Inside Investment: Let’s face the music and dance
Hyperactive policymakers have been dancing a frenzied tarantella but the mournful strains of the tango can be heard in the distance. Investors would do well to prepare their portfolios before the jig is up.
Music often reflects the spirit of a time and place. This thought occurred to me when reading recently in the Financial Times about the Finnish fascination with their adopted national dance and song style, the tango. The tango is melancholy. The great Finnish tango songwriter Trivo Kärki’s hits include ‘Therefore I am sad’, and ‘Such is the journey of life.’
Other dances have other moods, however. The waltz of the second half of the 19th century is redolent of confidence, energy and discipline. The twist, popular in the 1960s, reflects freedom, ease and lack of discipline. Another dance, the tarantella, is known to have existed in the region of Taranto, in the heel of Italy’s boot, from at least the 11th century. Legend has it that, when bitten by a venomous spider, the victim must engage in a frenzied dance to sweat out the poison and avoid death.
Thinking is hard, so we seek simplified concepts. Any system of classification is to a degree arbitrary. Michel Foucault once made reference to a mythical Chinese encyclopedia that classified animals as, among other traits, "belonging to the emperor", "embalmed", "looking like flies from a long distance" and "not included in the present classification".
We can use dance to classify economic periods and investment opportunities. (The Texas two-step, for example, goes a long way to explaining why that state has created over half the new jobs in the US over the past decade.) The dark, slow tango can be associated with a period of deflation and depression; the waltz with growth, organization and confidence; the twist with loose times, excess consumption and easy money; and the tarantella with a period of danger, disorientation and frenzied attempts to hold things together.
These four periods can also be associated with other images.
The waltz summons Victoria Gloria: periods of strong money and economic boom. Examples include the US in the 1815 to 1830 period, the so-called ‘era of good feelings’; Europe from 1850 to 1890; and Singapore from 1960 to 2000. Most assets are good in the waltz periods, including equities, bonds, real estate and cash.
The twist is symbolised by Carnaby Street: periods of weakening money but decent growth, driven by consumption above the sustainable trend rather than by investment. Examples include the US and the UK in the 1950s and 1960s when the teenager was discovered and turned on, tuned in and dropped out. Fewer assets are good in this period compared with the previous one, but they include equities, real estate and precious metals.
The tarantella is the music of Weimar woes: all good things must come to an end, alas. Almost all ends are bad. The self-indulgent twist era eventually bankrupts society, the currency becomes confetti. The result is intermittent recessions and increasingly easy money as authorities try to keep the party going. These are also periods of frenzied policy changes, excesses and mood swings. Examples include the US and the UK in the 1970s and again today, along with the eurozone. The best assets are precious metals and equities (preferably hedged).
The tango stands for Hoovervilles: tarantella dancers eventually collapse exhausted and liabilities are liquidated. (As Treasury secretary Andrew Mellon advised president Herbert Hoover at the onset of the Great Depression, "liquidate labor, liquidate stocks, liquidate farmers, liquidate real estate... it will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted and enterprising people will pick up from less competent people." Frightening thoughts). Money becomes scarce. Depressions occur in the Hoovervilles. Examples include the US and the UK in the 1930s. The best assets are cash, high-quality bonds and secure, income-producing properties.
The defining characteristics of each dance make the eventual transition to the next jig inevitable. The destruction of capital in the tango creates conditions where the marginal return on capital investment will be very high once growth resumes, leading to rapid capital formation and growth in the waltz/Victorian age. As capital accumulates the marginal return declines and investment becomes more speculative, leading to the twist/Carnaby Street binge of excessive consumption and growing debt. That dance must end eventually, leading to the Weimar tarantella, usually briefer than the others, in which desperate attempts to maintain standards of living may lead to government actions that inevitably produce economic collapse.
Now we are dancing the tarantella, although the melancholy strains of the tango can be faintly heard. The current generation of investors, just like deceased Colombian drugs lord Pablo Escobar, who was intoxicated and obsessed by the tango’s bitter-sweet charms, know that highs are often followed by crashing lows.
Central banks have largely abandoned the goal of protecting the value of their currencies in a futile attempt to promote economic growth. They practise financial repression with abandon, keeping interest rates on cash below the rate of inflation.
So where should we put our money? The tarantella/Weimar woes environment is a favourable one for equities and precious metals, although it is by its nature volatile. We all realize that the jig is up. May I please, please sit out the next dance!