With ultra-loose monetary policy coming to an end, it is best to tread carefull
IN HIS classic, “The Intelligent Investor”, first published in 1949, Benjamin Graham, a Wall Street sage, distilled what he called his secret of sound investment into three words: “margin of safety”. The price paid for a stock or a bond should allow for human error, bad luck or, indeed, many things going wrong at once. In a troubled world of trade tiffs and nuclear braggadocio, such advice should be especially worth heeding. Yet rarely have so many asset classes—from stocks to bonds to property to bitcoins—exhibited such a sense of invulnerability.
.. Rarely have creditors demanded so little insurance against default, even on the riskiest “junk” bonds. And rarely have property prices around the world towered so high. American house prices have bounced back since the financial crisis and are above their long-term average relative to rents.
.. If today’s asset prices have been propped up by central-bank largesse, its end could prompt a big correction. Second, signs are appearing that fund managers, desperate for higher yields, are becoming increasingly incautious. Consider, for instance, investors’ recent willingness to buy Eurobonds issued by Iraq, Ukraine and Egypt at yields of around 7%.
.. But look carefully at the broader picture, and there is some logic to the ongoing rise in asset prices. In part it is a response to an improving world economy.
.. A widespread concern is that the Fed and its peers have grossly distorted bond markets and, by extension, the price of all assets. Warren Buffett, the most famous disciple of Ben Graham, said this week that stocks would look cheap in three years’ time if interest rates were one percentage-point higher, but not if they were three percentage points higher.
.. But if interest rates and bond yields were unjustifiably low, inflation would take off—and puzzlingly it hasn’t. This suggests that factors beyond the realm of monetary policy have been a bigger cause of low long-term rates. The most important is an increase in the desire to save, as ageing populations set aside a larger share of income for retirement. Just as the supply of saving has risen, demand for it has fallen. Stagnant wages and the lower price of investment goods mean companies are flush with cash.