Stopped Automated Walkways, Irreversible Ultra-Low Interest Rates - Huxiu#
#Omnivore
Highlights#
Fixed income assets may become a new investment choice ⤴️ ^34ac4d99
The world will enter a relatively long period of high interest rates and high volatility ⤴️ ^c5b09c38
In fact, these issues have led to insufficient investment in old industries, making it difficult for commodity prices to decrease. ⤴️ ^b84fbdcd
Therefore, the three issues mentioned above, including the resurgence of globalization, labor shortages, and insufficient investment in the old economy, will lead to one result: inflation. ⤴️ ^d9127661
Upstream resource industries ⤴️ ^d707244a
Fixed income assets ⤴️ ^04f3e97b
Stopped Automated Walkways, Irreversible Ultra-Low Interest Rates#
This article discusses the changes in the current global economic and interest rate environment, as well as their impact on investment and life. The author believes that the world will enter a relatively long period of high interest rates and high volatility, which is different from the low interest rate era of the past 40 years. The article also mentions that fixed income assets may become a new investment choice and the need to adapt to the new world and market environment.
• The global economic and interest rate environment is changing, entering a high interest rate and high volatility era.
• Fixed income assets may become a new investment choice.
• We need to forget the past and inertia, and adapt to the new world and market environment.
Since the economic cycles of China and other countries are currently out of sync, the world does not share the same warmth and coldness.
If I simply apply some of my thoughts domestically, it is inevitable that people will think, "Is this person out of their mind?"
But even so, it doesn't matter.
Because the entire judgment is not only about investment but also about life.
Let me share a passage I just saw on Caixin:
"In the biography of Oppenheimer written by Bird and Martin Sherwin, Oppenheimer gave a speech one night on November 2, 1945, at the atomic weapons research base, which was also the small town built from scratch for the atomic bomb in the movie—Los Alamos.
The article mentions that decades later, what he said at that time still resonates with people. He described a world as subtle and complex as the quantum world. He stated a simple fact that goes straight to the core of the issue:
The world is no longer the same."
If we believe that this era is another "sea change," what should we accept calmly, what should we act on immediately, what should we let go of, and what should we cut through decisively?
What awakened me was Xiao Xiaopao's article “What Should I Do in Illyria?”, and I wonder if my twenty-thousand-word article can have a similar effect on you.
I
In simple terms, I believe that the world will enter a relatively long period of high interest rates and high volatility—this corresponds to a period of great easing that began in the 1980s and ended in the early 2010s.
During this time, most of the time was peaceful, without significant geopolitical risks, global interest rates continued to decline, and technological innovation was very active. Despite fluctuations, it remained an active and upward phase overall.
This has been the norm for the past 40 years.
But the next phase, or for quite some time since the past few years, will not be like this.
Why? Let's pause for a moment and first talk about an article that awakened me.
In fact, I slowly became aware of this two or three years ago. After the pandemic, I began to pay attention to high interest rates, high inflation, and high volatility. In 2021, I wrote a public account article titled “Ten Thousand Reasons for Inflation”.
At that time, the Federal Reserve had not yet started the interest rate hike cycle, and no one believed that inflation would be a long-term issue.
But now this has gradually become a consensus.
Recently, I read an article by a public account blogger I really like, Xiao Xiaopao. I had previously shared it in the Knowledge Planet. I think this article is worth reading repeatedly; it is titled “What Should I Do in Illyria?”.
It begins with a story about the American baseball card market—I think this story can be swapped with the tulip bubble and the stamp market bubble that once appeared in China. After all, these bubbles or niche assets have some commonalities.
In telling this story, Xiao Xiaopao summarized a logical chain that I think is very good.
First, everyone needs to have shared knowledge, that is, how to turn baseball cards from a niche collectible into a commonly circulated market with relatively fair prices.
At that time, an American expert published a monthly magazine about baseball cards, and the appearance of this magazine made everyone aware that everyone was looking at this magazine, putting everyone at the same gambling table. So from that moment on, the smart people at the table began to guess not the card itself, but how others viewed the card. This is somewhat like the Texas Hold'em we often play.
The stock market is actually the same; you guess how much a stock is worth. But how much it is worth depends on what others are willing to pay for it, which is called shared knowledge.
When consensus reaches a certain level, everyone will start a consensus game.
In other words, everyone's thoughts are not important; what matters is what others think. I believe what is good is not necessarily truly good, and what everyone thinks is good is not necessarily good; only when everyone believes that others think it is good is it truly good.
It may sound a bit convoluted, but the same principle has appeared in many things, including the concept of digital currency and many aspects of human society, such as gold.
What matters is not the matter itself, but that everyone has heard of it and believes in it; that is the most important.
Why did Xiao Xiaopao tell this story? In fact, the focus is on how this consensus will form an industrial chain, and the related interest community of the industrial chain will have strong inertia, which will accelerate the related assets toward a bubble until a contrary consensus appears.
Regarding the baseball card issue, its consensus broke around the year 2000 with the emergence of eBay, the online trading platform. Baseball card collectors suddenly realized that they could see their baseball cards on a public webpage, how many sellers and buyers were behind each price, and the entire market suddenly became much more transparent. Then the previous consensus broke, and the baseball card bubble burst.
This corresponds to what Xiao Xiaopao wants to convey and what I want to discuss today, which are the low interest rate environment and abundant liquidity.
In fact, over the past few decades, everyone in the world has been discovering how to play this game step by step under the rules of the game.
From the 1980s to the 1990s, developed countries like the United States started playing this game first, and the concept of venture capital began to become popular, with the idea that technology is the primary productive force gradually gaining traction. At that time, the entire society was very stable, and interest rates gradually declined.
Later, this story gradually entered China, and venture capital, entrepreneurship, and new technological revolutions were accepted by the world.
The themes discussed included user growth, attracting traffic, and network effects. I have written BP and seen many BPs, and these BPs depict that as long as you give me money, I can establish certain barriers and in the future, I can make a lot of money. Basically, that is the model. It does not consider how to make money now but focuses on how to make money in the future.
What is the logical foundation behind this? It is the low interest rate environment. The money you give me now is not worth much elsewhere, so it doesn't matter; I can give you a bigger return in a few years.
But now you suddenly find that even the U.S. 10-year Treasury yield has risen to 4% or even higher. In other words, if you give money to the U.S. or other developed countries' governments today, they can guarantee to pay you an interest rate of around 4% to 5% every year for the next ten years.
At this point, would you still be willing to lend money to some loss-making startups or tech companies? These seem to be the hopes of humanity's future, but currently, they cannot generate cash flow?
This logic is gradually becoming a consensus. Once it becomes a true consensus, the dream rate no longer exists, and dreams are not as valuable as they used to be.
We see many media and investment institutions discussing this issue, but it is a long-term matter, and in the short term, many other factors are still interfering. For example, the AI frenzy that started last year and the rise of new energy vehicles that have been ongoing for several years are all variables.
However, from a more macro and larger trend perspective, the emotional climate of the era has indeed changed.
II
So in this case, how should investment institutions handle it? How should individuals respond?
Here, I will introduce a second article, which is a research report published by CICC last year. I highly recommend friends interested in this topic to read it. This report is titled “Asset Pricing in the Context of Macro Paradigm Shift”.
This report mainly discusses that in the past three to four decades, there has been a relative oversupply of physical goods, leading to an oversupply of all commodities. Therefore, financial assets enjoy a higher certainty premium, and the valuation of financial assets shows a trend of overall increase.
However, if the macro premise and background change in the coming years, meaning the paradigm shifts, what does CICC predict?
It is that naturally rare physical assets and efficient productive assets will enjoy a higher certainty premium compared to the past.
Regarding this report, I believe it can be recorded as another blog. Today, time is limited, and I will not share all the content with you. Interested friends can look it up themselves. In fact, the report contains many specialized terms, and if you are not a financial practitioner, it may be somewhat difficult. But this time I will share the entire logical context and final conclusion.
The logical context is actually very simple. First, we need to understand the source of the great easing era and what happened during the low interest rate and socially stable era. Secondly, we need to analyze whether these factors have changed or whether there are long-term changes. The third point is, if changes have occurred, how to invest in the new macro context?
For financial research, the third point can only be based on history, that is, looking for historical precedents to understand whether similar situations have occurred in the past. In this case, which types of assets performed well, and it would be believed that under the new paradigm, these assets may shine again; that is roughly the logical context.
First, let’s look at why there has been such a low interest rate environment in recent years, or a relatively easing environment.
CICC provided several reasons, but it used the United States as an example, discussing the U.S. great easing period. However, I personally believe that these reasons are generally applicable globally.
In summary, there are three main points: structural changes in the economy, combined with some good policies, and a bit of luck.
Structural changes actually refer to the transformation of the economy from manufacturing to services, the liberalization of finance, and the acceleration of globalization. These are the structural changes that have occurred in the U.S. economy and the global economy over the past forty years.
Good policies actually refer to the adjustment of the U.S. monetary policy framework, maintaining low interest rates. Although inflation has been influenced by structural changes and subsequent good luck, it has remained relatively low. Therefore, a good monetary policy framework has facilitated the easing process of the entire era.
The third point of luck is even more metaphysical, that is, the U.S. economy and the global economy have rarely faced serious external shocks since the mid-1980s, whereas before that, there were oil crises and oil wars. However, in the past few decades, there have been no major wars. The entire U.S. economic cycle, and even the global economic cycle, has become more stable.
These three factors together constitute a melody of the past few years, including our own life era.
I believe my listeners and I have not experienced any melody other than this. Although in recent years we have clearly felt that the melody is different from the information we received in our childhood or growth period, we do not know what has happened or how to deal with it; we can only understand the new things happening according to the inertia thinking framework.
If you step back and look, you will find that from structural economic factors to good policies to good luck, all have begun to undergo significant changes.
From the perspective of structural economic factors, I believe everyone can understand that the first issue is that globalization is facing phase headwinds; to put it bluntly, it is experiencing a resurgence or even de-globalization.
This will lead to a reconstruction of the entire industrial chain, and it will be constructed based on factors such as safety and diversification, rather than simply where costs are low. It will not yield an economically optimal result—this principle is something everyone understands now—but how much inflationary pressure it brings? How to quantify it?
In fact, I believe that there seems to be little research on this in academia, as this issue has just occurred at most five to ten years ago. To put it briefly, it has only been two years since the pandemic. Therefore, there are not enough data points for quantitative analysis. However, logically, it will certainly bring considerable inflationary pressure.
The second issue is labor shortages. I don't know if everyone has the same feeling, although now in China, people are talking more about insufficient job positions, but in developed countries and even some industries in China, this issue is gradually emerging. This is related to the pandemic and the aging labor population structure.
However, why is U.S. employment data always so good? No matter how many times interest rates are raised, the employment rate remains high. In fact, there are some structural factors behind this; labor shortages do exist objectively.
I can also feel this in Japan, where people have been talking about a significant shortage of delivery personnel in the logistics industry, including taxi drivers. The Japanese government is now considering issuing work visas to foreigners for drivers, which was unimaginable in the past but is gradually emerging now. This is actually due to labor shortages, and labor shortages will also push up inflationary pressure.
The third point is something that many people may not realize but is very important: previously, everyone generally believed that commodities were in surplus, but in fact, in the past 30 years, there has been a significant underinvestment in these so-called old economies, which are "despised" and related to commodities and old energy.
In the past 30 years, capital has chased technology and new things. Even in the energy sector, it has certainly pursued green energy. The ESG concept has indeed become very popular globally, so this capital has continuously flowed out of the old economy.
I have focused on energy industry research for several years, and regarding commodities and oil energy, you will find that to produce oil, copper, lithium, or iron, significant investment is indeed required; otherwise, infrastructure will continue to deteriorate, and ultimately, production will decline.
Because this is a very long-cycle investment.
For example, a traditional oil field takes at least ten years from exploration to final extraction—if there are industry friends, please correct my viewpoint. Of course, except for shale oil, which began to rise after 2000. So if the initial investment is insufficient, the negative consequences may not manifest until ten or twenty years later.
In fact, shale oil also faces this issue, that is, although the entire extraction cycle is very short, investors and capital require these companies to pay dividends quickly and not to reinvest the money into new oil fields.
This became very evident after the last wave of negative oil prices and the subsequent recovery in oil prices. Some major shale oil companies reduced their capital expenditures significantly. Because previously, shale oil required continuous investment, and each well produced a limited amount of oil, so new wells needed to be drilled continuously to produce new oil.
However, in recent years, capital has demanded that they stop drilling new wells because they are worried that oil prices will fall back to negative prices again. They will require you to pay back the money first, so they demand large dividends.
In fact, these issues have led to insufficient investment in old industries, making it difficult for commodity prices to decrease. Although current demand is not ideal, prices remain high or even increase. This is because the supply-demand imbalance factors have existed for the past 30 years and have only begun to sprout and blossom now.
Therefore, the three issues mentioned above, including the resurgence of globalization, labor shortages, and insufficient investment in the old economy, will lead to one result: inflation.
At this time, what is added on top of this? It is the quantitative easing that has been carried out by the Federal Reserve and all major developed economies around the world in recent years.
What does quantitative easing mean? In fact, from one perspective, these governments now hold a large amount of their own country's treasury bonds. Once interest rates rise, the interest that these countries need to bear will be very high. This is also an important basis for many domestic financial researchers to believe that the U.S. economy is unsustainable and that interest rates cannot rise further.
If interest rates are high, it means they need to pay a lot of interest. This is a dilemma for a country. Many countries will decide to try to control interest rates and not let them rise too high to avoid negative outcomes.
However, everyone knows that the most effective way to curb inflation is to raise interest rates; otherwise, there would not be an interest rate hike cycle. But due to the current dilemma, the interest rate hike cycle is actually slower than it should be, leading to more severe inflation and output. Time is limited, and I can only briefly touch on this issue; if anyone is interested, CICC's report explains it very clearly.
In fact, any research on inflation has drawn similar conclusions. This is also why I say this issue is gradually becoming a consensus.
Do you remember the baseball card story we just talked about? This consensus is changing. In recent years, everyone believed that inflation would remain low; this consensus has actually been broken, and a new consensus is gradually forming.
What results will this new consensus lead to? Simply put, asset price volatility will increase, and the long-term return rates of equity assets and risk-adjusted returns will decrease.
In the coming years, the era of low inflation and low volatility globally may have slowly come to an end, and we will enter a new macro paradigm and era.
III
Recently, many institutional investors in bonds around me are very troubled by the fact that the yield on U.S. 10-year Treasury bonds is about to break 5%, which is simply unimaginable.
However, I will also show a chart that if we extend this time frame to 30 years or even longer, from the end of the 1980s to now, you will find that the yield on U.S. 10-year Treasury bonds has gradually decreased from a height of 10%, reaching a low of zero, and now it has merely returned to a central state.
In other words, this is not something we have never seen before; it is just that we have not lived long enough.
So, what conclusion can we draw from the above discussion?
The most important conclusion is that we must break free from past inertia and believe that a new era has arrived. So, are our assets ready to cope with this new macro paradigm?
CICC provided two suggestions, which I find quite reasonable, and I agree with them.
First, we must broaden our asset spectrum beyond stocks and bonds. In that report, many types of assets were analyzed, including sensitivity to unexpected inflation, unexpected output fluctuations, etc., in an attempt to explore which types of assets will perform better in the coming era.
I mentioned earlier that for financial researchers, the main thing they can do is historical research—putting all past data into models to draw conclusions.
However, this conclusion actually only reflects past situations.
You may have seen Meng Yan's investment video, where one point left a deep impression on me, which is complex systems. In complex systems, any subtle change in one variable can lead to vastly different outcomes.
Therefore, all historical backtesting conducted by financial research cannot predict the future.
But I believe that broadening the asset spectrum itself is not a problem.
So, what kind of asset spectrum can we broaden?
For example, if you are in the U.S. or have investment conditions in the U.S. market, you may have heard of a type of product called Treasury Inflation-Protected Securities (TIPS). It actually adds a clause to general treasury bonds that adjusts its interest rate according to annual CPI fluctuations. TIPS has had a significant positive effect on unexpected inflation risks in recent years. In other words, it performs well in such an environment.
However, for most Chinese investors, there are currently no investment conditions for such assets. The REITs I mentioned earlier have actually been found by CICC research to have similar sensitivity to inflation and growth surprise indices as the stock market. In other words, it does not respond well to unexpected inflation, but I believe as long as its correlation is not consistent, it will have a diversification effect. Moreover, in the CICC report, you can see that its performance is still good, even better than the stock market. Therefore, I believe this type of asset is still worth observing.
In addition, CICC's second suggestion is to pay more attention to commodities, as commodities can achieve significant excess returns in this era.
This is a very effective anti-inflation asset, which not only effectively hedges against inflation risks but also has another advantage that people like me who focus on asset allocation will find appealing: it has a low correlation with stock and bond assets.
In other words, it is a free lunch on the table, which means it is a low-correlation asset.
Therefore, adding it to your portfolio can significantly enhance risk-adjusted returns. This means that adding it may not necessarily increase your absolute returns, but it will yield higher returns at the same portfolio volatility.
So how should commodities be purchased? In fact, in recent years, we have suffered a lot in commodities, including friends who previously bought oil products, such as the ETFs like DBC and DBB that I invested in, which are linked to upstream commodities. However, due to purchasing too early, there were many factors that ultimately led to oil prices falling to negative prices, and commodities overall showed cyclical fluctuations.
But if you believe that under the new macro paradigm, this era is changing, then upstream commodities are a type of asset that must be emphasized.
Of course, I also forgot to mention that CICC's report also mentioned another very important factor, which is the so-called carbon neutrality and green economy.
However, in the short to medium term, traditional commodities will not only not see significant price declines or role weakening but will actually increase in importance. Why? I won't elaborate on this in this blog, but you may understand that this is actually related to the capital expenditure issue I mentioned earlier—when a large amount of capital flows into new energy and green energy, the emphasis on these traditional commodities will significantly decrease, and the supply gap will continue to exist.
Green energy is a long-term development process and cannot replace traditional energy in a short period of three to five years, as has been very evident in recent years. Therefore, this will lead to a significant increase in the status of commodities in investment portfolios for many years to come.
In fact, if you check the asset allocation of many sovereign funds in various countries—some sovereign funds will publish their annual reports—you will find that the trend is very obvious; the proportion of physical assets, commodities, and gold is definitely increasing.
In recent years, sovereign funds have been very fond of equity investments, but now this proportion is declining.
So what can individual investors buy? The following is not investment advice; it is just what I am currently paying attention to, some of which I may have already bought related to upstream commodities.
This includes Chinese assets; there are actually quite a few upstream-related ETFs in A-shares. Regarding A-shares, I am not particularly encouraging everyone to buy individual stocks because these individual stocks have their own issues. In fact, I do not fully understand the research framework and the entire logical thinking of upstream, especially regarding cyclical stocks. It is very different from traditional consumer stocks and tech stocks. Cyclical stocks are a special category and are closely related to futures. Therefore, if you really want to allocate this type of asset in A-shares, I suggest buying some index ETFs.
In the Hong Kong stock market, I have been holding some good individual stocks, so I believe my allocation in Hong Kong stocks is sufficient. I won't name them here. However, I believe you can think of who the leaders are in the oil sector, who the leaders are in the coal sector and utilities. In fact, there are only a few.
So what can be focused on in the global asset market? There are many ETFs related to green energy in the U.S. stock market—why buy green energy ETFs? Because they represent the direction of the future and are also a type of energy sector, and a more efficient productive asset. Therefore, green energy is still worth paying attention to. Of course, another point I like is that it has dropped a lot in recent years.
There are also some lithium-related ETFs. Because they buy global lithium, while in China, you can only buy Ningde Times—I believe the risk of a single stock, no matter how good Ningde Times is, is relatively large. If you want to buy a basket of global lithium stocks—I think lithium itself is not a problem, and its importance will definitely increase in the future—then you might as well look at lithium ETFs in the U.S. stock market.
There are also some global natural resource funds. Be sure to buy natural resource funds, as they align with the trend of physical assets and naturally scarce resources that we just discussed.
That said, this also exposes my character flaw. Like most investors, I particularly dislike cutting losses. Because the performance of Chinese assets in September was really terrible, I originally wanted to gradually shift some positions in the CSI 300 index funds to the types of assets I just mentioned, but the progress has been very slow, and I am reluctant to cut losses.
I set a goal for myself to increase the position related to upstream resources from the current approximately 5% to around 10% within this year—after saying so much, it only accounts for 10%, and many friends will definitely criticize me. However, for someone like me who focuses on asset allocation, increasing a 5% position is already a very important investment decision. I have also invested a lot of time and research to make this decision.
I have already shared the entire logic with you, but the trigger was Xiao Xiaopao's article, which is also a story I want to end this podcast with.
This story is actually the title of Xiao Xiaopao's article; do you remember? I just mentioned it and then skipped over it. It is called “What Should I Do in Illyria?”
What does this mean? It is actually from a work by Shakespeare called Twelfth Night, and Xiao Xiaopao shared part of it in the article. This work describes a pair of siblings who encounter a storm, their ship sinks, and the sister survives, washing up on the shores of a country called Illyria.
When this sister opens her eyes on the beach and finds the ship is in ruins and her dear brother is missing, what should she do?
At this moment, Viola's choice is to look at the captain and ask which country this is. The captain says this is Illyria. However, Viola does not ask any further questions; she simply inquires, “What should I do in Illyria?”
In other words, she does not seek the captain's answer on what to do, nor does she try to deny or escape the situation.
She quickly realizes that this is a completely different world, and she can no longer return to her previous normal life. Therefore, she knows three things:
First, she must survive. Second, forget the past and inertia. Third, do not forget her identity in the new game.
Thus, in Shakespeare's story, Viola stays in Illyria, even disguising herself as a man, finding a balance between survival and her new identity, ultimately reuniting with her brother and finding love.
For us, if you agree that we are entering a new macro paradigm, what should we do? How can we quickly adjust our thinking, whether in personal life and career or in our asset allocation, to adapt to the new world?
IV
This topic will be closely related to last week's topic.
Last week, we discussed an important issue: the significant judgment that we are entering a relatively high interest rate environment.
After recording, I felt that many things were not explained particularly clearly.
Since this is a very important judgment, I need more time to share the underlying logic and foundation with you.
For example, why are we entering a sustained high interest rate environment? If this is the case, why do the vast majority of institutions and individuals still expect the Federal Reserve to cut interest rates as soon as possible and return to low interest rate levels? And if this is the case, what should we individual investors do? These questions need further elaboration.
Before we begin, I want to discuss a question about grand narratives.
Because I have been talking about grand narratives in these two episodes, I have a certain preference for them. Recently, a popular private equity big shot published two articles online that received a lot of attention. In these articles, she described her resolute judgment on the U.S. dollar and U.S. Treasury bonds, along with some conclusions.
When I saw these two articles, I was very surprised. First of all, I have no prejudice against this investment big shot; in fact, I admire her very much. Because I have friends around me who have invested in her products, she is indeed one of the few in China who has performed well in investment and is willing to express her views in public, and her expression is very fluent, and her writing is excellent.
In fact, investment managers who possess these qualities are very rare. Most of the truly high-performing big shots do not want to speak much in public, while those who are willing to chatter here are often like me, who dare not go out and make products. So I have always read her articles and viewpoints.
However, after this series of articles was published, I shared them in my circle of friends and said, “If you are being kidnapped, just blink.” Because, regardless of whether the final conclusions are particularly grand or righteous, the more core issue is that the logic inside is difficult for me to understand—it is very jumpy, and there are many places where small data points and some small logic lead to a big conclusion. Moreover, many historical retrospectives mainly rely on data and curves, but ultimately draw very decisive conclusions, which I can even call arbitrary.
The whole thing left me puzzled, and I even thought about recording an episode to discuss with her. But later I thought this might be misunderstood by many people as trying to ride the wave, so I gave up.
But this incident sparked my thoughts about how grand narratives should be expressed to be convincing and who is more suitable to express them.
Recently, I revisited a series of memos by Howard Marks and found that in a memo he wrote at the end of last year titled “Sea Change”, he mentioned that we will enter a high interest rate environment and attached a series of his reasons and thoughts.
First of all, this investment god is someone I trust and admire very much. Secondly, his thinking pattern or entire logic is actually a form of grand narrative, but the content he presents is indeed convincing.
I want to first introduce Howard Marks to friends who are not in our industry. Because people in this industry may know him, and everyone often reads his memos.
He is a legendary institutional investor focused on distressed assets. Therefore, he is not as famous as Buffett or Munger. Compared to another hedge fund big shot, Ray Dalio, who has become more public in recent years, Marks's investment performance is relatively more stable.
Although Howard Marks may not be very well-known, in my opinion, he fits the criteria I mentioned earlier—strong investment performance, willingness to express his views publicly, and his writing is very understandable and brilliant.
He founded an investment firm called Oak Tree Capital in 1995. To date, the total assets under management have reached about $160 billion. In fact, I have an investment in an overseas private equity FoF, part of which has invested in a product under Oak Tree Capital. I have been invested for about five to six years, and I have been continuously monitoring several products that FoF has invested in. It is evident that Oak Tree Capital's performance is indeed superior to other institutions, and its investment performance is solid.
On the other hand, Mr. Marks has been writing memos since 1990, and it has been over 20 years, and he has been prolific. I once translated memos for a while, and it was certified by their institution. But now their institution has taken over and has an official translation version, which you can find on Oak Tree Capital's official account.
I was also fortunate to have close contact with him many years ago when he was already in his 70s, but still sharp-minded. I attended his interview and was deeply impressed. Of course, I heard that he has recently been diagnosed with throat cancer, and I hope he is doing well. He is indeed a very legendary institutional investor.
The reason I mention Mr. Marks and his memos is that before we get into today's main topic about the high interest rate environment, we need to further supplement how he conducts grand narratives and what kind of experience he believes is necessary for making such macro predictions.
In a memo he wrote in June this year, he mentioned that in the past 50 years, he has only made five predictions. The first prediction occurred in 2000, during the dot-com bubble, when he had already been working in the investment industry for nearly 30 years.
In other words, although there were moments worth commenting on before that, he believed that only in 2000 did he gain the insight and experience needed to recognize that the market was in an extreme state and an overly bubble state.
Therefore, at that time, he made his first prediction, which was that the tech bubble was already very fierce and about to burst. This was also a judgment that made him famous.
In addition, he provided a supplementary example regarding his third prediction.
What was the background of the third prediction? If you are not familiar with that time, you may not know that before 2012, the S&P 500 was in a very similar state to the current A-shares, that is, it had not risen for more than a decade.
In fact, from 2000 to 2011, the entire S&P 500 index was basically flat, although it experienced significant fluctuations, including the financial crisis and some previous bull markets, but after more than a decade, it had not moved at all, with an average annual return of only 0.55%.
Therefore, in 2012, he wrote an article to elaborate on this viewpoint. At that time, many people believed that stocks had lost their meaning, and this era needed alternative investments, including private equity and hedge funds, while traditional long positions in stocks were no longer viable. He wrote an article to refute this viewpoint, which was his third prediction.
In that article, he quoted a famous article from 1979 in U.S. Business Week titled “The Death of Equities.”
That era was similar to the state in 2012, where stocks had not performed for many years. Because before 1979, there was high inflation and an oil crisis, and stocks performed very poorly.
The main idea of “The Death of Equities” was to hope that everyone would no longer pay attention to stocks, that this thing was dead, and that they needed to look for more other investment assets.
Mr. Marks now reflects on the article he wrote in 2012 and his thoughts when he saw the “Death of Equities” article in 1979, stating that he did not find that there was a significant error in that article in 1979. The reason is simple—because he had just entered the industry for ten years at that time, so he did not have the experience needed to identify the errors in that article, nor did he have the rational stance and contrarian thinking to refute the viewpoints in that article.
It took him thirty years to acquire the abilities and thinking framework mentioned earlier. Therefore, in 2012, he grasped the public's erroneous belief that stocks had no value—despite the COVID-19 pandemic causing the U.S. stock market to crash, the overall annualized return of the S&P 500 actually exceeded 10%.
What do these stories illustrate? Mr. Marks humbly states that this shows that recognizing patterns is a very important part of an investor's work; however, this seems to require a lot of practical experience and lessons learned, rather than just theoretical discussions.
But in my view, a very simple conclusion is that if you don't have the right tools, don't take on delicate tasks.
In other words, I am not saying that we relatively young people or friends who have worked in this industry for 5, 10, or even 20 years cannot make macro predictions and market judgments. But please maintain a humble attitude, respect the market, and recognize that what you actually know is limited and that you need to know more.
In this case, we should rely more on those old-timers who have been in the market longer. Because finance is a discipline of experience, there is no phenomenon of older people being outdated or behind the times. In fact, most of the time, it is the opposite; their personal experiences in the market allow them to tell grand narratives not only based on data from books and others' comments but also on their true perceptions.
Although I believe that reading more and absorbing information can partially compensate for this experience, to survive in the market long-term and make more accurate predictions and judgments, experience is still more important.
Therefore, in the entire logical chain that I will discuss regarding the higher interest rate environment and how we should respond, I finally found a true big shot endorsement beyond CICC's report, Xiao Xiaopao's article, and my own series of research, and that is Mr. Howard Marks.
V
Now we officially enter the second part.
Many of the contents I have included actually reference a series of memos by Mr. Marks over the past two years, including some of his interviews. If you are interested, you can read this series of articles.
So how can we organize the logic of the content discussed in the last episode more smoothly? I think it should be expressed this way: First, we need to understand what happened in the past 40 years, then discuss what has changed now, why most people have not recognized it, and finally how to respond.
Our second part will basically unfold along this logical chain. Although some of the content may overlap with the last episode, I will approach it from another angle, drawing on Mr. Marks's many thoughts to help everyone understand the foundation and logic of this significant judgment.
So, what happened in the past 40 years? Mr. Marks believes that the most important event in the financial market is that the entire interest rate level has dropped from 20% in the 1980s to 0%.
This event did not only occur in the United States—he mentioned that the U.S. benchmark interest rate dropped from 20% to 0%—but globally, interest rates have been in a long-term downward trend.
He believes this is the most important event in the financial world over the past 40 years, without exception.
He gave a metaphor that I think is very apt, which I want to share with everyone. That is, the low interest rate environment or the continuously declining interest rates are like the automated walkways often seen in airports, which you should have walked on. Not only do airports have them, but many places in China do as well.
If you walk on the automated walkway, you not only have your walking speed but also the acceleration provided by the walkway, allowing you to walk faster.
For the past 40 years, we have actually been riding the fast train of low interest rates. We believed that economic growth, company growth, and rising stock prices all stemmed from our business capabilities and stock-picking abilities; however, we should acknowledge that the vast majority of the dividends come from the era, especially for stock investments, more from the dividends brought by continuously declining interest rates.
In fact, most people are unable to understand the attribution of performance here because interest rates have actually been in a fluctuating downward process over the past 40 years, sometimes even rising.
So whether it is quarterly performance or annual performance, it is difficult for everyone to attribute part of it to declining interest rates.
Recently, I talked with some entrepreneurial friends, and even now they look back and realize that their many achievements in the mobile internet era should be attributed to whom? Their own efforts or the dividends of the era?
Of course, their own efforts are very important. However, it must be acknowledged that the explosion of the Chinese internet population and the mobile internet population in the past decade has brought about a large number of enterprises' growth. This is an objective fact.
The same goes for investment. In Mr. Marks's view, a large part of the returns earned by investors over the past few decades comes from the significant decline in interest rates.
Now, let's break free from the metaphor and explore how declining interest rates actually benefit investors. In fact, it benefits both the growth side and the valuation side.
The benefits brought by the growth side are very easy to understand. Simply put, a low interest rate environment actually means that we, as lenders or savers, are subsidizing borrowers at our own expense.
You can imagine that if a company can obtain loans at interest rates of 4% to 5%, then there must be a group of savers who are saving at rates of only 2% to 3%, right? Because banks and financial institutions do not engage in unprofitable businesses, so the returns for these savers are very meager.
The result of this is that these companies obtain very cheap funding costs, allowing them to invest, including increasing inventory and hiring people. For individuals, consumer credit or mortgages are the same; because the costs are lower, they can consume more.
In fact, all of these things accelerate economic growth. After all, the lower a company's capital cost, the better its profitability, and these are all advantages brought by a low interest rate environment. It is actually us savers sacrificing our interests to subsidize these borrowers.
So why are savers willing to sacrifice themselves to subsidize others? Because there is no choice; the interest rate environment is just that low, and putting money in the bank only yields such low deposit rates, which is not what savers want, right? But it objectively creates this fact.
However, this has clearly begun to change significantly in the past two years.
The other benefit brought by the continuously declining interest rate environment is on the valuation side—this means that it lowers investors' expected return requirements for potential investments.
I recently opened a bank account in Japan and was deeply impressed. The one-year fixed deposit interest rate in Japanese banks is basically 0, while some banks offer deposit rates that are 50% or even double the rates of others to attract depositors. What are these rates? 0.5% or 0.6% annual interest rates.
This is unimaginable in China. However, in the past years, before the Federal Reserve began raising interest rates, this situation occurred not only in Japan but also in most developed countries globally. So in this case, what is the mindset of investors?
If I keep my money in the bank, I can only get a return of a few tenths of a percent, and sometimes even experience negative interest rates, effectively paying the bank interest. Then I might as well do equity investment; even if I can't make money now, that's okay. I can leave the money with you for 5 or 10 years, and in the future, I might make money.
Moreover, the requirements for stocks will also decrease. A dividend yield of only 3%? That's fine; 3% is still better than what I can get in the bank, right? This way, the entire market will raise the reasonable valuation of stocks and these equity valuations.
Therefore, the entire low interest rate environment has jointly created the thriving equity market and financial market ecology over the past few years from both the growth and valuation aspects.
VI
So, what has happened now?
Mr. Marks mentioned that those who started their investment careers after 2008, or like me, who started a year or two earlier but not much earlier, will think that the current interest rates are already very high, rising to 4% or 5% is extremely high.
However, if we extend the time cycle and look back over the past 20, 30 years, or even longer, the current interest rates are not high, and there is no obvious reason to believe that interest rates should be low.
Because not long ago, we were still discussing that zero interest rates or low interest rates were extraordinary measures to stimulate the economy, weren't we?
So when the economy no longer needs such stimulation, why should there still be ultra-low interest rates? At that time, we clearly thought that was a once-in-a-century situation.
What has happened in recent years is that the speed of interest rate increases has been too fast, and for most investors, they have not reacted in time; the Federal Reserve's benchmark interest rate has reached around 5% in just over a year.
So, in fact, for the pricing of many assets, as I discussed in the last episode, they have not yet freed themselves from the previous consensus game. People's inertia thinking is still based on the ecosystem played when interest rates were low, whether it is equity investment or the continuous influx of low-cost funds, all still follow the rules of the previous paradigm.
So what does Mr. Marks believe the interest rate level should be? The Federal Reserve will not take a stimulating stance indefinitely, right? This is something everyone knows. So what is the normal interest rate level that is neither stimulating nor tightening? Currently, the neutral interest rate is around 2.5% to 3%.
In other words, even if we believe that the current benchmark interest rate is indeed high, we should not pursue or expect the Federal Reserve to lower interest rates back to 0%, but rather that it will likely fluctuate or maintain around 2% to 4%.
But what does this mean? In fact, I believe that most investors have not realized this because we have not seen a financial market where interest rates remain at 2%-4% for a long time; this may be something we have not encountered in the past decade or so.
The next question is, why should interest rates be maintained at this level?
In fact, we briefly discussed this issue in the last episode. I believe that for a long time to come, inflation may continue to be relatively high and is unlikely to decline significantly.
In this episode, I will re-organize the reasons for this issue from another angle.
In fact, I personally and many studies believe that the three most important points are things that everyone has already realized but may not be able to quantify their impact.
First, I personally believe that the slowdown or reversal of globalization is the most important but also the most difficult factor to quantify. Although everyone is now aware of this issue, how much impact does it have on inflation?
Mr. Marks provided a reference indicator: during the 25 years from 1995 to 2020, the prices of durable consumer goods in the U.S. fell by 40%. What are durable consumer goods? They are products like clothing and cars that are not related to current technological developments, as opposed to computers and smartphones.
A 40% decline means what? Of course, this is due to cheap imports, right? Whether it is China's world factory, the four little dragons of Asia, or some imports from Southeast Asia now, this price decline actually means an annual inflation rate of about 0.6% has been absorbed by globalization factors.
The simplest calculation is that when the globalization dividend no longer exists, the annual inflation rate will at least rise by 0.5% to 0.6%. But I even believe that the actual impact may be greater than this.
Because in the process of de-globalization, many original factors will shift from tailwinds to headwinds, which will actually bring greater inflationary pressure.
The second obvious reason is that too much money has been printed in recent years, which everyone knows, right? Since the 2008 financial crisis, global central banks have begun to adopt a money-printing model, one round after another. Originally, it had started to shrink before the pandemic, but the pandemic intensified the money-printing efforts.
We can use a number to objectively feel how much money has been printed, which is the Federal Reserve's balance sheet. Before the 2008 financial crisis, it was less than $1 trillion, and now it has risen to nearly $9 trillion, an increase of nearly eight times. Currently, it accounts for over 30% of U.S. GDP.
Printing so much money requires appropriate outlets. During the pandemic or when the economy is not doing well, the money multiplier may decrease because everyone is deleveraging. But when the economy returns to normal levels, the money that has been sprinkled in the past will bear fruit, which means inflation.
This is also a very obvious reason why inflation will persist longer than people imagine. After all, in the face of a once-in-a-century pandemic, central banks did not conduct fine calculations. Now everyone believes that including Biden in the U.S., the aid bill back then clearly overstimulated the economy. But at that time, you had to do it because if you didn't, you wouldn't know what negative impacts it would bring at that time.
The third issue is something that people may feel more deeply recently, but I won't elaborate on it here, which is geopolitical issues. Geopolitical tensions are clearly in an active period, and this activity has not decreased but may even intensify. This is likely to lead to fluctuations in commodity prices, including an increase in uncertainty.
So do you think that professional investment institutions are unaware of these factors and logic? Of course, they know. So why are people still expecting the Federal Reserve to re-enter the interest rate cut path next year—or the sooner, the better—and quickly return to low interest rate levels?
The reason is simple: as Mr. Marks wrote in his memo, if you entered the investment industry in the 1980s—in fact, in China, there is basically no one who entered the investment industry in that era; the earliest batch of investors should be in the 1990s, and for the vast majority of people, they probably entered the industry after 2000.
Everyone has experienced a downward interest rate cycle, a very low interest rate environment, so they tend to believe that this has been the normal state that has lasted throughout their entire career, even longer than my career, and that we should continue to be in this state in the future.
Therefore, once the Federal Reserve begins to raise interest rates, exceeding our comfort zone, people will instinctively hope that this will return to normal, which means lowering interest rates back to the levels we recognize, which would be a comfortable state.
But will this matter necessarily proceed according to everyone's thought patterns? If this consensus game is broken, when will people be able to change their thinking to adapt to the new normal? This question is something we are contemplating, and it is also a question that many professional institutions are pondering.
VII
Now, let's discuss the last question: what should we do?
Before that, I would like to share two detailed explanations from Mr. Marks in his memos regarding this issue, which I think are very brilliant.
First, in real life, things usually oscillate between quite good and not so good.
In other words, it is difficult to have absolute perfection or flawlessness, nor will it be so bad that one cannot survive; these two extreme states rarely occur.
I think this is also easy to understand; our daily lives are like this. Regardless of good or bad, we have to muddle through. In fact, the vast majority of the real world is like this.
We often see good export data in the news, but then tomorrow we see that the employment situation is not so good; these are all within the normal range of oscillation.
However, the perceptions of people in the investment and financial markets often swing between two extremes. It is either perfect and flawless, and the industry is about to thrive, or it is utterly hopeless, and the market is completely beyond saving. They are always oscillating between these two extremes.
Take interest rates as an example; if interest rates remain at 4% or 5%, it seems to be a catastrophic event in the eyes of investment professionals. This would cause many models we built over the past few years to fail, so it is a low-probability event, akin to a black swan.
However, in the reality of the past four or five decades, this itself has been a norm. Investment professionals need to spend a long time realizing this issue and gradually adapt to reality.
Therefore, Mr. Marks believes that in many of the memos he has written, he has stated that no one knows where the future will lead—this is just like the name of Meng Yan's podcast program—but we need to understand where we currently stand and what the current state is.
We need to perceive and understand the market temperature and what changes are happening in the market.
If you can recognize, like me or Mr. Marks, that the current market environment is different from the past ten years or even the past 40 years, and that this difference may continue, then the basic conclusion we can draw is that the investment strategies that performed very well in the past may no longer be applicable in the coming era, and this consensus or reality may gradually become everyone's consensus.
At the end of the last episode, I gave everyone several suggestions—actually, they were not my suggestions but those from the CICC research report.
Including broadening the asset spectrum—why broaden the asset spectrum? Why should we pay attention to more assets? Because the equity assets that have performed well in the past few years are expected to have declining long-term returns, and we must lower our expectations for them and supplement more types of assets.
Additionally, it includes purchasing upstream resource industries, etc.
In this episode, I can add a viewpoint from Mr. Marks for everyone's reference—he believes that interest rates will remain high, so people will increasingly be willing to hold fixed income assets in the future.
This is a viewpoint that is not new yet also very fresh.
Why do I say this? Because in recent years, Chinese investors have not been keen on fixed income assets. It is very simple: there is a ceiling above and no floor below.
Since it is fixed income, the highest yield you can get each year is limited. In China, bond yields are at 3%, 4%, or even 5%. I am not only referring to treasury bonds but also many corporate bonds. However, once defaults occur—there have indeed been more and more in recent years—it may lead to a loss of principal, which is not just a yield issue.
This risk-return "mismatch" in assets is actually something that people dislike.
The same goes for overseas, as the interest rates are lower there, so the yields that these fixed income assets can obtain are also lower.
But has anyone considered this question? In fact, the recovery rate of fixed income assets or bonds is always higher than that of equities. For example, if you observe the current situations of Evergrande and Country Garden, their bonds indeed carry default risks. Bondholders are also struggling, but bondholders with higher priority in repayment can treat their bonds as distressed assets and sell them to obtain some residual value.
However, for the shareholders of these companies, the stock prices have already dropped by 90% or even 95%.
Who suffers more loss between the two? Has this changed from the logic of the past period?
So once the neutral interest rate level—I mean globally, not just in China, which will be a little different.
But if you look at the U.S. or other developed countries, their interest rates have returned to a so-called normal level of around 2% to 4%, in fact, there will be more credit tools, such as bonds, acquisition loans, etc., which are well-known in the private equity field but are difficult for ordinary investors to access, may return to the view of institutional investors, including high-net-worth individuals.
They do not necessarily have to go through equity investments to achieve an annualized return of around 10%. They might obtain similar returns through credit tools, but the risks they bear are much lower than those of equity investments.
Of course, I believe Mr. Marks does have some biases in this matter, as his company mainly engages in distressed asset investment and bond investment.
But I think the logic is smooth and coherent. If buying U.S. Treasury bonds can yield 5% a year, then I will certainly be more cautious about buying stocks because I am uncertain whether they can bring such high returns in the long term.
Of course, many articles now still tell you that stocks have annualized returns of 8%, 10%, etc. But we also need to see that the S&P 500 had a decade of zero returns from 2000 to 2011, and in China, it is even more so; if you invested in broad-based indices during those years, you would basically have a very low return level.
So if fixed income products can bring higher yields globally, why not allocate some to those? I think this is also a very worthwhile question for everyone to consider.
Finally, Mr. Howard Marks has repeatedly shared his investment principles, and returning to our discussion of grand narratives, one of his investment principles is to make investment decisions not based on macro predictions.
Yes, this directly overturns what we just said, or it seems to be somewhat contradictory.
But I believe it is not contradictory. What he means by making investment decisions not based on macro predictions is this:
First, we should not make a lot of predictions. In other words, unless the market is in a very extreme state or undergoing significant changes, we should not make predictions. Because predictions are indeed very difficult.
What we need to do more is to perceive, observe, and understand the current state of the market.
For us inexperienced investors—I still position myself as a very market-respecting investor—if I were to make predictions, how should I operate? First, I have my observations, and secondly, I will understand what the real big shots have made in terms of judgments and predictions.
What I have found now is Mr. Howard Marks's viewpoint, which is based on a perspective that, although it can be said to be a platitude, is correct because it is a platitude: he believes we will not see interest rates drop by 2000 basis points again.
What does it mean for interest rates to drop by 2000 basis points? It means that the U.S. benchmark interest rate dropped from 20% in the 1980s to 0% in the 2000s; that is 2000 basis points.
Will this happen again? He believes it will not, and I also believe it will not, at least not in the many years to come.
If we base our asset allocation on this judgment—I believe it should not be called investment decision-making—then there will actually be many actionable points.
Finally, I want to leave you with a sentence: if you believe that the melody of this world has truly changed, then you must forget the past and inertia, and quickly adapt to the new world.
This applies not only to our investments but also to our own lives.
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