Monday, July 22, 2013

Considering Investment Advice Today

Someone who I have gotten to know and respect on-line recently recommended a book of investment advice. Certainly, there are people who understand investments better than others and can clearly explain that understanding. I have no reason to doubt the usefulness of the book if my friend thought it was good.

I did have a problem, however. The advise offered in the book came from decades ago. What about today? Certainly the principles of economics haven’t changed, ever. But the economic and legal context for investment could have.

What isn’t in these books, not the one suggested by my friend (which I haven’t read but he did not mention the subject) nor any of the others I have looked at, is a discussion of their assumptions. I am not referring to their metaphysics or epistemology. I am assuming a basic I mode for these people, otherwise there would be no hope that the investment advise would or could work. Further, I am not referring to the economics fundamentals of how markets work or the ethics of investment. No, I am referring to what you might call the range of decision making within the economy.

One way to open up what I am trying to consider is to ask these questions: Where would the advise in the book work? We know it wouldn’t work in Cuba. How about Venazula? Egypt? Mexico? Sudan? Turkey? Saudi Arabia? Obama America?

I am not just looking at the legal system in these examples, or even the safety of the investment (against nationalization or another kind of thief). I am wondering about the legal ability of the business manager, the people who will ultimately determine if a business succeeds or fails, to understand the conditions and make the decisions and execute those decisions.

For example, in Europe and the U.S., there has been a drive since the last financial crisis to add additional layers of regulation and regulators to the financial services industry. Many of the areas that major banks were relying upon for profits and growth are being eliminated or curtailed. This process is ongoing. The major law expanding banking regulation in the U.S., Dodds-Frank, has something over 350 new areas of regulation. As of last week according to a recent news article, the government and the various agencies have missed 63% of the deadlines stipulated in the act. Many of those new regulations have yet to be finalized. Further, there are another 36% of the act which the government has yet to address. Five years after the crisis and three after the passage of Dodds-Frank, the industry is still uncertain as to what is going to happen. Whatever the results, the banks are all going to have to function in the same, regulatory approved method, about which no one has any real world experience. Expect stuff to go wrong in many different ways. Expect the banking system to function less efficiently, and investment decisions to be less reliable.

Then there is the larger size of the Federal Government in the economy. Its annual deficit and demand for funds has been soaking up the capital of the country. This astonishing level of spending is expected to continue, regardless of the activity or lack there of in the real economy.

There is the continuous effort by the Federal Reserve Board to manipulate the economy into growth by completely destroying any meaning to the pricing of capital. Interest rates mean almost nothing now for the business decision maker. He has no tool to determine if his capital project is going to be profitable or if the capital he needs is actually there.

A business decision maker might also be concerned with the changes in the level of new money being introduced into the market. He might be concerned about the lack of stability in what the Fed and the rest of the government is doing or can be expected to do. He has no idea or source to understand what is going to happen. But to him, the difference between 2.5% and 3% interest on loans is not as significant. You can readily see that since 2009, there has been no rush to borrow and invest as interest rates were lowered and have remained at historic lows.

I have seen commentators and business people point out that current profits are from cost cutting, not from new investments coming on line. They point out that there is only a limited amount of costs that can be cut and that point is being reached. There is a certain amount of growth through merger and acquisition, which isn’t economic growth, but still cost cutting. There may be some investment due to the need to replace plant and equipment. But there is little growth.

None of this is similar to the economic context in the U.S. since the end of WWII. Except for the inflation years ending in 1982, business has had sufficient confidence in the future to invest and grow. That isn’t the case today or for the last five years.

Could confidence return and get us going again? I don’t think we can know until the situation calms down and the government stops tinkering. It is possible that the government won’t stop. It is possible that the restrictions on action will overcome the American businessman. That will happen at some point. We just don’t know.

But we do know that the situation is sufficiently different today so as to make application of successful personal investment policies from the 80s and 90s uncertain. The context has changed. That is a major deal. If you are serious about your investments, you have to recognize the underlying premises about how the economy functions.

When I read some of the economic analysis offered by people with mainstream approaches, I see that they treat all non-communist economies the same, regardless of the level of government intrusion. In their mind an economy will continue going along somehow. They believe that the government’s impact is necessarily either minor or for the good of the economy. That is the same attitude of the standard works on investment: the economy is not going to change significantly when the government acts. But that is not true. You need to recognize that there is a point in which the government’s actions are making normal economic activity too difficult. That has been happening now. It might be temporary, I am not going to rationalistically say that we have reached the point of no return. Nor am I going to say that the current situation may calm down and people can work within the levels of controls we will have. But, it will happen. Don’t ignore it.

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