It’s the job of a financial executive to calculate the unknowns.
Tensions are rising across the globe as the war in Ukraine grinds on, conflicts envelops the Middle East and concern builds about China and Taiwan. Investors are also uncertain about the state of the economy, income inequality and a divisive US presidential election just months away.
But even with all these risks in plain sight, prominent Wall Street leaders are thinking about the long-term challenges not yet on the financial world’s radar. We spoke with three who’ve managed money for years about the next big risk they see coming: Wes Edens, a co-founder of Fortress Investment Group who now runs New Fortress Energy; Katie Koch, chief executive officer of asset manager TCW Group Inc.; and Ray McGuire, president of investment bank Lazard Inc.
Their comments have been edited for length and clarity.
Perilous Time
WES EDENS
Founder, New Fortress Energy
The risk that I think about all the time is geopolitical risk, the rise of that risk over the last several years and what the real risks would be broadly, should there be any real conflation of that.
Fifty percent of the world’s population is going to elect a new leader next year, so it’s a particularly charged time. There’s been so much growth economically in the last 20 to 30 years with globalization, and I feel like we’re in the big de-globalization trade.
Everyone seems to think all these regional conflicts — whether it’s Israel-Hamas, or China and Taiwan, Russia-Ukraine — are going to be contained. I don’t think they’re really pricing in the possibility that something greater could happen. So it’s a perilous time for both economies as well as individuals.
I’m worried about what could happen if one of these things went from a regional conflict into something much broader. Obviously these are all complicated and they’re all heartbreaking stories in terms of the people involved. But the challenge is how do you keep this just a regional issue and not turn into something more broad-based.
The US obviously is a cornerstone of economic activity. Dollars are the reserve currency of the world, and we should think through what would happen to liquidity and returns if there were real problems that escalated. The simple way of thinking about it is that globalization was the source of a lot of growth without inflation. De-globalization is kind of the opposite. And so of course that could mean higher inflation, higher costs, higher interest rates.
The consensus — which is not always right, but in this case I agree with it — is that rates are likely to come down over the course of the year, as it seems like the Fed has done a great job in trying to manage the balance between growth and inflation. That said, the monetary policies of the US, as well as other countries, are kind of the opposite. The U.S.’s current deficit is $34 trillion dollars. What that means in terms of people and consumers is that there’s competition for borrowing and for capital. And if the governments are going to be your biggest competitor, it’s likely you’re going to have much higher rates for a much longer period of time, perhaps after the short reset. The risk of higher interest rates is one that people don’t think about as much as they should.
Geopolitical risk can actually add to that. Instability in the world is likely to have significant swings in this. When I started working on Wall Street many years ago, current coupons were 12%, 13%, 14%, 15%. I think people have become used to these much, much lower rates. And the question I would ask investors is, “What happens in a world where rates are actually much higher for a longer period of time?” I think that can be very destabilizing.
We have to take a hard look at where do you want to have your capital exposed. We want to be as unleveraged as possible, and we’re in businesses that generate a lot of cash flow. And so you’re going to end up reinvesting that in your balance sheet to bring down leverage in a fairly significant way. I think businesses that rely on a lot of leverage — and will rely on it going forward — they just have a lot more exposure to it.
Silver Tsunami
KATIE KOCH
CEO, TCW Group Inc.
At TCW, we think about large risks through the eyes of our clients, and a very large part of our business is helping beneficiaries and plan participants retire with dignity and security. Against that backdrop, the largest risk that we see, and the one that we spend the most time on, is longevity risk.
There are various aspects of that. First is that lifespan is increasing. Second is that anytime you have a mega-trend like this, which has been dubbed the silver tsunami, there are immediate impacts in how you position your portfolio. But most important for our clients is how are we going to work with them to fund what is now going to be a much longer retirement.
We now have a lifespan that’s 20 years longer than it was in 1960. As of 2020, for the first time, we had more people over the age of 60 than under the age of five, and this is going to continue. If we look out over the next decade, 100% of baby boomers will be 65 and over.
There’s also the possibility that advances in health care will add another six years of high-quality life. So it’s really good news for humanity. At the same time, it’s creating interesting disruptions for investments and challenges to saving for retirement.
For much of the last 100 years the burden of retirement for Americans was really dealt with by the government after the creation of Social Security, and also by corporations through defined-benefit pension plans. As late as 1980, 60% of Americans had access to a defined-benefit pension plan, which provides lifetime guaranteed income. The burden of that has now switched to the individual. And if you look at that number today, only 3% of Americans have access to such a plan.
And at the very moment when that burden has transferred to individuals, we’ve seen and will continue to see a migration of some of the most attractive income-producing assets from public to private markets. So there are quite a number of challenges.