The “New Normal” concept has gotten a ton of attention in the financial and investment worlds in the past couple years. But in a new paper, GMO’s James Montier says not to believe the hype.
In a paper posted on GMO’s web site, Montier says that for some economic indicators, there may indeed be a New Normal. For others, however, there isn’t. And, he adds, “what concerns me more than this are some of the implications that proponents of the new normal seem to draw when it comes to investing. … Attempting to invest on the back of economic forecasts is an exercise in extreme folly, even in normal times. Economists are probably the one group who make astrologers look like professionals when it comes to telling the future. Even a cursory glance … reveals that economists are simply useless when it comes to forecasting. They have missed every recession in the last four decades!”
Montier says the notion that we won’t revert to historical means, and the notion that in the New Normal, expectations of bell-shaped curves will give way to expectations of “fat tails”, are both flawed. “During pretty much every ‘new era,’ someone proclaims that the old rules simply don’t apply anymore … who could forget Irving Fisher’s statement that stocks had reached a ‘permanently high plateau’ in 1929?” he says.
Mean reversion is alive and well, Montier says, adding that, “From the perspective of mean reversion, fat tails help to create some of the best opportunities. That is to say, fat tails often create fat pitches.” As long as markets “continue to behave as they always have, swinging pendulum-like between the depths of despair and irrational exuberance, or, from risk-on to risk-off,” mean-reversion strategies will keep working, Montier says.
To download a copy of Montier’s full piece, visit GMO’s web site.