority. At the operating level, the policies look the same.

For those who see China as an enlightened communist/market economy, the encouraging signs are that policies seem to be targeting established market failures. The implementation and signalling by the regulators have been awkward and clumsy. There are sufficient elements of excessive control in the new regulations that could support the more cynical view that China is turning away from free market economics. More time and signal are needed before the question is settled.


    • Inequality.
      • Inequality leads to more concentrated resource allocation decision making which is informationally inefficient.
      • Inequality impairs the explanatory and predictive power of our economic, social and political models and can lead to policy errors.
      • Inequality leads to aggregate over-saving and under-consumption reducing growth rates for a given endowment of factors and money supply.
      • – scope for inequality is required to encourage effort and enterprise.
      • – patience for trickle-down economics is a function of the age distribution of the population.

Economists and investors are only just recognising the ills of inequality as regards aggregate over-saving and demand deficiency (see The Saving Glut of the Rich, Mian, Straub and Sufi 2021). A more subtle problem plagues unequal societies in the form of unequal economic voices in the market place of capital allocation and consumption decisions. This can lead to the information processing efficiency of the market economy tending towards that of the centrally planned economy.


  • The environment.
    • Climate and weather volatility. Amplitude of oscillations may exceed trend parameters.
      • Impact on agriculture.
      • Impact on shelter.
      • Water and food security.
      • Inflation and interest rates.


China Regulatory Crackdown. Market Interference or Healthy Pruning?

China is conducting regulation to address market failures in the free market economy
  1. Education has to provide all an equal start.
  2. Data protection addresses the question of who owns their own data, people or platforms.
  3. Monopolies have to be regulated so that price falls between marginal and average costs. This is the compromise forgotten by Western democracies.
  4. I expect wealth inequality will be addressed soon. To the detriment of luxury companies. Also expect wealth taxes.
China is creating an ESG compliant economy by addressing monopoly power, inequality, information asymmetry and rent seeking.
When investing in China, investors need to align themselves to these ideals to avoid adverse consequences of regulation.

Market Timing. Impossible and Important all at once.

Most investment professionals will tell you market timing is impossible. Now I am saying that not only is it impossible, it is important as well. 

Simplistically, the last time we saw stock valuations this high (S&P500 at 26X) was in 1999. If you invested then in the S&P500, and held on for 12 years, until valuations normalized, your annualized return would have been 0.55%, for a total period return of 6.81%. If you invested in 1994, by 1999, you would have made 225%, or 22% per annum. Market timing might not work on a yearly time frame, but it is important on a decade level time frame. Value investing and fundamentals may be out of fashion at the moment, but current valuations and in particular their departure from reality are cause for concern. The tactical and nimble investor may decide to go risk-on and hope to get out before the market turns. Buy and hold by all means, but keep an eye on price action.

S&P500 Price Earnings Ratio: Sticker shock. 

Asset Returns 1999 to 2011: Investing at a top. 

Asset Returns 1994 to 1999: Investing just before turbo boost. 


*data source: Bloomberg.