Transcription
What would you say is the most underestimated or perhaps I might say underappreciated risk in financial markets today?
I would say, uh, that the dollar ceases to be a currency, a reserve currency. That would be a risk, or it would be less of a reserve currency. So, not recognizing that, not recognizing the possibility that the US dollar will cease to be the world's reserve currency is, is the underappreciated risk.
Exactly. Because then, then we'd have a lot tougher time borrowing.
You see, we have a long, we would have a tougher time borrowing.
Sure. The U.S., speaking of the, the U.S. government or anybody, you know, who, who needs to borrow money in U.S. dollars.
But it may bring financial discipline.
At what cost? Of course.
At what cost? But it may bring financial discipline. Now, their policies are going to be inflationary. They realize it's inflationary. What do you do? Either they will try to control interest rates to put it at the level, okay, where, uh, to fight inflation, or under pressure from pension funds, you know, what I work all my life not to earn zero interest rates on my money that can vanish. So they start raising interest rates, and we'll witness what we witnessed at some point, like the third or fourth semester during the Trump administration, you know, they start raising rates. We'll witness something like that. We start having volatility. And the biggest danger is back months bonds. Who's going to buy a bond knowing you have inflation? You see, nobody will buy the back months bonds. So, the, the, the, so what happens? You know, they, they will print money to buy their own bonds. Many countries have tried that, and, and, and history gives you 20 or 30 episodes of such failures. One difference is that so far, the reserve currency in many countries is the U.S. dollar. This is not a permanent situation. See, so I mean, at some point, the reserve currency was a Tyrian shekel. Okay. And, and last time I checked, it's no longer a reserve currency. Anyway, it was a reserve currency at the time of Price, you see, where people paid in shekels. Well, it's no longer the case. So, so you've got to realize that this is not a permanent solution. Look what happened to the, the British pound. You know, it was at some point the currency. And, and so you have a lot. And so I think that that there's so many things that can go bad that you can explain, and probably other things that we haven't seen. That it's not a wise situation. And it's not wise to be in stock tail hedge. It's not wise to not be in stocks. This is what was even more interesting is that if you're not in stock, you know, things inflate around you. And if you're in stocks, and you, so you have high uncertainty and high tail uncertainty. It's not like if you say high uncertainty and stocks can only go up, that's fine. That's not uncertainty. Uncertainty is when you may have a compensating effect that goes the other way. And I remember, if that was so easy to rewind things, I remember when I started trading, where interest rates were, and Paul Volcker spent years, years to bring down inflation. It's not easy to contain inflation. If we look at history, and all it takes is a couple of Google searches, and you look at the history of inflation. Very often, it's deflation in the beginning, and then you have hyperinflation. It's like it jumps. Sort of like it's very nonlinear. And, uh, I've seen many people, including Mark from Mark Smith from Universa, gives the case of a ketchup bottle where where nothing comes out, nothing comes out of that, and then you splash ketchup everywhere. So you have a lot of nonlinearity in finance, and inflation usually is a very weird nonlinear response.
But let me now answer you again about tail risk in that situation. Typically, if you believe that you don't need tail risk hedges because the Fed is giving you that tail risk hedge, and if you believe that, okay, and people believe that, then the tail hedging pricing should be considerably favorable, you know, to the buyer. There is a paradox there that if you think you don't need it, it'd be cheaper. So, just get it if you think you don't need it. So, so I, I always advise people to buy insurance before the fire, fire insurance before the fire, than during the fire.
You can hear a lot of people complaining about just, I mean, printing money has, you know, and the general process of printing money. And this, of course, I share their concern. But there's something few are seeing in it, and that's the antifragility aspect. Is that what is a crisis for a crisis? Is there just like a forest fire to eliminate firms early that shouldn't be, you know, should, you know, not be there to accelerate the evolutionary process? So, a firm that should go bust, okay, early should go bust now when the cost will not be high on their shareholders, on their owners, on the employees, on everyone. And you start, you start it. So it gives you a chance, as they say in California, to start again, and start again, and start again. So you fail early. So that's the process by which those who need to fail, you're doing them a favor by allowing it to fail early. What the Fed has been doing is the reverse, is injecting tons of money to keep afloat firms that should not be, should not be around. Okay? And then delay that failure. Eventually, it will happen. You see, eventually they're going to stop, uh, doing that. And that's, that's not part of the discussion. It, this country got strong because we had the highest rate of bankruptcy. You see, because there's a higher rate of bankruptcy in America. Tech sector, okay, has the highest rate of bankruptcy you can find. So, nobody is bigger than the market.
You told me back in 2017 that President Trump was misunderstood. In fact, you said, and I'm quoting you directly, "There's a logic to Trump." Do you still see the same logic to Trump today as you did then?
I would say less so. But, uh, no, at a time I was seeing some logic to dealmaker. He's a dealmaker. He likes to make deals. Uh, and that continued. I mean, he doesn't think in terms of, uh, you know, running, uh, you know, an administration as much as like to do deals. And, and, and, uh, that continued. Visibly, he made an, being a real estate developer, he made an offer or tried to make an offer to buy Greenland or Porches in Greenland. Well, that was part of the deal-making thing. And, and he engaged in some deal-making in the Middle East, nearby, not far from here, you know, between Israel and, and a few, uh, so that was some deal-making that has been taking place. He, of course, failed in the deal-making with the Iranians because the initial, the idea with the Iranians was, hey, you cancel the deal, I'm going to bully them into a better deal for America. And visibly, that did not happen. So, there's that deal-making aspect of Trump that continued, and you can see the logic there. Uh, but also there's some erratic things you see in, in, in that that I do not understand. So, less understandable.
So, what I mean is, I, I could see a logic in Trump, and then I start seeing contradictions I did not see before, and it made me a little queasy about predicting what he would do. I mean, you still see the general behavior, but there's some erratic component there, and there's no like administration or party behind to see what's next by fiddling with this. Plus, the other thing is Donald Trump, the first American president to do universal basic income, as you saw, and acquire stakes in corporations because the Fed bought paper. Okay. The fact that they did not overtly buy stocks is irrelevant. They bought paper from companies. That's so if that's not socialism, acquisition of the tools of production and making sure everybody has an income, a floor income, these are some of the central aspects of, of, of, of socialism. Regardless of what government we've had in America, socialist on the right, on the left, anything, what policies were enacted by the U.S. government which were driven by the environment. So, so which is quite, which is something quite quite unpredictable and quite unpredicted.
Private markets have a huge virtue is to insulate you from the analyst, the Wall Street analyst who fails to understand risk. So, so let's say that we have two sisters, and one of them is making $4 a share, and none of the plants have insurance. Okay? And her, her sister had an identical business. She makes $3 a share, but she has, you know, everything is insured. She has lines of credit. She has cash in the bank, and everything. Wall Street will favor the first sister, the, the bad risk manager in the short run. Okay? And then, of course, the bad risk can go bust, and that's unavoidable. And, and of course, a new company will come in. I would always favor that because of lack of skin in the game. That analysts don't really are not survivors. They're not part of Darwinistic process of surviving risk-taking. And then they like cosmetic things and a good story. So you, you escape that by being, uh, insulated from the market where you could do good things. Okay. And you can see survival of family businesses and businesses that won't go in the market. And, and now viciously, if you go in the stock S&P 500, the median duration in the S&P 500 today is 11 years and shrinking. Okay. So, so it makes sense to be in private equity. Now, the bad news, the bad news is that many people engage in, go into private equity, but not for that reason. Is, you see, they go into private equity because they can lock up investors for a while. They can engage in loss leverage and, and kind of things. So, so here we have to be a little careful when we talk about.
I see. So, the, let's just, if you don't mind, cover that one more time. The, the misconception, the, the main misconception about most people who put money into private equity or or private credit or whatever, is what exactly?
The misconception is that, uh, the, the, uh, I mean, the, the private equity is a great vehicle for long-term returns. Okay, insulated from the vagaries of the stock market. Okay, so that, that's commendable. But the thing is, sometimes people do that to hide. Because you can, you can make a mistake for five years. You lock up investors for a while. You lock up lines of credit to either engage in monstrous, uh, you know, uh, debt, which is harmful in the long run, or in, uh, being insulated from, uh, you know, the accountability to investors for a while. So, that, that's a bad part of, of private, private equity. But again, I'm not an expert of private equity. I'm a tail risk person. But some strategies you can only do in, in private equity, right?
It doesn't, all private equity is is good. What happened is that, uh, when people say I'm against globalization, they probably don't know what they're talking about. I mean, globalization pulled billions to two billion people out of poverty. You see? And, um, and the second thing, against globalization, what does it mean? You mean you want to live in autarky or in a somewhere in a farm, on a farm, or like, like trade with, with your next, with a town nearby or something? So, I, I view things as degrees. There's degrees of globalization. And, and someone, you know, identified in a category of very pro-globalization, be a little more to the right, and some people more to the left of that, that, that some benchmark in there. Uh, so what I think will happen is a smart reorganization of globalization. We need specialization very badly. Need specialization. But there are things that, for example, you may need to have locally, just simply out of safety. And, and the, the supply chain is very fragile. So, it matters a lot if you're dealing with medication, if you're dealing with, with, with things that are necessary for your local industry, because a little glitch somewhere stops the whole process. It's fragile. Uh, but, but it, it doesn't matter much if you're dealing with toys or, or things that are less essential. So, I think that we're going to have a reorganization, what we call, uh, globalization, to preserve the system. The whole idea is, how can we preserve the system by making it more robust, by identifying the source of the fragility? I like this 80/20 rule, that 20% of the things, you know, contribute to 80% of fragility. And within that, it's 1% contributes to 50% of fragility. Fragilities come from 1% of things. So, that 1% of things is, is, is nothing. It's, it's small. And that's what we should, you know, focus on. And it's not a big deal. One thing that was that was completely absolutely absurd is to have one single country, and within that country, one single area, produce, and I won't name the country, nor let you guess, produce such a high ratio of essential antibiotics. Okay. And so that's already a concentration. So, and it's not a big deal, you know, you have three, four countries and produce some locally. If, once you make a list of, of essential, uh, medication, and, and the second one is that supply chains got both, uh, too, uh, fragile because you have, you know, companies located in different places, each one specializing in subcomponents, and, uh, there is a fragility. If one of them collapses, everybody collapses. So, based on that, is, is like, you identify them. But that's not the job of the government to do that. Companies who were relying on a fragile supply chain, okay, got harmed. And the problem is, those who did not will will thrive and, and so we have a Darwinistic process by which companies that are wiser will survive and, and, and do better in the long.