Jane’s Tale

With earnings season on deck and market participants increasingly prone to digital shouting matches about whether equity valuations are ludicrous or merely “stretched,” I wanted to say a word (or two) about expectations and the future.

Uncertainty, like suffering, is synonymous with life. Indeed, uncertainty is in many cases a source of suffering. Markets are notoriously allergic to uncertainty and hedging, even when costly, is often identified with prudence.

Most investors alive today have arguably never operated in an environment that admits of as much uncertainty as the current macro landscape. That observation is juxtaposed with record-high stock prices to support various narratives about purported “disconnects” between assets and fundamentals. The figure (below) is but one example.

It may well be that equities are destined to “correct.” It’s entirely plausible to suggest that multiples will succumb to the gravity of their long-term average.

If that happens, analysts will rewrite their own bullish narratives, hindsight being 20/20. And people who make their living peddling doomsday predictions will enjoy a web traffic windfall, although they surely won’t mention all the times they’ve made the same predictions over the past dozen years only to watch as risk assets continued along their inexorable, post-financial crisis ascent.

What nobody will bother to mention is that without blind faith in the idea that the future will be better than the present, virtually nothing we do on a daily basis is possible. The purveyors of apocalyptic economic narratives are in fact no less optimistic in this regard than the most starry-eyed bulls.

You often hear charlatans of various sorts (politicians, bloggers, newsletter writers) warning about the dangers of “borrowing from the future,” an endeavor they invariably claim will impoverish “our grandchildren” and snuff out growth.

The reality is that our present is everywhere and always expensed to the future. Progress and growth simply aren’t possible in the absence of that arrangement.

Imagine someone (let’s call her Jane) who wants to capitalize off what she believes to be market participants’ insatiable appetite for articles prophesying imminent economic collapse and stock market crashes. She has no capital, though. In fact, she doesn’t even have the $100 it takes to start up a rudimentary blog, let alone the tens of thousands she’ll need to hire a developer and someone to help her produce charts and other content. Assuming she can’t borrow the money from — I don’t know — her father, she’ll need a loan.

If our entrepreneurial permabear really believed the narratives she plans on peddling to the masses and suspected that bankers understood the same, she wouldn’t even try to obtain the capital she needs. Why? Well, because credit isn’t possible without society’s universal belief in future growth and collective prosperity. Jane has little or no collateral. All she has is a business pitch. She’ll produce content and people will buy it. Or advertisers will pay her to place their ads on her site. That presupposes the very same economic growth she plans to tell her readers is unlikely to occur.

There are only two scenarios under which a lender will extend Jane the credit she needs. Either a lender believes that the size of the proverbial pie will continue to grow in the future, making room for Jane’s business, or else the lender believes Jane can take market share from someone else already doing what she plans to do.

Absent some “secret sauce,” a potential creditor is extremely unlikely to lend solely based on the notion that Jane can take market share from an established player. Rather, a lender willing to extend credit to Jane almost invariably believes the world is not zero-sum, and that even if margins for advertising-based web businesses are dwindling and/or prospective readers are more budget constrained than they were pre-pandemic, the size of the pie is nevertheless likely to grow. Under those circumstances, and assuming Jane isn’t asking for an unreasonable line of credit, she may be able to obtain the business loan she needs.

Sure, there are downturns and even deep recessions, but for the past several centuries it’s generally been the case that humanity expected the future to be better than the present and that progress (broadly construed) would translate into an ever larger economic pie. If this generalized trust in the inevitability of a “better” future (the scare quotes are there to denote that “better” can mean different things to different people) were ever truly in question, then credit creation would cease, all banks would fail and within an extremely short period of time, there would be anarchy.

At a very basic level, this trust in the future is the only thing that keeps all banks from collapsing instantaneously. Modern banking is a Ponzi scheme, by design. So, why doesn’t it fail? Why are all the successful players in Jane’s line of business always wrong to suggest that a collapse is right around the corner?

It’s because by and large, people believe that growth and progress is inevitable — that the size of the pie will continue to expand in perpetuity. If they didn’t, they wouldn’t dare keep any money at all in the bank. After all, it’s not covered, and if the progress stops, many of the loans extended by the bank will be in default. The Ponzi scheme would collapse. Hyperinflation is inevitable at that point, because implicit in all of the above is the notion that nearly all money in existence is based solely on the same trust in the future. Bailouts would be fruitless to the extent government would be attempting to make depositors whole by crediting them with a currency that was depreciating in real-time.

Of course, you might argue that Jane could genuinely believe that progress isn’t inevitable but still seek to obtain credit. She knows that the pie is poised to stop expanding imminently, but the banker doesn’t, so the rational thing to do if you’re Jane is to take on as much fixed-rate debt as absolutely possible, knowing that one way or another, you won’t have to pay it back (hyperinflation will wipe it away or the system will collapse and it won’t matter). And yet, how many commentators and pundits of Jane’s ilk do you hear arguing in favor of unchecked personal debt accumulation?

While there are doubtlessly scores of people out there who believe some version of an apocalyptic collapse narrative, rest assured they aren’t the same people preaching those narratives to the masses. And they most assuredly aren’t the people having semi-collegiate debates about stretched PE multiples. (How many people without bank accounts do you think Bloomberg has quoted this week?)

All of you, whether you realize it or not, trust that the pie will keep expanding and that the future is likely to be better than the present. For damn near 500 years, we’ve been building the present on the expense account of the future.

As long as we keep doing it, it’s not a fraud. Credit gets extended, people start businesses, the pie grows, loans get paid back, trust in the system grows, more credit gets extended, people start more businesses, the pie keeps growing, more loans get paid back, more trust is built, and so forth. It’s a self-fulfilling prophecy. When we stop building the present on the expense account of the future, the fraud is exposed, progress stops and the Janes of the world are finally right.

At that point, the question is whether they heeded their own advice over the years by converting all the newsletter money and click pennies into canned goods and a nice bunker adjacent to the in-ground pool in the backyard. The readers are coming over for a dinner party. And those forks they’re carrying won’t fit on a napkin.