terça-feira, 30 de dezembro de 2008

Financial Meltdown: Good Luck, Bad Luck, Who Knows?


Jim Kingsdale
Here’s a Chinese parable that I try to keep in mind.Chinese Word for Luck!
Good Luck Bad Luck!
A farmer used an old horse to till his fields. One day, the horse escaped into the hills and when the farmer’s neighbors sympathized with the old man over his bad luck, the farmer replied, “Bad luck? Good luck? Who knows?” A week later, the horse returned with a herd of horses from the hills and this time the neighbors congratulated the farmer on his good luck. His reply was, “Good luck? Bad luck? Who knows?” Then, when the farmer’s son was attempting to tame one of the wild horses, he fell off its back and broke his leg. Everyone thought this very bad luck. Not the farmer, whose only reaction was, “Bad luck? Good luck? Who knows? ”Some weeks later, the army marched into the village and conscripted every able-bodied youth they found there. When they saw the farmer’s son with his broken leg, they let him off. Now was that good luck or bad luck? Who knows?
The fact that a bad event can turn out to be good, and vice versa, is a useful perspective with which to view important moments in our lives, I think. Most of us have experienced this truth. For me, for example, there was a depressing time when I lost my job; soon afterwards an opportunity came my way resulted in my starting a company that led to far greater rewards than I would have had in the job that I lost.
There are good reasons why people simply accept what seems to be bad luck or good luck at face value. For one, very often what seems like bad luck or good luck really is what it seems. For another, it is hard to be philosophic in the face of a loss, especially a great loss. And for a third, who wants to try to find a gloomy side to what appears to be good luck? But I like to take the broader view of events when I can remember to do so because it can help get past the sadness of misfortune or avoid some foolishness that can result from experiencing some “good” luck.
What About Now?
It’s not immediately clear that the farmer’s story gives us a relevant perspective on this current financial meltdown as many of us contemplate substantial declines in our asset values. Most people have very strong feelings that the gaining of wealth is a good thing and the loss of it is bad. No Chinese parable is likely to convince us that it could be bad luck to gain a lot of wealth or good luck to lose it.
But consider this: I had a very good friend who came from modest circumstances, as we say, and who made a great deal of money in his 30’s. Well, my friend let his wealth get the better of him somehow. Unknown to anyone, perhaps even to himself, he apparently had an addictive personality. His new wealth led him to several addictions and ultimately to his untimely death. You’ve probably heard similar stories; it’s not all that uncommon. I guess if my friend could have known what his future would hold before he embarked on his quest for wealth he might have decided that making so much money so quickly truly would be bad luck for him.
Or consider Thierry Magon de La Villehuchet, the co-founder of an investment management firm that funneled money to Bernard Madoff. Unable to face his losses and/or those of his clients in Madoff’s scheme, he apparently killed himself. I’d be surprised if he were the only person to do that before this is all over. Might Mr. Villehuchet have chosen a different, perhaps less lucrative career if he had known the full implications of what his financial success would bring to him? I suspect he might well have said that the farmer’s story had relevance to his life.
Losing wealth is not a reason to rejoice but I do think there are some good reasons to welcome this bear market if we consider the larger picture of our society.
The End of Cheap Money: Good Luck or Bad?
In 1982, The New York Times Sunday Magazine ran a cover story on Paul Volcker, Chairman of the Federal Reserve Bank. The point of the story was that Volcker was declaring victory over the inflation epidemic of the 1970’s. Having raised short term interest rates to about 20%, Volcker was saying he was through with high rates, that rates should come down now because there would be no more out-of-control inflation.
What followed almost from the moment of that article was 26 years of nearly steady reduction of interest rates all the way down to 1% under Mr. Greenspan and now to zero in the face of our current problem, a potential deflation. Lower interest rates are almost always good for equity investments. Thus, the period 1982 - 2008 will mark one of the longest periods of abnormally high investment returns in the history of investing because for nearly the entire time the wind of lower interest rates was at the back of equity investors.
But the wealth-creating machine of lower interest rates was corrupted during the most recent part of this trend, 2002 - 2008, by the addition of unregulated and misunderstood leverage - - from LBO’s to CDO’s to MBS’s and so on. I would argue that the end of this period in our history should not be seen necessarily as bad luck.
In some ways it seems to me that our society has become like my addictive friend. Social values have been distorted by great wealth that has accentuated a variety of societal addictions. Though not unique to this time in history, money has increasingly influenced politicians who have granted legal opportunities to their supporters to make more money in ways that have turned out to be toxic to the system and have now led to its partial collapse.
So, for example, Mr. Schumer stops the Congress from reforming the clearly unfair favorable tax treatment given to private equity compensation (which is taxed at only 15% as a capital gain); the private equity folks heap debt on the balance sheets of companies, most of which were previously healthy; that debt eventually becomes untenable loans on the books of greedy bankers; the banks then must be bailed out by taxpayers in order to save the economy from the ruin that a failed banking system would cause. All a function of excessive greed - a value system gone awry.
And then we have the personal costs, beyond wealth. The promise of much fast money has led many of the most talented young people to forego life paths like medicine or science or teaching or research or public service in favor of investment banking or “quantitative” investing. One reason some do it is that the costs of education and houses rose so high that many new college graduates could hardly hope to pay off their college loans or own a home unless they chose a highly lucrative field of work. Thus both greed and the inflated costs of high-end living have pushed talented youths to pursue fields in which they learn nothing beyond how to make money out of money, producing very little if anything useful in the process.
Perhaps a serious economic downturn is exactly what America needs to regain a healthy work ethic that includes the idea that the rewards of work are in large part the work itself. It would have been better for us if the financial crash had come sooner because the damage would have been less.
Looking Forward
And here is something else to consider. Eventually the economy and the markets will recover. We don’t know if that will come in 2009 or in 2015 or some other time. Personally, I think it will come whenever it becomes clear that deflation is not dominating the economy, just as the last bull market started when it became clear that inflation was not dominating the economy. The personal finances of those who are able to manage their funds to coincide with the next bull market - and not the dangerous false rallies that draw more money into a bear trend - will do quite well.
So: Is the financial crisis we have entered into a good thing or a bad thing? I would argue that we might not want to try to answer that question quite yet. 

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