February 22, 2021

Bad maths, bad economics

Bad maths, bad economics

When Interest Rates Fall Asset Prices increase – but by how far is reasonable?

Ahead of the upcoming Webinar (mbmg-group.com) on Wednesday, Paul explained to CNBC’s Martin Soong & Rosanna Lockwood the 2 dominant misconceptions distorting expectations right now:

“We’ve got bad economics – we’ve had Quantitative Easing (QE) 1 and zero or negative rates since 2008, and we’ve now got, almost 13 years of track record of these kinds of stimulus policies, so empirically, we know that over this time the economic outcomes have of what the market’s expecting has turned out to actually be pretty much the opposite of those expectations.

We’ve also got bad maths– Janet Yellen was saying, just a few minutes ago, when interest rates fall, asset prices tend to increase. That’s absolutely correct – but we still have to try and calibrate this and actually, the falls in interest rates over the last year or so, should have been supportive and driven asset prices higher, but not this high!! Our maths suggests that they’ve overshot (MBMG IA calculates that the S&P500 is 35% ahead of where it should be).

Negative Nominal Rates

What we’ve learned since the Global Financial Crisis is that interest rates aren’t constrained to a minimum of zero (and a third of the world’s government debt is at negative nominal rates) and the one thing that isn’t constrained is human greed, human craziness and human stupidity. So we’re seeing interest rates at the short end (less than a year) falling back to the crisis levels of a year ago while long-term government debt rates are going up. Yet the data coming through really don’t support long-term bonds going up. QE involves issuing government debt instruments as a means to increase certain forms of money supply. In turn this increases bank assets which has underpinned speculation and asset bubbles (see the charts from FRED below).

Higher inflation and higher rates unlikely

When short term rates are much lower than long-term interest rates, this is known as a steep yield curve and typically reflects expectations that both interest rates and inflation will rise in the future but we don’t see what would be any different to the failed attempts of the last 13 years to increase both interest rates and inflation back to ‘normalized’ levels.

Steve Clapham’s expertise in equity market valuations highlights both the bad economics and bad mathematics that I highlighted to Martin and Rosanna. He’ll explain to us on Wednesday how a share that has fallen in price by 2/3 might have actually become more expensive rather than cheaper (price is only one part of the value proposition – it also matters what you get in return for the price that you pay).

Professor Steve Keen’s ‘Debunking Economics’ marks its 20th anniversary this year. This ground-breaking refutation of neo-classical economics drew attention to such illogical assumptions, universally accepted in mainstream economics, such as the hedonic generality that assumes that all individuals do and will behave identically. On Wednesday, Steve will be debunking the approach of establishment economics to climate change, which contains such illogical assumptions as the extinction of all human life on Earth not having a major impact on economic activity.

When Interest Rates Fall Asset Prices increase – but by how far is reasonable?

Ahead of the upcoming Webinar (mbmg-group.com) on Wednesday, Paul explained to CNBC’s Martin Soong & Rosanna Lockwood the 2 dominant misconceptions distorting expectations right now:

“We’ve got bad economics – we’ve had Quantitative Easing (QE) 1 and zero or negative rates since 2008, and we’ve now got, almost 13 years of track record of these kinds of stimulus policies, so empirically, we know that over this time the economic outcomes have of what the market’s expecting has turned out to actually be pretty much the opposite of those expectations.

We’ve also got bad maths– Janet Yellen was saying, just a few minutes ago, when interest rates fall, asset prices tend to increase. That’s absolutely correct – but we still have to try and calibrate this and actually, the falls in interest rates over the last year or so, should have been supportive and driven asset prices higher, but not this high!! Our maths suggests that they’ve overshot (MBMG IA calculates that the S&P500 is 35% ahead of where it should be).

Negative Nominal Rates

What we’ve learned since the Global Financial Crisis is that interest rates aren’t constrained to a minimum of zero (and a third of the world’s government debt is at negative nominal rates) and the one thing that isn’t constrained is human greed, human craziness and human stupidity. So we’re seeing interest rates at the short end (less than a year) falling back to the crisis levels of a year ago while long-term government debt rates are going up. Yet the data coming through really don’t support long-term bonds going up. QE involves issuing government debt instruments as a means to increase certain forms of money supply. In turn this increases bank assets which has underpinned speculation and asset bubbles (see the charts from FRED below).

MBMG Investment Advisory is licensed by the Securities and Exchange Commission of Thailand as an Investment Advisor under licence number Dor 06-0055-21.

For more information and to speak with our advisor, please contact us at info@mbmg-investment.com or call on +66 2 665 2534.

About the Author:

Paul Gambles is licensed by the SEC as both a Securities Fundamental Investment Analyst and an Investment Planner.

Disclaimers:

1. While every effort has been made to ensure that the information contained herein is correct, MBMG Investment Advisory cannot be held responsible for any errors that may occur. The views of the contributors may not necessarily reflect the house view of MBMG Investment Advisory. Views and opinions expressed herein may change with market conditions and should not be used in isolation.

2. Please ensure you understand the nature of the products, return conditions and risks before making any investment decision.

3. An investment is not a deposit, it carries investment risk. Investors are encouraged to make an investment only when investing in such an asset corresponds with their own objectives and only after they have acknowledge all risks and have been informed that the return may be more or less than the initial sum.

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