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Long Term Investment Management

Long Term Investment Management
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  • Putting Consumer Debt in Context [View article]
    Dear Saj, as usual, a thought prokoking article raising an interesting point.

    Comments mentioned using mean interest rates (say over the business cycle) rather than current rates which seem historically low, as well as wage pressures on developed countries from globalisation, which could affect the data (the numerator and the denominator) and our interpretation of long term trends.

    You compare two "income" items rather than assets. If we also compare total consumer debt levels (or for any other participant of the economy such as government, corporates) and the total assets on the consumer balance sheet, I believe we have a fuller view of the situation. Combining this data we can consider how asset values and the cost of debt can affect credit flow, as well as the return on the asset.

    In an environment of weak or declining asset prices, lenders are not keen to provide credit as they fear that their loan value may become larger than the price of the underlying asset. This has a negative impact on credit flow. Indeed, many believe there is a positive feedback loop between collateral and credit flow both on the upside and downside, and is one of the major sparks tthat allow booms and busts to occur. Stable asset prices can be intrepretated as being a requisite for credit flow to increase.

    You quote Fisher in suggesting that if the return on an asset is greater than the cost of debt there is an incentive for an investor to buy an asset with debt. Considering the above point that sometimes it is not the borrower that does not want debt, but the lender is not keen to supply it, we also have to consider how large is the margin of safety. Is the cost of debt more volatile than the return on the asset? If we find ourselves in an inflationary environment would the cost of debt increase and the return on the asset fall? An amplified negative affect to our investment. The investor needs a large margin of safety in this environment to offer downside protection from future scenarios that may occur. Current sentiment shifts from inflation to deflation depending on which piece of macroeconomic data you find most reliant. Indeed, I am finding the general market punishes more harshly than in the past companies that have high debt loads, suggesting investors, in general, do not seem keen to increase debt at the moment. Corporates, on the other hand, have been playing a different game.

    Conclusion: I remain doubful that consumer credit will increase in the next few years, and feel saving rates will go up instead from historic lows.

    Question: Is disposable personal income normalised to what percentage of the economy is employed? If not, we may consider that more people have been made unemployed than mortgage interest payments have diseappeared (which could be more mortgage finished or foreclosure), hence the above data would be biased to look better than reality?
    Sep 18, 2010. 05:34 AM | Likes Like |Link to Comment
  • Political Risk is Feeding the Natural Tendency for Deflation to Appear [View instapost]
    I saw the editorial. It was an interesting piece, controversial as usual for Nourini, but I liked the reasoning put forward.

    The approach can easily be applied to consumer credit. Indeed, I believe it is being put into practice at this very moment. Many European banks (Spain especially from what I see) are extending loans, offering a loan on a loan or allowing a "grace period" where interest need not be paid etc, so that the loan is not recorded as being in default on the balance sheet. This makes bank accounts look better then they are.

    Though the action is similar in theory to what is mentioned by Nourini, it certainly is not by spirit. This is being done to not create panic on certain banks, rather than to clean the system. Its success relies on the hope next year will be better, so the original and the new loan can be paid back. Otherwise, the client will simply default on more debt than was originally lent.

    Those who have used capital ineffciently certainly should not be provided funds simply for the sake they used it inefficiently previously. This will help no one in the medium or long term. Haircuts, write downs, interest payment reductions etc can all be part of the solution. The end story is that people need to make losses for giving money to investors that invested in a poor manner. This is how lessons are learnt and how capital gets diverted to the most efficient users. This creates a recession, end of story. And a recession we must go through. Before I end this note, it must be noted that doing such a process with a plan would be worthy. marked to market losses can only create a vicious circle that can make a large bubble go into a large bust. Authorities must take responsibility for the economy not to go into either state due to the capital inefficiencies they generate.

    I hope I have answered your question.
    Jul 1, 2010. 07:02 PM | Likes Like |Link to Comment
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