transcript en timestamps

[00:00-00:11] As Sasha mentioned, it's been 25 years that we've been friends and professional colleagues,

[00:11-00:18] and so I look in the room and I see these old friends, I'm so happy to be here.

[00:18-00:28] He also mentioned that I'm very systematic, meaning I got in a habit of every time I would

[00:28-00:33] make a decision to write down the criteria I would use to make that decision.

[00:33-00:39] We're getting a little echo I think, and it's not a big room, so I don't even know

[00:39-00:46] if I need a mic, but so every time I would make a decision I would write down the criteria

[00:46-00:54] I used for making those decisions, because cause effect, everything happens because of

[00:54-01:01] a cause, and the same things happen over and over again, and so by taking the time to write

[01:01-01:06] them down and then seeing how those criteria would have worked over a period of time I

[01:06-01:14] could get perspective, and so I wrote down those principles, and as Sasha mentioned I wrote

[01:14-01:19] a book called Principles, which has to do, which just was a collection of the life and

[01:19-01:23] work principles, so the culture that we have is very, very important.

[01:23-01:28] It was really the most important thing in terms of whatever success we've had.

[01:28-01:34] At the same time I wrote down the economic and investment principles, so what I thought

[01:34-01:40] I would do today is to share with you what I think are my most important economic and

[01:40-01:46] investment principles, and then look at the world through the perspective of those principles.

[01:46-01:51] In other words, rather than just tell you what I think, I want to tell you how it works,

[01:51-01:54] and then we can apply that mechanics.

[01:54-02:00] You can decide does it work that way or not, so are these principles valuable?

[02:00-02:10] Because if you know the principles, it's giving them the ability to fish rather than

[02:10-02:11] to just give the fish.

[02:11-02:17] I can tell you what I think, but if these principles are right then you could apply them yourself

[02:17-02:20] to whatever time or circumstances exist.

[02:21-02:29] I broke it down in terms of economic principles and investment principles because the markets

[02:29-02:32] follow the economy.

[02:32-02:39] In order to understand economics and all the markets, you have to understand, in order to

[02:39-02:43] understand the market you have to understand the economy.

[02:43-02:47] I want to describe how I think the economy works.

[02:47-02:56] I think it's a perpetual motion machine, and there are four big forces, three important

[02:56-02:57] equilibrium and two levers.

[02:57-03:04] If you get this down, I think this basically everything through my eyes is along those lines.

[03:04-03:09] Over a period of time, we raise our living standards because we learn how to do things

[03:09-03:10] better.

[03:10-03:11] We become more efficient.

[03:11-03:13] That's called productivity.

[03:13-03:21] Per man hour, and that is something that evolves over a period of time.

[03:21-03:26] Because it evolves, it is not something that is a big thing.

[03:26-03:31] We see it as a big thing, but it's the most important thing over a period of time.

[03:31-03:36] The big things that we see and feel every day are debt cycles.

[03:36-03:40] There's a short-term debt cycle and there's a long-term debt cycle.

[03:40-03:45] When I say a short-term debt cycle, what I mean is what we think of is normally the

[03:45-03:47] business cycle.

[03:47-03:51] You have a recession, you have a weakness in the economy.

[03:51-03:59] When the rate of economic activity is too low, then central banks produce credit.

[03:59-04:02] Credit is buying power.

[04:02-04:09] You produce that credit, it makes purchases of good services and financial assets happen.

[04:09-04:11] The economy picks up.

[04:11-04:16] That cycle usually lasts seven to ten years.

[04:16-04:23] As the economy picks up, the demand rises relative to the capacity.

[04:23-04:27] As you get later in the cycle, the central bank puts the brakes on it.

[04:27-04:34] They raise interest rates, tighten monetary policy as there's less slack in the economy

[04:34-04:36] and the unemployment rate is low.

[04:36-04:39] They put the brakes on it, interest rates go up.

[04:39-04:45] It's a monetary policy, then you have a recession, slow up, and that's the cycle.

[04:45-04:54] Because credit is buying power by providing it, it also produces debt.

[04:54-05:00] Debt means the obligation to pay back, and so by its very nature, it's cyclical.

[05:00-05:06] First comes the stimulation, then comes the paying back, which means when you produce credit,

[05:06-05:12] you can spend more than you earn, and when you pay back, you have to spend less than

[05:12-05:14] you earn, and that's the nature of the cycle.

[05:14-05:17] I think we're all acquainted with that type of cycle.

[05:17-05:21] With that cycle goes market cycles, which we'll talk about.

[05:21-05:24] That's what I mean by the short-term debt cycle.

[05:24-05:31] There's also a long-term debt cycle, which is the accumulation of all of those shorter-term

[05:31-05:37] debt cycles, because everybody wants things to go up.

[05:37-05:43] They want their asset prices, the markets to go up, they want employment to go up, they

[05:43-05:51] want everything to go up, and for that reason, they central banks over a period of time stimulate,

[05:51-05:59] and they do that by normally lowering interest rates until interest rates hit zero.

[05:59-06:04] And then when interest rates hit zero, they can't do that anymore.

[06:04-06:11] And then we come to the need to print money and buy financial assets, which we call quantitative

[06:11-06:17] easing, and when they can't do that anymore, or there are limitations, we come to the end

[06:17-06:20] of the long-term debt cycle.

[06:20-06:25] So there's a short-term debt cycle, a long-term debt cycle, and productivity.

[06:25-06:34] Now related to all that is politics, internal politics and external politics.

[06:34-06:38] In that normal cycle, they're related.

[06:38-06:49] As we're going to see in terms of that dynamic, the period that we're going through 2008 and

[06:49-06:55] 2009, there was a debt cycle and interest rates hit zero.

[06:55-07:03] And that's very similar to 1929 to 32, there was a debt crisis and interest rates hit zero.

[07:03-07:09] And in both of those cases, there was the printing of money and the buying of financial assets,

[07:09-07:16] which caused those financial asset prices to go up and more liquidity in the economy.

[07:16-07:22] And that particularly benefited those who had financial assets.

[07:22-07:31] And it contributed to the wealth gap and the income gap, as did technology.

[07:31-07:37] And as a result of that, in the 1930s, as also happened now, politics entered into the

[07:37-07:38] picture.

[07:38-07:48] So as we're seeing in the world right now, that issue of wealth gap is coalescing populism,

[07:48-07:53] populism of the left and populism of the right, and that's having an effect on the markets

[07:53-07:56] and having an effect on the economy.

[07:56-08:04] So we are also seeing a situation, very much like the 30s, in which we're seeing a rising

[08:04-08:14] power, challenging and existing power, that's a geopolitical cycle, rising power in the form

[08:14-08:20] of China, a challenging and existing power in the form of the United States.

[08:20-08:29] And if we look at histories and cycles of those periods, there's a cycle of conflict and

[08:29-08:30] peace.

[08:30-08:37] Now, normally, peace happens after a war, because some dominant country wins the war,

[08:37-08:42] nobody wants to fight the dominant power, and you have an extended period of peace until

[08:42-08:45] there's then that particular conflict.

[08:45-08:52] I'm not saying we're going to have a military conflict or anything like that, although that

[08:52-08:54] always exists as a possibility.

[08:54-08:59] So these cycles, these things have happened over and over again.

[08:59-09:04] So politics can affect the cycles.

[09:04-09:13] For example, the shift in the United States to be able to create tax cut changes, help

[09:13-09:18] the corporate tax picture, and cause stock prices to rise.

[09:18-09:20] Okay, those are the cycles.

[09:20-09:26] Then when I look at what's happening, I compare it to three equilibrium.

[09:26-09:30] What are these three equilibriums?

[09:30-09:36] First, that debt growth has to be in line with the income growth that's required to service

[09:36-09:40] the debt.

[09:40-09:45] If debt growth is faster than the income growth that's going to service the debt, we're going

[09:45-09:48] to have an adjustment.

[09:48-09:53] And so I'm always doing the pro forma, what is the ability to service that debt?

[09:53-09:56] So that's what I'm watching.

[09:56-10:05] Equilibrium is that the rate of economic activity, economic capacity utilization, is neither too

[10:05-10:06] high nor too low.

[10:06-10:13] What that means is if you have it pressing up too much over an overheating economy, that's

[10:13-10:16] going to cause a tightening of monetary policy and a correction.

[10:16-10:22] And if you have it too low so that the economy is depressed and there's a lot of slack, that's

[10:22-10:25] going to cause an adjustment to bring it up.

[10:25-10:30] And so I'm always watching where are we relative to that because that's a key driver of these

[10:30-10:32] cycles.

[10:32-10:40] And the third is that the projected returns of equities are above the projected returns

[10:40-10:46] of bonds, which are above the projected returns of cash by appropriate risk premiums.

[10:46-10:53] In other words, the capital markets produce the circulation of buying power in the form

[10:53-10:56] of this credit coming around.

[10:56-11:04] And this relationship of the cash to bond yields to stock yields in asset classes determines

[11:04-11:07] how money flows through the economy.

[11:07-11:14] And a normal condition is, for reasons I won't digress into, to have cash have a lower return

[11:14-11:19] than bonds that have to have a lower return from equities having to do with how the system

[11:19-11:20] works.

[11:20-11:24] Basically, central banks put cash on deposit and people with better ideas have to make

[11:24-11:31] a profit to that they use that money to create these other level of economic activity and

[11:31-11:32] have to have higher returns.

[11:32-11:37] And when that's not the case, the way they tighten it is that there are two levers.

[11:37-11:45] So now there are two levers, monetary policy and fiscal policy, right?

[11:45-11:50] Monetary policy then is the means by which the breaks and the gas are put on and the

[11:50-11:57] breaks and the gas being put on become reflected in each of these other items.

[11:57-12:02] So let's say if debt growth is too high relative to income growth and capacity utilization

[12:02-12:11] is high and stretched, monetary policy will be tightened and that tightening a monetary

[12:12-12:18] policy will change the projected return of cash relative to bonds and of equities, those

[12:18-12:20] risk premiums.

[12:20-12:26] And that will slow the economy down and that will drive those cycles.

[12:26-12:32] And that's how the economy is operating in these perpetual motion kind of way.

[12:32-12:40] And if you, you could almost picture, literally can picture where you are in those cycles

[12:40-12:45] and what is happening and you can anticipate what is going to happen next from that because

[12:45-12:48] it's that perpetual, perpetual motion machine.

[12:48-12:52] So that's my template in a nutshell.

[12:52-13:00] And if you keep thinking like where are we now, then you, you know, you can kind of think

[13:00-13:01] where we are.

[13:01-13:02] Okay.

[13:02-13:06] So I'm just going to show you some charts to help to convey the picture.

[13:06-13:10] This is real GDP going back to 1900.

[13:10-13:15] So this is, that line is productivity, right?

[13:15-13:21] And that's a big inevitable force that happens over a period of time.

[13:21-13:29] Even the biggest economic turbulence, you know, looks like a bump in that cycle, right?

[13:29-13:32] Productivity is a big force, betting on productivity is a big force.

[13:32-13:39] But what happens is that cycle, as you get later in the long-term debt cycle, that productivity

[13:39-13:45] begins to slow because there needs to be investment and there needs to be other things.

[13:45-13:51] And when you activity, when there's prosperity and so on, you get more productivity.

[13:51-13:54] It's a self-reinforcing cycle.

[13:54-14:00] So these charts are just meant to show productivity and how it's changing over a period of time

[14:00-14:04] in the developed countries and then in China.

[14:04-14:08] So just to give you a quick picture here, you could see it in varying degrees bend over

[14:08-14:13] as they are later into their longer-term debt cycle.

[14:13-14:18] This United States over the last 10 years versus since 1980.

[14:18-14:21] So in each one of those cases, you can see it declining.

[14:21-14:27] Japan, which is large later in that debt cycle and so on, basically hardly any growth in productivity.

[14:28-14:30] So, okay, that's what productivity looks like.

[14:30-14:35] And where are we in the short-term debt cycle or the business cycle?

[14:35-14:39] This is what the cycle looks like that I was describing.

[14:39-14:49] In other words, what happens from the capital market's perspective, as you begin to go to

[14:49-14:55] higher levels of operating rates, lower levels of unemployment, central banks begin to tighten.

[14:55-15:00] Liquidity starts to tighten, then risk premiums start to rise.

[15:00-15:07] Okay, in this cycle, we're nine years into the cycle, unemployment rates are comparatively

[15:07-15:10] low and there's less slack.

[15:10-15:17] So no surprise, central banks tighten monetary policy and the way they tighten monetary policy

[15:17-15:24] is by either raising interest rates or lowering the purchases of the financial assets that

[15:24-15:26] they buy by expanding the balance sheet.

[15:26-15:29] So that's where we are in that cycle.

[15:29-15:35] Now if you look at how markets behave in that part of the cycle, this is breaking the cycles

[15:35-15:40] into three parts, the early phases of the cycle, the mid-phase of the cycle and the late phase

[15:40-15:42] of the cycle.

[15:42-15:47] And this is across the world, different countries.

[15:47-15:51] This is the United States, this is Europe to show how the historical.

[15:51-15:57] So we're in a period of time, this period of time, which is relatively late in the cycle,

[15:57-16:04] is also associated with a period of time where there is less attractive returns, greater

[16:04-16:05] vulnerability.

[16:05-16:11] So that's largely where we are in the cycle.

[16:11-16:19] Interest rates have hit their lows, in some cases can't go lower.

[16:19-16:24] And then we're dealing with the issue of quantitative easing.

[16:24-16:33] So taking this goes back to 1900, this shows debt to GDP ratio in the United States.

[16:33-16:38] And it just shows how the cycle that we're going through now is very similar to the cycle

[16:38-16:40] that we went into the 30s.

[16:40-16:46] In other words, because of that debt crisis and interest rates hitting zero, you had the

[16:46-16:47] printing of money.

[16:47-16:52] This shows the central bank's balance sheet, the monetary base, the acceleration of printing

[16:52-16:53] of money.

[16:53-16:57] Same thing happened in the 2008 financial crisis.

[16:57-17:04] You could see that what happens is you have the debt crisis, you have the hitting of zero

[17:04-17:08] and interest rates, they're stuck.

[17:08-17:10] So they have to print the money.

[17:10-17:17] And then we have the reaction, very similar to 1932 to 1937.

[17:17-17:23] The economy picks up, 1937, they start to tighten monetary policy because they're worried

[17:23-17:29] that the economy is overheating and inflation is going to rise and they cause a recession.

[17:29-17:32] That's the first time they used the word recession.

[17:32-17:39] Recession was like re-depression, they used the term recession and that was the 1938 period.

[17:39-17:47] Now I talked about debt, but there are also unfunded liabilities that we don't call debt,

[17:47-17:51] which would be pension and healthcare liabilities and I just wanted to give you a picture of

[17:51-17:52] what that's like.

[17:52-18:01] That has, there's a lot of liabilities out there, promises that have to be kept and so

[18:01-18:04] the liabilities are very large.

[18:04-18:09] I want you to focus then on these, the bottom charts before I put the top charts in because

[18:10-18:19] I want to convey, as it relates to both markets and the economy, the important, the really

[18:19-18:29] realizing that we've been really in a golden age of capitalism in the following sense.

[18:29-18:33] This chart shows how profit margins have increased.

[18:33-18:38] In other words, they've more than doubled since 2000.

[18:38-18:43] That means if you didn't have an expansion in profit margins, you wouldn't have, you'd

[18:43-18:45] have the stock market 40% lower.

[18:45-18:51] You had an expansion in profit margins and at the same time you had a decrease in the

[18:51-18:57] form of employee compensation in profit margins, largely because of a number of factors.

[18:57-19:04] But technology has been replacing people and so it's made it more efficient so that that

[19:04-19:06] was an element.

[19:06-19:14] So globalization has helped, just to show you a couple of charts pertaining to this.

[19:14-19:24] This is the globalization press movement and this is the capital movement and these scatter

[19:24-19:35] diagrams show, if you go, the globalization companies that have gone global on the margin

[19:35-19:41] have improved their profit margins more and those that are more concentrated have improved

[19:41-19:48] their profit margins more and those who have reduced union membership have produced their

[19:48-19:50] profit margins more.

[19:50-20:00] And so as a result of that, this has contributed to the growth of the wealth gap and the profit

[20:00-20:01] gap.

[20:01-20:07] It's great for companies but it has not been good for a certain percentage of the population.

[20:07-20:15] If you look at the conditions of the bottom 60% of the population, bottom 60 means the

[20:15-20:16] majority.

[20:16-20:20] The conditions have been bad.

[20:20-20:26] There has not been over the since 1980 any income growth, real income growth in the United

[20:26-20:27] States.

[20:28-20:38] And a Fed survey, the 40% of all Americans could not raise $400 in the event of an emergency.

[20:38-20:47] So there is a gap and with that gap has come, this is the wealth gap, the top one-tenth

[20:47-20:55] of 1% of the population's net worth is almost the same as the bottom 90% combined.

[20:55-21:02] And as a result, we have populism, populism of the left and populism of the right.

[21:02-21:07] That was a phenomenon that developed countries didn't used to have.

[21:07-21:15] And so now it is a not only political phenomenon, it's an economic and market phenomenon.

[21:15-21:20] Because as we come to go into the political elections in the number countries in Europe

[21:20-21:30] and in the United States, it will be really a conflict over capitalism versus socialism

[21:30-21:32] or the left and the right.

[21:32-21:38] And it's going to become rather extreme in both of those cases.

[21:38-21:41] And that has an implication.

[21:41-21:50] Just as these profit margins improved and then tax rates, that's the effective corporate

[21:50-21:54] tax rate and how the effective corporate tax rate is now.

[21:54-21:55] That's been fantastic.

[21:55-22:02] So imagine you have profit margins increasing, you have the tax rate going down, you have

[22:02-22:03] cheap money.

[22:03-22:09] Cheap money has been used to borrow, to buy back stock or make mergers.

[22:09-22:12] That's also supportive to stock prices and so on.

[22:12-22:15] Many of those things will not continue.

[22:15-22:17] We think profit margins will go down.

[22:17-22:23] I think you're at the best of the corporate tax rates and in terms of the issue, in terms

[22:23-22:25] of the wealth gap.

[22:25-22:31] So we're entering a newer environment, including an environment which is not going to be as

[22:31-22:37] conducive to the purchasing of financial assets by central banks and all of that.

[22:37-22:44] We're going from headwinds, from tailwinds to headwinds.

[22:44-22:50] To give you a flavor of what this political situation is like and the polarity and the

[22:50-22:53] entrenchedness, these are two charts.

[22:53-22:55] The first, they go back to 1900.

[22:55-23:03] The first chart which is the red chart shows how conservative the Republicans are, surveyed,

[23:03-23:04] economically conservative.

[23:04-23:08] So they're more conservative than they have ever been.

[23:08-23:13] The Democrats, it shows how liberal they are in terms of policies.

[23:13-23:16] And they're more liberal than they have ever been.

[23:16-23:23] So the two have not had greater polarity than we have today in politics.

[23:23-23:28] And this shows how much is the votes cast along party lines.

[23:28-23:33] In other words, Republicans sticking with Republicans and Democrats sticking with Democrats.

[23:33-23:37] And so it shows the entrenched conflict that we're having.

[23:37-23:40] This is in the United States.

[23:40-23:42] This is not just the United States phenomenon.

[23:42-23:45] It is a European phenomenon as much.

[23:45-23:54] We're going to be going into elections in Europe and for the European elections and

[23:54-23:57] then we're also going to have changes in politics.

[23:57-24:00] And there's going to be more movement to political extremes.

[24:00-24:07] For example, in the UK, I think it's likely that Jeremy Corbyn will be empowered, which

[24:07-24:11] will have an effect on capital flows.

[24:11-24:22] So we're entering a period of time in which we're rather late in the cycle.

[24:22-24:31] Central banks have less power than they used to ease.

[24:31-24:34] We're having this populism in an election cycle.

[24:34-24:37] So that's kind of the lay of the land.

[24:37-24:45] If you look at Europe, you can judge the capacity of a country to ease by looking at the

[24:45-24:53] level of interest rates relative to zero and the amount of quantitative easing that

[24:53-24:56] can take place and its marginal effects.

[24:56-25:02] So let's say in the United States, you go from 2.5% to zero and you're done.

[25:02-25:09] In Europe, you're at zero and in Europe, there are limitations, caps at 33% of certain

[25:09-25:15] types of debt that they have hit that they can't go beyond unless there's some sort

[25:15-25:16] of an agreement.

[25:16-25:18] And politically, very difficult to have an agreement.

[25:18-25:24] So in Europe, there's going to be a problem for the ECB in terms of being able to have

[25:24-25:26] the ability to stimulate.

[25:26-25:32] And Japan is in a position somewhat similar with these negative interest rates, slightly

[25:32-25:37] negative interest rates, father, and lessorability to stimulate.

[25:37-25:43] So that's the lay of the land, I think, in terms of markets and economy within the template

[25:43-25:46] that I showed you to begin with.

[25:46-25:47] Okay.

[25:47-25:56] In terms of the rising power challenge, existing power, China will be an important influence

[25:56-26:02] in the world that we're operating in for the rest of our lifetimes.

[26:02-26:08] It'll become an increasing influence in that globalization and so on.

[26:08-26:16] So this just shows where they are in the United States and China in relative output.

[26:16-26:22] This is what I believe that what's likely in terms of equity market cap and share of

[26:22-26:24] debt securities outstanding.

[26:24-26:32] In other words, the European, the Chinese markets are big and becoming bigger and more liquid

[26:32-26:34] and more effective.

[26:34-26:39] And they are going to play an important role as will the Chinese economy and the environment

[26:39-26:46] we're in, not only in the form of trade, but also in the form of the whole geopolitics,

[26:46-26:49] particularly reflected through technology.

[26:49-26:56] If you look at history and what caused countries to succeed and fail, it was particularly led

[26:56-26:57] by technology.

[26:57-27:07] So I've been over the last several months wanting to research the rise and declines

[27:07-27:09] of world reserve currencies.

[27:09-27:15] And in order to do that, I have to watch the arc of each one of these reserve currencies.

[27:15-27:16] There's the US dollar.

[27:16-27:18] Before that, there was the British pound.

[27:18-27:20] Before that, there was the Dutch Gilder.

[27:20-27:30] And as a result of that, I needed to understand a number of things about the economies that

[27:30-27:31] made them reserve currency.

[27:31-27:33] How did they become reserve currencies?

[27:33-27:36] How did they lose their reserve currency status?

[27:36-27:45] And that led me to watch a number of factors and studying those.

[27:45-27:50] I love putting together statistics and numbers to put together indices.

[27:50-27:59] So these are the six main factors that you can judge a country's power by.

[27:59-28:02] Power is a vague thing.

[28:02-28:07] You can have economic power, you can have military power, you can have power in different ways.

[28:07-28:15] But this is the, when I went to each one of these four cases, here's the Dutch cycle, here's

[28:15-28:22] the British cycle, here's the US cycle, here's the Chinese cycle reflected in this dynamic.

[28:22-28:31] And what you can see, this classic cycle, is first, it's innovation, meaning technology,

[28:31-28:36] education, and competitiveness, mostly in new technology.

[28:36-28:42] And the new technology, like the 5G technology today, and the issues pertaining to Huawei and

[28:42-28:45] other technology companies.

[28:45-28:50] If you have technology, it works both economically and militarily.

[28:50-28:55] And so there's always a new technology, in the case of the Dutch, it was the ability to

[28:55-28:59] build ships that can go anywhere around the world.

[28:59-29:04] And they took those ships, and because the Europeans were experts in fighting, because

[29:04-29:08] they always fought with each other, they took the guns, they put them on the ships, and

[29:08-29:14] they go out to the rest of the world, and they accounted for half of world trade.

[29:14-29:15] And you imagine that.

[29:15-29:20] And when they go out there with half of world trade, they're bringing their money, the Dutch

[29:20-29:22] Gilder, okay?

[29:22-29:27] So they bring the money, and when they bring the money, it becomes a world reserve currency.

[29:27-29:32] And in order to go out in the world, they have to have a military to support that.

[29:32-29:35] And so these cycles go on.

[29:35-29:40] And if you look at that, this is, the red line is China, and the blue line is in the United

[29:40-29:43] States in terms of the averages of these things.

[29:43-29:46] And it goes back to 1500.

[29:46-29:51] And one of the things you could see there is that Chinese have typically been number one

[29:51-29:55] or number two, although the world was a different size then, you know?

[29:55-29:57] Those were all very far away places.

[29:57-30:00] We now have one sort of world.

[30:00-30:05] So those are the economic principles.

[30:05-30:09] So I think we're late in the business cycle, relatively late.

[30:09-30:12] I would say the seventh inning of the business cycle.

[30:12-30:15] There is a relatively tightening of monetary policy.

[30:15-30:23] We have less capacity, and we are, we have greater polarity, and we have a situation

[30:23-30:26] in which we're going to have political issues.

[30:26-30:33] And those political issues will be market issues, because as we start to think, will this be

[30:33-30:37] a movement to the right or a movement to the left?

[30:37-30:40] That will affect capital flows.

[30:40-30:45] So these are my list of investment principles, the template that I look.

[30:45-30:51] First, the theoretical value equals the present value of future cash flows.

[30:51-30:57] In other words, every investment is a lump sum payment for a future cash flow.

[30:57-31:03] So when we think what is something worth, we look at those projected cash flows and we

[31:03-31:06] discount it with an interest rate.

[31:06-31:08] That's the theoretical value.

[31:08-31:15] The actual value that it will trade at will equal the total amount of spending, if I calculate

[31:15-31:21] total amount of dollars spending on something, divided by the quantity of goods sold.

[31:21-31:25] So I'm always looking at how much is going to be spent and what are the motivations of

[31:25-31:29] the spenders and how much is going to be quantity.

[31:29-31:35] I try to estimate what the total spending is divided by the quantity to estimate the price.

[31:35-31:41] Number three is that asset classes will outperform cash over the long term.

[31:41-31:48] I explained that it's required otherwise the gears come, the economy comes to a halt.

[31:48-31:53] And that the outperformance of asset classes over cash, that beta,

[31:53-31:57] cannot be very positive for too long because if it was, it would be easy.

[31:57-32:01] If it was positive, you just buy borrow cash and you buy the long things and

[32:01-32:03] you make a lot of money.

[32:03-32:06] It comes with big bumps along the way.

[32:06-32:14] And that assets are priced to discount future expectations.

[32:14-32:20] Most importantly, inflation, growth, risk premiums and discount rates and I'm going

[32:20-32:22] to get into that in a minute.

[32:22-32:25] And then every investment is a return stream.

[32:25-32:30] What I mean is every day you can market to the market and you know what it's like.

[32:30-32:35] And so the key is to be able to put together portfolios of return streams

[32:35-32:41] so that they balance well as Hashim was saying.

[32:41-32:46] I would say whatever success that I've had in life or that Bridgewater's had

[32:46-32:54] has to do with knowing how to deal with our not knowing more than anything we know.

[32:54-32:57] Because what you don't know is a lot.

[32:57-33:04] And if, and you can reduce your risk by a lot more than you could reduce your return

[33:04-33:06] by knowing how to diversify well.

[33:06-33:13] So diversification can reduce risk more than it reduces return so it improves the return

[33:13-33:15] to risk ratios.

[33:15-33:21] And then I'm sorry if I'm getting technical, but there are two types of return streams.

[33:21-33:25] There is a beta return stream and an alpha return stream.

[33:25-33:30] And what I mean by a beta return stream is that there is an intrinsic reason that that

[33:30-33:34] asset class will behave in a certain way that you will know.

[33:34-33:39] In other words if growth rises faster than discounted and interest rates don't rise much

[33:39-33:41] you know that that stocks are going to go up.

[33:41-33:44] So there is environmental so you can structure that.

[33:44-33:46] Alpha is a zero sum game.

[33:46-33:52] In other words for me to produce alpha I have to outperform I have to take money away from

[33:52-33:53] somebody else.

[33:53-33:57] It's a zero sum game like poker at a poker table.

[33:57-34:01] So they can be the alpha is a betas.

[34:01-34:07] And the key to good investing is to create good portfolios of good return streams.

[34:07-34:12] And then in order to balance these you have to risk balance them.

[34:12-34:17] In other words if somebody might think if I put 50% of my dollars in stocks and 50% of

[34:17-34:20] my dollars in bonds that I have my diversification.

[34:20-34:27] But not so because the volatility of stocks is greater than twice the volatility of bonds.

[34:27-34:31] And because of that you have to risk balance them.

[34:31-34:36] And then the whole engrail of investing is to find 15 or more good uncorrelated return

[34:36-34:37] streams.

[34:37-34:38] I'll get into that in a minute.

[34:38-34:47] And then as Hasha mentioned then the systemizing decision rules is critical.

[34:47-34:49] And those rules should be timeless and universal.

[34:49-34:57] What I mean is as I said I write down the criteria, we write down the criteria for investing.

[34:57-35:05] And then we take those criteria and we test them through all periods of time and all countries

[35:05-35:08] timeless and universal.

[35:08-35:13] Because if something happened in one time and your process is not working in that time

[35:13-35:17] then it must be that you haven't explained the differences.

[35:17-35:23] And so by forcing ourselves to try to make those rules timeless and universal it then

[35:23-35:26] becomes the standard that we operate by.

[35:26-35:29] So all the rules that we're operating are timeless and universal.

[35:29-35:32] I'll just pass through some charts.

[35:32-35:40] So this going back to 1975, think of this as the rolling returns of asset classes.

[35:41-35:47] What you can see is that all of the asset classes have some times that are good, some

[35:47-35:53] times that are bad, on average they're above zero, but they all have periods of down.

[35:53-36:01] And inevitably what happens is that investors, most investors, love the asset classes that

[36:01-36:04] did well.

[36:04-36:09] The biggest mistakes of most investors is that they think that the investment that did

[36:09-36:15] well is a good investment rather than it's a more expensive investment.

[36:15-36:32] And so here we have, here's equities, recently done well, here's commodities, done very poorly.

[36:32-36:37] But here's equities, done very poorly in that period of time.

[36:37-36:44] So the key as Hashim was saying is balance, how to do that.

[36:44-36:50] So you can break the drivers of asset class returns into a few categories.

[36:50-36:54] This is true for any asset class and it's true for all asset classes.

[36:54-37:00] There are two main things that drive it in terms of that's inflation and growth.

[37:00-37:07] And if basically if you tell me that inflation is going to be higher than expected and growth

[37:07-37:12] be higher than expected, I would know what to invest in, higher than discounted.

[37:12-37:17] And if it's you say it's lower, I'll know what to invest in, then most people here would.

[37:17-37:23] So those become the two main drivers, they can rise or decline.

[37:23-37:27] And then there are discount rates and risk premiums.

[37:27-37:34] And discount rates mean, as I told you, the interest rate affects all asset classes.

[37:34-37:39] Because the interest rate is the discount rate that you use to compare the cash flow.

[37:39-37:43] So you raise the interest rate and that's negative for all asset classes.

[37:43-37:47] And then you have, when you strip all of that risk premiums out.

[37:47-37:49] And that equals the following.

[37:49-37:56] This shows what happened in history in relationship to that context.

[37:56-38:06] The top chart shows a growth assets relative to strong assets that you'd hold if you had

[38:06-38:12] a falling growth environment assets that you'd have a rising growth, same with inflation.

[38:12-38:15] Then it shows what the discount rate is.

[38:15-38:18] And then it shows what the risk premium, which was the residual of that.

[38:18-38:21] And that's what we have all with a return.

[38:21-38:30] All with a return, all rather is a, are optimally diversified portfolio.

[38:30-38:37] Okay, what I'm going to skip this chart, what it's meant to show basically is that how diversification

[38:37-38:43] can substantially improve your risk to return ratio.

[38:43-38:46] I want to turn to this chart.

[38:46-38:50] So this is what I believe the holy grail of investing is.

[38:50-38:57] If you can do this, you'll make a fortune, you'll be very successful.

[38:57-39:07] And it's simple really, maybe not simple to pull off, but simple concept.

[39:07-39:22] If you can get 10 good uncorrelated investments, 5 good uncorrelated investments, 15 good uncorrelated

[39:22-39:29] investments, you can substantially improve the return to risk ratio.

[39:29-39:36] And this just shows how it works and why diversification is more important than being

[39:36-39:40] good even in picking the best investments.

[39:40-39:44] And most people think, give me the best investment and let me put all my money in what

[39:44-39:46] I think is the best investment.

[39:46-39:47] Wrong.

[39:47-39:53] The best, find your best 10 uncorrelated investments and put your money in that and you're going

[39:53-39:54] to do a lot better.

[39:54-39:56] And this just gives you an example.

[39:56-40:01] So this is the standard deviation, let's call it the risk of 10%.

[40:01-40:08] And just imagine I put in an asset, I'll use a simple example that has 10% return and

[40:08-40:11] 10% standard deviation.

[40:11-40:15] So let's say it's 10% return, 10% standard deviation.

[40:15-40:25] And let's say I put in a second investment that is 60% correlated with that, third,

[40:25-40:29] fourth, fifth, and sixth and so on.

[40:29-40:32] This is how my risk in my portfolio would change.

[40:32-40:39] That means if you have a diversified portfolio of stocks, average stock is about 60% correlated

[40:39-40:42] with average other stocks.

[40:42-40:47] And you can put in 100, you can put in 1,000 and you are not going to materially reduce

[40:47-40:51] your risk relative to putting in just 5 to 10.

[40:51-40:56] And you could see that that'll lower your risk by 10 or 15%.

[40:56-41:01] If you have an uncorrelated return stream, and you can get actually better than uncorrelated

[41:01-41:06] because you could have negatively correlated, but let's say I put in an uncorrelated return

[41:06-41:08] stream, this is how the line goes.

[41:08-41:14] So you could see, like at 5, you more than cut your risk in half, 5 uncorrelated return

[41:14-41:15] streams.

[41:15-41:22] If you have down to 15, you're going to reduce your risk by nearly 80%.

[41:22-41:29] That means you've improved your return to risk ratio by a factor of 5.

[41:29-41:34] So you can reduce your risk a lot without reducing your return.

[41:34-41:37] And that is the key to it, right?

[41:37-41:42] So when I look at this, I think that there are two types of assets.

[41:42-41:45] What's your strategic asset allocation mix?

[41:45-41:46] What is your beta?

[41:46-41:50] In other words, what portfolio do you normally have?

[41:50-41:57] In my opinion, it should be highly diversified, but with along those lines in terms of like

[41:57-42:00] half in growth, half inflation, rising or declining.

[42:00-42:01] And then alphas.

[42:01-42:07] You have to have a lot of different alphas, like in our case, we have well over 100 different

[42:07-42:12] types of alphas, about 130 different kinds of markets, actually, in terms of trading.

[42:12-42:15] So that's it.

[42:15-42:18] Thank you for your patience.

[42:18-42:20] Let's have a conversation about it.