What are some of challenges of investing using long-term economic cycles.
In this episode you’ll learn:
- What are the different types of economic cycles.
- Why cycles have subjective start and end dates.
- Why coincidences happen so often.
- Why it is better to invest based on calibrating risk rather than prediction.
Hello Fresh use code MONEY30
Welcome to Money For the Rest of Us. This is a personal finance show. It’s on money, how it works, how to invest it and perhaps more importantly, how to live without worrying about it.
I’m your host, David Stein. Today’s episode is titled “Can you invest based on cycles?” (economic cycles). The topic was suggested by Rob; he’s a member of our community, Money For the Rest of Us Plus. He also subscribes to a service that’s called The Real Wealth Report, and it’s sponsored or produced by Martin Weiss of Weiss Research. I had not heard of that, but Rob brought it to my attention.
He says a couple things – they’re predicting something called the K-Wave. This is a cycle that will destroy the financial markets. Those are Rob’s words. He says they’re also really positive on gold. But he subscribed to this service because he was looking for reliable and unbiased investment information… Which he thinks I provide, but at the time he thought Martin Weiss provided it also. You’ll have to be the judge of that…
So I started listening to the videos, and the announcer comes on very gravely, and says “Martin Weiss, who’s semi-retired, interrupted his travels overseas abruptly, and he rushed home to bring you an alarming prediction about the future. It’s probably the most important forecast ever in his 46 years since he founded his company… And it’s frightening.
On the flipside though, there’s going to be a tremendous profit opportunity…” and later on they talk about these 500% profit opportunities. Now, one of my rules in investing – as soon as somebody is predicting three-digit returns, 100% or more, that’s a red flag.
So I started watching the videos, and I admit, I did not watch them all. Later I got a copy of the transcripts, which made it so much easier… And the reason why I didn’t watch them all is there’s another red flag when it comes to any type of service, but particularly investing service. If the video player doesn’t allow you to fast-forward and there’s no indication of how long the video is going to be, that’s another red flag. That means it’s going to be a long process, and at the end they’re going to sell something quite expensive.
But in the video they mention that — so Weiss rushed home from overseas, and at the same time his cycles expert, Sean Brodrick had reached equally shocking conclusions, due to a convergence of these time-honored economic cycles. In today’s episode we’re going to talk about these time-honored economic cycles and whether you can use them to actually make investment decisions.
They mention these cycles have driven world events since the time of the pharaohs. That’s a long time. Now they’re all coming to the head – there’s five of them. There’s the Kondratiev wave (K-Wave). They say it’s signaling Armageddon because of massively indebted governments, and there’ll be soaring unemployment, skyrocketing interest rates, massive defaults on public and private debt.
They talk about another cycle, the Juglar Cycle; I wanna called that Jugular, but it’s Juglar. This is a 7 to 11-year economic cycle, and they’re seeing that signaling hoarding of cash by businesses, job destruction and a comatose economy.
Then there’s this 40-month Kitchin Cycle predicting slower business formation, extremely weak consumer demand, and chronic unemployment. Then there’s a couple other ones, and they didn’t give the specifics on this one. The other three I could look up and I researched… But they also mentioned a 20 and 60-year economic cycle, and a rising cycle of war.
Sean (their cycle expert) says the next major convergence should start in late October or early November of this year, and it might be the beginning of what you might call a rollercoaster ride through hell.
That ride is going to last all the way until 2022. A full five years, which happens to correspond with the length of time for their service. You can get five years for the price of two, and save $10,000. It was about that time that I stopped watching the video and I decided “Maybe I should learn more about Martin Weiss.”
The Man Behind the Map
I googled him and his company, and the third result was an article that he had written in July 2015 (Martin D. Weiss) titled Larry Edelson’s shocking forecast for 2015 to 2020. He interviews – Larry Edelson has since passed away, but he was the co-founder of Weiss Research. In this, Edelson delivers what Weiss describes as his most important forecast in his 37-year career, which is just what Weiss had just done this year, HIS most important forecast in 40 years.
Now, Weiss asked us, is there a date? Because they used the same analysis, the same K-Wave, the Juglar Cycle, the Kitchin Cycle, and they’re coming to equally shocking conclusions. Larry says “It’s October 7th, 2015 when we enter a new phase of the global economy, a phase when everything starts to hit the fan at once. It doesn’t necessarily mean that a precipitous event will occur on that day – there may be and there may not be – but it does mark a line in the sand between two eras.”
I find it interesting that the prediction period for this shocking forecast was still five years, so 2015 to 2020 (their prediction from two years ago); today it’s 2017 to 2022. They’re using the same cycles, the same convergence of the K-Wave, the Juglar Cycle, the Kitchin Cycle. That’s one of the problems with cycles – they’re very subjective in terms of timing.
We’ll focus a little bit more on cycles, because they’re interesting, and there are some legs there, there is some validity to cycles. The economy works in cycles.
A little more disconcerting though in my Google search was the fourth result… It was SEC (Securities and Exchange Commission) administrative proceedings against Weiss Research, Martin Weiss and Larry Edelson. They found them in violation of SEC rules, particularly in terms of their promotional materials, where they were telling subscribers that they could “Follow their recommendations, scoop up 400% profits” or “Bag profits like 400%, 39%, 217%, 100%”, and then they go on and on with all these three-digit numbers.
The SEC found the overall performance of Weiss Research premium service did not support those profit claims. In fact, during the relevant time period, many subscribers who followed each Weiss Research trading recommendation experienced overall returns that were substantially lower than those within the Weiss Research profit examples… And most actually lost money.
Cycles and Coincidence
So that’s Weiss Research. But let’s turn back to this idea of cycles. One of the first researchers that was intrigued by this in terms of the economy was a young Harvard economist, Edward R. Dewey; he was the Chief Economist for president Herbert Hoover. President Hoover charged Dewey with figuring it out what caused the Great Depression. Dewey found these cycles — in fact, he founded the foundation for this study of cycles; he was incorporated in Connecticut in 1941. The website – I’ll link to it in the show notes – says it’s dedicated to discovering the mystery behind cycles. They’ve identified 5,000 cycles.
Now, they point out a really important concept when it comes to cycles. It says on their website “The cycles may have been present in the figures you have been studying merely by chance. The ups and downs you have noticed, which come at more or less regular time intervals, may have just happened to come that way.”
The important thing about cycles – do they have a cause? For many years – and Dewey studied this – they believed the stock market, its ups and downs and the economy was related to activity of the sun, sunspots. It’s very difficult, even when we know the odds of something happening.
This is from a book – I talked about this a number of episodes ago – called Fluke: The Math and Myth of Coincidence by Joseph Mazur. He writes “Suppose you toss a coin ten times, and it comes up heads seven times. The proportion of heads to tail is then 7 to 3. Now, popular intuition suggests that for the next 10 tosses, tails should appear more than 6 times to counterbalance the more than expected number of heads that have already appeared, but the coin has no memory of what it did before, only a history recorded by the person who is watching the result. There is nothing to prevent the coin from coming up heads for the next 500 tosses, and yet we would be surprised if it did.”
The problem with cycles if we’re just observing the data – we could have this predictable cycle that has no cause, and is completely by chance, something where we actually know the probability is 50/50… Tossing a head or a tail with a coin – the more often you do it, Mazur point out even though the overall results will coalesce to the 50/50 probability, the longer you do the trial, the more likely you’ll get results these longs strings of just head, head, head, head, head.
Coincidences – what’s the chance of that? That’s usually what we say when we have a coincidence. I had an astounding coincidence the other day. I was in California, Orange County, attending a podcast movement. On the way back — well, the day before, Netflix (I don’t know why it was on Netflix; it was at a conference) was promoting a comedy special by Ryan Hamilton. It was titled Happy Face. I hadn’t heard of Ryan Hamilton, but I thought “Well, who is this? The special wasn’t out yet, so I decided “Let’s check it out”, his comedy routine on YouTube… Very talented. It turns out he’s from Ashton, Idaho; just about an hour North to here. He lives in New York.
So, I’m flying home, and I’m in the Orange County airport, I’m waiting for my flight, and who walks down the tarmac? Ryan Hamilton. The very same guy, the very same comic, right there. Now, what is the chance of that? Maybe one in a million? But here’s something interesting that Mazur points out. He writes:
“If you leave your house, a great many encounters and happenings are possible. The probability of each may be small, but when we group them together and ask for the probability that at least one of them will happen, the likelihood goes up.”
In other words, one in a million, the chance of running into Ryan Hamilton. But another event, completely independent – if its odds are one in a million, in all these other one in a million events it’s actually additive; the likelihood of 5,000 independent events that each have a one in a million chance of happening – the odds of at least one of them happening is 5,000 out of a million… Then the odds go up, and if there’s a million events, there’s an almost certainty that one of them will happen, and that’s what coincidences are.
Cycles in Action
So when we look at these cycles, we have to say “Is it a coincidence?” The foundation for this study of cycles says that the more a cycle has dominated, the more regular it is, the more times that it had repeated, the more likely it is to be the result of real cyclic force that will continue. In other words, it’s not just a coincidence. They go on, “If it has not dominated enough, or has not been regular enough, you must have more repetitions to get equal assurance.”
These long wave cycles – the Kondratiev Cycle, was developed by Nicholas Kondratiev. He was a Russian economist in the ’20s. He noticed these long patterns. He started focusing more on pricing data, inflation, or production data, and generally, these cycles were about 50 years or so, and that’s what he noticed. The first one he identified started in the late 1780’s, and during his life, he identified three waves.
I found a really fascinating paper, because I was trying to figure out “Is there any validity to cycles? And the paper was written by two academics; it’s called “A spectral analysis of world GDP dynamics” and it was researched by Andrey Korotayev and Sergey Tsirel. I’ll link to it in the show notes, or if you remember my free Insider’s Guide, I’ve already sent you those links. You can sign up for that at moneyfortherestofus.com. I’ll also send you some of the most important writing I do each week, an essay on typically the topic of that week’s episode, but also other valuable content. You can sign up for that at moneyfortherestofus.com, or as a U.S.-based listener, just go ahead and text the word “insider” to the number 44222.
So he looked at these patterns in relations to interest rates, foreign trade, coal, pig iron production, which is a form of raw iron… For many of the major economies – England, France, the United States – and he noticed these long waves, where not just GDP but these other measures went through periods like an up cycle, and then they went through a down cycle.
These academics wanted to take this data, world GDP (Gross Domestic Product) as a measure of output – I mean, the whole point of a cycle is “Do these long cycles exist?”
Now, Kondratiev started thinking it was just sort of this economic data, but since then, later proponents – because it has to do with technology innovation, so major innovations like railroads, steel, cars… They lead to these 50-year cycles, as the adoption of the particular technology (automobiles) leads to an acceleration of economic growth, and then when it gets widely adopted, you have a slowdown, and then a new wave of technology comes along.
So what these academics are doing is asking “Well, is there any truth to this?” So they did a spectral analysis, which is sort of just taking the data and seeing if there are these waves – are there peaks, are there troughs? And they found that yes, there were. They identified in Kondratiev there are five waves, and they found that GDP – the most recent up-cycle is the fifth wave, and GDP has increased about 3.5% annually. This is starting from — and here’s the trick… It depends on the time period. 1992 to 2007 GDP was at 3.5%. During the phase four down period, so roughly 1974 to 1991 GDP only grew at 3%.
Now, earlier in the cycle, phase two, for example, the up-cycle of GDP grew at 2% a year, in the down cycle 1.7%. So it’s not like it was a recession, it just didn’t grow as fast. And the waves have to do with, again, different technology coming on board.
Here’s the frustrating part though – the timeframes are extremely subjective. So when Weiss is saying that “The cycles are saying we’re headed for an Armageddon of debt and debt defaults based on this 50-year Kondratiev cycle”, it doesn’t have anything to do with that. It was this technology, and one of the challenges — so this study was done in 2010; the Great Recession had started, and it was in the midst of it… They couldn’t tell whether this was a continuing downswing of the fifth wave, the beginning of a sixth wave, or actually a temporary blip, so the fifth wave was going to continue onward.
The time periods were years. With a 50-year cycle there’s no way to interpret what’s going to happen with the stock market or other investments, nor can you do it with the Juglar 9 to 10-year. Even there there’s some discrepancies. This is a 7 to 9-year cycle, or a 10 to 11-year cycle.
I pulled up a graph — there was research, and it showed the periods of recession and expansion. Sometimes it was a 5-year gap, sometimes it was a 10-year gap, and this was just looking at downturns in Gross Domestic Product. Recessions happen. There’s over-production. We’re investors, consumers, we decide we don’t want to buy as much; companies cut back production, or they have too much inventory, so they cut back production. It leads to a recession. But it doesn’t follow an exact timeframe. There’s cycles, but we can’t say all five cycles are going to converge next month and all hell is going to break loose in terms of a rollercoaster ride. You can’t do it, it can’t be done. The time periods are too subjective.
So what do we do instead? We monitor investment conditions. Here’s how one of my investment mentors, Howard Marx — he is the chair of Oaktree Capital; this is a distressed debt private capital firm. I invest with them as an investment advisor to a number of clients that had assets with them… He isn’t promising 100% returns. He has the requisite humility you need as an investment advisor. He says:
“I would never say, when referring to the market, “Get out” and “It’s time.” I’m not that smart, and I’m never that sure. The media like to hear people say “Get in” or “Get out”, but most of the time the correct action is somewhere in between.”
He told Bloomberg:
“Investing is not black or white, in or out, risky or safe. The keyword is “calibrate.” The amount you have invested, your allocation of capital among the various possibilities and the riskiness of the things you own all should be calibrated along a continuum that runs from aggressive to defensive.”
He’s talking about what we do at Money For the Rest of Us and at Money For the Rest of Us Plus. We monitor investment conditions. We want to know where we are in the cycle. We recognize cycles are there, but we can’t time it exactly. Marx goes on, he says:
“We may not know where we’re going, but we sure as heck ought to know where we stand. Observations regarding valuation and investor behavior can’t tell you about what will happen tomorrow, but they say a lot about where we stand today, and thus about the odds that will govern the intermediate term. They can tell you whether to be more aggressive or more defensive, they just can’t be expected to always be correct, and certainly not correct right away.”
As an investor, I’m an incrementalist. I look at valuations, I look at economic trend data, like PMI, and I’ll share some data on that currently. I look at the level of fear and greed, and I put that together for my own benefit and for the benefit of members of Money For the Rest of Us Plus, so they can have data to fill the information gap to get to know where we stand, to know “Should we be more aggressive in our investment, or should we be pulling back and be more risk-averse because the odds of a major downturn are increasing?” We don’t absolutely know it’s going to happen in October 2017, as Weiss suggests. No, we just have to calibrate our risks as Howard Marx talks about doing.
Now, what about this PMI data? These are surveys done monthly around the globe. They’re called Purchasing Managers’ Index; I always get confused is it Purchasers or Purchasing…? They’re purchasing managers indices, which just means they’re businesses. They’re businesspeople, and they’re asking them how business is, “How’s your inventory? How are your inventory levels? Are you cutting back? What are your hiring plans? Are you getting new orders? What’s your backlog of orders?” Then that’s calibrated.
All the answers are taken together for a given country, and if the answer is 50 or above, generally it suggests the economy is expanding, and if it’s 50 or below, the economy is entering a period of contraction, or the risk of a recession is high. And they’ve been really, really good at forecasting and front-running recessions… Why is that? This is a cycle, the economies are a cycle, but the businesses know and are out there interacting with other businesses, interacting with consumers.
So when the survey data shows a PMI of below 49 or 48, globally – because these are done in countries… So we can look at the percentage of countries that are in expansion territory, we can look at the rate of change over the past year, but we can calibrate the data to see what the risk of a recession is.
J.P. Morgan does something called the Global Manufacturing PMI – it takes all the country data and it comes up with a number. In August and the beginning of September we were at 53.1, the highest level in six years. That’s well above its long-term average of 51.4. Moreover, 97% of countries around the world had PMI’s above 50. 97%. 93% showed a positive year-over-year increase, and 73% showed a monthly increase.
The risk of a recession is really low right now, and that’s just where we stand. We can’t invest assuming a recession starts next month, because the probabilities say that’s not going to happen, because of just some of this survey data.
Howard Marx on cycles says:
“Up and down cycles are usually triggered by changes in fundamentals and pushed to their extremes by swings in emotion. Everyone’s exposed to the same fundamental information and emotional influences, and if you respond to them in a typical fashion, your behavior will be typical, pro-cyclical and painfully wrong at the extremes. To do better, to succeed at being contrarian and anti-cyclical, you have to have an understanding of cycles, which can be gained through either experience or studying history, and being able to control your emotional reaction to external stimuli.”
That’s wise advice – successful investors control their emotions. They know where we stand in the current cycle, they know what economic trends are, they know what valuations are. That’s how I invest, that’s why I put together Money For the Rest of Us Plus, to provide that type of information to members that seek that out. Not everybody wants that, that’s not for everyone…
But that’s how I invest, and that’s how I have invested professionally, and that’s why I invested with firms like Oaktree, because they had humility. They didn’t say like Weiss said, the announcer at the end of the video… She says:
“We’ve been warned. Sean and his team, the experts who called nearly every major economic investment event over the past 40 years (nobody’s that good) have given us their forecast for the next five. They’ve told us what will happen, they have told us when it will begin. They’ve explained what we can do to prepare, to protect, and even grow our wealth, even as other investors lose everything.”
I don’t believe it. Nobody is that smart. We just have to know where we stand, control our emotions, calibrate our risk based on investment conditions… That’s how to invest, based on cycles.
Show notes, as I mentioned, are at moneyfortherestofus.com. While there, if you’ve not signed up for my free Insider’s Guide, you can do that. And if you want more information on Money For the Rest of Us Plus, our membership community, you can learn more about that there also.
Everything I’ve shared with you in this episode has been for general education. I’ve not considered your specific risk profile, I’m definitely not providing investment advice. It’s just general education on money, investing and the economy. Have a great week!