The Free Money Era

Jun 27, 2023

This article was written in late-2020. It’s background for an upcoming piece.

If you’re under 40 years old, then you haven’t had experience dealing with rising rates. Your portfolio has been a one-way bet.

We will start by reviewing the environment we’ve grown accustomed to living in.

It’s important to remember how quickly we can forget financial history.

I graduated university in early 1990s and was born in the late 1960s => part of the first generation to come of age after the inflationary 70s.

The mentors of my early career had been deeply influenced by price-inflation.

When my mentors had been young adults, they were influenced by financial survivors of the Great Depression.

Great Depression
Inflationary & Energy Shocks
Sky High Interest Rates

As a result, I received a very conservative financial education.

The two "mountains" are **annual** inflation peaks of ~12% and ~15%. Mid-70s and 1980. I have early memories of "grown-ups" buying CDN government bonds at ~15% with all available cash resources. Note the recession frequency (shaded) from 1970 to 1982.

Back in 2020, we were told we didn’t have enough inflation. I'm not sure about that => the price to buy $1 of cash flow had skyrocketed.

I'll post the last 40 years of price inflation below.

I see inflation at work, but differently.

Inflation is not necessarily a bad thing. There's never been a better time to be world-class at solving problems. The price of human capital has been bid up strongly.

The cause has been a tsunami of money, driven by the price of money falling.

In the chart below:

Red Line: Long Term Interest Rates
Blue Line: Price Inflation

If you’re an economist then we could quibble about what metrics to choose. I don’t think it matters.

The trend is clear.

The real cost of money has been declining for more than 40 years.

The tsunami is caused by a long-term decline in the real cost of money => The real cost of money is the gap between the red and the blue line. When the red line is well above the blue, “money” is expensive. When the red line is under the blue, “money” is “free.”

Something I failed to see, when I was working in Finance, was the benefit received from:

The global money tsunami
Constantly dropping long term rates
Increasing investor allocations to our sector

Add non-recourse leverage, ring fence the deals/funds and there was no way to lose.

Of course, we didn't see it that way:

We were smart.
We worked hard.
We were visionaries.

Now I’m not so sure.

Next, thoughts on the (possible) end of the free money era.

Inflation took off from the end of 2020 (Blue Spike Below).

History tells us, it can take a while to get inflation back under control.

Onwards To Part Two

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