The Iconoclast Investor

I recently made the acquaintance of Foster Aborn, who started John Hancock Financial Services’ bond investment programs decades ago and retired from the firm in 2000 after serving as Chief Investment Officer, overseeing an $80 billion portfolio.  (The firm was bought by Manulife of Canada in 2003 for $10.4 billion, and the John Hancock name is still used for the firm’s U.S. business.)

I was warned before I met him that Foster was a great one for asking questions, and I found that all too true.  Foster revealed that he was happy with the way Manulife was running John Hancock, but mostly he wanted to talk about the credit markets of today … and tomorrow.

He was clearly annoyed–even dumbfounded–at the irrational behavior of both lenders and borrowers in recent years, and he was eager to hear opinions about what might come next.  So I gave him my two cents, which is informed not so much by any bond market expertise but by my vision of how we Americans got here and where we are going.

And now I’ll give it to you.

In the short-term, we remain in the midst of a contraction of liquidity, as the reverberations from the collapse of the sub-prime credit markets continue.  Eventually, these markets will stabilize, and when the smoke clears we’ll see a market that is smaller, cleaner and saner … and liquidity will return.  We’ll have fewer lending institutions–I’ve long believed we have too many banks–but the players left will be the cream of the crop.  How long this will take I have no idea.

Longer-term levers that are important are these:

• The demographic forces that propelled baby-boomers to acquire increasingly valuable housing–and spurred lenders to grant them increasing amounts of credit–are gone.  Our generation, the most powerful in the country, will now work to reduce debt and increase equity, typical actions for a generation preparing for retirement.  And the banks will help us do it.

• Our country has been on a debt binge as well, and if the folks in Washington wise up, we’ll act quickly to balance our budget.  The odds are, though, that politics and greed will continue to trump sanity until the pain becomes unbearable.  Looming just over the horizon, meanwhile, are enormous commitments to both Social Security and Medicare, but there is no rational plan for paying them.
• And then there’s the cost of energy.  I think the price of fossil fuels will remain high, simply because the earth is a finite vessel and the rate of fossil fuel extraction we now demand is increasingly costly.  Yes, Americans have reduced their appetite for fossil fuels a bit in recent months, and that helps reduce our individual bills, but it doesn’t come close to offsetting the major increases in demand by China and India.
• Finally, I think Peak Oil is real.  This is still a fringe opinion, but I think that as more and more people come to share my opinion, demand for alternative energy sources will increase.  The good news is that the cost of alternative energy will soon reach parity with the electric grid in many places.  Eventually, as we harness the sun, the wind and the atom, alternative energy will become far cheaper!