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We’re in a Manic Bull Market. How Long It Might Last

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David M. Brenner, ChFC®, CLU®

D. M. Brenner, Inc.
Phone : (858) 345-1001
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What’s ahead? Many geopolitical analysts expect a bifurcated planet organized around U.S. and Chinese interests. Not so for Marko Papic, chief strategist of Clocktower Group, who sees a return to a 19th-century system in which nations act solely in their own interests, and allies become frenemies.

This is part of a framework that Papic cheerfully calls the Race to Zero, in which the Industrial Revolution’s attempt to achieve scale, which created waste and contributed to a changing climate, will be reversed. To form his view, the Belgrade, Serbia, native relies on constraint-based analysis, described in his recently published book, Geopolitical Alpha. For example, he analyzed the multiple constraints that confront policy makers such as the late Fed chief Paul Volcker, who, in Papic’s view, pushed the U.S. economy into two recessions. Read on to learn more about Papic’s expectations and how the markets might behave if he’s correct.


Barron’s: How does the constraint matrix work?

Marko Papic: There’s too much focus on policy makers and their preferences. We, as investors, have very limited skill sets or information to get inside their heads. But we’re very good at assessing the objective reality that constrains them. Policy makers’ preferences are optional and subject to constraints, whereas constraints are neither optional nor subject to preferences. So we need to create an assessment of all the constraints they have to navigate—macroeconomic or financial. In the emerging markets, if your bond yields are shooting up, you probably have to raise interest rates, because of the structure of the economy, or for geopolitical or military or legislative reasons. That constraint matrix allows us to forecast the future with 55% to 60% success.

In the book, I talk about legislative math. Does the government in charge have the political math to push through a certain piece of legislation? Or do they need a coalition partner? I give lots of examples, such as Brexit. Among the biggest constraints are finance, economic, and trade relationships, things investors are extremely good at assessing.

For example, the past 30 or 40 years weren’t about Paul Volcker, or the great moderation, or bond yields going lower. They were a symptom of politics and geopolitics. That’s a jarring statement for the financial industry, which worships Paul Volcker. My chocolate Labrador would have done what he did. The median voter has forgotten the whole narrative that, before Volcker, there had been 10 years of disastrous outcomes for them, of the folly of demand-driven policies. The process culminated in the ability of an unelected technocrat to induce two recessions on the American public. That’s something we need to really think about. In the past, American hegemony, globalization, the Washington consensus were enormous tailwinds that favored investors. Now they’re reversing.

You call our current era the Rabid Twenties, as opposed to the Roaring Twenties. What do you mean?

Manic. Political risk will be exacerbated. You will see more volatile outcomes than once thought possible. The Rabid Twenties are the culmination of the previous decade, where secular stagnation was the main theme. We had a very prolonged recovery that accentuated income inequalities and political problems in different countries. The U.S. stands at one end of the spectrum in terms of the populist narrative. The slow pace of growth has really exacerbated political cleavages and created a really volatile political situation. For the 2020s, it will motivate most political issues. You will see policy makers react, both Republicans and Democrats.

Social unrest is bubbling to the surface in the U.S. and across the developed world. That’s the No. 1 risk to investors, because it could overshoot. We will see an acceleration of policy making with the intent of generating nominal GDP outcomes. It will be very much focused on domestic policies.

What is replacing the Washington consensus?

The Buenos Aires consensus. The Washington consensus is a set of best practices for macroeconomic policy making, established for the Thatcher and Reagan revolutions: free trade, privatization, deregulation, orthodox monetary policy, countercyclical fiscal policy. They were rooted in the 1970s, in the shock of the failure of demand-side policies at the time, and also in U.S. dominance after the Soviet Union began its slow collapse. The Washington consensus was propagated by the International Monetary Fund and the World Bank. Every one of these policies will be reversed.

What country exemplifies what I’m talking about? Apparently, left-leaning politicians had meetings in the late ’90s and early 2000s that they called the Buenos Aires consensus. It is fundamentally about generating growth through a combination of unorthodox fiscal and monetary policies, a macroeconomic regime demanded by the median voter who neither remembers nor cares about the downsides of inflation. It breaks with the intellectual hegemony in the U.S. that the government has no role in generating growth.

When Covid-19 hit, it was really difficult to convince institutional investors that the fiscal response we were about to witness would dwarf anything like it in human history. Then we started seeing Phase One, Phase Two, Phase Three stimulus. The Buenos Aires consensus framework helped us get really, really bullish early last year. I think the median voter in the U.S. is quite comfortable with unorthodox policy, to a level that 90% of investors are oblivious to.

What’s your new geopolitical framework, the Race to Zero?

It’s the opposite of the race to scale, which was the Industrial Revolution. It is the race to efficiency. Other trends will accelerate it. First, the Buenos Aires consensus. This new dirigiste economic model is searching for a problem to solve. Climate change and sustainability are as good as any we’ve ever had. Europe had a green deal before the U.S. China is doing the same. The U.S. will do the same under the Biden administration.

The Race to Zero is actually profoundly irrelevant for national security, because countries become far more geopolitically sovereign. Taken to its logical conclusion, it will mean far less imports and far less constraints to pursuing one’s national interests. That realization is starting to dawn on policy makers as well.

In three years, when the 2024 presidential election campaign is being waged here in the U.S., I can guarantee that the Republican candidate is not going to hold up a piece of coal and say, “We need to save the coal industry.” Instead, that person will have a narrative that we have a battery gap, just like we had a missile gap with the Soviets. That’s a confluence of geopolitical national interests, populist needs to generate GDP growth, and the availability of revolutionary technologies all coming to a head in an epochal transition away from the race to scale.

What are the risks for investors?

One, inflation surprising to the upside. Two, policy makers not reacting to inflation in the way that most investors expect. The bond market has largely taken the Fed’s view—that inflation is transitory—to heart. Longer-term measures of inflation expectations, such as the five-year forward, are lagging. This suggests that the market continues to price in the last cycle, one defined by orthodox monetary and fiscal policy.

Another risk is an energy crisis. If you’re a large energy major, not only have prices been low for six years, but you also have ESG [environmental, social, and corporate governance] and sustainability [pressures]. Who’s going to drill deepwater wells and do difficult fossil-fuel extraction projects? In America, we’re too parochial and focused on shale. Shale isn’t enough; you need difficult multidecade projects. One risk is that oil goes to $150, and policy makers encourage it because it will speed up adoption of electric vehicles.

What about China?

The time to be alarmist about China-U.S. relations was in 2011-13. Investors are extrapolating the past 10 years, which bifurcates the world into two zones. I don’t think we’re in that world. We’re more in a 19th-century multipolar world, where it’s very difficult for a country like the U.S. or China to keep their allies in check. If France is selling Airbus airplanes to China, America will be compelled to sell Boeing airplanes to China, lest it give up considerable potential economic growth, which of course is a basis for geopolitical power. In the 19th through early 20th century, the U.K., France, and Russia traded with Germany—their military enemy—because they couldn’t trust each other. A similar dynamic is happening here.

A lot of American policies rooted in the Cold War, such as strategic ambiguity, don’t make sense in a world where two countries are clearly rivals. I expect a crisis at some point between the U.S. and China, but it won’t impact capital and goods as much as people think. The appetite for exporting to China by institutional investors will continue; so will the flow of capital.

What does this mean for investors?

We’re in a manic bull market that will be much faster than the last cycle. The last cycle was a Charlie Brown cycle. Nobody was ever enthusiastic about anything. This time around, sitting on the sidelines and being prudent is imprudent. This cycle could last two to three years. At some point, it will exhaust itself. You could have a fiscal-cliff recession or an inflationary overshoot, where the Fed has to raise interest rates. But until then, it’s a Buenos Aires bull market that will favor non-U.S. assets, emerging markets, commodities. It’s high growth, high inflation. In that context, equities do well, but commodities and emerging markets do the best. And I’m a bear on the dollar

. That’s the next two years.

Thanks, Marko.

David M. Brenner profile photo

David M. Brenner, ChFC®, CLU®

D. M. Brenner, Inc.
Phone : (858) 345-1001
Schedule a Meeting