It is during times like these that taking a big picture view can be incredibly helpful. While he insists that we are not doomed to forge down the same path, he acknowledges that the risks of doing so are much higher than normal. Dalio likens today to 1937, which was two years before the start of World War II. Simply put, everyone is speculating as to how the cycle will unfold.ĭuring the late stages of cycles like the one we are in, wealth inequality, populism, and political conflict can also rear their ugly heads. The differing expectations of the timing and pace of this process is what is driving the large swings in the market today. Over time, however, their ability to stimulate becomes limited and they must go in reverse by raising interest rates and reducing their balance sheet like they are today. All of the debt that builds up from the short-term debt cycles has a cumulative effect that has to be managed by the central banks.ĭuring boom times, central banks are often stimulating the economy by lowering interest rates and printing money to buy debt. These recurring short-term debt cycles typically occur within longer-term debt cycles that typically last 50-75 years. As a result, asset prices often decline well in advance of seeing the evidence of the impending slowdown in the economic data itself. Often, monetary tightening occurs during this time to prevent the economy from over-heating.
However, that cycle eventually reverses course as the economy starts to contract, spending drops off, asset prices decline, and people are forced to deleverage. Individuals and governments borrow money, asset prices rise, and a self-reinforcing feedback loop begins as wealth creation generates more spending, which creates more wealth creation, and so on. Short-term debt cycles typically last 5-10 years, and during this time, the economy goes from having a lot of slack to having little slack.
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One of Dalio’s core investing principles is that short-term and long-term debt cycles are the key drivers behind the economy and the stock market. He recently wrote an article about the current state of the markets, which I think makes the big picture clear despite the bi-polar nature of the day-to-day headlines. I have read several of his books, and the guy simply gets it. Well, one person who I have an incredible amount of respect for is Ray Dalio, one of the most successful hedge fund founders of all time. So whose opinion can you trust during a time like this? On the other hand, you have the “bulls”, who think we are about to rally back with avengeance.
A large number of “bears” think that the market is set to drop even more from here.
If you listen to the financial news stations, you’re likely to end up even more confused. It’s hard to make sense of today’s market. Just last week this happened with a drop of -2.5% on Thursday followed by a 3.4% gain the next day. As of late, however, we have seen huge declines of 2%-5% per day, followed by huge upticks of 2%-5%, and back again.
On a typical day, the stock market tends to shift up or down by a fraction of 1%. If you have any money in the stock market, you have probably been stressed out about the crazy swings we have seen over the past 30 days.