As most financial professionals have offered their opinion on how to improve the American economy, we thought we would join in. So here is our advice to President Trump – focus on making prices transparent.
Most of the products and services we buy are priced by companies that perform cost analysis and price their product/service accordingly. That pricing formula takes many factors into account. The end user then decides if they are willing to pay the price in an exchange. But there are many hidden factors in the pricing process that need to be eliminated if buyers are to pay the firm the actual cost of the product/service.
An example – A consumer walks into a big-box retailer and pays $5 for a widget. What is not included in that price is the cost to taxpayers of the food/rent/healthcare subsidies that the big-box retailer’s employees receive from the federal government. That is monetized in our federal debt figures and paid for at a different time than the purchase of the widget – that expense is paid whenever that consumer pays taxes to the federal government.
To create an economy that is transparent and appropriately assigns expenses to costs, it is necessary to remove the laws, regulations, and tax breaks that place a financial obligation on consumers of goods/services at any other point than the point of sale. Will this bring about inflation? Yes. But it will also make our economy more transparent and transparency is key to managing a successful economy.
President Trump needs to simplify the way in which the government collects revenues and the different manners in which private entities receive benefits that can be monetized. In short – the President needs to force business to stand on its own and avoid any relationship that makes prices opaque due to government interference.
We acknowledge that there are areas which are critical to our national well-being and defense – agriculture for one. But let’s start with the easy ones first and see how far we get. There is a long list of subsidies that could easily be eliminated. Consumers will howl at the price increases but only because they forget that the old, lower prices were being added to our national debt – a debt which, if not addressed soon, can limit our ability to manage our economy.
Take the reins off American business by all means. But also, place the burden of conducting business squarely on their shoulders and not the national debt.
The beginning of 2017 has seen two eyebrow raising news items that are seemingly unrelated, but that may signal huge opportunities for traders. Both news items can be traced back to the passive investment trend that has been picking up steam (in terms of AUM) over the last decade. This trend of a passive allocation to a set basket of securities may create market inefficiencies that traders could exploit with greater regularity, and larger profits, than at anytime in recent memory.
Early this year a report was released that showed that seven of the ten most actively exchange-traded securities were not stocks – but exchange-traded funds (ETFs). ETFs typically represent an index that has as its constituents a set list of securities. While those securities change, the vast majority of the securities remain the same. This sedentary allocation mandates that a sizeable portion of funds coming into the market is passively directed towards the same shares.
Given the shift to passive investment instruments, it comes as little surprise that active investment managers are losing AUM. However what was surprising was a news article that disclosed a huge loss of AUM from Grantham investments. Led by legendary investor Jeremy Grantham who foresaw the stock market bubbles of 2000 and 2008, Grantham’s cautious approach to the recent bull market has seen returns of his flagship Benchmark Free Allocation Fund lag behind the indexes. This under-performance to passive indexes has motivated investors to pull assets – over the past two and a half years Grantham’s fund has gone from $124 Billion to $80 Billion.
SNU View has stated before the fact that no President that has followed a two-term President and not experienced a recession. This fact combined with Grantham’s track record on spotting market bubbles do not portend well for the stock market. However this observation is merely tangential to the real issue of the efficient allocation of capital to the market.
The massive, seemingly tidal-like, trend of capital into passive instruments means that a multitude of securities will not have their pricing as affected by an ever-growing share of stock market capital inflows. Could this lead to inefficiencies in pricing securities that are not part of an index? We believe this is exactly what may happen.
The inefficiencies created by the passive capital allocation trend will lead to mis-priced securities. And who loves mis-priced securities more than traders? Those market operators that live each day in front of their screens and scour hundreds of tickers for opportunity – looking for pricing discrepancies and corporate actions that impact future earnings and current prices.
So while there may be plethora of academic research that passive allocations beat the average active investment manager, the beast that has become passive investing may have just born a monster of market inefficiency that could lead to profits that have not been seen since the frenzied day-trading of the 90s.
Billions of people will say goodbye to 2016 and welcome in 2017 tonight. We will all (well, mostly) drink champagne, make our New Year’s resolutions, and then wonder how long they will last. In some years, events occur that we instantly recognize as being destined to become part of the historical record: 2008 – recession and market crash; 2001 – 9/11 terrorist attacks; 1999 – tech bubble burst; 1986 – stock market crash; 1963 – the assassination of JFK. Other years do not get such star billing except when being discussed in hindsight.
We believe that 2017 shall go down as a defining historical moment in governance – it has the potential to be “Yuge”. Millions of years ago, when tribes were being formed amongst our knuckle-dragging ancestors, the most physically gifted took the role of tribal leader. If you aspired to become a tribal leader, you had one path – kill the current tribal leader. As the centuries went by, we started walking more vertically and tribal leaders transformed, by introducing the concept of reward in exchange for support, the position into a monarchy – a framework of governance and leadership that could be passed through to heirs. No longer could you simply hit someone on the head with a rock and become the new leader, now you had to defeat the King’s, or Queen’s, army.
That form of governance continued for thousands of years until the famed “shot heard round the world”. The American colonies decided to rid themselves of an allegiance to a crown they believed did not have their subject’s best interests in mind. Luckily for the world, the leaders of that armed insurrection were learned men and formed a constitutional republic that was uniquely defined by the orderly transfer of power based on elections. Enter the United States of America and the age of democracy.
Until 2017, America’s leaders had been plucked from the ranks of people that had previously been receiving a government paycheck – legislative or military leaders. Donald Trump has changed that dynamic for the first time since George Washington. Voters chose a President that has never worked in government, but successfully campaigned on a platform of bringing corporate boardroom skills to the Presidency. We have no illusions that running a corporation, no matter its size, is different that running a government. We also have no illusions that our current government is in dire need of the budgetary and negotiating skills that are found in America’s corporate boardrooms.
2017 will be remembered for being a key step in the evolution of governance. From tribal leader, to monarch, to experienced legislative or military leader, to corporate leader. This is an experiment. It could turn out good or bad and most likely be somewhere in-between. But on this first day of 2017, it should be recognized that this year will go down in history as the year voters gave the most powerful office in the world to a person without a history of working in government. The voters rejected tradition and gave the office to a person based on the promise of implementing their corporate leadership and skills. We wish Mr. Trump all the success he can bring us. And if successful, the world shall see more of his kind. But he will always go down as the first.