The almost always controversial Jeremy Grantham, legendary long-term value investor and the co-founder of money management firm GMO, was interviewed by Fortune recently. Grantham’s pull-no-punches interview with Fortune senior editor Steven Gandel on the role of the Fed in the economy was published today, March 24th.
Grantham’s central thesis
When asked what was the proof for his contention that the Fed’s long-term quantitative easing program was slowing the economic recovery from the financial crisis, Grantham replied, “It’s quite likely that the recovery has been slowed down because of the Fed’s actions. Of course, we’re dealing with anecdotal evidence here because there is no control. But go back to the 1980s and the U.S. had an aggregate debt level of about 1.3 times GDP. Then we had a massive spike over the next two decades to about 3.3 times debt. And GDP over that time period has been slowed. There isn’t any room in that data for the belief that more debt creates growth.”
Grantham continued to explain his perspective in a historical context. “In the economic crisis after World War I, there was no attempt at intervention or bailouts, and the economy came roaring back. In the S&L crisis, we liquidated the bad banks and their bad real estate bets. Property prices fell, capitalist juices started to flow, and the economy came roaring back. This time around, we did not liquidate the guys who made the bad bets”
“Bernanke’s put” rigging the markets
The Fed’s overly-accomodative meddling has created a new normal, Grantham argues, and has completely changed market dynamics. “The Bernanke put — the market belief that if anything goes bad the Fed will come to the rescue — has had a profound impact on people and how they act.”
When asked about accomodative policies boosting the stock market, Grantham continued to slam the Fed in his reply. “Yes, I agree that the Fed can manipulate stock prices. That’s perhaps the only thing they can do. But why would you want to get an advantage from the wealth effect when you know you are going to have to give it all back when the Fed reverses course. At the same time, the Fed encourages steady increasing leverage and more asset bubbles. It’s clear to most investing professionals that they can benefit from an asymmetric bet here. The Fed gives them very cheap leverage on the upside, and then bails them out on the downside. And you should have more confidence of that now. The only ones who have really benefited from QE are hedge fund managers.”
In concluding the interview, Grantham says he wouldn’t be surprised to see stocks continue to move up another 25%, but that he is advising clients to stay out of stocks as things are likely to get very ugly quickly when the Fed does burst the stock bubble in the not too distant future.