Securities and Exchange Commission Rule 156 requires financial institutions to advise investors to not be idiots. Hence, the disclosure pages of nearly every financial instrument in the U.S. are embedded with the following admission or variant thereof:
“Past Performance Is Not Indicative of Future Results”
The instruction is futile. Most investors are idiots, including many of the pros. What’s more, suspiciously absent from all disclosures is “how” to not be an idiot. Perhaps this is because such guidance would discourage many unwitting investors from getting mixed up with the stock market in the first place.
Without question, if you don’t know what you’re looking at, the past can be an abysmal predictor of future investment returns. One year the S&P 500’s up 10 percent. Another year it’s up 20 percent. Then, to the surprise of practically every Wall Street analyst, the S&P 500 crashes 50 percent.
Still, practically everyone projects future returns based on past performance. For example, your retirement advisor at Edward Jones will be quick to point out that the average annual return of the S&P 500 over the last 60 years is about 8 percent. Continue reading
What if the savings in your bank account lost 55 percent of its value over the last 12 months? Would you be somewhat peeved? Would you transfer some of your savings to another currency?
That was the favored approach in Argentina – where the official inflation rate’s 55 percent. But no more. On September 2, President Mauricio Macri resorted to capital controls to preserve the central bank’s foreign exchange reserves and prop up the peso. What gives?
Just fifteen months ago Macri secured the biggest bailout in the International Monetary Fund’s history. Now Argentina’s delaying payment to its creditors and is rapidly approaching what will be its third sovereign default this century. On top of that, Macri’s Peronist rival Alberto Fernández will likely take his job come election day in October.
Alas, for Macri and his countrymen, a painful lesson is being exacted. You can’t solve a debt problem with more debt. Eventually the currency buckles and you’re left with two poisons to pick from: inflation or default. With Macri’s latest capital controls scheme he’s choosing to take swigs of both. Continue reading
If there are any virtues of debt instruments with negative yields we’ve yet to realize them. Certainly, we understand that as bond yields fall, bond prices rise, and bond investors are rewarded with capital appreciation. But when capital’s appreciating as a consequence of negative yields, we suspect there’s something fundamentally wrong with the capital itself.
Capital markets, as we’ve always understood them, are centered around lenders buying debt – such as a bond – at a yield that compensates for the risk of default over a contracted duration. The acceptance of negative yield is an abstraction that violates the form and function that capital markets are built on. In fact, negative interest rates undermine the foundational business model of banking in general.
How can banks loan money if they’re not compensated for the risk that some loans will go bad? And if banks can only loan money at a loss, why loan money at all? If there’s no profit motive, what’s the point? Continue reading