Book Report - When Markets Collide
I just finished reading a new book "When Markets Collide" by the CEO of PIMCO. It was a little deep for me since it covered institutional and government policy considerations. However, I came away with a few new ideas.
There were several premises that I pretty much agreed with:
The USA is less and less the central driver of the world economy.
Emerging market countries are becoming more important.
Currently emerging market countries like China make most of their money by selling to developed countries, but that is changing and they will start selling to their own people and to other emerging market countries. This will create many more small drivers of growth and decentralize things.
When debtor countries finally get some money they do not know how to manage it so they end up putting most of it into U.S. Treasuries. Once they get a bit more sophisticated they start to develop soverign wealth funds and think of investing in more agressive products. This does not bode well for U.S. Treasuries since they will eventually buy less and sell some of what they currently have.
There is a definite trend from the way it used to be with the USA as the leader to a new format where other parts of the world are also important. This creates a shift that policy makers are not prepared for. It means that policy decisions will have to be globally coordinated and we have a lousy track record for communicating. Also since some of the policy changes hurt one country in the short run while helping everyone in the long run the country being hurt usually will not go along with the idea.
This makes it likely that there will be severe policy mistakes in the future leading to some really painful events if things do not work out well.
It is likely that there will be more inflation going forward so there should be a definite portion of your asset allocation designed to fight inflation. This could be inflation protected fixed income, commodities, real estate and infrastructure.
You should have a very agressive international exposure on equities and probably on fixed income. He goes so far as to suggest 50% to 65% of equities being international. I am leaning more towards 40% to 50%.
He says that risk management will be much more important going forward because the potential turmoil related to the system getting to a new equilibrium point could lead to choppy sailing and to some unexpected "black swan" events.
One part I could use some help on is that he talks about "overlays" being used to control risk on the portfolio. I think he was referring to some sort of put or call option strategy but he assumed that the reader already knew what he was talking about. If any forum gurus can clarify I would appreciate it.
Based on reading the book and on the other "Generational Storm" book that I read a while ago, I am thinking about making the following changes to my asset allocation strategy.
Increase my current 2% REIT exposure to something closer to 5% to 7%.
I am ok with my current I-Bond holdings of about 15% so that takes care of inflation protected fixed income.
I am going to look into adding exposure to commodities. He suggests as high as 9%. However, I have heard that commodities are pretty far run up so I am reluctant to jump in with both feet without making sure that I know what I am doing. I will research some commodity ETF's with the hope of getting some relatively safe basket of commodities. Any suggestions are welcome.
I am increasing my exposure to emerging markets a little bit and looking into getting some international or emerging market bond funds into the mix.
All in all maybe not an earth shattering or "must read" book, but I read it in three days which is being interested for me. I also bought the new "Splendid Exchange" book that Nords mentioned and started it today.
I hope some of you will find this post worth reading.