“Choosing to avoid loss is not a complete investment strategy; it says nothing about what to buy and sell, about which risks are acceptable and which are not. A loss-avoidance strategy does not mean that investors should hold all or even half of their portfolios in U.S. Treasury bills or own sizable caches of gold bullion. Rather, investors must be aware that the world can change unexpectedly and sometimes dramatically; the future may be very different from the present or recent past. Investors must be prepared for any eventuality.”
- Seth Klarman
“Whenever you find yourself on the side of the majority, it is time to pause and reflect.”
- Mark Twain
“A great many people think they are thinking when they are merely rearranging their prejudices.”
- William James
A. Elections Have Consequences
I don’t like talking about markets, because usually there is little to discuss that is new. But now that the Democrats have won Georgia and Biden has been declared President, equity markets face the best possible political complexion in Washington.
The US will have a unified and effective government, but radical or unpopular policies will be ruled out by the 50-50 Senate split, which will give centrist Senators of either party the power to make or break legislation. Moreover, the Democratic Party and the White House will be desperate to ensure a strong economic recovery between now and the 2022 elections, so as to avoid the fate of Barack Obama, who was reduced to lame duck status for six of his eight years in the White House, because the Democrats were routed in the Congressional election of 2010.
Meanwhile, Trump’s determination to turn the Republican Party into a media platform for his family and a financial subsidiary of the Trump Organization will break the monolithic unity that has often allowed Republican Congressional leaders to thwart and obstruct Democratic policies through devices such as the Senate filibuster, even when the Democrats had theoretical majority control.
As a result of all these political gestalt shifts, Biden should have much less trouble than Obama in passing legislation through Congress, but he will be much more constrained in the sort of laws he can pass. Radical policies that would repel centrist politicians from either party will have to be put on the back burner, while policies that are widely popular will be promoted, starting with additional coronavirus relief.
This likely means higher spending, but no tax hikes.
From a macroeconomic standpoint, the most important upshot is that Biden will find it easy to deliver higher spending plans, but that getting any significant tax increases through Congress will be almost impossible. As a result, fiscal policy will be extremely stimulative. Biden will find it much easier to win public support for government spending and to resist pressures for budget consolidation than Obama did even in his first two years, when the Democrats theoretically controlled Congress. In addition to the new political complexion in Washington, public and professional opinion on fiscal policy has completely changed since the Tea Party revolts of the last decade.
Covid has transformed public opinion—and also professional economic opinion—about appropriate or acceptable levels of government borrowing and spending. Meanwhile, Trump’s presidency has completely discredited and disempowered traditional fiscal conservatives in the US.
The bull market in equities will continue and global economic conditions will remain very conducive to risk-on investment of all kinds.
Although this bullish view is now a widespread consensus, that does not mean it is wrong. Contrarian thinking is always attractive, because it makes us feel cleverer than other people. But contrarian thinking is only profitable at turning points—at least in financial management, as opposed to financial commentary. Most of the time, “the trend is your friend” and the consensus turn out to be broadly right.
But elections do have consequences. In the case of moving from the Trump administration to the Biden administration, it is no exaggeration to say that the consequences will be substantial in the economic realm.
Although both administrations wanted easy fiscal and monetary policy, the contrast between the two teams is stark.
The Trump economic team measured their success by a rising stock market. The Biden economic team will measure their success by reducing unemployment and income inequality.
Although Congress will be an impediment to the full Biden agenda, the Biden economic team will pursue their objectives indirectly through monetary policy, US dollar policy, and regulation.
The remaining bear thesis then is:
The FED will tighten early, say in 2021 or 2022 in response to the stimulus
Inflation and interest rates will rise in response to the stimulus squashing the recovery
I put both as unlikely in the near term.
The first, because of the FEDs mandate of full employment and price stability. Fed officials have accepted that fiscal policy is now the main demand management instrument, and that monetary policy must play a subordinate role that includes the financing of government debt at the lowest possible interest rates.
The second, because the levels of unemployment and unused capacity created by the Covid crisis will be far too high to allow the broad-based corporate pricing power or labor market tightness that caused generalised inflation in past decades.
B. Alpha Fold
I had seen the Alpha Fold headlines late last year, but given everything else, hadn’t really paid attention.
Mark Evans a few days ago encouraged me to take a closer look. I’m no biotech expert, but it does strike me that this century will be much more about healthcare and biotech, especially more so given the COVID pandemic. But also given the advances that have been occurring in parallel fields.
Here are the big ideas worth knowing about why protein folding and hence what Alpha Fold accomplished is a big deal.
First some facts: All living things contain proteins. Proteins are what make life possible. All proteins are built from a combination of building blocks called amino acids. There are only 20 types of amino acids.
Historically one of the limitations in understanding biology and therefore humans and medicine was that while we could understand what building blocks were involved, we couldn’t know how they were put together.
Think of it as knowing what pieces of lego are needed, but having no ideas how these fit together to create a living thing.
This is because of something called Protein Folding.
The way proteins fold determines their behaviour. In proteins its not just a function of linearly putting together a bunch of amino acids and getting different protein. Life and proteins exist in 3D space. The combination of amino acids determine the shape of the protein and therefore the function and properties of the protein.
‘Structure is function’ is an axiom of molecular biology.
Here’s a good two minute video on Protein Folding:
Historically, we have had to use time consuming tools such as X-ray crystallography and, in recent years, cryo-electron microscopy (cryo-EM) to understand the shape of proteins.
Deep Mind applied Machine Learning to this area, and with Alpha Fold2 they unveiled an algorithm that was an order of magnitude better at identifying the proteins it was tested on.
Some consider this similar to the ImageNet moment in 2012 and 2015 when computer scientists began to use neural networks to identify pictures, which set off a massive advance in Deep Learning and brought us things like Deep Mind’s AlphaZero.
The original Deep Mind article on Alpha Fold.
Comparing AlphaFold 2’s score (left most) to other methods in this year’s CAPS competition
It’s too early to tell how we will use Alpha Fold 2 to create better medicines and understand our bodies better, but suffice to say we are where AI/ML was in 2015.
Which is to say we are at the beginning of a lot of opportunity.
If you’d like to go deeper, worth checking out:
I’m still getting my head around, so please share anything you come across.
C. A Few things Worth Checking Out
1. The amazing Ram Parameswaran of Octahedron Capital was on the Invest Like the Best Podcast discussing Internet Scale Businesses. Makes you realise how early we are in the move to the internet economy.
2. Ben Evans, ex a16z, and now Venture Partners at Mosaic and EF in London shared a great perspective on European Tech, and why it’s time has come.
3. My friend Harry Stebbings had Bill Gurley and Howard Marks on his 20VC podcast to discuss What Happened In 2020? What Can We Expect Looking Forward to 2021?
4. Philippe Laffont, the founder of Coatue Management (with $25bn under management with a focus of technology) joined Twitter recently and has been sharing some wisdom.
5. J.P. Morgan Guide to the Markets: 1Q 2021.
6. The Power Law is getting stronger, and if you’re a stock picker, it’s imperative to think critically about how this will impact your investments. Great article on the End of Mean Reversion.
I once read that all the electrons that make up the internet weigh less than a single strawberry, or about 50 grams. In a way, this is a one reason why mean reversion has lost part of its bite. When compared to digital stuff, physical stuff is heavier, it takes up more space, it’s harder to transport, and it takes longer to create. Weight, space, shipping, and time all tie up capital. Digital stuff can be created instantly and can be scaled rapidly. Each new customer can be served immediately for virtually no cost outside of the payments processing fee.
7. Waiting for the Last Dance - by Jeremy Grantham. The piece is bearish and is calling an end to the bubble. He is far more balanced on this podcast with Mike Green discussing why he loves Emerging Markets, Green Tech and Venture.
John Maynard Keynes, who wrote in The Economic Consequences Of The Peace:
“Lenin is said to have declared that the best way to destroy the Capitalist System was to debauch the currency. By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. By this method they not only confiscate, but they confiscate arbitrarily; and, while the process impoverishes many, it actually enriches some”.
Thank you Banksy: