Be Like Water
Before we get into today’s topic, a couple of housekeeping items:
First off, I spoke at the New York Stock Exchange last month at a conference hosted by Simplify. If you’ve ever gone to any conference, you know how boring most of them turn out to be. This was a (shockingly) good one. Maybe it’s because I got to meet Kyla Scanlon (Yes, I am a fan!)…
The topic of my panel was “The Return of Carry”… As a basic orientation, carry is the return you get when prices don’t change.
That’s a weird kind of return, in a world where most people focus on making money by being on the right side of prices moving…
I look forward to attending again next year.
Second, I started a shorter weekly newsletter on LinkedIn about a month ago. It’s called The Wealth Diary. You can sign up using the link below.
A recent piece I wrote for The Wealth Diary was called “So, You Want to Beat Inflation, Huh?”
The point is simple. Beating inflation over the long run is anything but obvious.
You can read why using the link above.
One of the people I respect the most in this business emailed me afterwards and pointed out that I had failed to mention the most obvious reason why beating inflation is so hard to do… Ready for it? Taxes.
And he’s right.
This is more political economy (as they called economics in the 1700s) than investing, but remember that inflation is a policy choice. You know what else is a policy choice? Whether you’re allowed to keep a return greater than inflation.
I didn’t want to get too wonky in the shorter format, but where I come from—France—they had a word for all of this in the good ol’ days: Seigniorage.
Seigniorage is the king’s often-used right to debase the currency – make the money worth less. We don’t have kings anymore. Thank goodness. But it’s a good reminder that beating inflation and beating taxes is a lot like beating the house. Our collective odds are improved when our leaders are both benevolent and enlightened. Good luck to us.
Be Like Water
My dad loved martial arts, practicing judo and karate in early adulthood. I came along later on, but our house contained numerous reminders from those years. Among them, a samurai sword that I would weirdly take on car rides when I was a kid (those were the 80s, ok?) and small Japanese bowls that you would have thought had been in our family for generations, given the care they received. And my dad always preferred sitting cross-legged on a round cushion at a low table for meals… always. I guess habits picked up at Zen retreats die hard.
I’m telling you this because I keep going back to the phrase “Be like water” recently, which is famously attributed to Bruce Lee.
“Be like water” is about being flexible and adaptable.
It’s about being liquid-like.
There is something to that, when it comes to investing.
Of course, the world changes, and you should evolve your opinions with new facts. In this sense, "be like water" is about being intellectually flexible. Being right is hard to do. But being wrong and stubborn can get very painful very quickly in markets.
But there is something else about the two basic activities of investing: managing risk and pursuing returns.
Risk Management
Risk management is about planning for bad things to happen. Nobody thinks that they will happen with any degree of certainty. But just in case, it's nice to know if you'd be ready.
I've been listening to Noga Erez a lot recently. She has this song, "The Vandalist," that opens with the line:
To me, that’s pretty close to a full definition of risk management:
Be aware.
Be ready to respond, if needed.
The thing I like about "my shoes always on" is that you can't respond if you're stuck where you are, looking for your shoes in the dark. A critical part of that is liquidity… And that takes us back to “be like water.”
You should know how liquid your assets are, especially if the market gets spooked. Ideally, know what you'll sell (and know that you can indeed sell it) if you need to raise cash either defensively or because you want to seize on opportunities caused by the stress.
Pursuing Returns
As I mentioned at the beginning, I spoke at the New York Stock Exchange about carry recently.
I'll remind you: carry is the return you get if prices don’t change. That’s nice, but let me give you the fuller context.
The general consensus among academics is that there are three general “drivers of returns.” Three forces that make returns happen: carry, value, and momentum.
If carry is the return you get when prices stay put:
Momentum is the return you get when prices keep going in the general direction they’ve been going in recently (for example, going up some more during a bull market).
Value is the return you get when prices reverse course (e.g. finally going up after a big drop in the market).
I tend to think of carry as the “weird return.”
We see prices move in markets every day, and that’s the one you get when nothing changes.
Carry is precarious (though it doesn’t make it less real).
We saw just how precarious in early August during the rapid crisis around the Japanese carry trade—borrowing for cheap in Japan and lending for good interest in places like the US or Brazil.
Momentum seems easy, like floating down a river, letting yourself be pushed by the current.
The problem with momentum is its tendency to snowball until it’s accumulated too much, well… momentum.
You see, markets are people-based, and people tend to exaggerate the recent past and ignore the distant past. So, things go up for a while, and everyone gets comfortable thinking things are just bound to go up forever.
As a result, momentum has a nasty habit of being an easy ride until you get to something that can look like Niagara Falls. That’s why people talk about momentum crashes.
Value is what happens when water changes course and when the tide turns.
It’s hard to mentally remove yourself from the trend of the moment but…
Once the water starts to come in, there is no keeping it out of the harbor.
Value is like the gravitational pull of the moon manifesting here on earth.
Before we close, I will give one last way to think about “be like water” when it comes to investing. This one is really important…
There is arguably no better place to be as an investor than to be a liquidity provider when the market dries up.
That’s when you get to set your own terms.
That’s like being a bottle of fresh spring water in the desert. People will pay dearly for that sort of thing.
Right now we’re nowhere near a liquidity crunch. There is plenty of water in the desert, except in areas of commercial real estate and private equity. But that can change quickly.
In the meantime… Watch the tide and be like water.
Disclaimer: This content is for educational purposes only and does not constitute financial advice. Treussard Capital Management LLC is a registered investment advisor. Please visit our website for more information and full disclaimers. Always consult with a qualified financial advisor before making any investment decisions.