Policy-Controlled Markets: Pressure And Time by W. Ben Hunt, Ph.D. – Salient Partners

epsilon-theory-shawshank

Red: [narrating] In 1966, Andy Dufresne escaped from Shawshank prison. All they found of him was a muddy set of prison clothes, a bar of soap, and an old rock hammer, damn near worn down to the nub. I remember thinking it would take a man six hundred years to tunnel through the wall with it. Old Andy did it in less than twenty. Oh, Andy loved geology. I imagine it appealed to his meticulous nature. An ice age here, million years of mountain building there. Geology is the study of pressure and time. That’s all it takes really, pressure, and time.
Red: I played a mean harmonica as a younger man. Lost interest in it though. Didn’t make much sense in here.
Andy Dufresne: Here’s where it makes the most sense. You need it so you don’t forget.
Red: Forget?
Andy Dufresne: Forget that… there are places in this world that aren’t made out of stone. That there’s something inside… that they can’t get to, that they can’t touch. That’s yours.
Red: What’re you talking about?
Andy Dufresne: Hope.
Red: Let me tell you something my friend. Hope is a dangerous thing. Hope can drive a man insane.

– “The Shawshank Redemption” (1994)

Hope is a good breakfast, but it is a bad supper.

– Francis Bacon (1561 – 1626)

Where there is no hope, it is incumbent on us to invent it.

– Albert Camus (1913 – 1960)

 

epsilon-theory-pandora

Hope is the only good god remaining among mankind;

the others have left and gone to Olympus.

Trust, a mighty god has gone, Restraint has gone from men,

and the Graces, my friend, have abandoned the earth.

– Theognis of Megara (c. 550 BC), writing more than 2,500 years before the Trump v. Clinton election.

Dante Gabriel Rossetti, “Pandora” (1869)

A policy-controlled market, whether it’s today’s investment environment or the 1930s or the 1870s, places enormous pressure on investors … for yield and consistent return, to be sure, but even more so for a resurrection of the investment beliefs that held sway in “normal times”, for an escape from the prison of extraordinary monetary policy and its grip on market behavior. Pressure and time. That’s all it took for the Shawshank Redemption and that’s all it takes for our modern market redemption. Or it least that’s all it takes for the hope and the escape attempt. Let’s see if we’re as successful as Andy Dufresne.

When suitably crystallized, an investment hope takes on a different form. It becomes an investment theme. Today the investment hope that has crystalized into an investment theme is the notion that soon, just around the corner now, perhaps as a result of the next mystery-shrouded meeting of the world’s central bankers, perhaps as a result of the U.S. election this November, we will enjoy a coordinated global infrastructure spending boom. Of course, this isn’t deficit spending or another trillion dollar layer of debt, but is “investment in our crumbling infrastructure.” This isn’t a mirror image of China’s massive over-build in empty cities or of Obama’s shovel-ready infrastructure projects from 2009-2010, but is “really a free lunch“, to quote Larry Summers, where there’s never a Bridge-to-Nowhere or an Airport-of-One. Or so the Narrative goes.

A Narrative theme is a theme of hope, pure and simple. And because hope can and will emerge without any evidence or support from the real world, a Narrative theme can work from an investment perspective even if it’s a non-event in the real world or, stranger yet, an abject failure in the real world. In exactly the same way that you can invest alongside central bank efforts to prop up markets and drive asset prices higher without believing in your heart-of-hearts that anything these bankers say is even remotely true, so can you invest alongside a Narrative theme without believing a single word of the Narrative itself.

And to be clear, my personal belief is that Larry Summers and the rest of the “public infrastructure projects are great investments!” crowd are sniffing glue. You’re pulling forward future economic activity, that’s all. Read the latest from Howard Marks if you don’t believe me. I’m not saying that government spending is bad — on the contrary, government spending is absolutely necessary to preserve life, liberty, and the pursuit of happiness, and there’s certainly a societal “return on investment” from government spending — but don’t tell me that there’s this huge productivity-enhancing, non-quotation-marked economic return on investment generated by the government building stuff that the private sector doesn’t want to build. Don’t tell me that what China is doing with their infrastructure is “mal-investment”, but that if we do it … well, that’s different, because, you know, our infrastructure is “crumbling” instead of “gleaming” the way it is in … umm … China. Yes, LaGuardia is a miserable airport. So stipulated. But there are infinitely greater productivity gains to be had from changing our insane TSA regulations and reducing security lines than by building a new Terminal B. If you want a massive Keynesian deficit spending program on top of our massive current debt … fine, make the argument. There’s an argument to be made. But don’t put a specious “investment” wrapper around it.

epsilon-theory-space-1999

But it’s exactly that specious wrapper — the Narrative — that makes all of this work as an investment theme. If a massive public works program were couched in its traditional Keynesian or neo-socialist form (you don’t see Bernie Sanders talking about the economic ROI of his infrastructure proposals), it wouldn’t have a chance with the Wall Street Journal crowd. But, hey, if a public works program is “a smart investment” … never mind that this is about as smart an investment as Moonbase Alpha (yes, I had the Space: 1999 lunchbox) or perhaps a gigantic hole in the ground … well, then, let’s muster up the usual suspects at CNBC and the Wall Street Journal op-ed staff to get behind this, and let’s convince ourselves that Donald Trump wouldn’t be a nut job president, even though every shred of evidence and plain common sense screams the contrary, because he’s, you know, a “builder.”

It’s all based on hope for real economic growth and an escape from policy-controlled markets, a hope that springs in every investor’s heart given enough pressure and enough time. It’s a hope that, as Sir Francis Bacon said, makes for a good breakfast but a bad supper. We’re in the breakfast phase of this Narrative theme still, as Missionaries (to use the game theory term) like Larry Kudlow beat the drum louder and louder for a big infrastructure spend, and it’s a drumbeat that will continue to grow until there’s a reality check or a powerful Missionary creating Common Knowledge to knock it back. That will be the dinner portion of this Narrative theme, and it will be an unpleasant meal. But I don’t see dinner being served until well after the U.S. election, no matter who takes the White House or how the balance of power shifts in Congress, and it might be a year or two later before the

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