Here are some things I think I am thinking about: T-Bonds, Consumerism & Factor Investing…
1 – Why are T-Bonds the safe haven asset? As the markets have gotten jittery we’re once again seeing Treasury Bonds perform very well in both nominal and risk adjusted terms. I’ve noted this repeatedly over the years based on a rather simple point that, interestingly, is now finding some empirical support in academia. In a fantastic new paper titled “What Makes US Government Bonds Safe Assets” Zhiguo He, Arvind Krishnamurthy and Konstantin Milbradt find:
“US government bonds are widely considered to be the world’s safe store of value. US government bonds are a large fraction of safe asset portfolios, such as the porfolios of many central banks. The world demand for safe assets leads to low yields on US Treasury bonds. During periods of economic turmoil, such as the events of 2008, these yields fall even further. Moreover, despite the fact that US government debt has risen substantially relative to US GDP over the last decade, US government bond yields have not risen. What makes US government bonds “safe assets”? Our answer in short is that safe asset investors have nowhere else to go but invest in US government bonds.” [emphasis added]
Exactly. All outstanding financial assets are always held by someone. And when the you-know-what hits the fan, safe asset allocators inevitably bid up T-Bonds because they’re the the highest quality financial instrument in a world where all outstanding financial instruments have to be held.
2 – All Hail Consumerism! I see a growing trend, especially in younger generations, towards thriftiness and the rejection of consumerism. Which reminds me of this wonderful piece from 16 years ago, “In Praise of Consumerism” by James Twitchell. From a macro perspective the most basic takeaway is that consumers just consume what producers produce. In other words, to reject consumerism is to reject producerism (is that a word, no idea, but pretty sure no). But production is what makes humans awesome. We produce wonderful things for one another using our unique talents to make our living standards superior.
Arguably, this ability to produce is our greatest strength and also our greatest weakness since the act of production so often involves destroying the world around us. The question is whether we produce too much. I don’t know the exact answer, but I would hesitate to apply macro thinking here since this is obviously a micro concern. After all, we don’t produce nearly enough food, water and shelter in certain parts of the world. Yes, we’re making great progress, but the problem of excessive consumerism is much more apparent in the developed world than it is in the emerging world. And even in the developed world this abundance is hardly distributed equally across society. I think we have a lot of work to do before we can comfortably conclude that we have “enough”. And that’s assuming we’ll ever fully feel as though we have “enough” which is a whole different topic.
3 – When Factors Change! Regular readers know that I have a bit of a beef with the trend in “factor investing”. This is the fairly newish strategy where we identify a “factor” that drives market returns and then try to capture that factor with the hope that it will provide a bit of a premium over a market cap weighted portfolio. For instance, researchers have identified that “value” tends to beat growth in the long-term. That sounds easy enough. But the problem is that this approach still requires the asset picker to be able to identify the factors in advance. In other words, you still have to be able to pick the instruments from the market cap weighted portfolio that will actually reflect the entities that are going to capture that value premium. This is just stock picking by a different name being implemented in a lower fee manner!
What’s most interesting about this is how dynamic these factors are. For instance, Meb Faber has a great post up on how low vol can become high vol. In other words, if you buy a low vol “factor” who’s to say that those entities will remain low vol? It all strikes me as a flawed approach….Maybe I am missing something, but I don’t think I am….
* The title of this edition of three things is a bad joke. Mondays are not fun (unless you’re retired or Donald Trump, in which case, every day is the most amazing day to be the Donald (according to the Donald)).
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