Greenspan on Markets

John Osbon - May 2, 2012

Going to Washington, DC, which is what I did earlier this week for the Bloomberg Washington Summit, is like going to another galaxy. In the DC solar system, politicians, policy makers, influence peddlers, and appointees seem to orbit around each other, each seeking to exert more gravitational pull than the next.

You could see, for example, the effect of a planetary star like Alan Greenspan, former Federal Reserve Chairman, who can hush a full room simply by walking into it. What did Chairman Greenspan have to say, and why was it important for investors?

The Chairman Speaks

Alan Greenspan was Chairman of the Federal Reserve Bank for 19 years from 1987 to 2006.   The market crashed in 1987, just three months after his appointment, but the Dow then climbed from 1600 to 11,000, on its way to 14,000, when he left. Some blame him for what happened next, the 2008 financial crisis. Others, like me, think he did the best he could with the information and resources he had.  You can read all about it in his book, The Age of Turbulence. 

In person at the Bloomberg Summit, Greenspan came across as genuine, affable, curious, self-effacing, and possessing a good sense of humor.  Here’s what he had to say.

On political gridlock:

“Something unusual is going on,” says Greenspan.  He has analyzed Congressional voting data going back to 1850 (he is an economist by training) and notes that a “huge political divide” has long been an American tradition and “compromise is implicit in a democratic society.”  What’s different now is “there was always a way to reach across the political aisle with tactical compromise…not now.”  As a result, “there will be pain,” he says, and “the catalyst will be a bond market crisis.”

On interest rates in the future:

“Interest rates are low before they go up” says Greenspan in an apparent tautology. “You cannot anticipate changes,” he also says, recalling how a 10 percent Treasury rate in 1979 was thought to be the peak, until it went to 14 percent three months later.  “Interest rates will go up over the next ten years,” predicts Greenspan. He then warns investors that “you can’t get out before the music stops,” and “liquidity disappears suddenly.”

On the stock market:

“Stocks are very cheap, just look at the equity premium (a Fed model that compares the 10 year Treasury yield of 2% to the S&P earnings yield of 7%); it’s the highest in 50 years”.  (Note that Greenspan’s best known stock prediction of “irrational exuberance” at Dow 6400 in 1994 was followed by a rise of 4000 points…)  Greenspan then points out very optimistically that “we are underestimating the impact of equity stimulus (the impact of rising stock prices on the economy) as opposed to fiscal stimulus.  Equities play a huge role in the real economy.”

On government intervention:

The government “tried to do too much and it’s been counterproductive,” says Greenspan. “Sometimes letting the markets alone is the best way to go.”  His Fed and political advice is to “stop doing what we are doing right now and let markets adjust and settle down.” He cites as proof the fact that “the stock market has been untouched by (new) regulation and has come back the most.”

On gold

Greenspan’s essay “Gold and Economic Freedom” was published in 1966 and describes how gold is the “protector of property rights” because it stands in the way of the “insidious process” of wealth confiscation via government deficit spending.  (OK, you have to read it and think about it…)  Greenspan repeated that “we have made a decision to have a welfare state, and you cannot have a gold standard and a welfare state.”  When pressed on the value and role of gold he joked that “I was very perceptive in my gold essay 45 years ago”, which got a hearty laugh around the room.  Clearly, gold is a special asset for the Chairman.

My conclusion

I was struck by how humble Greenspan was, considering that for 19 years he had the ability to set the price of money worldwide.  His humility in particular came through his frequent acknowledgement that the future was unpredictable and that actions and consequences were not always linked.

Comments like “you cannot anticipate changes,” and “I don’t have a clue when or if it will happen,” and “things happen at the most inconvenient times” were unexpected by me, but also very encouraging.  In my opinion, patience and humility are two of the most powerful investment concepts, so I found Greenspan’s chat to be reassuring.  With all his power, he still said, “sometimes letting markets alone is the best way to go.”  It makes me wonder, is Alan Greenspan an index investor himself?

Next week: Bloomberg Washington Summit, Part Two. Common themes and predictions of speakers.

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