Ray Dalio.......caution ahead

Ray Dalio Sees End Of Supercycle, Issues A Dire Warning

History repeats itself, Dalio notes, as he draws chilling comparisons to 1937

As the U.S. Federal Reserve prepares to tighten monetary policy, perhaps providing clues to raising interest rates in upcoming Fed meetings, Ray Dialo has surveyed the unusual economic environment and has found a troubling historical economic equivalent: 1937.  Given a troubling corollary, Ray Dalio has determined that “we do not want to have any concentrated bets, especially at this time,” a March 11 strategy note written by Ray Dalio and Mark Dinner says. A copy of the memo was reviewed by ValueWalk.

Perhaps one of the most diversified hedge and largest funds in the world with $165 billion under management, Bridgewater Associates is known to invest in most assets utilize a variety of strategies, including algorithmic approaches – and is looking at all investment classes, including stocks, and thinking that risk is just too significant to be concentrated in exposure.

In a relatively rare strategy note written by Ray Dalio, the founder of the famous hedge fund notes that U.S. Federal Reserve tightening is marking the end of a super cycle and central bankers are faced with tough choice. It can do what is economically best for the world, which is a loose monetary policy, or what is best for the U.S., which might mean tightening.

Ray Dalio: End of a long term debt cycle

The economy is approaching the end of a long term debt cycle that is little understood, Ray Dalio writes,  as he says he has more faith in the Fed’s ability to tighten than ease – and this is part of the problem.  If the economic environment changes, the Federal Reserve needs the ability to lower interest rates if necessary.
With rates near zero in an expanding economy, the Fed doesn’t have much room to maneuver.  This is particularly true as Ray Dalio says, at the end of a cycle, central banks are “pushing on a string” and their ability to stimulate the economy is more likely to fail than succeed.

The report observes the Fed has set inside expectations that a rate hike will occur in June or September and that it might be difficult to deviate from this guidance.

Economic comparisons to 1937

It is this tightening that has Ray Dalio concerned as he focuses back on a 1937 analog where debt limits reached their bubble top, interest rates hit zero, money printing kicked off “beautiful deleveraging,” stocks rallied regardless, the economy seemingly improved and then the central bank tightened. Sound familiar?
It happened in 1937 and Dalio draws comparisons to the 2008 crash and today to point to historical equivalents.

Ray Dalio is a student of history, perhaps one of the best noncorrelated fund manager to successfully deliver returns regardless of market environment. He now says the prices of risk assets such as stocks are high, yet the expected are low. If interest rates were to rise and liquidity fall, Ray Dalio isn’t exactly sure of anything, particularly what might tip the proverbial cart, but he notes that all assets are risky at this point.

 

THE DEFLATION BOGEYMAN

The world’s major central banks are currently obsessed with the goal of raising their national inflation rates to their common target of about 2% per year. This is true for the United States, where the annual inflation rate was -0.1% over the past 12 months; for the United Kingdom, where the most recent data show 0.3% price growth; and for the eurozone, where consumer prices fell 0.6%. But is this a real problem?

The sharp decline in energy prices is the primary reason for the recent drop in the inflation rate. In the U.S., the core inflation rate (which strips out changes in volatile energy and food prices) was 1.6% over the last 12 months. Moreover, the Federal Reserve, the Bank of England, and the European Central Bank understand that even if energy prices do not rise in the coming year, a stable price level for oil and other forms of energy will cause the inflation rate to rise.

In the U.S., the inflation rate has also been depressed by the rise in the value of the dollar relative to the euro and other currencies, which has caused import prices to decline. This, too, is a “level effect,” implying that the inflation rate will rise once the dollar’s exchange rate stops appreciating.

But, despite this understanding, the major central banks continue to maintain extremely low interest rates as a way to increase demand and, with it, the rate of inflation. They are doing this by promising to keep short-term rates low; maintaining large portfolios of private and government bonds; and, in Europe and Japan, continuing to engage in large-scale asset purchases.

The central bankers justify their concern about low inflation by arguing that a negative demand shock could shift their economies into a period of prolonged deflation, in which the overall price level declines year after year. That would have two adverse effects on aggregate demand and employment.

First, the falling price level would raise the real value of the debts that households and firms owe, making them poorer and reducing their willingness to spend. Second, negative inflation means that real interest rates rise, because central banks cannot lower the nominal interest rate below zero. Higher real interest rates, in turn, depress business investment and residential construction.

In theory, by depressing aggregate demand, the combination of increased real debt and higher real interest rates could lead to further price declines, leading to even larger negative inflation rates. As a result, the real interest rate would rise further, pushing the economy deeper into a downward spiral of falling prices and declining demand.

Fortunately, we have relatively little experience with deflation to test the downward-spiral theory. The most widely cited example of a deflationary economy is Japan. But Japan has experienced a low rate of inflation and some sustained short periods of deflation without ever producing a downward price spiral. Japan’s inflation rate fell from nearly 8% in 1980 to zero in 1987. It then stayed above zero until 1995, after which it remained low but above zero until 1999, and then varied between zero and -1.7% until 2012.

Moreover, low inflation and periods of deflation did not prevent real incomes from rising in Japan. From 1999 to 2013, real per capita gross domestic product rose at an annual rate of about 1% (which reflected a more modest rise of real GDP and an actual decline in population).

Why, then, are so many central bankers so worried about low inflation rates?

One possible explanation is that they are concerned about the loss of credibility implied by setting an inflation target of 2% and then failing to come close to it year after year. Another possibility is that the world’s major central banks are actually more concerned about real growth and employment, and are using low inflation rates as an excuse to maintain exceptionally generous monetary conditions. And yet a third explanation is that central bankers want to keep interest rates low in order to reduce the budget cost of large government debts.

None of this might matter were it not for the fact that extremely low interest rates have fueled increased risk-taking by borrowers and yield-hungry lenders. The result has been a massive mispricing of financial assets. And that has created a growing risk of serious adverse effects on the real economy when monetary policy normalizes and asset prices correct.

Martin Feldstein, professor of economics at Harvard University and president emeritus of the National Bureau of Economic Research, chaired President Ronald Reagan’s Council of Economic Advisers from 1982 to 1984. Currently, he is on the board of directors of the Council on Foreign Relations, the Trilateral Commission, and the Group of 30, a non-profit, international body that seeks greater understanding of global economic issues – MARTIN FELDSTEIN

(This article has been published with the permission of Project Syndicate — The Deflation Bogeyman.

The writer is an emeritus professor of economist at Harvard.

Source: - Business Standard   Date 03.03.2015)

Silver and Gold...Why now

http://www.zerohedge.com/news/2015-02-18/silver-and-gold-why-now

Ray Dalio - articulating a “risk of ruin” and “risk of not coming back” fear that underlies his investing strategy

Quant Guru Ray Dalio Talks Up Risk Of Ruin At Bill Ackman's Stock Picking Summit

Ray Dalio -  articulating a “risk of ruin” and “risk of not coming back” fear that underlies his investing strategy



Highlights from the Harbor Investment Conference.
Around five P.M. in a subterranean auditorium in Midtown Manhattan on Thursday evening there was perhaps the most enthralling three-minute back and forth discussion on discount rates in Wall Street’s history.
Pershing Square Capital Management’s Bill Ackman was in the midst of what he expected to be an interview of Bridgewater Associates Ray Dalio to cap off his highly-followed annual charity event, the Boys & Girls Harbor Investment Conference. Instead, over the course of nearly an hour, the two top performing hedge fund billionaires debated investing philosophies that couldn’t put them further apart in both style and theory.
The face-off between investors who collectively manage nearly $200 billion had everything.

For a charity event, it had red meat for the gossip pages that feed on Bill Ackman’s overbearing way with words to create controversy. It had  Dalio, who’s been in the business since 1975 articulating a “risk of ruin” and “risk of not coming back” fear that underlies his investing strategy to Ackman, who is in the midst of his eleventh year at the helm of Pershing Square after his first fund, Gotham Partners, collapsed.

The session also was a dizzying tug-of-war between Ackman’s activist investing mantra, which relies on Graham and Dodd-like security analysis and a touch of imagination to find unique value in poorly performing companies, and Dalio’s obsession with quantifying relative values across all asset classes and investment products for attractive spreads.

Ackman and Dalio, in many ways, lead the pack in the two styles that are working for the hedge fund industry: shareholder activism and quantitative trading. The conversation gave insight into the strategies and personalities that succeed versus those that fail, and investors might have found a new reason to invest in a home-run hitter like Ackman, or added appeal to Dalio’s obsession with the interplay of risk and return across markets.

“I am short and long practically everything. I don’t have any bias,” Dalio said of his portfolio. He noted the process of writing down decision making criteria and applying it to securities around the globe generates “vast springs of data” from which Bridgewater identifies attractive spreads and uncorrelated bets.
Ackman, by contrast, expressed a strategy that relies on his touch and creativity. “I am much more qualitative… I’m not confident I could look at a data stream and draw a conclusion,” Ackman said. His portfolio is usually concentrated among eight or nine investments, with a successful year only requiring one or two good new ideas.

But the talk also had a surprising relevance to the ordinary investor: How should one prepare for the prospect of rising U.S. interest rates?

While the longer-toothed Dalio is extremely fearful, Ackman is undeterred and poised to make Wall Street’s next bold call in the coming months.

When asked about the current market environment, Dalio said he is worried about so-called tail risks, unexpectedly severe market moves like the 2008 crisis, as the Federal Reserve contemplates a rise in interest rates. With investors chasing ever scanter yields and driving up the price of perceived safe assets like U.S. stocks, bonds and real estate, Dalio said “what I think going forward over the next few years is that the risk of a downside is material.”
Furthermore, Dalio said he believes expectations for corporate profits are running far too high and not accounting for the drag of rising rates. He characterized profit margin expectations as ”unsustainable” and argued asset prices are at risk over the next three years. “I always think about what is the biggest tail risk,” Dalio said before stating Bridgewater is long bond exposure.
Ackman, by contrast, expressed a more benign outlook. Money remains cheap, corporate profits are rising, and the U.S. economy continues to heal from the scars of the Great Recession. He also said that an increasing presence of so-called activist investors is bringing a new accountability to corporate bottom lines, pushing profits relentlessly higher. “I would argue is that margins can go up meaningfully because of the intervention of owners. That is a sort of new factor in the market,” Ackman said.
In an exceedingly academic debate, which kept the attention of a rapt audience even as it stalled for a spell as both Ackman and Dalio struggled to agree on terms like discount rates and risk free rates, their differing perspectives have tremendous relevance.
If Dalio is correct in his view of rising rates and declining profit margins, one of those “risk of ruin” or “risk of not coming back” nightmares he fears, it will have a dramatic negative impact on the work that activists like Ackman undertake.
Currently, the activist model is to bring a private-equity like aggressiveness to corporate balance sheets, freeing up cash that is returned to its rightful owner — the public stockholder. They are also working feverishly to undo conglomerate corporate structures at the top of the S&P 500 Index that were created to insulate businesses from changing market conditions and provide the flexibility to internally fund expansion, research and development and capital expenditure.

Dalio’s forecast of declining profit margins would cast a pall over the standalone, leveraged businesses that activist investors have created in recent years. But he could also be wrong.
Perhaps activism will act like some a new efficiency for U.S. corporations, creating benefits similar to productivity breakthroughs like the assembly line or the computer chip, Dalio acknowledged, pushing stocks higher no matter what Fed chair Janet Yellen does. “You have done fantastically well and you are a very brilliant man. As we think about playing our game, there are many ways to skin a cat,” Dalio said.
In the end, Ackman was the interviewer. But subtly Dalio may have turned the tables and put Pershing’s iconoclastic head in the psychiatrists chair at his own charity event.
Dalio, who acknowledged Bridgewater’s reliance on artificial intelligence and said that 99% of the time his traders don’t interfere with the buy and sell orders that are spit out of their computer models, argued that for all of Ackman’s apparent qualitative brilliance he should adopt a more systematic investing approach.
Part of Bridgewater’s Wall Street lore is a 123-page document of principles that Dalio created in 2011, and he said on Thursday the process of simply writing down rules and testing them over time has been a major piece of his hedge fund’s success. Nothing Ackman articulated in his qualitative strategy, whether it is picking a new CEO or board director, or finding an undiscovered asset hidden inside a conglomerate, Dalio said, couldn’t be modeled.

“If you were to take your criteria and you could just write them down… I could probably show you that even the things that you thought were immeasurable are measurable,” he said.

In a conversation that whipsawed between Dalio’s “risk of ruin” and Ackman’s spark for the possible, a fear of market tumult and an expectation that corporations can yet do more to unlock value for their shareholders, both legendary hedge fund managers were tested.

Dalio was out of place at a stock-picking conference, but brought to Midtown by Ackman’s charitable work. He wound up providing a compelling twist. “This is one of the more interesting conversations I have ever had,” Ackman said

Can central banks go bust?

Can central banks go bust?