Senior Editor Ray Fazzi caught up with Barry Ritholtz to get his views on the markets, his concerns about the future and advice for financial advisors. Ritholtz, CEO and director of equity research at online quantitative research firm Fusion IQ, is one of the few strategists who saw the 2008 housing implosion and derivative mess far in advance. He is a keynote speaker at the 4th Annual Innovative Alternative Strategies conference, sponsored by Financial Advisor and Private Wealth magazines, in Denver from July 22–23.
Let’s start out with a basic question: What’s your outlook on the markets and the economy?
Let me begin with an answer you will hate: My opinion as to the future state of the economy or where the market might be going will be of no value to your readers. Indeed, as my blog readers will tell you, I doubt anyone’s perspectives on these issues are of any value whatsoever.
Here’s why: First, we have learned that you Humans are not very good at making these sorts of predictions about the future. The data overwhelmingly shows that you are, as a species, quite awful at it.
Second, given the plethora of conflicting conjectures in the financial firmament, how can any reader determine which author to believe and which to ignore? You can find an opinion to confirm any prior view, which is a typical way many investors make erroneous decisions. (Hey, that agrees with my perspective, I’ll read THAT!)
And third, relevant to the above, studies have shown that the most confident, specific and detailed forecasts about the future are: a) most likely to be believed by readers and TV viewers; and b) least likely to be correct. (So you have that going for you, which is nice.)
Last, across the spectrum of possible opinions, forecasts and outlooks, someone is going to be correct—how can you ever tell if it was the result of repeatable skill or merely random chance?
That said, I would much rather look at the present state of the markets/economy than guess about the future. Most people have no idea what happened yesterday—how on earth can they tell you what is going to happen tomorrow?
I think it is of much greater value to be able to put the current situation into broader context, via a variety of variables and factors, than make guesses about the future.
We are currently in a post-credit crisis recovery. History shows us these last about 10 years, and typically produce weak GDP gains and slow job creation.
Monetary policy in general can help with liquidity—reducing the odds of another credit freeze up—but can only do so much to improve the employment situation and GDP. To move the needle on that requires a fiscal response, one that is unlikely to occur given the dysfunctions of Washington, D.C.
Compare this with say the fiscal response to the crisis out of Germany, and what it has meant for their GDP and employment situation, and you will better understand what is possible versus our foolishness.
As to the markets, I hope you realize they are separate and apart from the economy. The data overwhelmingly shows that most of the time, stocks and the economy are wholly uncorrelated. Over the short and medium term (days weeks months), there is almost no relationship in either direction or magnitude. People often have difficulty accepting that, but the academic studies on it are overwhelming. Over the longer haul (decades), there is some correlation between GDP growth (3%–4%) and corporate earnings (6%), and I assume that is not coincidental. But that is only over long periods of time, and even then they can become somewhat disconnected.
Frame of reference is very important. Currently, we have recovered the entire losses from the 2008–09 crash. Looked at from the March 2009 lows, we are up about 146% over four years. Looked at from the October 2007 highs, we are barely up a few percent over almost six years. And the Nasdaq is still 40% or so below its March 2000 highs, some 13 years ago.
Markets are neither cheap nor expensive. The psychology out there is that the public remains wary—of everything that burned them over the past few years.
I believe many factors are leading to a sort of delegitimization of investing in the eyes of the public. Everything from lack of prosecution of bankers to HFT [high frequency trading] is causing the public to turn their collective backs on stocks. This is a normal part of the psychology cycle; typically, a bull market will end this disregard.
As one of the observers who foretold the market crash of 2008, are there any current financial trends that have you worried about the future?
These are the three issues that I am most concerned with:
High frequency trading is a real problem. It is hollowing out the structure of the markets. Trading is a zero sum game, and if they are making a billion a year, it’s coming from somewhere. HFT is a tax, which they get to split with the exchanges, which have also become corrupt. I would require HFT quotes to have a persistence of 1 second and pay a fee of 1 cent—that will fix most of the HFT problems that exist.
Too Big to Fail remains a problem. Banks should be boring, not speculative super-leveraged hedge funds. I would like to see a full Volcker rule incorporated, and more appropriate capital reserve rules implemented. The Brown-Vittner proposal on capital reserve for TBTF banks seems appropriate.