JAMES HELLIWELL: How did you know it was going to end in tears?
ROGER HIRST: Because just--
JAMES HELLIWELL: Come on. You say that now, you say that now. You say that now.
ROGER HIRST: It's easy to say, oh, pricing doesn't matter anymore. It's all about eyeballs. Number of clicks. And it's like, no, this time is different. Everyone's saying, this time is different.
JAMES HELLIWELL: But it sounds eerily familiar to a recent chapter, does it not?
ROGER HIRST: Oh, exactly. Yeah.
JAMES HELLIWELL: It does to me.
ROGER HIRST: Yeah. I mean, but that's the thing, you always get those. And everyone just says, this is something that's different, you've got to do it in a different way. And whenever you hear that, you know that there's a very, very high probability that it's all bollocks, basically. And once again, it was. But we were probably short that game too early, as pretty much everybody was. Again, it's a bit like in 2007. A lot of people saw it coming, but not many people could hang on with their short thesis. Because it came very early, it was obvious from very early, but it kept on going against expectations. And so that was very much the experience of the dot-com bubble.
JAMIE MCDONALD: OK, so if you're trying to pick that top, right, just take that as an example. You think you're in a tech bubble, but you don't how long the trend is going to last. How do you know whether the trend is a short-term trend or a medium-term trend or a longer-term trend?
ROGER HIRST: I don't think you can. I think it's unknowable, and that was the thing that nearly everybody points out is that-- I mean, it's two different things. One is that it can be unknowable in terms of the timeframe, or it can be unknowable in terms of the distance it moves in a timeframe. So you can say, within the next year, this is going to collapse. It could go up 50% in that timeframe. And that is the hard bit of all bubbles. And nearly everybody gets that wrong. And so this is why, in that second bubble of 2006 to 2008, a lot of people saw it, but they couldn't hang on, because they got short for a long time.
JAMES HELLIWELL: Yeah, is that timing, you think through basically different regimes or time shifts, you're thinking in terms of the cycle? People were just out too early in that case from calling an end to it? Or what sort of horizon with the trading arm?
ROGER HIRST: So I think most people were looking at this. I mean, you got different types. You got the institutional investors, who often have this very long-term frame, and they were basically playing it from the long side.
JAMES HELLIWELL: So that's secular stuff.
ROGER HIRST: Yeah, exactly. And whereas you had the hedge funds who always try to catch this. They're always trying to catch that turning point, really trying to catch some of the biggest moves. For the hedge funds, it was really quite hard. And actually, most of them ended up being on the long side of, for instance, the 2006, '07, '08 bubble. And most inflated from that long side, because trying to wait for it to end was harder than hoping you can be swift enough with a small enough AUM, assets under management, you can shift your portfolio around quickly enough when it ends. And so for a lot of people, you play the trend, even though the trend is ludicrous in its size. But you play it, and then you hope you can shift out of it. But for a long only, you can't do that.
JAMIE MCDONALD: So OK, let me ask about trends. Because when I was running a fund, obviously a long short. And I was judged on annual performance. So my timeframe was always that. As a rough rule of thumb, I was trying to make 1% a month. Never did, but at least that was the goal. So my time horizons were always a few weeks or a few months. But that's not all the market trends that exists. So if I think about it, am I right in saying you have short-term trends, which we call tactical. Then we have cyclical trends, which are more like months to years. And then the secular trends you've been talking about. Is that how you feel?
JAMES HELLIWELL: Yeah. The secular stuff is very difficult to make money from, particularly within, I don't know, a career of maybe 10 or 20 years, or an investing lifespan of maybe 30, up to 30 if you start early enough. The business cycle or cyclical trends are linked to the economy and the swings in that. As you say, it probably lasts month to maybe a few years, depending on which point you're at.
But what I'm saying is, in the short term, it's very difficult to make money from as well. So you end up, I think, converging somewhere in the middle. At least that's my experience in terms of where you are. But at different points of the cycle, when things are at extremes, you have to, I think, focus more on, we're going to have a really super long-term view now, because everything is going crazy, and try and revert to that as a rule. Or we have to be a bit more tactical.
JAMIE MCDONALD: Yeah. What I'm saying is, can you be a bit of all three? Like, can I have a portfolio where my major theme is, over the next 20 years, equities are going to outperform bonds, or whatever it is? But within that, I prefer tech, because I think the economy is in a growth session. And then within that, I'm long Tesla, because I think the earnings are going to blow the numbers out of the water in two weeks' time. So can you have your portfolio, in effect, divided up to these three markets?
JAMES HELLIWELL: I think you have to, right?
ROGER HIRST: Yeah. I think that when you look at these longer-term trends, some of them are megatrends that are demographics. I mean, how do you actually trade demographics? All you can do is say we're getting to the point where demographics are going to be inflationary or deflationary.
JAMIE MCDONALD: Well, can I ask you about that? Because we did have this. So I looked at insurance. And so one of the big demographics was people are living longer. And so you'd be like, let's say, short life insurance companies, because you think basically, they haven't priced for how long people are living, and they're going to be short reserves. Thing is, your bet is a 10-year bet. But there's going to be a catalyst. So it was always one of those things that I always found it quite difficult to get right.
Because, yeah, using another example like the 2008 banking crisis, that was, I guess, a cyclical or secular trend. But it was like, the financial market is overheating. But you could have been right, but then not made money because your timing was wrong. So that's what I'm saying. You could have put the shorts on in 2006 and 2007, but you really make money 2008.
JAMES HELLIWELL: That event was a catalyst, right? And you ultimately need a catalyst in order to create that inflection point, if things are overextended or if you are near the lows, to actually get the reaction. Otherwise, you can be far too early.
ROGER HIRST: I think what you're actually seeing there is that, in some ways, we've been playing this big demographic trend. We've been seeing lots of different cycles around the ending of that trend. We've probably been through two, maybe three, iterations since 2000 of that trend of demographics, that buildup of debt, which has created an ever-expanding quality of life, particularly Western economies. But that rate of change of the quality of life is starting to slow, so we put more debt in and more debt to keep it going. And then you have to start thinking, OK, you've got the big supercycle, but then on top of that, you've got these other cycles of how is the policy response?
So you have that policy response, 1945 to 1980, which was very much more interventionist from governments. Became too interventionist, it became inflationary because there was too much government at a time of things like OPEC crisis. That changed in the early '80s with Volcker, Thatcher, Reaganism came and said open markets, became more about central banks. And then that central bank, big cycle within the demographic cycle, which is seeing lower and lower interest rates.
But ultimately, are we now at a point, as you get into 2022, with this skyrocketing inflation? Is that now another inflection point where one of those big cycles of open monetary policy is now going to shift back to something which is more interventionist? We don't know, but it feels like we're seeing something of an inflection point.
JAMES HELLIWELL: The inflation has been driven in a completely different way to what you describe, Roger. Going back over, was it in 1945 through to '70s, with that being demand-driven.
JAMIE MCDONALD: Now it's more supply.
JAMES HELLIWELL: It seems to be, yeah. And I mean, how this plays out in terms of where yields are, compared to interest rates are compared to the '70s, who knows?
ROGER HIRST: It's a very different setup. The '70s was this sort of demographic peak, and people didn't realize just how fast population growth was going at that time. So this sort of extra demand, more people were coming onto the planet than people thought. Today, that's not the case. Actually probably fewer than we think are coming onto the planet.
But you've got this difference here, which is the inflation is similar to what we saw in the 1970s. But it's caused by fiscal stimulus, but a supply chain disruption. And those two things are working together. Very different from what we saw in the 1970s, where actually wages were going up a lot as well as inflation. So actually, real wages were generally positive in the 1970s. Everyone says it's stagflation, but actually there was growth, and the peak inflation caused a pullback. Today, we're seeing demand destruction.
JAMES HELLIWELL: Doesn't that coincide as well with-- I think you mentioned it the other day-- when the population growth peaked that was around '73 or--
ROGER HIRST: Danny Dorling is this Oxford demographer who believes that there's evidence to show that the rate of change in population growth peaked in 1971, and that was the decade of inflation. And it basically was, if you saw 100 million people are going to arrive, but 200 million people arrived, that's inflationary. So today, if you think two billion people are going to arrive, but only one billion arrive, it's many, many more people than back in the '70s, but you were expecting more. So it's deflationary. That's the difference between the '70s and the inflation we see today.
JAMES HELLIWELL: You can see it in the chart, the 10-year, if you look at that. I mean, it's eerie. But it's no surprise, because ultimately this is reflected. You can just picture exactly what's happened in a chart.
ROGER HIRST: I mean, it's beauty. Because you see a sort of '45 to '82, moving up, and then '82 to today, moving back down on that yield.
JAMES HELLIWELL: So that's the secular trend, then. It's put downward pressure on interest rates over the past 40 years, from the early '70s. Whereas before, we were in a different regime, and that brought with it a very different dynamic for the landscape for investing, ultimately.
ROGER HIRST: What's fascinating about that downtrend is if you look from a distance, it looks like a straight line down. But actually within it, the yields move up and down and up and down along that downward trend, because there's all these other things playing within the market at that time. This is the cyclicality. So those are all cyclical moves, which are pretty much the business cycle.
JAMIE MCDONALD: But how do you know? What I'm trying to imagine is, now we can see it from a 1,000-foot view, or with hindsight. Now, it's clear to us that was a trend. But when you're in it, it's very difficult to see what's the cyclical trend, what's the secular, and what are the tactical moves?
ROGER HIRST: I suppose you've got to start off with what is the big framing, that big, big framework? Are we in a monetary or an interventionist era? So we're in a monetary, OK. Where is growth going? Is growth picking up? And there's things like the yield curve. The yield curve has cycles. And you can say, OK, the yield curve is doing something, which is the difference between 10-year yields and two-year yields.
And you can sort of say, OK, if that yield curve is moving up, which means that those longer-dated yields, which are an indication of growth, are picking up, OK, we're in a growth cycle. It looks like a positive growth cycle. I'll leverage up my positions, because these normally last for three or four years, maybe longer, before we peak. So you can have a basic framework that should work. But obviously, you've always got to test your thesis.
JAMIE MCDONALD: Do you think this means that everyone has to have a macro view to make money?
JAMES HELLIWELL: I think you do, yeah. You have to be aware of, first of all, the general sentiment or investor expectations. The landscape that you're investing in, even if you're focusing on shorter-term stuff, you have to have that context to understand how the markets are likely to react around your position in your view. And obviously, then it gets into how you're going to express it, the timing of when you put that trade on. Where you may be wrong, as well. You need to have that awareness. So I know, Jamie, when you were focusing, doing long-short before in a particular sector, is it financials?
JAMIE MCDONALD: Yeah, just looking mainly at insurance companies.
JAMES HELLIWELL: You had to have a view, right? Going into earnings.
JAMIE MCDONALD: Well, we definitely had to have a view going into earnings. And that's what separates me from, I think, a lot of other people who are trying to put their portfolios together, is I was very short-term, but obviously I could go long-short as well. So to an extent, I could hedge out any macro risk, which is why I was asking about, do you have to have a macro view? Because for me, the whole idea of what I was doing was sticking to one subsector, knowing the companies well, being able to go long one company, short another. And so to an extent, try and get the alpha between the good boys and the bad boys.
JAMES HELLIWELL: That's quite unique, right, to--
JAMIE MCDONALD: Yeah, but I was trying to say one more thing. Because I think I overlooked the point you made is that, even though I was hedging at macro view, I actually did need to know what the general impression was of macro at that time. Because when I was looking at, for example, non-life insurers and I thought, oh, the whole subsector is underrated, and I was waiting for that subsector to re-rate. And as it turns out, just financials were just out of favor. No one gave a shit about financials, to be honest. And that's why it took so long for any rerating to happen.
JAMES HELLIWELL: You need the flows to come, right?
ROGER HIRST: Yeah. Look, I think you're doing that long-short relative value thing, which is actually, you've got to get deep into the weeds of the accounts for that sort of thing. You've got to know the companies intimately.
JAMES HELLIWELL: You're meant to anyway.
ROGER HIRST: Yeah. Which is actually very hard if you're not necessarily a novice, but new to this business. Whereas if you've got a macro view, you can start the building blocks very early on. You can start understanding things, which is, OK, what is it telling me if a commodity currency is going up? It's kind of obvious. You expect there to be growth because it's a commodities.
JAMIE MCDONALD: What, like Brazilian real?
ROGER HIRST: Real, stuff like that. OK, so that's a building block. OK, this relationship between emerging markets and copper and the Aussie dollar. Emerging markets generally, certainly the last 20 years, were big commodity producers. So you had these relationships that didn't look the same. You can start putting those together and you can start to actually say, OK, I'm going to use this trend to inform me on what I think this environment is.
JAMIE MCDONALD: Because I'll tell you-- sorry I'm interrupting you, but from a lot of the interviews we've done in the Masterclass series, people have started, just exactly as you said, and then you find a trend that really interests you. Now, it could be anything. It could be gold or commodity futures. But when you start looking at trends, and you see how they react with other asset classes, it starts to tell you a story, and then you start to look for patterns. So actually, it does make a lot of sense, what you said.
ROGER HIRST: I mean, that's the thing, is that there's patterns out there. There are relationships which-- because there's been a relationship in the past doesn't mean it will carry in the future. But you can say, OK, historically, if X happens, then I know that asset Y and Z will probably move in this way. So you can start playing those. And again, you test your thesis, test your thesis. But at least can start picking those. And you don't need a proper accountancy degree. You just start by looking at a few charts and pulling together a few pieces.
The macro seems daunting, because you've got to sort of understand a bit of everything. But actually, you can be a jack of all trades but a master of none. Whereas long-short, you need to your stocks. Because everybody else who's doing that is looking into the weeds.
JAMES HELLIWELL: Well, isn't it like 80% of the return? And it's a rough number, but 80% of the return is ultimately coming from the macro. So it's the asset level or risk.
ROGER HIRST: I've heard that. I think its said a rule of thumb.
JAMES HELLIWELL: But doesn't it depend on the beat or the sector? Well, maybe about 40% or 50% is equities or the asset class. And then 20% or 30% is probably the sector, so whether or not financials are in vogue or not, whether or not you're seeing the flows. And then ultimately, the bit that you were specializing in, which you could obviously amplify with leverage whilst keeping your risk better controlled, is the alpha at the end, in terms of security selection.
ROGER HIRST: And so ultimately, you know, when it comes to actually performance, it's like, is it a bull market in equities? If it's a bull market in equities, that's where you return on equities. You might be in a sector, but it's the bull market that matters. Which is why we focus on bull markets, equities tend to go up during periods of expansion. And we're going to say bull markets, but obviously they go up during bull markets and periods of expansion. So if you're in a period of expansion, you're going to play that trend. And if you're long equities, you're going to probably outperform a lot of other assets.
Now, then you want to pick which ones within that. Is this one that's led by China, for instance? So you may recall back in 2001, China through WTO, World Trade Organization, came into that. And that was like bringing a billion people we didn't realize were in the population into the population.
JAMES HELLIWELL: That was a big catalyst.
ROGER HIRST: That was huge. And that was that China came into something. It was coming to the end. We're coming to the end of the Western growth period, and suddenly China comes in, and boom.
JAMES HELLIWELL: So that could be the catalyst for a new secular trend?
ROGER HIRST: Yes, it was. I mean, I think there's two ways that people look at this. There's this new trend, which is China coming on, and hoovering up more commodities at a faster pace than we'd ever seen before. So even though at that period, we weren't sort of going on as is obviously a commodity boom era. The way that China came in was a massive, massive change, the whole of the kind of global financial system at the time focusing mainly on commodities.
But that meant that you had two things now working together. One was the demand for global growth and growth equities, particularly cyclical commodity equities with China. But the cycle of value of money, still driven by the dollar, was the Fed in the US. So you have this time period where you had this massive trend, which is massive commodities. And that sucked out the commodities from emerging markets. So their currencies massively outperformed versus the dollar. So the dollar went down, which then boosted this cycle even more.
So you had weak dollar boosting commodity prices, which were being hoovered up by China. And that kind of cycle felt like it ended in 2008, in August 2008, when you got several suites higher in commodities. But in reality, China kept on the demand for commodities further than that, up until probably 2016. But we've seen them move up and then move back down because of the financial crisis.
We started to put something else onto this big trend, which was a 15-year trend. And maybe only in 2018 to try and go, OK, we've kind of done that one now. We're not going to force ourselves into buying commodities at whatever cost anymore. They're going to be a little bit more subtle about it.
JAMES HELLIWELL: So it certainly wasn't linear then, that trend. There was the cycle and the busts, this financial crisis. And presumably along the way, there's been a heck of a lot to consider in terms of positioning when things got to extremes, both the upside on the downside.
ROGER HIRST: I mean, on top of that, we had this growth cycle. But then we had a leverage cycle that was based on the US. The US basically didn't raise interest rates quickly enough, so you've got growth. And you can see it. There's growth going, and the Fed basically 25 basis points at every meeting. But it meant that they actually always behind the markets. The market levered itself up and levered itself up. The mortgage industry levered itself up. And that was the big cycle.
So you had commodities coming out of China, demand for it coming out of China, and you had this cheap capital effectively from the US. And although there was tightening, they weren't tightening quick enough for the way the market was reading the Fed. So the market is always ahead of the Fed, which is why you got the bubble in 2008. So that's two cycles working together to create some incredible moves.
JAMES HELLIWELL: You see these excesses built in, and thus ultimately the swings. If you look at late indicators, like the ISM, for example, or whatever your flavor is.
ROGER HIRST: And probably no one would have bet that you got more than $150 in 2008, which, inflation-adjusted, is much higher than we've seen in the 2022 commodity crisis that there's been. But that was because there was this combination of leverage. Effective cheap capital was still driving these things. Even though interest rates were going up, it was relatively cheap. So the cycles there, and this is all within that much bigger demographic cycle, which is the basis for the government, too much intervention to monetary cycle. And then within that, you've got these smaller cycles, which is China coming on board. You've got the business cycle in the US, based on the monetary policy of the US. And those tend to be five to 10-year cycles within these bigger cycles.
JAMES HELLIWELL: So you've got liquidity there as well. There's something else. So we've mentioned obviously debt, demographics driving the big shifts. We've got oscillations, excesses in the business cycle. But ultimately, the core of that--
JAMIE MCDONALD: But what do you mean? Do you mean bank liquidity?
JAMES HELLIWELL: I think in general, if you look at the size of the Fed's balance sheet and everything else that's happened, it can be as simplistic as that. We've seen how that has also led to expansion in valuations and other things. Obviously, the general level of the stock market and other asset classes.
ROGER HIRST: It's exactly like another cycle, which is, within this monetary cycle, we then saw the quantitative cycle, where the amount of the size of the balance sheet became the new factor. In 2009, remember that your that 2008 bubble went, my God, if the Fed expands this quickly, we're going to get inflation, which we didn't at the time. What we got was asset price inflation, equity inflation, but not CPI price inflation.
And that caught a lot of people by surprise. But that was a new cycle. It had always been interest rates before 2008, and then it became balance sheet and interest rates. So there was a new policy cycle within the existing cycles. The cycles within cycles which were driving this change.
Now we may be seeing that change once more, because we've seen with the fiscal sources. This is government intervention coming back again. Since the pandemic, we've now seen these higher prices that we've never seen before. And the level that we've got to would probably shock most people, apart from one or two, who the level that you see, this higher move, is a new cycle itself.