MAY 2012 MARKET AND ECONOMIC CONDITIONS
By Adam B. Landau Permit Capital Advisors, LLC
The impact that fiscal and monetary policy, exerted by legislators and bankers around the world, is having on global capital markets is unprecedented. It is important to understand this evolving backdrop, in some cases to know how and when to react to it and in other cases to know when to ignore it. Actions taken by the Federal Reserve are perhaps the most resounding example of this dynamic. There was a time when understanding Fed motivation was simpler – it involved monitoring open market activities being performed in the interest of achieving the mandate that Congress established in the Federal Reserve Act. This mandate included maximum employment, stable prices, and moderate long-term interest rates.
It is fair today to question whether or not that mandate has changed, or broadened. According to Fed officials, it has not. This seems like a dubious claim given the nature and timing of less conventional monetary policy tools being utilized, and the explanations given for their implementation. Steps including Quantitative Easing, both versions, as well as Operation Twist, appear to have been designed in part to achieve such objectives as stimulating both growth and investor animal spirits. This is an extremely dangerous, and likely ineffective, practice for two reasons.
First, growth is an outcome, not a policy. Any policy designed to stimulate growth is most likely to be fleeting in its success, at best, and likely to rob from the future to pay presentday beneficiaries, at worst. Second, the forced kindling of investor animal spirits has manifested itself in behavior that is rewarding borrowers at the expense of savers, and it has pushed a generation of investors out on the risk spectrum, including those closest to retirement with the least amount of time to ameliorate mistakes. The additional exposure that these investors are taking to interest rate and credit risks in an effort to earn a return north of nothing could have disastrous results if the Fed gets it wrong.
The most obvious investment implication would be potential spikes in interest rates and inflation. It does appear that the Fed is creating a duration mismatch, as it is paying for long-term liabilities with swelling shortterm debt, at a time when long-term rates are at extreme lows. There may be no looming vulnerability with the power to disrupt more than inflation. While the volume of debt that sovereign nations are carrying is problematic, Building Successful Relationships Certain statements in this document may include forward looking statements and forecasts that involve known and unknown risks and uncertainties. The views expressed above should not be construed as recommendations, an offer to sell, or a solicitation of an offer to acquire any security, investment product or service. There is no guarantee that historical risk, rates of return, or scenarios discussed will persist in the future. All investments are subject to risk. the unproductive nature of that debt is more worrisome. Monetary and fiscal policy actions that spur growth by increasing debt may buy transitory gains in some measure of economic activity but they perpetuate a disequilibrium. Eventually incipient inflation may be the resultant condition, though deflationary conditions could prevail for a period in the interim.
In conclusion, cyclically low interest rates with the threat of inflation on the horizon should be a signal to consider investments in asset classes with attractive valuations and the requisite pricing power to provide both real and nominal growth opportunities. Commercial real estate is one such investment that appears ripe for well-capitalized owners to underwrite and own an asset that can build terminal wealth while providing significant and predictable streams of cash flow, an extremely valuable commodity in a zero-interest rate world. With funding rates remaining low and demand showing signs of strengthening, real estate fundamentals look increasingly attractive on both an absolute and relative basis.
About Adam Landau
Adam Landau is Chief Executive Officer and Chief Investment Officer of Permit Capital Advisors, LLC.
He has 15 years of experience evaluating investment managers, developing asset allocation strategies, and coordinating the process by which the two disciplines are merged.
Visit http://www.permitcapital.com to see how Adam and Permit Capital Advisors, LLC can grow your business.
Certain statements in this document may include forward looking statements and forecasts that involve known and unknown risks and uncertainties. The views expressed above should not be construed as recommendations, an offer to sell, or a solicitation of an offer to acquire any security, investment product or service. There is no guarantee that historical risk, rates of return, or scenarios discussed will persist in the future. All investments are subject to risk.
