I read an interesting article called “Global capitalism teeters on the brink.” Let’s listen in on some highlights:
The U.S. central bank is slashing interest rates, accepting piles of near-worthless securities from commercial banks as collateral for emergency loans, and pumping hundreds of billions of dollars into the economy. A problem that began last summer in the lowest-grade U.S. mortgage market has spread around the world, moved relentlessly up the quality ladder and sucked credit from the global financial system like oxygen from a flame. Each intervention by U.S., European, Japanese and Canadian central banks to stabilize the situation has been swamped by surprises that have escalated the crisis to a new level.
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What’s going on? Are we simply in the midst of another gut-churning fluctuation of a world economy that’s prone to intermittent volatility but that always seems to find its footing? Or are we glimpsing a deeper emergency, one that goes to the heart of modern global capitalism?
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The U.S. Federal Reserve’s latest efforts may stabilize markets for the time being; stock markets were sharply higher yesterday. But there’s reason to believe the crisis is the product of systemic problems in the world’s economy.
Three key factors – each operating and gaining momentum over decades – have come together to cause this crisis. The first is the sheer productivity of modern global capitalism. The world’s businesses, spurred by global competition and a never-ending race to boost productivity and keep costs down, excel at producing a steadily rising flood of goods and services. To ensure that these goods and services are bought and that factories and businesses keep humming, the global economy needs a constant infusion of liquidity provided by cheap debt.
Second, in the past three decades, a neo-conservative ideology that asserts markets are infallible and, as a result, disparages any kind of state regulation has come to dominate thinking about economic matters, especially in the United States. Alan Greenspan, the long-time Federal Reserve Board chairman until 2006, was an ardent advocate of this view, and it became an article of faith in powerful U.S. political and economic circles – not surprisingly so, since it justified letting economic elites pursue their interests with little government interference.
Third, enormously powerful computers and software, along with fibre-optic communication, have allowed financial wizards to conduct business transactions in the blink of an eye around the world and to create financial instruments – derivatives, swaps, structured investments and the like – of mind-boggling complexity. For all intents and purposes, these new instruments have blurred the boundaries of what we call money. Several decades ago, central bankers could sensibly talk about and, if necessary, control the money supply. Now, what counts as money isn’t at all clear, and many things that look and behave like money can’t be regulated.
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So the rules of the game have now changed. Our global financial system has become so complex and opaque that we’ve moved from a world of risk to a world of uncertainty. In a world of risk, we can judge dangers and opportunities by using the best evidence at hand to estimate the probability of a particular outcome. But in a world of uncertainty, we can’t estimate probabilities, because we don’t have any clear basis for making such a judgment. In fact, we might not even know what the possible outcomes are. Surprises keep coming out of the blue, because we’re fundamentally ignorant of our own ignorance. We’re surrounded by unknown unknowns.
Commentators and policy-makers are still talking in terms of risk. Markets, they say, need to reassess and reassign risk across securities and companies. But, in reality, markets are now operating under uncertainty. No one really knows where the boundaries of the problem lie, what surprises are in store, or what measures will be adequate to stop the bleeding. And the U.S. Fed is making policy on the fly.
We do know, however, that we’re not dealing with a liquidity problem. We face a massive solvency problem: Banks and investment firms aren’t so much worried about financing their next investment; instead, they fear for their survival, because core assets – particularly loans on their books – have been suddenly and dramatically devalued. In this environment, the tools available to central bankers may not work. You can encourage people to borrow by pumping money into the economy, but you can’t force people to lend.
If we really have moved from an era of risk to an era of uncertainty, then it becomes even more important how you handle your investments. In this complex world, it is no longer possible to assess fundamental events and come to a conclusion as to what to invest in.
I firmly believe that at the end of the day, there is only one number that will give you a reliable view as to where the market is at—and that’s the closing price. It can be measured for any asset class and a direction of that price trend can be charted. This is not to say that every trend will work out in your favor, but it’s the best tool to see where we’ve been and where we might be headed.
Using trends as a basis for your decision making will eliminate some of the emotional aspects of investing. If you look at it as a pure numbers game, you will have the proper mind set. For example, I have just read some stats of very successful trend followers who only pick 4 winners out of 10. The other 6 times they lose. The key here is to know that their winners are twice the size of their losers—and that is what makes a strategy survive the uncertainties of the market place.
