CNBC Interview - Stan Druckenmiller on Fed Policy
Transcript
Andrew Ross Sorkin: We have two final guests this afternoon — both of whom I imagine may make some news, and I know will be a tremendous conversation. Let me introduce to you Stan Druckenmiller. He is a legendary investor — he needs really no introduction, so I’m just not even going to give him one. Stan, come on out.
[Music]
Stan Druckenmiller: Thank you.
Andrew Ross Sorkin: You can take your lanyard off — you’re the only one who… I should have told you that.
Stan Druckenmiller: I’m known as a slob, so it really doesn’t affect anything.
Andrew Ross Sorkin: Stan really is one of the great legendary investors, and there’s so much to talk to him about — especially given the theme and topic of today, which is “playing for the long term.” There are a couple of topics we really haven’t touched today that I want to spend some time with Stan on. One is the issue of entitlements and the long-term challenges that poses, and also we have not really had a conversation today about the Fed and where all of this ends. So I want to start with the Fed, and then we can take it from there. Stan, you have been one of the great investors. You have seen the macro view for a very long time. When you see where we are today in terms of what the Fed is doing — you’ve been out there saying there’s a real problem here — but one of the things I don’t think we all know is how it’s going to end.
Stan Druckenmiller: Join the club. I don’t know how it’s going to end either.
Andrew Ross Sorkin: But you’ve said you think it’s going to end badly.
Stan Druckenmiller: Yeah.
Andrew Ross Sorkin: So what is going to happen that’s going to make all of this end badly?
Stan Druckenmiller: Well, first of all, I love the title of your conference, because whether it’s government, the Fed, or money managers, everybody’s managing for the short term now — and that is the problem with the Fed. We got into a very, very difficult situation in ‘08–‘09 — partly, by the way, because the Fed was late in recognizing the situation in ‘06. What they did in ‘09 was unbelievably creative and forceful; in my opinion, it was terrific. I’m not a fan of counterfactuals, but who knows what would have happened without them.
But sometime between 10.1% unemployment and 5.1% unemployment — with retail sales going like this and a very healed economy — you would have thought we would have gotten out of emergency measures. The reason I think it’s going to end badly is that after over six years of zero rates and quantitative easing, you move investors out the risk curve. You cause emerging market governments — which have always had market discipline imposed on them — to act in ways they never would have been able to in history, because the markets wouldn’t have let them. I.e., Brazil and Turkey. You cause corporations to start acting in bizarre ways, buying back twice as much stock at two and a half times the price they were paying four or five years ago.
At some point, all you do with this is pull demand forward. This is not some permanent boost — you’re borrowing from the future. I think there has been such a misallocation of resources because this has gone on so long and so unnecessarily that the chickens will come home to roost.
An example: the last time we did something — though not nearly this radical — I remember in November of ‘03 being down at the New York Fed for a somewhat heated meeting. There were four or five of us, and I said, “What are we doing? You have 7–9% nominal growth and rates are at 1% — and that’s not even enough for you people. You’ve got ‘considerable period’ attached to it.” I didn’t know how it was going to end. If you’d put a gun to my head I would have said inflation — I’d have been dead wrong. But I knew it was a mistake, and more importantly, it was unnecessary. Two or three years later I figured it out. That’s kind of how I feel now. This is unnecessary. You’re causing irrational behavior by governments, investors, and corporations, and we’re going to pay the piper at some point.
Andrew Ross Sorkin: I want to read you something. A friend of yours, Kevin Warsh, and Michael Spence wrote an op-ed in the Wall Street Journal. They said the Fed has hurt business investment — that QE is partly to blame for the record share of buybacks and meager capital spending. In response, Larry Summers said, “This is the single most confused analysis of US monetary policy that I’ve read this year,” and said that raising rates will threaten all of the central bank’s major objectives. Why is Larry Summers so wrong?
Stan Druckenmiller: It’s interesting what he said elsewhere in that rebuttal — one of his points was, why in the world would companies be buying back stock instead of investing? Because with prices up, rational economic theory says they would be investing. So Kevin Warsh and Nobel laureate Mike Spence were all wet?
Well, a lot of things work in the classroom that don’t work in the real world. He was calling for empirical studies. He should do an empirical study, because I can show him a chart. When stock prices go up, corporations are just like the rest of us schmucks — the higher they go, the cheaper they look. They bought back record amounts in ‘07. When prices went down — when economic theory says they would buy more — in ‘09 and ‘10 they stopped buying. And as I just pointed out, they borrowed $2 trillion to do $2.2 trillion in buybacks over the last four years, at twice the price and twice the volume they were doing them four years ago. I can’t explain that with traditional economic theory — maybe that’s why I dropped out of a PhD program — but what I can tell you is that it’s a historical fact: when prices go up and speculation is rampant, that’s when corporations buy back stock.
Andrew Ross Sorkin: So would you say we’re in a bubble now? Do you really think we’re in a speculative bubble at this moment?
Stan Druckenmiller: We’re in a bubble in terms of what I would call short-term behavior, if that makes any sense. At all four levels I talked about — government, business, the Fed, and money managers — it’s rampant throughout our whole society.
Andrew Ross Sorkin: So what do we do about that? Let’s start with just an investor. Everybody here is trying to figure out what to do. How do you deal with this?
Stan Druckenmiller: Well, I’m a bit of an oxymoron in the sense that I don’t make so-called long-term investments the way other well-known investors do — but I manage for the long term. It’s a series of short-term investments. I have never exited or entered a trade because I thought it would make my quarter look better or because I was afraid of what clients would think. I’ve been trained for 35 years, and fortunately or unfortunately, all my biggest absolute returns came in periods of chaos. So I’m not looking forward to it, but I think I can deal with it if this unfolds.
Andrew Ross Sorkin: You’re anticipating chaos, and you’re sitting on cash?
Stan Druckenmiller: No, I’m sitting with cash — one of the reasons I got rid of my clients was so I’d have enough flexibility. But I’m playing around like everybody else, watching and ready to move.
Andrew Ross Sorkin: When you say you’re playing around like everybody else — where are you playing? What are you doing?
Stan Druckenmiller: Well, in terms of equities, I’m working under the assumption that we may have started a primary bear market in July, mainly because about 80–90% of stocks have been going down for a year — and that tends to precede a broader decline. We had the Nifty Fifty right around when I was starting the business; now we’re down to about the Nifty Ten. Everybody in the room knows what they are. I’ve been hanging out in the Nifty Ten and shorting value stocks — probably the opposite of what they would teach in Dr. Summers’s class.
I’m also shorting the euro again. About May of 2014, US monetary policy and European monetary policy flipped at the same time — Draghi decided to do quantitative easing and lowered the deposit rate at the same time Bernanke decided to do tapering. Because it had been the opposite for a few years, the euro was overvalued. I have never seen a major currency move of this intensity. The nice thing about currency moves is they tend to last two to three years, but they usually take a timeout somewhere in the middle. I thought we were in that timeout in the euro, and now look at what’s happening — Draghi has pretty much pre-announced step two. There’s even more pressure building at the Fed on whether they’re going to pull the trigger.
Given that currency moves usually last two to three years and it’s only been a year and a half, and all my brethren have gotten out of the trade including me, I’m working on the assumption that leg two has started.
Andrew Ross Sorkin: You mentioned you thought a bear market may have begun this summer in the equity market. You’re open-minded to that?
Stan Druckenmiller: Very open-minded to that. Positioned that way. I covered very well; unfortunately I didn’t play the rally other than to get out of the way of it. Where I am now is sort of neutral — long the high-beta, high-growth stuff, the companies investing in their business, things I think will do well with low nominal growth, and short a bunch of value companies that buy back stock and need cyclical growth. My guess is I could see myself getting very bearish; I can’t really see myself getting really bullish. So I’m kind of on the sidelines in equities and messing around in the euro.
Andrew Ross Sorkin: Ginni Rometty was here earlier this morning, and I quoted your view on IBM and buybacks. She made an argument — perhaps persuasive to some — that a company like IBM needs time to shift. She suggested they are in a transformation period. Do you buy that?
Stan Druckenmiller: No. I was looking at Amazon and IBM the other day. Over the last 19 quarters, Amazon has missed their quarterly earnings nine times — they don’t give a damn. IBM has missed three quarters since 2006 — they really care about their quarterly earnings. It’s an interesting transformation, because it’s not just the 14 quarters in a row of down sales. Their R&D has shrunk as a percentage of sales. They’re under major attack from Amazon, Palantir, and all these companies out there eating away at them. Their R&D has shrunk in absolute terms — from about 6.2% to 5.9% of sales on a shrinking base. Amazon, on exploding sales, has gone from 5% to 10%. Who’s investing for the transition? What kind of transformation is that when you’re shrinking your R&D?
They bought back $43 billion in stock at an average price of $189. They say they’re stewards of capital and returning value to shareholders — but I don’t know how you buy something at $189 when it’s at $142. That’s not my kind of return to shareholders. So no, I don’t believe in the transformation.
Andrew Ross Sorkin: You mentioned Amazon. Is that a stock that makes sense to you?
Stan Druckenmiller: Oh yeah, I love Amazon. Bezos is a serial monopolist. He’s come up with AWS, which is absolutely exploding. If you’re starting a business today, you don’t need a technical department or a back office — you can use AWS. And in retail, Amazon was 22% of US retail sales growth this year. One company. He’s just sitting there with narrow margins, and whenever he has enough market share, he can capture the margin.
Andrew Ross Sorkin: Why are you convinced he’s going to do that? He may never do that.
Stan Druckenmiller: Because he’s a businessman. I see his strategy and I think it’s genius.
Andrew Ross Sorkin: You’re convinced that at some point he will.
Stan Druckenmiller: Of course he will. I’ll probably be dead, but of course he will.
Andrew Ross Sorkin: How do you feel about a company like Netflix?
Stan Druckenmiller: That man went to Bowdoin — he walks on water as far as I’m concerned. Same thing. I only heard 30 seconds of him; I was in the gym. But when he said, “If you manage for quarterly earnings, you’re dead,” and then somebody on CNBC says, “Well, it’s easy for him to say with a stock price like that” — well, why do you think he has a stock price like that? Because he thought about the long term and didn’t care about quarterly earnings the whole time.
Andrew Ross Sorkin: We’ve had conversations privately about inequality. You’ve made the argument to me that what the Fed has done has exacerbated inequality in this country — especially when it comes to long-term issues like entitlements.
Stan Druckenmiller: I’m not going to run around and say the Fed has exacerbated inequality — it has been a side effect of what they’ve done. QE has elevated asset prices, and the middle class hasn’t participated, so clearly it’s exacerbated inequality. But I’m more worried about the eventual consequences and who’s going to pay for them — which is not going to be me.
In terms of entitlements — yes. I’ve made this point very strongly four or five years ago. You get congressional and presidential action in a crisis. By keeping the markets elevated and blocking the market signal — the same way the market signal was blocked to the Brazilian government — Congress has been able to not really worry about entitlements. Everybody’s happy, everybody’s partying, we’re keeping this thing going. But just like climate change, the clock is ticking on entitlements, and it’s a nasty story that’s developed.
Andrew Ross Sorkin: You went around about five years ago and visited all sorts of schools — this was during the sequester, probably 2011. The argument you were making then still matters today. What is it?
Stan Druckenmiller: In a nutshell, it’s twofold. From the late ’60s, we’ve gone from about 28% of government outlays being payments to individuals to 68%. During the same time period, senior poverty rates have gone from 30% to 9% — that’s a good thing. Child poverty rates have gone from 21% to 23% over 50 years — that’s a bad thing. 23% of American children are born into poverty. Among the top 35 industrialized nations, we’re number 34. We beat Romania. We do not beat Latvia and the other 32 countries.
Now I’m going to give you a quiz, Andrew. The federal government spends $8,000 per capita per child in this country — defined as age 15 and under. $8,000 per capita. What do they spend per capita on seniors?
Andrew Ross Sorkin: I’m assuming the answer is even less.
Stan Druckenmiller: The seniors: $44,000.
Andrew Ross Sorkin: $44,000?
Stan Druckenmiller: $8,000 on our children, $44,000 on our seniors. I’ll put it another way: 8 cents out of every dollar of average American income goes to spending on children; 56.8 cents goes to spending on seniors. They’ve been getting a bigger and bigger share of the pie over the last 50 years.
Unfortunately, that’s not the end of the problem. A bunch of us — or our parents — had babies back in the early ’50s, so we have a demographic baby boom about to turn into a gray boom. Those of us getting so much more of the pie — I’m only 62, but I’ll be there in a little bit — there’s about to be a lot more of us. Between now and 2050, the over-65 non-working population is going to grow 117%. The working population, ages 18 to 64, is going to grow 17%. Starting in 2011, every day 11,000 new seniors are created, but only 2,500 new adult workers are created to support them. Sometime between now and 2030, this is going to be a problem — a big problem.
Now, here’s the part the scaremongers like to talk about — and I’m not really into scaremongering. The federal debt everyone talks about: $19 trillion. But if you believe I’m going to get my Social Security payments and everybody else is getting their Medicare payments, and you present-value that stream of promised payments as a liability, the federal debt would not be $19 trillion. It would be $205 trillion. That’s the bulge we’re looking at, and that’s assuming interest rates at 4%. Anybody who’s been to Greece knows they won’t be 4%.
Andrew Ross Sorkin: A very pessimistic picture. We’ve got a question right over here.
Audience Member: Stan, given that pessimistic demographic and financial picture, what asset classes does a smart investor expose themselves to?
Stan Druckenmiller: It’s very hard to short stocks — it sounds great in theory, but it’s very difficult, because you’re basically playing against the house: the government, the securities industry, everyone. Probably the asset class I’d get into if this were unfolding would be cash. In my world, because I do this for a living and have been doing it a long time, I’m probably more interested in bonds and currencies than in stocks, because once you get into a chaotic period they tend to make their biggest moves. If I were 18 and trying to prepare myself financially, I would study and learn how to play a range of asset classes — not just equities.
Andrew Ross Sorkin: Is buy-and-hold a bad idea? Larry Fink was here, Art was here from Oppenheimer this morning — the buy-and-hold strategy. You’ve been a long-term investor but you’ve been in and out the whole time. What do you think of just buying mutual funds?
Stan Druckenmiller: It beats trying to time the market, because 85% of people are worse than random. So yeah — if you believe you have great companies, you really know something about them, and you believe they’re going to grow, I’m okay with that strategy as opposed to market timing. Because if people were just random and right 50% of the time, I don’t know what I’d say — but they’re not. The crowd is usually wrong on the market.
Andrew Ross Sorkin: We’re going to leave it there. Do you want to give us a glimmer of hope on something?
Stan Druckenmiller: Well, I’m very optimistic about my future.
Andrew Ross Sorkin: On that note — Stan Druckenmiller. The great Stan Druckenmiller. Thank you, Stan. Appreciate it.