By: Hunter Hopcroft
Last week Neil, Noah and I spent Thursday and Friday in Charlottesville, Virginia attending the University Of Virginia Darden School Of Business Investing Conference. The focus of this year’s conference was political uncertainty, an appropriate theme as we look back on the past year and look forward to what is ahead. We heard from many speakers with a diverse range of backgrounds. Former Director of the CIA George Tenet spoke, as well as a host of hedge fund and pension fund managers. Hearing objective opinions from a diverse set of speakers was refreshing and sometimes sobering.
Here are the major themes we took away from the Conference:
This time is (not) different – In 2009 Carmen Reinhart and Kenneth Rogoff published a book titled This Time is Different: Eight Centuries of Financial Folly that explored the causes and aftermath of essentially every crisis since the beginning of functioning financial markets. Nearly every speaker drew heavily on work from this book. What we learned was that this time is not all that different from past financial crises. It was refreshing to learn that the world has dealt with these issues in the past and that what we are currently experiencing is not the end of the world as we know it. What was more troubling was that it takes an average of 10 years for the global financial system to work off the effects of a financial crisis, putting us a little less than half way through. The period we are in is typically characterized by high unemployment, social unrest, and slow growth as individuals, businesses, and governments reduce their debt loads.
Historically, it has required a specific confluence of factors to shock the system out of this malaise. Foremost, there must be a willingness to lend and demand for those funds. For this to occur there has to be a new and exciting investment opportunity. Speakers all speculated on what this opportunity might be and we heard theories ranging from natural gas to technological innovation. Finally, there is a rethinking of government’s role in markets. In some cases this has meant more regulation, and in others, less. So far it seems that following this crisis we will see governments playing a larger role in markets, which has its own set of consequences.
Europe and Japan are facing serious issues – This may seem obvious reading the newspapers or watching television, but many speakers indicated that the situation was far worse than even the news was reporting. Kyle Bass, a popular hedge fund manager and the Conference’s keynote speaker, gave a compelling presentation predicting, in his opinion, a cluster of sovereign defaults in Europe and a Japanese default within the next three years. Like the U.S., many European nations and Japan operate at a budget deficit, a deficit that they finance by selling government bonds. The market sets the rate at which these countries borrow. As the market begins to doubt a country’s ability to repay its debt, it increases the interest rate at which the country can issue new debt, exacerbating the crisis. Because of the extreme interconnectedness of our modern financial system, even small countries like Greece end up being systematically important. The common belief is that a collage of international institutions (the European Central Bank, the European Financial Stability Facility, and the International Monetary Fund) will at some point come together to avoid a major collapse; Kyle Bass feels that this belief will be tested in the coming months.
US Companies are the healthiest they have ever been – One very bright spot in the conference was a review of the health of American companies. Companies have more cash, less debt, and higher profit margins than ever before. This means that they are well positioned to grow when general economic indicators begin to improve. Moreover, on a relative basis, stock in these companies is historically cheap, potentially increasing long term expected returns. In light of all the uncertainty we aren’t viewing this as opportunity to go out and buy stock, but the amount of dry powder in the form of cash that companies have is undeniably positive moving forward.
The conference was an amazing experience and one that we look forward to making a tradition. While not every speaker presented a rosy view of the world, hearing truly objective analysis is invaluable in our industry. We know we can expect greater volatility over the next year as the world deals with excessive sovereign debt levels. What we cannot know is the precise timeline of events that will drive the markets. Now more than ever we must focus on building “all weather” portfolios that can transcend headlines and help avoid major losses.