Don’t Invest With Blind Faith in Central Banks

— ‘While the [RBA] central bank expressed hope [emphasis mine] that economic growth would pickup gradually over the next few years, it noted that a lack of inflationary pressure and low wages growth would give it scope to cut the official interest rate “should that be appropriate”’.

Australian Financial Review, 16 February 2016

The insertion of the word ‘hope’ really says it all about central banking policies these days.

It has only taken seven years of failed stimulus policies for these theorists to realise their academic models are useless at predicting human behaviour and changes in attitudes.

With the dawning realisation that interest rate and QE levers have failed to deliver economic salvation, the last resort is hope and prayer.

If the much hoped-for economic recovery does not materialise, the RBA is softening us up for further rate cuts.

When we launched Gowdie Family Wealth in mid-2013, one of the bigger picture views influencing my model portfolio was that, in the near term (next 2–3 years), Australian cash rates could possibly fall into the sub-2% range as the global economy weakened.

Back then, the cash rate was 2.75%. Annual inflation was running at 2.5%.

The prevailing view at that time was the worst was behind us.

The central bankers had steadied the ship. China was the global economy’s white knight…all was good again.

The share market reflected this optimism. From mid-2013 to mid-2015, the All Ords rose nearly 25% in value.

My opinion, at the time, was that the economy was a pig with a lot of central banker-applied lipstick and rouge.

The crowd was convinced they saw Marilyn Monroe. The so-called ‘wisdom of crowds’ prevailed…for a while.

In recent months, however, harsh light of reality has revealed the central bankers’ porkies.

China’s white knight has turned into darker days. Markets are jumping at shadows. Worried about what nasties lie in wait from a world that is wrestling with contracting growth and escalating social unrest.

The dawning of this reality has the economic forecasters reaching for the white-out, pencilling in (yet again) lower growth figures.

In November 2015, the OECD forecast for global growth was 3.3%. It revised that figure down to 3% recently. Any bets on another downward revision in the coming months?

The academics are still struggling with a concept gaolers figure out centuries ago. Slowing global economic growth is due to the debt ‘ball and chain’ hanging around its neck. Nothing overly scientific or academic about this principle…

After decades of watching debt accumulation feed into economic growth, we now find ourselves in a world facing extreme pressure to maintain expectations…wages growth, asset price growth, employment opportunities, retirement incomes, social welfare promises, health care; all these things, and more, are weighing on the global economy.

For the past 40 years, the world has delivered ‘more’ of everything. We have become conditioned to the concept of ‘more’. Growth, for growth’s sake, is wired into our DNA.

However, very few people actually realise where this need for ‘more’ comes from. It originated from a financial system that figured out how it could turn one dollar of savings into ten dollars (or more) of debt.

No longer was saver and borrower paired off against one another. Borrowers hopelessly outnumbered savers.

More borrowers, with more money, created more growth. Simple.

But nothing stays the same forever.

Now those same borrowers need to dedicate more of their income to repay more of their loans, if they’re going to have any hope of prolonging their retirement. It’s dawned on them they need to save more.

Yet as consumers age, the concept of ‘more’ is reversing.

We may now see more debt defaults. More downward revisions of growth. More unemployment. More supply than demand. More social upheaval.

The prospect for the next few decades being completely different, from what we’ve become conditioned to believe, is what influences my thinking and investment choices.

What if the generally accepted concept of ‘tomorrow being better than today’ is not how the coming years play out?

What if the constant debt-infused inflation of the economic balloon has stretched it to the point where it can no longer expand? And what if it’s about to burst?

We in the West have a blind faith in the system functioning in a certain way. But what if that faith is misplaced?

Last weekend, I was reading the local Realtor magazine and came across an article titled ‘Equity can be earning’. The word ‘equity’ caught my eye.

With my inquisitive (some would say cynical) view of the world, it was the by-line, ‘Debt is not always a bad thing and if money tied up in house values is put to work it could mean you will end up with twice as much to retire on’, that made me want to read on.

Sounds simple, doesn’t it? Borrow against your home, and untold retirement riches await you.

Here I am thinking the last asset you would ever put at risk is your home…your family’s refuge, if all else fails. Not so.

Apparently, the considered wisdom is…

Instead of waiting to pay your first home off, why not invest now? Reducing your personal, non-deductible debt is a good thing. However, investing in a second or third property will often make hundreds of thousands of dollars more than the few thousand you’ll save in interest paying off your home.

Any downside to this strategy?

Not really. Provided ‘you buy median priced, blue chip properties in blue chip locations, and have the cash flow to hold on for the long term, it rarely goes wrong.

Rental income alone will not pay off a property, it only helps you service (some of) the interest cost.

So, do you ever pay these properties off, or do you just sell and realise the equity when you retire?

What if the market’s in a slump when you retire?

Nope — can’t see anything that go wrong with this strategy.

This article — which passes as informed opinion — is a prime example of the absolute faith we have in the system delivering more of the same forever and a day.

There is no way this ‘advice’ would have gained traction with my parents’ generation — the children of The Great Depression and World War II. Their experiences conditioned them to be more frugal, more cautious.

The irony is my parents’ generation was cautious when, in hindsight, they should have been cavalier.

They envisaged the road ahead was going to be one of continued austerity…how wrong they were.

Little did they realise how credit-crazed their children would become.

The strategy proffered in the article would have been prophetic advice 40 or so years ago. But no one would have listened.

In my opinion, the reverse holds true today.

While the article advocates re-leveraging, the world is shifting towards de-leveraging. Debt will be reduced voluntarily, begrudgingly, or forcefully from the system.

For the economy to make progress in the much longer term, it stands to reason the ‘ball and chain’ cannot get heavier, it must get lighter.

We are on the cusp of a major shift in the drivers of the global economy.

It’s time to open your eyes and see the world through the same lens as the frugal generation.

Now is the time to be cautious, not cavalier.

Investing on ‘a wing and a central banker prayer’ is a blind faith I do not have.

The wide-eyed cynic in me is going to take my father’s advice — ‘you can’t go broke if you own things’.


Vern Gowdie

Editor, Markets and Money

Vern Gowdie has been involved in financial planning since 1986. In 1999, Personal Investor magazine ranked Vern as one of Australia’s Top 50 financial planners. His previous firm, Gowdie Financial Planning was recognized in 2004, 2005, 2006 & 2007, by Independent Financial Adviser (IFA) magazine as one of the top five financial planning firms in Australia. He has been writing his 'Big Picture' column for regional newspapers since 2005 and has been a commentator on financial matters for Prime Radio talkback. His contrarian views often place him at odds with the financial planning profession. Vern is is Founder and Chairman of the Gowdie Family Wealth advisory service, a monthly newsletter with a clear aim: to help you build and protect wealth for future generations of your family. He is also editor of The Gowdie Letter, which aims to help you protect and grow your wealth during the great credit contraction. To have Vern’s enlightening market critique and commentary delivered straight to your inbox, take out a free subscription to Markets and Money here. Official websites and financial eletters Vern writes for:

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