Ackman vs Dalio

[ni-co]

I dont think China is going to be bad. First of all they have huge savings, and their debt to gdp is still much smaller then the US, and they are still growing more then 7%.

 

And the Chinese work like horses. They seem to have good work ethic and a lot of motivation, they will be fine. Im much more worried about southern Europe to be honest. People protesting for 35 hour work weeks and pension ages of 60 years. They obviously don't like to work, and their debt levels are more troubling.

 

I really like Macau currently, some companies there are so cheap right now, and demand is likely to be incredible for the next decade or so. Values have collapsed there after a bad 2014. If I can buy a growth company with high return on capital for 10x earnings or less, with a bunch of assets on the balance sheet to protect me, I will do fine whatever happens.

 

I think it is best to focus on cheapness first, and demand second. If you can buy a cheap company in industry that is likely to do well regardless of what happens, then you can't really go wrong. But if you buy something in a industry that will have a lot of headwinds, you won't do as well, and they probably turn out to not be that cheap after all.

 

 

@joel, to be fair if you started out in 1929, and cashed out in 49, you would have done terrible. You would have lost money the first 10 years.

http://dqydj.net/sp-500-return-calculator/

 

And a 0.5% return in 15 years, and 1.3% over 20 years. But if you would have waited it out untill 1932 or 1933 your return would have been much better.

 

I really recommend Michael Pettis on this subject. His writings were a real eye-opener to me especially with regard to moral, work ethics and how much they have to do with a country's economic development. A good example for debunking those work ethic myths his this piece of his:

 

http://carnegieendowment.org/2013/05/21/excess-german-savings-not-thrift-caused-european-crisis

 

I can't recommend enough his excellent book on the Chinese economy where he discusses at length the arguments you've just made.

[yadayada]

I dont think saving is the issue? It is really investment, and that has nothing to do with savings, as foreign investors can come in and invest.

 

Germany's investment ratio is 17%, compared to around 50% for China. So savings are high for China, but investment is also high. The economist has an interesting article this week about Germany and underinvestment, and possible causes:

 

http://www.economist.com/news/europe/21643193-germany-investing-too-littlehurting-europe-world-and-itself-no-new-deal

 

I think what will happen is that Chinese labor will become more valuable as Chinese people become better educated. So they will become more competitive with the western world, while staying cheap.

 

edit: I guess you are right about savings not mattering much. And TE's argument that minimum wage causes investment growth also doesn't make sense much.

 

Honestly all economists are talking about underinvestment and current account deficits, but we are living in an information economy now. They are missing the point. And macro economics should be called cargo cult economics. They are not getting to the core of things.

 

There is almost no debate on how to improve education, or the effect of crappy education on an economy. There are only now, 15 years after the dotcom boom, discussions wether or not programming should be a thing in high schools. Are you fking kidding me lol. That right there shows how bad it is. That should have been a debate 10-15 years back.

 

What proves my point is that almost all economic growth comes from technology. Imagine a world without combustion engines, radio waves and digital communication networks. Without specialized seeds, fine tuned distribution networks and I can go on, the list is long :) . So if you want growth, focus on that. And that does not happen by cutting spending on education, or by leaving it to clueless government bureaucrats. That is something what economists are missing really. They are like car mechanics that never open the hood, but instead try to figure out what is wrong by just looking and listening to the car from the outside. Never getting the brilliant idea to maybe to open the hood and check it out yourself.

 

[ni-co]

Savings has nothing to do with investment? If you have a closed economy, they are complementary. Savings go up, investments go up and vice versa. That means savings and investment have to balance globally. The reason the investments exploded in China in 2010-2013 is that the U.S. and Europe reduced their demand because of the financial crisis, therefore China's trade surplus shrank and they had to balance it with higher investments.

[vinod1]

 

I really recommend Michael Pettis on this subject. His writings were a real eye-opener to me especially with regard to moral, work ethics and how much they have to do with a country's economic development. A good example for debunking those work ethic myths his this piece of his:

 

http://carnegieendowment.org/2013/05/21/excess-german-savings-not-thrift-caused-european-crisis

 

I can't recommend enough his excellent book on the Chinese economy where he discusses at length the arguments you've just made.

 

+1

 

I too found Michael Pettis book very helpful. It made me rethink a lot of what I thought I knew about macroeconomics.

 

In addition, unlike many economic books, he lays it out the likely causes of something in terms of x, y and z and then gives reasons why one might be more right than the other. So you are free to come to a different conclusion from the author if you think the other reasons are more persuasive.

 

Vinod

[yadayada]

yes but if the opportunity is there, the money will find its way somehow. And I dont find his argument very convincing. There is a huge correlation between work ethic and economic prosperity. Ofcourse what is important is the system, if the system is bad and corrupt, no amount of work ethic will make up for that. Higher levels of corruption and regulation, with lower levels of work ethic and moral are what caused the crisis. I think Ray Dalio would back that up if you read his paper.

 

And the Chinese outperform everyone when it comes to math scores. And when it comes to work ethic, second generation Chinese perform better in the west as well. On international coding competitions, the Chinese dominate. In China academic excellence is what people look up to, not athletics. And you now have a pretty good system in China that unlocks all that potential, they are fighting corruption, and actually making quite a bit of effort to improve their educational system.

 

Also total savings do not equal total investment? What about the trillions of dollars that are parked with the central bank? What about the reserves in banks that are not loaned out? Doesn't seem to me that all the money that is not spent is automatically invested?

 

actually that article shows exactly what is wrong with cargo cult, i mean macro economics. He says, those countries joined the EU, and excess savings had to be invested in those countries.

This makes no sense:

The European crisis, in other words, had almost nothing to do with thrifty Germans and spendthrift Spaniards. It had to do with policies aimed at boosting German employment, the secondary impact of which was to force up German national savings rates excessively. These excess savings had to be absorbed within Europe, and the subsequent imbalances were so large (because German’s savings imbalance was so large) that they led almost inevitably to the circumstances in which we are today.

For this reason the European crisis cannot be resolved except by forcing down the German savings rate. And not only must German savings rates drop, they must drop substantially, enough to give Germany a large current account deficit. This is the only way the rest of Europe can unwind the imbalances forced upon the region in a way that is least damaging to Europe as a whole. Only in this way can countries like Spain stay within the euro while bringing down unemployment.

what....?

 

He also contradicts himself, because unemployment was higher before this was the case. Unemployment rates in Spain have always been high, except during the peak of the bubble. So forcing down some abstract ratio to where it used to be, will fix this somehow?? It seems like classic man with the hammer syndrom.

 

He also makes the mistake of thinking that 'exporting unemployment' is a zero sum game. That always some country has to have high unemployment. And he does not mention culture, corruption or work ethic at all, even though all the countries that have problems now score badly in those area's.

 

Here is his paper:

http://bwater.com/Uploads/FileManager/research/how-the-economic-machine-works/ray_dalio__how_the_economic_machine_works__leveragings_and_deleveragings.pdf

 

On page 241 you see ranking of all the countries. I think the main reason southern europe is doing so badly after they got into the euro is because countries with poor culture and productivity got access to too much money on the credit market and got overlevered, with the assumption that they would be similar to germany. Starting page 282 it gives all the numbers in detail. As you see all the southern EU countries are doing badly. All that credit infused in those countries did not only not increase productivity, but actually destroyed destroyed wealth. That is why they do badly now.

[ni-co]

Keep in mind that Germany's unemployment rate in the 1990s was constantly above 10%. Did we change our work ethics within just one decade? Improbable, to say the least. Spanish workers work more hours than Germans. This has much more to do with politics. Of course corruption etc. play important roles. But it's not about work ethics.

 

Also total savings do not equal total investment? What about the trillions of dollars that are parked with the central bank? What about the reserves in banks that are not loaned out? Doesn't seem to me that all the money that is not spent is automatically invested?

 

I'm no economist, but I strongly suppose that in the case of a central bank keeping money in the local currency this doesn't count as savings. It's simply a reduction of money supply. Bank reserves, too, get invested. They might not lend them out as credit but that doesn't mean there's no effect on investments.

 

Tell me why this doesn't make complete sense to you:

 

There is no formal definition, but whenever market conditions or policy distortions cause the savings rate in one part of the economy to rise excessively (itself an ambiguous word), we can speak of a savings glut. There are at least two main causes of a savings glut.

 

1. A rise in income inequality. We see this in Europe, the US, China, and indeed in much of the world. As wealthy households increase their share of total income, and because they tend to save a larger share of their income than do ordinary households, rising income inequality forces up the savings rate.

 

2. A decline in the household share of GDP. We’ve seen this mainly in China and Germany over the past fifteen years. When countries implement policies that intentionally or unintentionally force down the household share of GDP (usually to increase their international competitiveness) they also automatically force down the consumption share of GDP. Because savings is defined as GDP minus consumption, forcing down the consumption share forces up the savings share. There are many policies and conditions that do this, and I discuss these extensively in my book, The Great Rebalancing, but the main ones are low wage growth relative to productivity, financial repression, and an undervalued currency.

 

Notice that in both these cases, and completely contrary to the popular narrative that praises high savings as a consequence of household thrift, and so as morally virtuous, the rise in the savings rate does not occur because ordinary households have become thriftier. In the former case household savings rise simply because the rich increase their share of total income. In the latter case national savings rise without households in the aggregate increasing their savings.

 

http://blog.mpettis.com/2014/05/why-a-savings-glut-does-not-increase-savings/

[ni-co]

What I'm saying is that Dalio will preserve his capital in a Depression environment while Ackman most certainly won't. He doesn't think about currencies, commodities and credit because, for the last 80 years, it didn't matter. What Dalio's saying is: Watch out, it's going to matter much more in coming years than it did in the past 80. I think not being aware of this is simply naive. Seth Klarman and Prem Watsa, for example, have realized this but Ackman hasn't.

 

This is the usual macro bear argument that people have been repeating from 1980s and possibly before (I have not been around before that). There are couple issues with that:

- By being in cash/etc. you are horrendously underperforming for couple years now. So it might not matter that your portfolio will drop only 30% in a crash compared to 50% of someone who is 100% in equities. Your long term result will be worse.

- You are assuming that Dalio will perform better in a crash. So far a lot of algorithmic shops collapsed during the crashes because their models were not crash proof. Pretty much no value investor every collapsed during a crash. Or they recovered.

- You have a mental model of what will happen. This is very dangerous. I can almost guarantee that you don't know what will happen and pretty much nobody else does. Hey, Buffett has been wrong about inflation for 20+ years.

 

That being said, I am fine with people holding Graham-like portfolio of having 20-50% money in bonds as long as this is not a market call, not a macro call, but forever philosophy independent of the market/macro etc. Just don't expect the 100% equity returns.

 

Two things I wanted to add here:

 

1. Dalio uses computer models but they are wholly fundamentally based. This is very different from your regular quant shop. I'd recommend the Dalio Interview in Jack Schwager's Hedge Fund Market Wizards book. You can get a very good idea from it how Bridgewater roughly works.

 

2. I think that the "stocks and bonds" mindset is exactly the problem. We've had 30 great years for stocks and bonds. Why shouldn't there be a large time period where both asset classes perform badly (assuming you take a buy and hold approach)?

 

3. I'm not really assuming what will happen. I realize that it's always a matter of probabilities. However, I don't think they look good for either stocks or bonds. Most value investors assume that they can't go wrong being 100% invested in stocks and bonds. Isn't this dangerous as well? I think they should expand their time horizon and realize that we are in a very special environment today. I think one thing we can say for certain is that there were several generations of investors who didn't live through comparable circumstances. Even Buffett, who's been investing longer than almost anybody, didn't experience the Great Depression as an investor. Graham did – there's a reason why he was much more cautious.

 

4. Assume for a second the world economy would really collapse and it would take one or two decades to fully recover. What would happen to treasuries if this period matched the time when the working population shrank significantly? Which, by the way, is a worldwide phenomenon, it concerns every developed country and China. Do you think treasuries would remain at the levels they are today?

 

I'm not saying that you should stop investing. But I decided for myself that I'm going to think much more about these questions and that I – as Dalio puts it – invest a bit "scared".

[giofranchi]

Two things I wanted to add here:

 

1. Dalio uses computer models but they are wholly fundamentally based. This is very different from your regular quant shop. I'd recommend the Dalio Interview in Jack Schwager's Hedge Fund Market Wizards book. You can get a very good idea from it how Bridgewater roughly works.

 

2. I think that the "stocks and bonds" mindset is exactly the problem. We've had 30 great years for stocks and bonds. Why shouldn't there be a large time period where both asset classes perform badly (assuming you take a buy and hold approach)?

 

3. I'm not really assuming what will happen. I realize that it's always a matter of probabilities. However, I don't think they look good for either stocks or bonds. Most value investors assume that they can't go wrong being 100% invested in stocks and bonds. Isn't this dangerous as well? I think they should expand their time horizon and realize that we are in a very special environment today. I think one thing we can say for certain is that there were several generations of investors who didn't live through comparable circumstances. Even Buffett, who's been investing longer than almost anybody, didn't experience the Great Depression as an investor. Graham did – there's a reason why he was much more cautious.

 

ni-co,

I don’t understand: if no great business might work in the future, how is Bridgewater supposed to work?… Bridgewater is a business itself!

 

What I am saying is very simple: if you think Bridgewater might work in the future, very well then: invest in Bridgewater! Or in anything which share with Bridgewater similar characteristics!

 

Do you envision instead a world in which no business might work in the future? Well, if that is the world that awaits us, I am sure Bridgewater will go bust.

 

Gio

 

[ni-co]

Two things I wanted to add here:

 

1. Dalio uses computer models but they are wholly fundamentally based. This is very different from your regular quant shop. I'd recommend the Dalio Interview in Jack Schwager's Hedge Fund Market Wizards book. You can get a very good idea from it how Bridgewater roughly works.

 

2. I think that the "stocks and bonds" mindset is exactly the problem. We've had 30 great years for stocks and bonds. Why shouldn't there be a large time period where both asset classes perform badly (assuming you take a buy and hold approach)?

 

3. I'm not really assuming what will happen. I realize that it's always a matter of probabilities. However, I don't think they look good for either stocks or bonds. Most value investors assume that they can't go wrong being 100% invested in stocks and bonds. Isn't this dangerous as well? I think they should expand their time horizon and realize that we are in a very special environment today. I think one thing we can say for certain is that there were several generations of investors who didn't live through comparable circumstances. Even Buffett, who's been investing longer than almost anybody, didn't experience the Great Depression as an investor. Graham did – there's a reason why he was much more cautious.

 

ni-co,

I don’t understand: if no great business might work in the future, how is Bridgewater supposed to work?… Bridgewater is a business itself!

 

What I am saying is very simple: if you think Bridgewater might work in the future, very well then: invest in Bridgewater! Or in anything which share with Bridgewater similar characteristics!

 

Do you envision instead a world in which no business might work in the future? Well, if that is the world that awaits us, I am sure Bridgewater will go bust.

 

Gio

 

I'm only saying: be prepared. I only envision a long time slow growth environment – not the end of the world. In other words: the great businesses still may work but they might not be as great. And this has a huge effect on their valuations. Markets usually try to anticipate those things. So, if I'm right you'll see a large and lasting correction in asset prices as soon as the consensus changes towards this view. Now, if I'm wrong I will sit on a "cash" pile (i.e. I will have hedged my equities against market risk) and underperform the markets for a few years. Yet, there is no inflation in sight, so I really don't care all that much about it. I won't stop investing. But I want the markets to have at least some part of this priced in. I'm quite sure that this is not the case at the moment. And as long as I don't change my view I try to be hedged.

 

There are always a few businesses that are going to prosper in one scenario or the other. But I'm not sure whether I can pick them in advance. I try my best. And believe me I'm trying very hard to get the 5bn I need to be allowed to invest into one of Bridgewater's funds ;-)

[giofranchi]

I'm only saying: be prepared. I only envision a long time slow growth environment – not the end of the world. In other words: the great businesses still may work but they might not be as great. And this has a huge effect on their valuations. Markets usually try to anticipate those things. So, if I'm right you'll see a large and lasting correction in asset prices as soon as the consensus changes towards this view.

 

The problem I have come to realize I have with a “cash pile” is that for me to hold it would implicitly mean I believe I could do better with it than Watsa or Marks (or, if you want, Dalio).

 

It is true both Watsa and Marks lead large organizations with lots of capital, while I have small size which favors me… But besides this they have all kinds of advantages working for them! And it just seems a bit hazardous to make the assumption I will be able to manage my market hedges and my cash pile to a better final outcome than they would…

 

Do they agree with your thesis of a slow growth environment? Mostly yes! Like I do. In action, though, we differ: while you hedge and keep a cash pile, I prefer to invest in those companies which imo have prepared themselves to thrive in a slow growth environment.

 

Do you worry about valuations? General valuations, yes! And I share your worries. But the valuations of those companies which have prepared themselves to thrive in a slow growth environment are very much reasonable. And the reason why they are not expensive is precisely because they have prepared themselves to thrive in an environment the general public has not yet come to accept as inevitable nor even likely!

 

Finally, in which currency to hold cash? Until a few months ago it was almost a no-brainer to hold USD: practically all the companies I am interested to own have assets denominated in USD and the EUR was strong… Right now, though, things have changed: the EUR has much depreciated against the USD… If I keep USD, I risk a paper loss as the EUR might rally against the USD… If, instead, I keep EUR, and in a market crash the flight to safety makes the USD further appreciate against the EUR, the purchasing power of my cash pile might still get significantly diminished… So, who really knows?

 

Gio

 

[ni-co]

I agree with your assessment. For me, capital allocation is part of the fun. I want to try to do better than Marks, Watsa etc. but this is more a kind of game for me. I think it's very reasonable to simply invest with them.

 

I have about equal exposure to EUR and HKD (which is pegged to the USD, technically I'm short USD/HKD). I'm short JPY and AUD both to HKD and EUR.

[giofranchi]

I have about equal exposure to EUR and HKD (which is pegged to the USD, technically I'm short USD/HKD). I'm short JPY and AUD both to HKD and EUR.

 

Very interesting! Thank you! :)

 

Gio

[petec]

 

- You have a mental model of what will happen. This is very dangerous.

 

 

I think this is a crucial point, but misunderstood.  I'm on ni-co's side of the macro arguments in terms of the state I think the world is in.  But I have no idea what will come of it.  Well, I have a lot of ideas, but no conviction.  All sorts of things could happen.  But my contention is that most people who say 'you don't know what'll happen' then invest as if the next 40 years will be like the last 40, in other words they act as if they know what will happen while telling themselves that they are not making any macro assumptions because they don't know what will happen.  That strikes me as a good way to get killed if the world throws us a curveball.  And if elevated debt levels does anything, it elevates the probability of a curveball.

 

To put it another way, you often can't invest without making macro assumptions.  I think it's better to make them explicit, so you understand what risks you are taking, rather than implicit, in which case you might not have thought them through.

[giofranchi]

I think this is a crucial point, but misunderstood.  I'm on ni-co's side of the macro arguments in terms of the state I think the world is in.  But I have no idea what will come of it.  Well, I have a lot of ideas, but no conviction.  All sorts of things could happen.  But my contention is that most people who say 'you don't know what'll happen' then invest as if the next 40 years will be like the last 40, in other words they act as if they know what will happen while telling themselves that they are not making any macro assumptions because they don't know what will happen.  That strikes me as a good way to get killed if the world throws us a curveball.  And if elevated debt levels does anything, it elevates the probability of a curveball.

 

To put it another way, you often can't invest without making macro assumptions.  I think it's better to make them explicit, so you understand what risks you are taking, rather than implicit, in which case you might not have thought them through.

 

I agree with this 100%.

Except that again in action we differ: I prefer to make implicit macro bets, instead of explicit ones. Meaning that I still prefer to invest in businesses that will thrive if my macro bets turn out right, instead of playing the game of asset allocation.

I find asset allocation too hard, because I never can muster confidence enough to average down in a position that is going against me. And whenever I cannot do that, I know something is wrong.

 

Gio

 

[petec]

I think this is a crucial point, but misunderstood.  I'm on ni-co's side of the macro arguments in terms of the state I think the world is in.  But I have no idea what will come of it.  Well, I have a lot of ideas, but no conviction.  All sorts of things could happen.  But my contention is that most people who say 'you don't know what'll happen' then invest as if the next 40 years will be like the last 40, in other words they act as if they know what will happen while telling themselves that they are not making any macro assumptions because they don't know what will happen.  That strikes me as a good way to get killed if the world throws us a curveball.  And if elevated debt levels does anything, it elevates the probability of a curveball.

 

To put it another way, you often can't invest without making macro assumptions.  I think it's better to make them explicit, so you understand what risks you are taking, rather than implicit, in which case you might not have thought them through.

 

I agree with this 100%.

Except that again in action we differ: I prefer to make implicit macro bets, instead of explicit ones. Meaning that I still prefer to invest in businesses that will thrive if my macro bets turn out right, instead of playing the game of asset allocation.

I find asset allocation too hard, because I never can muster confidence enough to average down in a position that is going against me. And whenever I cannot do that, I know something is wrong.

 

Gio

 

I agree entirely.  I probably misworded it - by explicit, I just mean that I try to think through the implications of all sorts of macro outcomes on every investment.  I then try to have a portfolio that'll survive everything.

[ni-co]

I have about equal exposure to EUR and HKD (which is pegged to the USD, technically I'm short USD/HKD). I'm short JPY and AUD both to HKD and EUR.

 

Very interesting! Thank you! :)

 

Gio

 

Just as a background: HKD instead of USD is the Bill Ackmann bet, short JPY is Kyle Bass' hypothesis and for short AUD I cloned Crispin Odey's idea of the repurcussions of China's slowdown. I'm also planning to short the Australian stock market, especially the banks, but I want to wait until they are through their monetary firepower (they are on their way to ZIRP right now). You see, I'm a friend of eclectic cloning. ;)

[petec]

There is a huge correlation between work ethic and economic prosperity.

 

 

He's not saying there isn't.  He's saying that the money flows out of Germany into the peripheral states were caused by imbalances within Germany, and that there is no reason to believe that states with a different culture would have handled them better, because historically states with difference cultures have handled them just as badly, including Germany 140 years ago.

 

He also makes good points about how perceptions of different cultures change according to the state of the times.  Confucianism is currently thought to bestow the Chinese with an incredible work ethic, but it's not all that long ago that it was thought to make the Chinese lazy.

 

By the way: the Chinese don't have a lot of savings if the projects they've been invested in are malinvestments (as seems likely given the incredible pace of investment and credit growth).  And I'll be stunned if the economy is actually growing at 7%, despite what the official stats say.  And the demographics are awful.  China probably has a great future, but I think you're oversimplifying the outlook ;)

[Borgesian]

There is a huge correlation between work ethic and economic prosperity.

 

 

He's not saying there isn't.  He's saying that the money flows out of Germany into the peripheral states were caused by imbalances within Germany, and that there is no reason to believe that states with a different culture would have handled them better, because historically states with difference cultures have handled them just as badly, including Germany 140 years ago.

 

He also makes good points about how perceptions of different cultures change according to the state of the times.  Confucianism is currently thought to bestow the Chinese with an incredible work ethic, but it's not all that long ago that it was thought to make the Chinese lazy.

 

By the way: the Chinese don't have a lot of savings if the projects they've been invested in are malinvestments (as seems likely given the incredible pace of investment and credit growth).  And I'll be stunned if the economy is actually growing at 7%, despite what the official stats say.  And the demographics are awful.  China probably has a great future, but I think you're oversimplifying the outlook ;)

 

+1

 

I would personally be very surprised if China even manages 5% plus growth over the coming years.