Power Shifting to Central Banks
Instead of a single nation or region holding sway, perception has shifted to a more global perspective, with central banking at the center of power.
“Though the European situation is unattractive, it is not at the epicenter of ultra-fear,” he said. “The new power center that emerged in 2008 is central banks.”
At the end of October, the value investor Mohnish Pabrai gave a presentation and took part in a Q&A session at Boston College and Harvard Business School on the Uber Cannibal Investor Framework, which he has developed over the past decade. Uber Cannibals are the businesses “eating themselves by buying back their stock,” the value Read More
The members of this new international elite group come from the same educational background, and their perspectives and decisions are having a profound impact on policy in various countries. As a result, what we’ve seen is a shift towards negative interest rates.
“Einstein said that the most powerful force in the universe is the law of compound interest,” Don Coxe said. “That works both ways. As we go into a negative interest rate environment, that … is self-reinforcing.”
At a zero-bound interest rate, Coxe argued, various forces begin to build up in the economy. For example, we’re sitting at an 18 multiple on the S&P and debt is rocketing upwards because it’s possible to borrow for virtually nothing. This money, in turn, hasn’t been allocated toward capital investment; rather, it’s been used to buy back stocks.
“If you look at what is happening with asset classes, what you have to understand is that we have reached the limits as to what central banks can do,” Coxe said. “Yet, we’re going to have a recession at some point.”
Debt Levels are Unsustainable and Politics are Toxic
While interest rates have been low, governments have loaded up on debt. Now, a certain catch-22 is developing.
“(Governments) are continually rolling over debt at very low rates, but if we went back to normal rates, given that they gigantically increased government debts, the effect on fiscal policy for governments would be near catastrophic,” Don Coxe said.
He likens this situation to heroin addiction, with an eventual crash and withdrawal coming at some point.
Central banks should have started to raise rates more quickly to counteract the compound effects on pension funds, he said. Now, however, because of the amount of debt outstanding, raising rates would have terrible impacts not only on governments but also corporations.
Add to these economic pressures the status of the current election cycle, and we have a recipe for disastrous results.
“This implies that investors should not have a view that past returns on equities can be projected forward,” Coxe said.
Risks and Opportunities
The largest threats to world stability, as Don Coxe sees it, come from the possibility of a Euro Zone breakup, and from geopolitical risks somewhere in Asia.
He noted that gold as an asset class is four-and-half times what it was at the turn of the millennium.
“(It) is the only asset class that is not subject to any manipulation by governments,” Coxe said.
Under the current conditions and given existing risks, he suggested it will be necessary to have an above-average cash position. With so much risk outstanding, he strongly advocates holding precious metals as a way to hedge against the current situation turning south.
Also, at some point, he expects opportunities to develop in the real estate market.
“I think there will be a real estate crash, and there will be an opportunity to get some really good real estate assets,” he said. “Eventually, interest rates have to rise as money flows out, so if you have money saved to buy a house, wait a couple years and you will be able to get a really good deal.”