Tuesday, March 22, 2011

What "Old Doc Nadler’s Remedy," Buying the Dips, and Demographics Mean for the Stock Market

Dallas Fed President Richard Fisher's most recent speech, "The Limits of Monetary Policy", mentions a gem of wisdom called "Old Doc Nadler’s Remedy".

The "Ol' Doc" Marcus Nadler was a researcher for the Federal Reserve during the Great Depression, and Fisher mentions this bit of pablum (his "remedy") in many of his speeches. As Fischer describes it,

"To counter the intellectual paralysis and down-in-the-mouth pessimism that gripped the financial industry after the Great Depression, Nadler put forth four simple propositions:
First, he said: “You’re right if you bet that the United States economy will continue to expand.”
Second: “You’re wrong if you bet that it is going to stand still or collapse.”
Third: “You’re wrong if you bet that any one element in our society is going to ruin or wreck the country.”
And fourth: “You’re right if you bet that [leaders] in business, labor and government are sane, reasonably well informed and decent people who can be counted on to find common ground among all their conflicting interests and work out a compromise solution to the big issues that confront them.”
Oh boy! This is the received wisdom among almost all institutional investors. This, not money printing, is the justification for buying every dip. As I mentioned in my review of Prechter's Conquer the Crash, this perma-bullishness has crowded out almost all other types of investment thinking.

Unfortunately, all four of those propositions are clearly erroneous or irrelevant. While I am sure that Nadler's first and second points were meant to refer to the "long run", they still aren't necessarily true. There's nothing magical about the United States. The odds are that someone at one point expressed the same level of enthusiasm about Japan, which has nonetheless suffered through a quarter-century bear market - and things keep getting worse!

Birthrates have been falling throughout the developed world for decades. This is resulting in falling working age populations. Also, global wage arbitrage is shrinking the size of the middle class. The result is a falling ratio of workers to retirees. Among other things, we can expect this to stress sovereign credit ratings (and borrowing costs) and lead to huge tax increases.

William Bernstein says it best in his essay Retirement Calculator from Hell (read the whole series):
In an era when a small number of people lived past sixty-five, society could easily support them for the very few years they survived beyond that point. Now that citizens are routinely living two decades longer, it is simply not mathematically possible, let alone politically feasible, to expect each worker to support 0.67 retirees, no matter how many coconuts, dollar bills, stock certificates, or Krugerrands they save up in the meantime. It is also not reasonable to expect productive younger individuals to support large numbers of healthy older non-workers.

As Arnott and Casscells succinctly conclude, what we have is not a savings crisis, but rather a demographic crisis. We will not be rescued by increased voluntary or enforced savings. The idea of investing Social Security funds in stocks, so fondly embraced by right-wing think tanks, is a prescription for capital-market instability.

[...] If you are currently under forty, you will shortly be traumatized by the sight of large numbers of your parents’ generation subsisting on cat food, and your generation will begin to save prodigiously. 
Wow! Sometimes, I forget that I'm not the world's only pessimist. Richard Fisher (not a pessimist) concluded his limits of monetary policy speech by saying "I believe deep in my soul that, when put to the test, Americans rise to the occasion no matter how great the challenge." What an ahistorical belief!

The good news is that these people are going to buy stock from us all the way down, and at the bottom their capital is going to be so impaired as to offer little competition when we buy up investments that are finally underpriced.


Taylor Conant said...

That's weird. I guess the American "Civil War" didn't happen.

CP said...

Ha. Seriously, he mentions this "remedy" in many of his speeches.