Transcription
Please stay tuned for important disclosure information at the conclusion of this episode.
Hi and welcome to The Long View. I'm Amy Arnott, portfolio strategist with Morningstar. Today on the podcast, we're delighted to welcome back Jeremy Grantham to discuss his book The Making of a Perma-Bear, The Perils of Long-Term Investing [music] in a Short-Term World, which he co-authored with Edward Chancellor. Jeremy [music] is the long-term investment strategist at his namesake firm, Grantham Mayo Van Otterloo and Company, or GMO, which he co-founded in 1977. He serves on GMO's asset allocation [music] committee and board of directors. Prior to GMO, Jeremy was co-founder of Battery March Financial Management, [music] and before that was an economist at Royal Dutch Shell. He earned his undergraduate degree from the University of Sheffield, and his MBA from Harvard University. Jeremy is a member of the Academy of Arts and Sciences, holds a CBE from the UK, and is a recipient of the Carnegie Medal of Philanthropy. In 1997, he and his family started the Grantham Foundation for the Protection of the Environment, which supports research and action to address climate change. Jeremy, welcome back to The Long View.
>> Nice to be here.
>> Thank you so much for joining us today. The book The Making of a Perma-Bear notes that you've always had bad writer's block and struggled with school essays and quarterly shareholder letters. And I'm wondering what your writing process looked like for this book and whether it was any easier.
>> Well, Edward Chancellor is a professional writer. Couple of really good best-selling financial books, and he's a buddy, and he worked with me at GMO for I think it's like 7 years. And um one of our board members got the bright idea that they should have a book about me. And um I knew from my history of laziness or writer's block, depending on how polite you want to be, that it would not get done. And so I went along happily. And the day he accepted the project, the day after, he received something like 1,200 pages of 20 years of quarterly letters.
>> [laughter]
>> And uh to say that I and eight other people had not labored hard would would be a completely wrong. We struggled mightily and rewrote it and rewrote it, and then went after the punctuation and the phrasing and it was a a major effort to make it fairly high quality. So he started with 1,200 pages of probably much more polished than a typical book.
>> Uh-huh.
>> And full of graphs and so on. And also containing every bright idea about finance I ever had, I think. And then he did 25 hours of interviews
>> Okay.
>> with me. Quite a few of them in the flesh, and the rest on Zoom. Then he read everything that had been written about me or by me, which was the by me was quite short, but a few. And then he had to put it all together. And he decided what the general thread would be and what would go in.
>> Uh-huh.
>> And I got to decide what would go out from that. So I had kind of veto rights.
>> Okay.
>> But I didn't have veto rights to get it in. I just had veto rights to take it out. So, that was the format.
>> Uh-huh.
>> And uh it ended up being a lot more work than he'd thought. It was the first time he'd done a joint enterprise like that.
>> Uh-huh.
>> And he pushed me on occasions gently towards the fixed income end, which I have mostly stayed away from. And so, I pushed back to try and keep it to a minimum. And he tended to push me away from the non-strictly financial stuff. So, my quarterly letters had made really quite a big thing. I was happy to point out what I saw as the deficiencies in capitalism and in the financial model and in the economists, particularly financially oriented economists. And inequality and things like this. And just a kind of blind ignorance of capitalism and the economics industry towards things that mattered to me, running out of resources, climate change, and toxicity. And he tried to keep I spent the last 15 years, by the way, mainly on that topic.
>> Uh-huh.
>> Long-term threats to society and hence to the economy. And the only financial thing I kept in this 15 years was uh the rising and falling of the great bubbles because that had always been a hobby/specialty of mine going back 40 years. And a specialty of Edwards, too. Um has this great book, Devil Take the Hindmost, which is
>> Right.
>> in 24 different languages and so on. And and so, we were both happy to have bubbly stuff in there. And I was pushing always to have more on population bust and infertility and so on, and he was pushing to have me do relatively little because he quite correctly realizes, as I do, that the financial world is not very interested in anything that is long-term and unpleasant. And um it's very hard to get their attention even on those topics. And perversely, I see that as my job description. So, for 15 years, I have been squeezing in little bits of climate change into general financial talks. And uh I hope I I get a reward from someone sometime because I certainly didn't in real time. There was quite a lot of eye rolling. You should have seen it 25 years ago on climate change. What is this guy talking about? And then uh 15 years ago, about, we started on resource shortages. And that that was much more economic, so that worked pretty well. And then uh starting 6 or 7 years ago, we did toxicity. And that that really hit the bottom of the barrel. No one wanted to hear that stuff.
>> Well, so the book, I think, does have a pretty broad scope. You know, there's a section at the end that addresses many of the issues that you've just alluded to, but it also is really a fascinating history of your career and journey in the investment world. And you've often credited your Yorkshire and Quaker upbringing as key to your approach. And I'm wondering how much of your value investing mindset do you think comes from that background of, you know, thriftiness and so forth?
>> The honest answer is it's impossible to know, right? There's There's no controlled experiment. I only went down one path. And uh it's in my cortex that wasting is is terrible thing. And uh I was on a podcast the other day and the guy frankly did not believe that when I see a menu I seriously consider what are the bargains and what are overpriced and can I afford the the wine and so on. And, I was shocked that he would be disbelieving because as far as I'm concerned there is a small group of us maybe 10% maybe 20. It doesn't matter how much money you've got in the piggy bank you still want a bargain when you're out at the restaurant or indeed at the store or anywhere else. So, it's it's programmed in but then I grew up in World War II and everything was utterly scarce. Right? Everybody darned their socks because they couldn't afford new ones etc. Everyone passed their clothes down from one child to the next which since I had three elder sisters was a bit difficult in my case. So, yes we were all frugal for a while there. By the time I was seven um and I didn't really have to be in Yorkshire which are very much more frugal than average or to have my grandfather brought up as a Quaker and he he brought me up because my father was off in the war and then died in in Egypt.
>> And, your father died when you were at quite a young age.
>> Yeah, I have no memory of meeting him. I think it's said that I did when I was almost two but I don't remember. So, I was so deep into having a bargain and value that frankly I've had a hard time you know, taking other value managers making a fuss about it seriously. I mean Graham and Dodd to me is kind of uh you must be joking. You think that's worth writing? You know, more assets are better than fewer assets per dollar of stock price and you'd rather have more earnings than less earnings and you'd rather have less debt
>> Because it seemed so obvious.
>> So completely obvious that they they asked me to give the Columbia Ben Graham talk one year. I think they call it the breakfast talk. And um I started by saying friends Romans lend me your ears. I I come to tease Ben Graham, not to praise him. And and that's what I did. And part of the teasing was comparing him to Keynes, who's my hero. And Keynes was a profound behaviorist in the stock market. And uh he was impressed by career risk and how you minimize it. Never be wrong on your own. Which means you never fight a bubble because that can be lethal. You go off the cliff with everybody else because that is never lethal. You can be disgracefully ignoring of a bubble as almost everybody was in the great financial crash. Queen of England said, "Why did nobody see it coming?" Which made us very irritated since we had seen it coming for a couple of years and we had been writing that it was like watching a slow-motion train wreck.
>> Right. And I think it was actually at the Morningstar conference the summer of 2008 when you were very very bearish at that point.
>> July the 15th, but who's counting? Uh I wrote a paper that basically said abandon ship. I've only done two of those in my career. That was one. I've done dozens which said the market seems overpriced by historical standards. That's kind of almost typical for the last 25 years cuz the market frankly has been overpriced by historical standards most of the time. Uh but I only twice said, "Now is the time to jump." In that direction. And the other was uh January the 15th uh '22. When a whole series of rather special indicators had flashed. Very very rare indicators. 1929 1972 the Nifty 50, 2000 the tech bubble, and 2021.
>> Mhm.
>> And uh I said let the wild rumpus begin was the title of the quarterly letter. And it you don't get to be much clearer than that. So they're my two now is the time. Now people have interpreted my the market's overpriced as somehow a promise that it's about to collapse, which is complete nonsense, but they like to do that. And as I like to counter if I think it's now, I surely you can tell that I'm I'm serious. Because I say things like don't be brave, run away, live to fight another day.
>> Uh-huh.
>> Abandon ship, so keep her. This was all in that July 15th letter. And then I like to throw in and I have two on the other side. Which is um two is a lot for a bear.
>> [laughter]
>> But uh we posted reinvesting when terrified the day the market hit the low. That was one of only two brief papers I I published put online that were not quarterly letters. And reinvesting when terrified the S&P was 666. It's up over 10 times. And what it said is of course you're paralyzed. If you're not paralyzed, you don't understand what's going on. You know, the global banking system is on the edge of total collapse. Uh but the market's cheaper than it's been for 22 years. On our famous or infamous 7-year forecast, the we have 12% a year lined up for the S&P and similar big numbers for most other equity markets. So, get a plan together, give it to your bosses, and start moving back into the market. And the other one was in the summer of '82. That was a serious market low, eight times earnings, eight times depressed earnings. And we got into the Wall Street letter, now deceased, but the Wall Street letter, I think, was a spin-off of Wall Street Journal. And it was just a weekly every two-week gossip sheet. And tucked away on the inside was my first ever a serious quote. And it quoted me as saying that I thought the US market was close to an unprecedented rally in both the stock and the bond market. And they're the two. So, I am two and two. It's just that in between I'm 95-5 on the market is generally overpriced. And the reason for that's pretty obvious. The market has never sold over 21 times earnings, which it reached in 1929, and never again until the end of '97. And then from '97 onwards, it hardly ever gets below 21 times. Particularly if you do earnings the way they did in 1929, which is actual real earnings, including everything, and depreciating correctly, not just what passes for earnings these days, which is if it's disagreeable, we skip it.
>> Right.
>> If it's lovely, we exaggerate it. You'd have been locked up, I think, at almost any time prior to about 1975 trying to get away with the earnings statements that they do today.
>> Well, I did want to spend a bit of time talking about the current market environment. In the book, you wrote that as of February 2025, the long-run prospects for the broad market look as poor as almost any other time in history. Is that still your take now?
>> It's exactly my take. In other words, it's surprisingly higher than it was in early '25. In early '25, I was saying, "Well, the good news is you don't have to be too concerned about my bearishness because the rest of the global equity market is pretty cheap. And some of it seems very cheap. And I quoted Japan, European value, and emerging markets. And they have all gone up a lot more than the US. So, yes, the US is up 25, 6, 7%, which is heroic in that 18 months starting from one of the highest levels in history. It manages to go up another 27% courtesy of AI, by the way. But the rest of the market is up quite a lot more, 10 to 30 points more. Emerging is 30 points more, and uh then Japan's about 15 or 20. European value is maybe 15. But a handsome outperformance. Uh I don't feel too bad about that. It's not, after all, what you don't own that you should be judged on. You should be judged on what you do own.
>> And GMO has what you call a bubble detector, which measures the percentage of stocks that had underperformed the whole market by more than 10% over the previous 12 months. So, it's looking at how narrow market returns are. And I'm curious what the current reading for that is.
>> Well, since I don't run it, I can't really tell you. Other than that I know our guys in the office tell me it's very attractive. In other words, it's it's sending a good signal. But the details and the magnitudes, I can't comment on. My um my equivalent of that is we define what a bubble is, two standard deviations away from the trend. We study what happens to them, and we found 26 in major equity markets over all the data we could get together, typically from 1925, occasionally bit shorter or longer. And we found that 26 of them went all the way back to the pre-existing trend. There were no exceptions. And there were one or two glorious, painful upside runs where they didn't stop at two standard deviations, but they went to three or more, like Japan. Japan in '89 is the mother of all equity bubbles, went to 65 times earnings. I like to say that if a value manager doesn't wake up screaming in the middle of the night occasionally thinking about that, he doesn't understand its significance. It tells you that there's really no upside to how crazy a bull market can be. On the other hand, the payoff though is that the higher it goes, the longer and more painful the decline. And people say, "Oh, you got this one wrong. You said it would go down 4 years ago, three, two, one." That's not really the point historically. Japan went up and up and up. We got out. We had no Japanese at all in our It was 45% of the benchmark, and we had zero. We thought it was producerly irresponsible, and we watched it go from 45 times earnings to 65. It was brutally painful. That was more painful than being bearish in the tech bubble. That was 10 points a year uh for 3 years. In the tech bubble, we underperformed our benchmarks by six or six and a half percent a year for two and a half years. But because the tech bubble was in the US, our committees were terribly excited and eager to fire you for lagging. Whereas, before that, it was happening in Japan, and not many people had a uh foreign portfolio anyway. And the foreign portfolios were doing so well that we were winning. We just weren't winning by 14, we were winning by four. But, no one fired us. Not one client fired us for 10 points of underperformance for three years. Because we were so lucky that we A went foreign. Foreign was doing so well. And uh and most of our clients were brand new to that asset class. So, they were comparing it to a world where they hadn't made that brave bet, and they were winning. But, the penalty in Japan from 65 times earnings was that you didn't just go down one savage year, or three like the tech bubble. 2000, 2001, 2002. That was a bit of a monster. You went down for a lost decade, and then perhaps even a lost 20 years. You went down and down and down and down until finally the Japanese market was once again pretty cheap. Mhm. And we recommended it, and have done for the last couple of years.
>> So, in the US, GMO has famously stuck to its value discipline during market bubbles, even if that caused you to lose clients. And I'm wondering, how did you manage that tension between business risk or career risk and investment integrity?
>> We didn't really manage it. Um we were I suppose you could say idealistic or naive, whatever. We thought at the time it was the right thing to do. By the end of all this, I realized that if you're a big firm with stockholders and all that good stuff, you can't fight a bull market. Keynes was right. He nailed it. You You have never heard Goldman Sachs, JP Morgan, Morgan Stanley, the big guys, you have never heard them tell you to get your ass out of the market. And you never will. It would be crazy business for them to do that. And they won't do it.
>> It's like nobody gets fired for buying IBM.
>> Right. Same kind of thing. And the only one who really laid it on the table was Mr. Prince at Citi when he said, you know, if the music's playing, you've got to dance. And I'm still dancing. All words to that effect. That's the game. The music's playing, you dance. The stocks are going up, you recommend them. And everyone's lining up to tell you to buy the craziest IPO in the history of man. In 50 years, they'll be telling and writing stories about SpaceX. And they'll be quoting you paragraphs from the prospectus. And you will be laughing at it. There's a very funny podcast out there going around where he goes through and highlights the bids that are even crazier than the rest.
>> It's certainly a very optimistic document about market potential.
>> Well, it's much more than that. I mean, 1.7 trillion for a company that's rolling in red ink when 90% of the projection are on the AI of their currently third-rate AI offering who's getting kicked around the block by Anthropic and OpenAI and so on. Just amazing. And the scale of it is amazing. And the fact that you know, JP Morgan and others are all lining up to recommend it strongly to their clients. And of course, there'll be a huge excess of buyers over sellers by design because for one thing it's Nasdaq has cheated and changed the laws of the land so that they can squeeze it into the Nasdaq index despite the fact it has no earnings, etc., etc., etc. And what that means is there'll be a lot of people who have to buy it. For any index that is Nasdaqy. So, there'll be much more demand than there are sellers. So, supply and demand being what it is, it's hard to imagine the price won't go up and perhaps it will go up a lot. And in the end, the reality will come out and this will turn out to be, of course, one of the landmark historical events that I so value in history looking back. It will be amazing, by the way, if it doesn't collapse because it will need such massive developments on AI that our entire lives are totally different. So, if its price is justified, we live in a strange world and we'll be lucky not to be bossed around by our automaton friends. And uh if it's much more likely to have a crash, both ways it will be historically notable. And I would bet at least 90% on the second. But the first would be rather horrific for them to justify their price. And with the almost chronic lack of controls, you know, it's like producing drugs and not having testing programs for the drugs. Just get them out there in the market as fast as you can. There are no There are no equivalent restrictions on AI. Much more dangerous than any drug could be. And drugs can be pretty damn dangerous, but this one this one could change our lives in the most unpleasant ways. And you've got very rich very smart people apparently saying things about productivity gains that I think don't understand the laws of physics. You know, everything hinges on energy. Everything is made with raw materials. Every living creature has to eat food. These are the things that count. If you want to survive in a cold temperature, you need to keep warm and you need clothes.
>> Right, you can't create something out of nothing.
>> You can have all the brain cells in the world, but you can't create something out of nothing. I like that. And here we are uh promising I mean, some people are saying it'll be 10% 20% a year productivity. I mean, they have no idea what they're talking about. Most of the the space travel and stuff, which is in the prospectus, is considered by most serious physicists and so on to be utterly inconceivable. And not just for 10 years, but almost at an item. And uh the energy cost of getting anywhere and uh the radiation threat even through a a thick spaceship, the radiation threat of living on the moon or Mars. You'd have to live deep underground. How do you make food? It goes on and on and on. And we're a people who can't live on the easiest, most fertile planet possibly for many galaxies around, if not everywhere. And uh and we haven't yet succeeded in even building a dome in which you sustain a complex system of agriculture. They've always broken down. If we can't do that, why do we think we can do that on Mars, which is almost infinitely less friendly? You'd think at least they might decide to prove that you could live in a dome in a controlled, relatively safe environment back on Earth before they try these. Well, they aren't trying them. They're just talking about them.
>> So, does all of the hype around SpaceX and all of the AI-related stocks, does that remind you of the market environment in 1999 or do you see differences?
>> This reminds me of that fabulous sassy bubble idea where a company came to market and raised money and they said uh an undertaking of such extraordinary value. Uh but at the current time it can't be revealed what it does. And I think they raised quite a lot of money and ran off with it as they richly deserved. And must probably can't run off with a material chunk of the 1.7 trillion. But he might be tempted to if he could.
>> So, I wanted to spend some time talking about the arc of your career and how you started out as an investor and what you've learned along the way. You write in the book about how you went through kind of a speculative phase early in your career. What went wrong with trades like American Raceways and Market Monitor? What did you learn from those?
>> Well, there were two things. One, they were bought on enthusiasm, you know, to the moon, to the moon. Everything I was buying was going up and I thought I was a genius and I wanted to make a fortune so I could go back to England in a few years and be rich and happy. And secondly, the two that wiped me out were splendid ideas. Really good ideas, but just decades ahead of their time. The first one was trying to introduce Formula 1 Grand Prix racing to America. You know, blood, power, noise. It's really American when you think about it. Why wouldn't that succeed? And of course it has done. And the Miami Grand Prix is on the international circuit and everyone is perfectly happy. But back then, they didn't want it. They wanted to race around the track exclusively in cars that looked like the ones they drove at the weekend. And they didn't like the idea of changing and so after one spectacularly well-attended race, which we thought meant we were rich and they thought meant that they were curious, but what the hell it wasn't that exciting anyway. And uh they went out of business. And then the other one was going to introduce a monitor on every broker's desk, where you could see the prices. Can you imagine that coming up?
>> So, it's sort of like Bloomberg.
>> This is 1969. And technically, you could have a simple box in 1969. And it could give you the price of the options on individual stocks. And if you had real demand, it would have been a brilliant idea. But there was no demand because no one really understood it and there weren't that many boxes. And why should I pay for a box if there's no demand? And so it just died. And you know, 30 years later, of course, they're trading options happily on their box, as it were.
>> Mhm.
>> [clears throat]
>> On some sort of console. It was just um 40 years too early in the first case, at least, and uh 20 to 30 years too early in the second case. So, that's another lesson. Being a terrific idea isn't enough. It's also got to be practical in the near term.
>> Mhm.
>> Otherwise, you run out of dough.
>> You also came pretty early to the idea that investing is a zero-sum game after costs. And your case for indexing wasn't really based on the efficient market necessarily, but more on math and costs. And I'm curious kind of what led you to that realization.
>> It wasn't, by the way, at all based on market efficiency cuz we violently opposed the concept. And as we were recommending the idea of indexing in our firm, Batterymarch, we were simultaneously Dick Mayo and me, we were running a stock-picking portfolio and and kicking bottom. We were We were handsomely outperforming six points a year for eight years with one down year only. So, um we had no trouble. There were two arguments for indexing, which are both completely sufficient arguments. One is the market's efficient. If it were, then you should index. Of course, it was nowhere near efficient. It was almost historically inefficient. And to prove it, after the eight years of averaging 6% the first nine years at GMO were all up and up by an average of eight points a year. Uh you can't do that in an efficient market. And the bubbles don't occur in an efficient market. And Shiller, who got a well-deserved Nobel Prize in the end 25 almost 30 years ago, proved that the market was 17 times more volatile than if you actually knew the flight path of earnings and dividends starting in 1925. Because the flight path of earnings, if you were actually discounting it, would mean that the market should be boring every stockbroker to death. And uh it it doesn't, of course. It it it's historical. In comparison, it leaps around from bull to bear. And uh makes it all much more exciting. And And of course the the investment world makes a whole lot more money in a world where you're dealing with historical investors overreacting than if they were serious and they followed the flight path of a discounted stream of dividends. And the zero-sum game is the other argument for an index. It's It's a truism. Everyone who plays the game playing poker at the table, it cost them 2% a year back then to play. Every trade was 1%. The management fees were 1% if you were lucky. So, the slippage to play the game was huge. And the indexes are at the bar watching the game. And because they're not doing anything except the original purchase, they sit on their portfolio, and they get charged five or 10 basis points. And the sum of the other guys is minus two. Doesn't matter how good they are. Even if they're Warren Buffett and so on, trading against each other, it's going to come to minus two. And so, zero-sum game was all you needed to believe to know that most people, most big pension funds, they should index and leave the scrapping around to lively little firms like ours was back then in 1971 when we suggested indexing. And we didn't get any business for a couple of years. It was like 1973. But several years before Vanguard opened its index fund. And happy to say Jack Bogle refers to this in his little red book, the chairman's little red book right now. And of course I'm a huge fan of Jack Bogle because he he saved perhaps trillions of dollars for the average investors.
>> So, in addition to indexing at Battery Battery March, you also focused on small neglected stocks.
>> Yeah.
>> What kind of inefficiencies did you see there that the rest of the market was ignoring? I think this was back in the early 1970s when you were kind of
>> Yeah.
>> pounding the table for small cap stocks.
>> Well, first of all, we created a database of small cap versus large cap and none existed. Uh there were some indexes that went back into the midst of time, but none of them were small cap. And uh we found that small cap had these 5, 10, 15-year runs of going up and down and they wended their way, as it turned out, from the depression they went up. They would go three paces up and two back and seven paces up and six back, but they gained steadily. And we had that data and we had above all this ebb and flow. And if you could underperform by 6, 7, 8 years in a row, you wanted to study this cycle a bit. And it turned out when we finished the work that it was clear that we were deep into a large cap cycle. Indeed, it was the Nifty 50. Where everyone thought it was not respectable if it wasn't IBM and Kodak and Coca-Cola to find one that's a real survivor. And what?
>> [laughter]
>> And uh it was an unfair game. We were professionals and everyone else who owned our stocks were basically a cousin of the founder. These little regional enterprises, Twin Disc Clutch, Great Lakes Dock and Dredge. I mean Hartford Steam Boiler Insurance and Inspection Company. And the only company I ever saw that one year had no footnotes in its annual report. Is this a world record, I asked. Anyway, the locals didn't know investing. They just had held stock for a long time. And occasionally when they needed some money, they'd sell a few shares. And we were looking at everything. Talking to the the boss. The boss didn't have uh any restraints. They they would just talk to you back then and tell you what was going right and what was going wrong and what they were trying to do and what were the odds of getting there. So, we had what today would be horrific inside information routinely. And we were trading against amateurs. So, it was a little unfair. It was a little in those first 20, 30 years a bit like taking candy from babies. Uh but it was great for us. And there was still exciting and lots of interesting little companies. And something like 80% of our buys would beat the S&P. Because we had such a tailwind from all these factors.
>> Do you think there are still opportunities in small cap stocks even, you know, in the age of Reg FD and much better access to information?
>> Well, if you watch the cycle and you find at the end of a long run that they are chronically underpriced. Um back in 74 they were about half price compared to the big guys. So, we figured we were good for about 100 percentage points of gain going from 50 to 100. And uh we did better than that. Everyone did better than that because they outperformed unexpectedly. The earnings of these little guys were better than the Nifty 50 by about 15 or 20 points. So, they actually gained like 115 percent stretched out over a nice long period of time. So, you only needed that one idea and that would keep you going for a decade. And that's another lesson that I learned in life. I was quoted as saying one or two good ideas a year are enough. But that understates it. You know, one good idea every 2 years is enough. Uh you just have to make sure that the idea works at a fairly broad level. And uh I think they have been often available and sometimes trickier than others.
>> So, how do you recognize when something really is a good idea or a big idea?
>> Well, I I only recognize that it's much cheaper and if I buy and hold it forever and if it's cheaper, I will make more money. And that happens to be a mathematical fact. In the short term, however, the valueless company like a meme stock can outperform and go up 20 times. It doesn't change the long-term value and eventually it will go back down again. There is a rare exception to that. Um Mr. Musk is very good at this and that is you talk up the price of the stock so that it's five or six times fair value on a really decent model. And then you sell lots of stock. And you're so good at propaganda that instead of the price falling cuz of the dilution, it doesn't. And very quickly it's multiples of fair value once again. And then you sell some more and you reinvest the money in serious giant factories, mega factories, giga factories. And uh you turn persuasiveness and confidence into uh real value. That has always been theoretically possible. Very, very few people have carried it off for more than a little time. And Musk has been the uh probably the best exponent of that in history so far.
>> So, even if the price increases are kind of being driven by the greater fool theory, he was still able to harvest those gains and reinvest them into something tangible.
>> And turn the greater fool theory into real life. So, uh you could argue in his special case that it wasn't even the greater fool theory and one or two people so credited him with the skill that they invested correctly. Of course, there are many people who in the short term talk the same game and they get many people investing in them. And those many people dramatically underperform. And you don't hear too much from them. So, the cohort that invested in Musk were proven right. The hundred cohorts that invested in the other hundred companies were wrong. And as they say in the trade, better to be lucky than good. And I'm not saying that a few of them didn't do it because they were simply smarter than the rest of us. I I'm pretty sure they did. And good luck to them. Well done. But mostly, it's uh picking that one out of a hundred where the BS is actually uh going to be turned into solid money by a well-programmed continuous effort. That's so unlikely. And yet it happened. Now, whether they can pull it off with 1.7 trillion dollars worth of hype about AI. Put it this way. If AI is actually going to be so good that the 1.7 trillion is cheap. And the AI will be so powerful that our lives will be clearly at very severe risk. I wouldn't wish it on our species at all. So we we should wish that it's hype cuz if it's not, it's a lot worse.
>> For people who are wary of the hype and valuation issues in stocks, are there other asset classes that look attractive to you now?
>> Almost everything looks more attractive than the US equity market. Foreign equities are probably a little overpriced certainly on even 21st century standards and very overpriced by 20th century standards but not nearly as bad as the US. So if you have to if you have to have an equity itch to scratch, I would have that. And then diversify as much as you can in that program. Do you have some fixed income into some 30-year bonds if you had some gold? I'm not an expert but it's very different if you have commodity stocks. They have a negative correlation at a 10-year horizon which is hugely valuable. So those those kind of things that are very different would make a decent portfolio today. You probably wouldn't lose your shirt. You might lose some money for 10 years but you wouldn't lose your shirt.
>> You wrote in the book about how markets tend to over extrapolate both good outcomes and bad outcomes. Are there other times you thought the market was overly pessimistic?
>> Yeah, the market is widely believed to extrapolate is widely believed to forecast the future but it does merely extrapolates today's conditions. So if you ask the question the US bombs Iran and ends up with the Straits of Hormuz blocked 20% of the oil supply. If you think that that has advanced the economic future of the world, you'd have to be smoking dope. I think you would agree. It's clearly fraught with all manner of risk and freeze oil and you're really playing with fire, etc. And yet the market's up. And everyone says, "Oh, that's shocking." Uh and I say, "Absolutely not. That's how the market works. If in that period, let me ask you one question. Are the earnings doing pretty well?" Yes, they are. Therefore, the market's up. Simple as that. They wait until things happen. They do not guess that there are bad things going to happen because we don't do because very well. Uh in in aggregate market, we say, "If you're giving me higher profit margins and inflation is not rising too fast, the market will go up." You can explain the PE of the market. Ben Inker and I over 25 years ago did a model with some crazy correlation coefficient like .9. Very high, suspiciously high explanatory powers. So high that I wouldn't believe it if we hadn't done it. But it went back to 1925 and it said, "How do you explain the level of the market?" And the current market is explained by profit margins, inflation rate, and the stability of GDP. Not high growth. They don't like high growth. High growth is too volatile and dangerous. Portfolio managers like stable GDP growth. So, plus two and a half two and a half is more valuable to them than, you know, plus six minus two plus eight minus two. Even though the average of that might be slightly higher, they prefer the two and a half two and a half. Anyway, so those are the three factors. And the stability factor is in poor third place. And the inflation factor didn't work too well recently because people had so much faith it was uh transitory. Uh that's exceptional, historically speaking. Uh if it's slow and and more grinding, we will see, but my guess is the market will hate it once more in the not too distant future. Uh but profit margins rule the waves. And profit margins used to be incredibly mean reverting. I used to say, "If very high, abnormally high returns do not attract lots of capital, capitalism is broken." And the truth is, it has been slightly broken in the 21st century. The monopoly feature has gone up in every industry and some magnificently so. And there's nothing that is better for the stock holder than a monopoly. You're setting the price. And that feature is particularly high in the Mag 7. But it's wonderful profits, it's bad for GDP. Uh a competitive world like the 1960s, where if you owned the chemical companies like we did, the curse was as soon as they started to make money, they'd all build an extra polypropylene plant and crush the margins.
>> So, we've talked about various types of risks, valuation risk, speculation, as well as climate and resource constraints. I'm wondering what gives you the most optimism today, either in markets, technology, or society despite some of the long-term risks that we've talked about.
>> Well, I've learned a few things about humanity. Uh one is they love good news. I suspect the pessimists were not well suited for the last few thousand years and were somewhat bred out, uh leaving us as a optimistic species, which is probably in the old days more suited to survival. And the other thing is we don't do we're not very interested in long-term. Uh we kind of glaze over if it's more than a year. It probably took us painful experience to learn that we had to store a bit for winter. Uh and that's about as far as we go. Uh so that um we uh theoretically value our grandchildren. We play soccer with them at the weekend. And we help with their school fees. And then we go back to our chemical company and act as if we want to kill them off. And that's always been the way and I suspect it always will be the way. We're driven in corporate capitalism rather like the survival of the fittest. If you uh increase the power of stockholders, then the players have so much career risk, they do exactly that. They keep producing poisonous chemicals or dangerous cigarettes or asbestos or lead in gasoline. They know very well in every case that it's dangerous. The archives are full of the data, but we don't we we go for profit maximizing. And we go for the short-term. And therefore um we're not really interested in the long-term factors that have to do with our survival, including as it turns out AI. But resources that are finite, the only people who think you can have compound growth on a finite planet, said Kenneth Boulding, are madmen and economists. Economists don't even deal with energy. They think energy is trivial. They think raw materials are trivial. And yet without them everything stops. As we may find out in the fall because of the oil interruption. And we live far beyond our means, you know, The experts say we we need 1.7 planets to be sustainable at the current level of income. And if we all turned into rich Americans, we would need four or five planets. And therefore, we are in a sense beginning to drown in the waste products, carbon dioxide, and other waste products. Um they're creating a toxic environment for basically all life. And we um aren't arguing with the facts. They aren't There's some argument with the facts in climate change, which is actually laughable when you get up close, but in the case of uh toxins and damage to fertility and so on, we don't even argue with the data, we just ignore it. And the silver lining is we have no real chance of making it in the long term. I spent the last 15 years obsessing about long-term risks to society. That's been my job description. And pretty well convinced that the doomers are right. We're going out of business, climate change, resources, and poisons, toxins. But the one escape clause would be if population uh were to come down fairly rapidly and steadily, so that in six generations, say, we were 2 billion people, not 15, and maybe 1 billion. And uh amazingly, we have chosen to do that. The social and economic reasons, very good reasons, I think, in general. Families are having fewer children, fewer people uh deciding to have families, and many more families choose to have no children or one child. In the old days, we all had two, and then we decided whether we were going to have three or four. So, this is dramatic, and it's everywhere. The child production, uh baby production in sub-Saharan Africa, is always said to be the exception. It is absolutely not. It's just that they have come from seven children per woman to four. They've actually dropped more than Europe, which has dropped perhaps one and a half babies per woman. And it's uh pretty well universal and it seems to be accelerating. And um as the environment becomes normalized for it, it's self-reinforcing. So, we are going to hurtle down to uh a couple of billion people or less. So, that's miraculous. And if we can combine that with a more or less infinite supply of cheap green energy, uh we might have an escape ticket. And uh I think it's almost certain we will have or we're capable of having an infinite supply of cheap green energy, whether that's fusion or geothermal or constant declines in the price of solar, wind, and storage. And the storage prices have been dropping like a stone. They are far All of those three are far better than my first paper where everyone said I was a ridiculous optimist uh touting the future gains in wind, solar, and storage. And they all done much better than anyone thought. And they continue and they will and long-term storage will halve in price and maybe
halve again. And so um they may get fusion one day and just find it's not economically necessary. But in any case, we have a real chance of having cheap green non-polluting energy.
And uh we have a real chance of finding ourselves with far fewer people. And that combination might lead to uh long-term sustainability. If you had lots of people and cheap green energy, the fact that it was green wouldn't make any difference. It would just hurtle us off the cliff that much faster. Because energy would be that much cheaper and we would be richer and we would do more and we would pollute more.
So, that's my optimistic take on the collapse of babies. And uh the thing that worries me is that in addition to the very reasonable economic and social reasons for having smaller families, there is a growing toxicity problem. And that is endocrine disruptors that mess with our hormone system are um doing many things, but they have taken our sperm count down to about a third, approaching a third of what it was at its peak. And the number of young couples that need help has gone from none in 30 years to 17% and in another 20 25 years, the average couple will need help.
And it's all very well having a declining population, but if it crashes at the speed that say South Korea is, South Korea has a fertility rate of 0.7, which means you're producing 1/3. Get that. 1/3 of the necessary babies to replace every generation, every 30 years. So, in 60 years, it's 1/9. In 90 years, it's 1/27th of the babies.
>> Mhm.
>> That's just the fact. Now, it may change. It may go from 0.7 to 1.2, but it's probably not going to 2.1. So, South Korea may have come so far so fast that it's simply 50 years from now highly unlikely to be a stable economic system. So, I want the population to go down, but I don't want it to collapse in such a way that science disappears and society disappears and humans eke out a miserable existence. It would be nice to come down somewhat controlled.
And in that intervening six generations, we have two simple problems. We have to detoxify. That's easy intellectually. Ban miserable chemicals. They've made a very good start in the EU. Uh 10,000 chemicals in cosmetics, they banned uh 1,500. If they got the right 1,500, that's not bad. Canada's banned about 550 and America's banned 12. So, if we want to poison ourselves in the sense, that's our business. But at least there are a few good examples. We can get behind that. It's technically very easy. Maybe China will wake up and actually have the power to ban all those toxic chemicals.
And the other thing, much harder, is we've got to detoxify capitalism. We've got to make a form of capitalism that really values families and 2.1 healthy, well-educated children. That's a real ask. That's really difficult. But, if we don't do it, we fail. And I think we have a fighting chance.
>> And from an investment perspective, if you had to leave listeners with one practical lesson from your career, what would it be?
>> Question everything you hear. Look at the data.
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>> All right, excellent advice. Thank you so much for joining us today, and I really appreciate all of your time and your insights.
>> Thank you. It's been a pleasure.
>> [music]
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