About
While investing often includes picking individual securities, there is no doubt that the ‘marco’ picture plays a big part in the underlying success of a Company. I read recently in Pragmatic Capitalism that 71% of market movements are now the result of macroeconomic trends. We see this most evidently in the day-to-day movements of the stock market, where 90% of your portfolio will likely be entirely red or green on any given day, or when the global financial system is in a bear market, where numerous studies have shown the increased correlations that take place.
The problem with economic market movements is that they are often impossible to predict with enough conviction to confidently make investment decisions. To address this, we want to create a portfolio that can weather all sorts of macro landscapes so that we are protected even by the unexpected.
While future macro movements are impossible to consistently predict correctly, they do often provide opportunities in the present by mispricing securities too high or too low.
In the following chapters you will learn about key influences including inflation, interest rates, opportunity costs, and the effect debt/credit play on the market.
Thoughts on analyzing the economic environment
This has always been a tricky one for me, are we supposed to care about the macro environment or not? Short answer – yes and no.
You hear Warren Buffet say that he has never made an investment decision based on the macro environment while Ray Dalio emphasizes the importance of macro and credit cycles.
However, looking at this more closely Berkshire Hathaway spent a net $32 billion on investment related assets, including a $5 billion investment in Goldman Sachs preferred stock, in 2008. The total net investment spend of Berkshire in 2006 and 2007 was $27.5 billion, not even matching that of 2008. Were these macro buys? No, but the macro, capital, and credit market condition of 2008 created many buying opportunities.
The macro environment, combined with investor sentiment (behavioural finance) is what most often misprices securities. So pay attention, because large macro events will create the best buying opportunities – 2008, the Covid crash, and whatever comes next.
However, we must remember that it is not timing the market that is important, it is time in the market. Therefore, even if not presented with the opportunities presented above, there are always intelligent and logical places to store your capital, in any macro environment.
Key Factors
Knowing the macro landscape can also help in avoiding costly financial mistakes. A good example would be knowing how changes in the prime rate affects variable rate debt, like a mortgage or a personal line of credit, so that you can stress test that debt to see if it is still affordable under different situations.
That said, let’s look at some of the key economic factors to know about when making investment decisions:
