How to invest in a ‘Truman Show’ market

In the first of a short series of articles, Tim Price explains what you need to do to protect your wealth as central bankers lose control of stocks, gilts, property and every other financial market they have managed to rig.

I was raised on conspiracy theories. One of my favourite films is Peter Hyams’ 1978 thriller, Capricorn One, in which Nasa fakes a manned mission to Mars. Then there was the 1974 drama The Parallax View, with Warren Beatty – a fantastic film about a secret organisation which deals in political assassinations.

But my all-time favourite conspiracy thriller has to be 1976’s All the President’s Men, on the Watergate scandal. It confirmed the reputation of the Washington Post journalists Woodward and Bernstein. Before the scandal broke, public distrust of the media topped 40%; but by the time Woodward and Bernstein had broken the story, applications to journalism schools had reached a record high. And it retains its power to shock because unlike the others, it happens to be true. And the strangest thing is that it seems to be happening all over again.

Maybe my childhood fascination with conspiracy stories changed me, because I confess to being something of a cynic.

But when I see central banks pouring a trillion dollars into stocks to prop up the market; when I see central banks desperately propping up the bond market; and when I see the European central bank preparing more stimulus, it makes me deeply comfortable.

I think we are all now ‘playing a part’ in the lie which the world’s central banks have created.

The elements for a new tragedy are all out there, in plain sight. Which is why it is urgent that we prepare now, while we can.

Like religion without hell

To be honest, I feel as uncomfortable today as I did back in 2007 when the credit markets first started to shudder. Back then, central banks had plenty of dry powder in the form of freedom to manoeuvre on interest rates, and the facility to conjure up base money out of nowhere. Many of those freedoms are now gone.

I’m also really bothered by the more general moral malaise which seems to have seeped into so many aspects of the financial world.

The banks, clearly, have played their part in a scandal of public trust. There is evidently a real, fundamental problem with our culture when a business like RBS – kept alive only because of taxpayer support – can pay out over half a billion in bonuses to senior staff even as it reports a loss of over £8bn.

Some describe this as a crisis of capitalism. This is not true. What currently passes for capitalism in our society is a travesty of the original idea. Capitalism without bankruptcy is like religion without hell. Our political and economic system has been hijacked by special interests. And while people are rightfully indignant about the special privileges afforded to a narrow coterie of bankers, the bigger problem, I suggest, lies at the heart of the modern economic system in the form of the central banks themselves.

This problem is getting more and more severe. The US Federal Reserve, for example, was established just over a hundred years ago with the key purpose of stabilising the US banking and financial system after decades of damaging bank runs and market panics. So it is the crowning irony of our time that the supposed custodian of financial stability is now doing its level best to bring the entire system down.

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A brilliantly orchestrated lie

The widely respected US value manager Seth Klarman recently warned of a ‘Truman Show’ market. In the original film, Jim Carrey’s character goes about his business utterly unaware that every aspect of his life is being broadcast to an audience of millions. His idyllic seaside home is carefully nurtured by a cast of thousands who are all in on the illusion. Klarman identifies Ben Bernanke, the former head of the Federal Reserve, and Mario Draghi, the head of the European Central Bank, as the creators of a similarly idyllic – and wholly artificial – market environment for investors today.

Seth Klarman then warns us against the risk inherent to the artificiality of today’s market:

“In Bernanke’s production, all the Trumans – the economists, fund managers, traders, market pundits – know at some level that the environment in which they operate is not what it seems on the surface. The Fed and the Treasury openly discuss the aims of their policies: to manipulate financial markets higher and to generate reported economic “growth” and a “wealth effect”. Inside the giant Plexiglas dome of modern capital markets, just about everyone is happy, the few doubters are mocked and jeered, bad news is increasingly ignored… The artificiality of today’s markets is pure Truman Show. According to the Wall Street Journal, the Federal Reserve purchased about 90% of all the eligible mortgage bonds issued in November.”

John Phelan of the Cobden Centre – an organisation I am happy to support – points out that “The Federal Reserve has become an enabler of the financial havoc it was designed (a century ago) to prevent”. And of course, the damage won’t be limited to US markets as and when investors finally lose faith in the Fed and its international peers.

We have some similar distortions closer to home. As we know, UK interest rates haven’t been this low for 300 years. This has created some very disturbing distortions. There is that which we can see: artificially low interest rates, and the bubbly impact on stock markets and house prices of practically unlimited QE.

But there is also that which we can’t see. We can’t see, and won’t for some time, see the impact of malinvestments and economically unviable projects and decisions made by companies and individuals in the face of such unprecedented economic and monetary stimulus.

To put it another way, we are all enjoying the party, but we don’t yet know when to expect the hangover, or just how painful and long-lasting that hangover is going to be.

So what can be done?

Diversification is key

Since stock markets and bond markets appear significantly overvalued to me, the natural response for any prudent investor has to include 1) asset class diversification and 2) extreme selectivity when it comes to choosing precisely which types of stocks and bonds to own.

Over the next week I’ll write to you about exactly how stocks and bonds have been corrupted by central banks. And how you can pick the right ones to invest in now.

My conclusion is clear: choose your assets with extreme care. Don’t concentrate your capital in any one asset class, but spread the risk around. Don’t be afraid of holding a higher than normal cash balance, as it will give you the freedom to invest in attractive assets at lower prices in the future, as and when the day of reckoning comes.

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