Jim Rickards: how to prepare for the next financial crisis

[Music] hello I'm Rachel record Straus editor of money wise and I'm here with Jim Rickards who is a financial expert an investment adviser and New York Times bestselling author most recently our four books before absolutely promised no connection to the four horses of the Apocalypse and we're going to talk about the fourth which is just out it's aftermath seven secrets of wealth preservation in the coming chaos so I think first we need to talk about this coming chaos what it is and why it's coming well the there will be a financial crisis actually worse than the one in 2008 and you say things like that people say we knew you're exaggerating or you know fear-mongering no this is good analysis behind it but I go alone to 1987 October 19 1987 the US stock market crashed 22% in one day that would be 5,000 points on their Dow Jones index not 500 four five thousand in one day 1994 the Mexican tequila crisis 1997 the Asian financial crisis 98 Russia long-term capital management dot-com collapse Nasdaq goes down 80% 2007 mortgages 2008 the global financial crisis so the point rachel is that these things happen every 5 6 7 years with some regularity now that sound been 11 years since the last one doesn't mean we have a collapse tomorrow but no one should be surprised if we do so then the point I make well if it's coming which it is and if you can see it and kind of estimate the magnitude and that's important because this way I should be worse than 2008 so what's that about because absolutely we kind of do one now right I mean we this things work in cycles we arguably haven't recovered yet from the last one but even so it's about time and we've spoken before about you refer to it as you don't know what the snowflake is that's going to cause the avalanche but there's gonna be a snowflake but why is this one gonna cause a bigger avalanche than one's previous well you can actually look at the sequence and I'll just go back to 1998 spent a lot of time on a bed but what happened at the end of the day Wall Street banded together and bailed out a hedge fund long-term capital and I negotiated that bail out so I had a nice front row seat on that one two thousand eight ten years later the central bank's banded together and bailed out Wall Street whose going to bail out the central bank's the next time the point I make is that each crisis is bigger than the one before and the bailout is done at a higher level than the one before but we're now at the point where you know in 98 Wall Street lifted the balance sheet of a hedge fund 2008 of the central bank's lifted the balance sheet of Wall Street whose going to lift the balance sheet of the central banks who's bigger than the central banks and that's really the point that's where the title comes from when we say aftermath people said well aftermath of what and I make the point we're still in the aftermath of the 2008 financial crisis I know we've had 10 years of growth and stocks are at an all-time high I get that but the the the damage was so severe and the remedy was so extreme they've never been able to normalize get to get their bet that the central bank's get their balance sheets and interest rates back to normal we're just not ready for the next one see you need a buffer really I mean what what any central bank seems to do when things start to go a little bit a bit wrong is just start printing money or lower interest rates to keep our spending and at the moment in the US pub in the UK here rates are so low why are you gonna cut well that's exactly the point now again I like to do things on an empirical basis or scientific basis as much as possible the evidence shows that you need to cut interest rates four to five percent to get the u.s. out of a recession kind of get stimulate growth in other words how do you cut interest rates even 4% if you're only at 2% the answer is you can't so then you go to QE for quantitative easing more money printing and you get to zero let's do more money printing but again the Fed the Federal Reserve took its balance sheet from 800 billion to four point five trillion in the last questions they got it back down a little bit in round three point nine trillion but nowhere near even two trillion for that matter so there are a LOF headroom in terms of quantitative easing rates aren't high enough to cut very much so they don't have the dry powder if you will to get us out another recession and that's that's just a normal business cycle recession that's not even talking about a financial panic which is which is a different thing so the damage done in 2008 has not been normalized we're not ready for the next one and if it happened we don't have the capacity to get out of it that's why we'll be one reason I'm anyway it'll be a lot worse so we should talk about some of the things that we can do and in a sense a lot of them I guess are about sort of financial prudence being prepared regardless if I mean maybe it never happens but you probably wouldn't wouldn't regret being prepared anyway correct and one of the questions I'm asked most frequently is okay Jim I've read your books I've heard your presentations I follow you I think this financial crisis is coming you know when is it coming and I said well what are you waiting for in other words when it actually happens you're not gonna it'll be too late to do anything about it you know so stocks dropped 30 40 percent Gold's going up $100 an ounce per day dealers won't return your phone calls it's too late to sell your stocks the time to prepare is not when you're in the storm is its beforehand and that now is you know not too late so one of the one of the points I make is if you absolutely knew that inflation was coming that's the danger it'd be very easy to construct your portfolio you'd have some gold you'd have some real estate you know some hard assets etc if you knew it was going to be deflation same thing you could buy ten year Treasury notes by gilts buy things that perform well in deflation and then connect it with I call this the barbell approach you have your inflation hedge over here your deflation hedge over here and then a allocation of cash connecting the two sides of the barbell the point I make is that we're on the knife edge between deflation and inflation the world wants to deflate the natural state of the world is deflationary because of demographics declining populations in a lot of countries debt and basically the the you know technology is another driver so debt demographics are technology are driving deflation on the other hand you have central bank intervention central bank's cannot tolerate deflation because it increases the real value of debt causes bankruptcies which fall upon the banks so they have to try to create inflation so right now we have this unstable equilibrium but it's going to tip one way the other and you need to be prepared for both actually okay how do you do that well having that sort of diversification that you talk about a core of having the cash in the middle right the barbel so your inflation hedges are again gold hard assets real estate your deflation had just ten-year Treasury notes gilts as interest rates come down and the are kind of got come down further I actually met with some of the top central bankers in a closed-door meeting relatively small group we're up it Bretton Woods New Hampshire at the end of July it was the exact 75th anniversary of the original Bretton Woods conference Larry Summers our Secretary of the Treasury and others were there and was off the record so I can't mention the names or exactly what was said but one a senior from the Regional Federal Reserve Bank one Board of Governors of the Federal Reserve and one governor of the ECB European Central Bank so these were the real deal central bankers and I was surprised said how they said rates have to come down a lot they were very matter-of-fact about it and they also grasped the distinction that a lot of people miss the difference between real rates and nominal rates so when people say interest rates are low nominal rates are low the real rates are not low and the difference of course is inflation so you take the nominal rate minus inflation that's your real rate so what said they did get the distinction what they said we have to get negative real rates meaning you have to get through the nominal rate below the rate of inflation the problem is that we have disinflation inflation is dropping so it's like a cat chasing its tail you're you're cutting rates but you can't cut them fast enough to keep up with the decline in inflation so the this is a race to zero and they were they said you know probably for zero overnight but in about a year and then when you get there when he gets a zero what do you do next well you can go to QE quantitative easing more money printing but the other thing you can do are negative interest rates now the the evidence is that negative rates don't work they've been tried in Europe Sweden Japan Switzerland other place to encourage spending but this seems counterintuitive to any real person who if they slowly see their savings eroded don't necessarily go out and on a massive splurge well what do economists know about real people that's this is the problem you're exactly right the theory was if you have a hundred thousand dollars aren't you have a hundred thousand pounds in the bank and we have negative one percent interest rates you go away for a year you come back there's only ninety nine we took one percent of your savings and since that's happening you it makes you want to spend more borrow more like why wait until they take my series I'm just going around spend it but people actually do the opposite they have lifetime goals why are they saving at all their retirement their health care children's tuition buy a house they're their parents health care etc and if you start taking money away they actually save more they still they still have to meet the goal so they save more they defer purchases so instead of lending and spending inflation what you actually get is hoarding savings deferred purchases and deflation makes the problem worse and the central bankers would be the last to figure this out but that's what actually happens but they do think it works and the Fed of course the European Central Bank is already into negative rates but the Fed officials were quite relaxed about negative rates time to be clear they didn't say we've made that decision we're definitely going to do it but the fact that they were talking about it and I said yeah that's on the table surprised me a little bit so don't be too shocked if the u.s. gets there and let's say you say we can't have barbells ready right what stage two well stage two is you have to think again that the as I mentioned in the title after math has two meanings one is for still in the aftermath of 2008 but going forward in this new financial crisis and again not too soon to prepare for it now what would the aftermath of that be like and I suggest that you know and when you're in my position you know your writer or speaker whatever people always want to put words in your mouth and they say you know Jim record says it's the end of the world sell everything Bible I've never said any of those things it's not the end of the world you shouldn't you should have some goal I recommend 10% but don't go all-in and he asked the class diversification is very very powerful but this could actually be a world where systems break down it's not the end of civilization but maybe slightly more agrarian maybe it looks more like 1910 and then 2020 where we actually go back to a simpler lifestyle not because everybody would vote for that or want that but but complex dynamic systems when they break down when infrastructure breaks down that sort of thing starts to happen you end up you might you might a farm might be much more valuable asset than you know the latest cellphone see when you say systems are we talking about sort of banks banking systems tech corporations perhaps well look we all know what's going on in Venezuela but I have good reason to believe that South Africa may be the new Venezuela MIT that maybe it's not just the normal box that their countries starting to break down look at what's going on in Hong Kong we know what's going on in the Middle East I mean these things are a little too frequent for comfort and don't think I'm sure you know that Beijing is quite concerned about Hong Kong not only because of Hong Kong and their claim of some kind of autonomy but if they have any success that will start to break out in China itself Wuhan Jian Shan Shan you'll start to see those kinds of things in the Communist know it so they need to keep a little on that but these are all symptoms of societal breakdown they're not specifically financial they have financial implications but yeah you could see multiple complex dynamic systems power great financial systems communication systems etc sort of sequentially break down and then you know we could be back to much simpler lifestyle there's a long journey to get to you to get to the to the for life I mean the simple life on farms I'm kind of with you on that fair enough sounds good but what we as a as its species almost happen would have to go through to end up at that end point the end point doesn't sound quite as utopian is in my head it currently is well fair enough I don't suggest any of this as utopian my my point is this is how societies evolve and collapse you there's this notion I think the left and progressives but you know maybe a lot of conservatives as well that things just get better and better and better you know new technology new medicine better cures you know society just get wealthy or cetera and that's how it goes that is not how it goes that is not what history says history says it's much more cyclic oh you know you've rise and fall of civilizations multiple civilizations over thousands of years and the two biggest collapses there might have been more insulin we don't have any information but the Bronze Age collapse and the fall of the Roman Empire these were at a 1500 year tempo it's been about fifteen hundred years since the fall of the Roman Empire so if there is a 1500 year multiple civilization collapse cycle we could be in the middle of that as we have to consider roughly ten year economic cycles so we have multi civilizational cycles also possibly correct one of the biggest failures and risk management financial services and I've encountered this firsthand is people do regressions you so you look at time series of prices to set around and do regressions and correlations and try to figure out what tells you something about something else etcetera and the first question I ask the the analysts who do this is how far back do you take your time series and they go oh we go back 15 years 20 years you know the day I said about a hundred years if you looked at you know railroad bonds to to government bonds in the 1890s and seeing what those credit spreads did from time to time and then there's also research one scholar did an eleven hundred year time series of prices went back to the 10th century and found some goods that existed time-period firewood you know we buy firewood today I have a fireplace than they bought it in the 10th century and what he showed is that periods of inflation can last a hundred years of longer but periods of deflation can also last a hundred years of longer these are not just ten year cycles and we look at ten your business cycles but so the point being they're they're bigger forces of play longer time spans to play you can get two or three of them you know all happening at the same time again this is good science and good history you don't have to go that far to say well maybe we'll just have a good old-fashioned financial crisis honestly Rachel we may be in one right now as we speak that someone asked when's the next crisis coming so well we may be among the the repo problems in the US financial system where the Fed so okay so from 2008 to 2014 we had quantitative easing then there was a kind of a sideways period than beginning in 2017 the Fed initial initial what they called quantitative tightening actually reducing the money supply still went into people the banqueting why I hate QE you're pretty my said no it's been over for about five years that are now burning money throwing money into the furnace to reduce the money supply except just a few days ago they slammed on the brakes on that and flip to quantitative easing the Fed is in the process as we speak of printing one trillion dollars they call it system repo but it's QE for in in all but name why are they printing a trillion dollars when they were trying to reduce the value they were trying to tighten the money supply they're printing a trillion dollars somebody's broke and I'm not gonna mention names I'm not going to speculate but they're giving the money to the banks taking Treasuries as collateral but they expect the banks to lend the money to non-bank players hedge funds private equity funds smaller banks to Chinese banks etc and take Treasury securities as collateral the way it works is I give you a hundred million dollars and you give me one hundred and two million dollars of Treasury notes or gilts and so I've got two percent collateral so if you don't pay me back I sell the notes in the market pay myself back what does this say when the banks are hoarding the money and they won't take they won't lend it out take Treasuries as collateral what it says is that they're anticipating of liquidity crisis that's so bad that they will not be able to sell Treasuries at anywhere near the value they got that's a pretty scary thought but that means there seems something the rest of us are not seeing now I won't go further than that because there's no there's no evidence but but just what we know about research being drawn down now suddenly increased the bank's top on landing etc someone's in distress it could be contained it could go away but if it hits and spreads we could be back in the global liquidity crisis and it could be starting now ok so that in mind it all feels so enormous that it it's almost pet eaters to talk about what we can do and what we should be investing in but that's what people will wonder I imagine so some of your other 7 secrets one I found particularly interesting was around behavior economics and being wary of the Nadja's that that are there many people believe to sort of steer us positively towards the right decision maker well you're referring to this is chapter 3 in the book and it is about behavioral psychology you know just to be clear behavioral psychology and the experiments that have been carried on since the 70s Daniel Kahneman a mr. ski Dan Ariely and others is good science I don't dispute the science that although they're repeatable the results are solid they've been shown time and time again and what they reveal are cognitive biases we all have psychological biases all of us we can't get rid of them the most we can do is understand them and try to protect against them risk aversion is one there are many others but what's some of the behavioral psychologists who happen to be economists or lawyers have done and I single out Cass Sunstein and that Richard Thaler for this Nobel prize-winner they wrote a book called nudge and they've they've helped to create a branch of the science called choice architecture and what it says in fact is hey I'm a PhD alms I know it's good for you and you can actually design forms insurance forms a retirement forms contracts etc in such a way as to get a predictable result that the person is unaware of so the classic example you in the United States we have something called the 401k it's a tax deferred savings plan that you can sign up the same thing with auto enrolment here whereby Murray's it's a new system that you have to opt out of saving towards a workplace pension you're automatically if you're in 10,000 pounds or over you are opted into it and you have to pay three percent your employer pays five percent well that that's but that's example of exactly what I'm describing that which is it's a classic case so it used to be you know you filled out your forms and they say we have one of these Savings Plans here's the brochure would you like to join and you had to opt-in you had to say yes I would the opt-in rate the election rate was about 20 percent but if you flip the question say hey we have this plan here's the brochure you're in it would you like to opt out now the participation goes up to about 80 percent so just by changing the form of the question you increase participation from 20 percent to 80 percent so unbeknownst to the participants they're being herded into these things by the way turns out the reason that's true people don't like to check boxes it's just the the psychological bias against checking boxes and filling out forms makes it I don't want to check any box so if you tell me I'm an I'm an fine well who says that's the right choice the the PhD is you know if they were in sentencing what yo these plans are definitely good for you but I give an example in the book of I have a Susie and Joe and women are smarter so Susie makes the right choice but the point being she elects not to join the plan pays your taxes and puts all of her money into gold and Joe joins the plan has the benefit of tax deferral puts all this money in the stocks now you don't have to do all of one of the other you can be a kind of a diversified portfolio but I track it over the entirety of the 21st century to date so from 2000 to finish the book in 2018 and it turns out that based on the performance of the assets taking the withdrawals paying your taxes that suze outperforms Joe that the person who paid her taxes and book gold did better than the person who got tax deferral and blood stocks and it doesn't mean you shouldn't join the plan so you shouldn't have stocks but it goes to show that it's not automatically the case that you're better off joining these plans so his choice architects are steering our decisions in effect making our decisions for us assuming they're smarter than we are assuming they know what's best for society I challenge all those assumptions and try to encourage people to be aware of these types of hidden biases that are put into the forms themselves and make smarter choices so it's not necessary that they intrinsically bad it's just you have to be wary of them in the same way that you are aware of your own biases you also have to be wary of how you're being steered and your biases are being steered as well I mean here as I say auto enrolment 5% of your salary from your employer will go towards a pension if you don't opt out that's free money it seems like quite a good deal yeah but I guess you're saying that there'll be some circumstances in which you just you want to make sure that you are still making the decision and it's still the right decision for you well two things number one what is when you opt in where I guess your auto involved as you say racial what does that portfolio look like you find you're very limited choices you're not able to buy land or gold or other hard assets you put it into a passive index fund or stock fund or whatever you could well be way over allocated to stop she says stocks always the right answer so that that's one problem but maybe you do if you do half and put the other half pay your tax doesn't get another portfolio but you said these are not automatically bad choices but they are sort of preordained or manipulated in some way but sometimes there are bad choices and I spoke to Dan Ariely who is I would say after Daniel Kahneman that the most celebrated behavioral psychologist in the world a master this and I spoke to him privately and I said Dan I said you know this is powerful I know this is powerful you can dictate outcomes by kind of manipulating people's psychology what if you were hired by a up-and-coming fascist dictator said I'd like to use your choice architecture in my messaging to encourage people to support my party which as as I said fascist goals and because it could work that way and he said well I have a way of dealing with out of a filter for that I said what is it he said well I wouldn't work for money for anyone if I wouldn't do it for free you know as money it's not going to get me to work for a bad actor if I don't like you and I wouldn't do it for free then then I won't do it for money and I applaud the fact that a he thought about it and B he had some kind of answer but it's not a complete answer because first of all there are those who will they will take the money and work for potentially evil people with very powerful tools tools and then finally who's to say that his judgment Dan's a nice guy but who's to say his judgment of who's good or evil is always right [Music] that's the best that any of us have is who do i what do I think is just to do I think is fair and I'm not too worried because I think it eventually will become wise to it and it won't work on us anymore anyway the number of times I'm told people like you have done X why don't you do that too and I think you Rotter I'm gonna actively not do that because I can tell you a minute and there are only so many of these tools I think that can be used once you'll know them and relate to them I wonder if they're powerful well that's a good point that's why I wrote that chapter in the book cuz to me the answer is education once you explain what biases are explained how you're being manipulated it doesn't mean it won't carry on but it does mean that you can make smarter choices that well one example I use a lot of people liked is you know cars the mike I'm an Aldi but I think it's pretty across the board you know you opened the door with the lights on or you get out of the car with the key in your pocket and the engines find that these things beep beep beep - they're supposed to nudge you as Thaler and Sunstein would say do the right thing but there's so many of them you forget why it's beeping it's like well what am I doing wrong now what what violation am i committing and you do become numb to it and you start to ignore it and they also say well this this is good stuff because it's very little cost not if you're getting dinged a thousand times a day the cumulative cost can actually be quite high I think we're we're short on time can I ask you really quickly for a whistle stuff on passive investing and why that features as in your seven secrets and then well I like it's hard writing on economics because you I never dumb things down I write at a high level but I do it in plain English they use metaphors and history and just personal stories to make it accessible but for passive investing a good metaphor is so mosquito lands on the back of an elephant what happens the mosquito gets a good meal and the elephant doesn't notice but if a million mosquitoes descend on the elephant the elephant dies so my point is every not every good idea remains good depending on how wildly it's adopted so in the 1970s Jack Bogle of Vanguard pond came along and said look you can't beat the market so just put your money in order to index fund you'll have those stock market performance over a long period of time and the fuse is a really low pile on well that was a good idea at the beginning at a time when you had a large universe of active investors committing capital doing research and making markets as buyers to sellers but as the passive investing and I understand this is not true in the UK about 10% mosquito coverage right well the united states were up to about 70% the passive investing really dominates not take your point about the UK so now the problem is what happens when there is a market downturn maybe it's not extreme but 10 20 % the investors knees pass the funds will call their brokers or hit their keyboards and say get me out of the semi and redeem my fund well this forces passive investors to sell to get the cash to pay the redeeming investors but you're selling into a decline market what does that do it drives to market down faster now in the old days not that long ago by the way the active investor would come along to say I see a bargain I'm a buyer but when the active investors disappear these things go no bid there's no one left to buy when everyone's selling or so when everyone's buying or commit capital there's no one left to do that job and then things go no bid and they just go straight down so that kind of dynamic collapse could be far worse than anything we've ever seen because with the with the diminution of active investors there's no one left to commit capital but that's gonna this affects markets overall right this this kind of volatility it doesn't matter if you're in passive or inactive funds you're gonna suffer from it as you've described well except that because if if we had more active funds that the client would not be as extreme there would be capital committers side by side with the Free Riders so why is a good person should should stay inactive to make sure that there's enough of that kind of critical mass to keep it to keep it and also I don't suggest you should be a martyr to the passive investing craves what I suggest is that you should get out of stocks at least to some extent go into other asset classes and you know diversification personal duration does work may be a cliche but it actually does help to preserve wealth but people don't understand it I run into people that say well I'm diversified I own 50 different stocks in 8 different sectors so you're not diversified you may have 50 stocks per year in one asset class called stops and they're highly correlated real diversification is have your slice of stocks but have some gold have some private equity have some cash maybe more than most people think it sounds like a foam as well and that is diversification okay Jim thank you so much for talking I see yes thank you thank you for joining

Channel: Moneywise

Views: 73,549

Rating: 4.6892886 out of 5

Keywords: money, wealth, finance, financial, financial crisis, investing, gold, Jim Rickards, savings, pension, retirement, recession, crisis

Id: CZvUIA8WZ04

Length: 30min 8sec (1808 seconds)

Published: Wed Oct 23 2019

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