Investing maven and market tactician Russ Koesterich recently came out with The Ten Trillion Dollar Gamble published by McGraw Hill. I've seen Mr. Koesterich numerous times in guest spots on CNBC because of his position as the Global Chief Investment Strategist for iShares and he gets the job done with his first book. He knows where all the bodies are buried on Wall Street and shares his insight on where he believes the market is going the next decade and how to play it. Although there are a lot of statistics in this book, you don't get bogged down with information overkill while reading it, which contributes to a very enjoyable piece of work.
The first three chapters of The Ten Trillion Dollar Gamble are dedicated to the debt the United States has accrued: "Even at the peak of the budget crisis in 1985, deficits were approximately 6 percent of the gross domestic product (GDP). In 2009 and 2010, the deficits were approximately 10 percent of the GDP, the largest since World War II." Koesterich goes on to say: "So where do larger deficits leave the United States? Historically, chronically high deficits have been associated with slower economic growth, higher real interest rates, and in many cases, some amounts of inflation."
The author's main thesis of the book is that inflation will be the buzz kill of the next ten years: "It takes a while for inflation to get going, so it is unlikely to accelerate before 2012, at the earliest, given the anemic state of bank lending and the slow growth in the money supply." He gives himself a lot of wiggle room as to when this avalanche of inflation will come: "It is impossible to predict the exact timing, but we are already feeling the foreshocks, and it will be here before the end of the decade. We are in for a long period of slower growth and higher interest rates." Not exactly going out on a limb, but it's difficult to forecast the economy. I thought he did a good job in backing up his theories with the data he presented.
The brunt of the book is dedicated to investments you can make to take advantage of the prophesied coming inflationary period. Koesterich breaks down your options into five sectors and allocates a chapter to each one in this order: cash, bonds, stocks, commodities and real estate. Because inflationary eras lend themselves to higher interest rates, the majority of your portfolio should be relegated to cash, like savings accounts, money markets and CDs. The shorter duration of your holding periods for these instruments, the better, to take advantage of the rising interest rates. That's good news for fixed income investors and let's not forget that interests rates spiked to around 15% in the early 1980s.
However, when it comes to bonds, there are few silver linings. The author states: "The first thing you should do to protect your portfolio in an environment of rising interest rates is to reduce you bond holdings, particularly U.S. Treasuries." He goes on later in the chapter to say: "...the U.S. fiscal debt represents two threats to the bond portion of your portfolio. All else being equal, a larger supply of Treasuries will push real yields up and and prices down, and the longer the duration of your bonds, the bigger will be to the hit to their price. The second threat is less certain but potentially more deadly. High government deficit spending often leads to inflation...If you need income, look at preferred dividend paying stocks as bond substitutes."
That last sentence is basically the gist of the stock section of the book, although there was one paragraph that really jumped out at me and I believe rings true: "The problem for equity investors going forward is that despite two brutal bear markets, U.S. stocks never really got that cheap, at least when compared to other market bottoms. So while stocks are reasonably priced today, they are nowhere near the bargain basement prices that typically mark the start of a new, long-term bull market." Koesterich contends that if you wish to invest in equities, then you should look beyond the borders of the United States.
These asset classes give you some examples of what you can encounter in The Ten Trillion Dollar Gamble. The author also covers commodities and basically says: "I would recommend that investors restrict their commodity investments to just two allocations: a broad commodity fund and gold." As for real estate, he doesn't think it's a wise investment with interest rates rising. A home is one thing. Falling housing prices is another: "Slower economic growth will reduce the demand for both residential and commercial real estate, and higher interest rates will harm affordability. If you already own a house and that house represents a nontrivial portion of your net worth, you probably have all of the real estate exposure you are going to want."
As stated earlier, I liked the book and you will too.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.