Streetwise for Sunday, January 27, 2019

Davos, Switzerland, where many of the world’s movers and shakers, or those who wannabe, gathered this past week for the annual meeting of the World Economic Forum. 

Of note is that a 22-page letter from an influential non-attendee had the rapt attention of the attendees.

The letter, written by Seth A. Klarman, a billionaire recognized for his sober and meticulous analysis of the investing world, is a dire analysis of global social tensions, rising debt levels and receding American leadership.

Mr. Klarman, a 61-year-old value investor who manages the $27 billion Baupost Group, is referred to as the Oracle of Boston. He is also one of the few receiving praise from the Oracle of Omaha, Warren Buffett.

Klarman’s views are so sought after that an out-of-print book he wrote about value investing sells for as much as $1,500 on Amazon. While he declined to attend the annual Davos pilgrimage, his words did not.

Coming in the form of a 22-page annual letter to his investors, the document was circulated ahead of the Davos gathering. It cautioned that a growing sense of political and social divide around the globe may end in economic calamity. (Note: Citigroup made the same point on March 5, 2006.)

Klarman is baffled by investors shrugging off President Trump’s Twitter outbursts and the retreating role of America in world affairs over the past year.

“As the post-World War II international order continued to erode, the markets ignored the longer-term implications of a more isolated America, a world increasingly adrift and global leadership up for grabs,” he wrote.

“Social frictions remain a challenge for democracies around the world, and we wonder when investors might take more notice of this.” He added that, “Social cohesion is essential for those who have capital to invest.”

Klarman believes that developed countries have taken on an ever-increasing debt load since the financial crisis in 2008, which could result in a financial panic. 

He cites the increasing ratio of government debt to gross domestic product from 2008 to 2017. It exceeds 100 percent in the United States and is nearing that figure in France, Canada, Britain and Spain.

“The seeds of the next major financial crisis (or the one after that) may well be found in today’s sovereign debt levels,” Klarman wrote.

And he is particularly concerned over what the national debt could mean to the dollar’s status as the world’s reserve currency and ultimately the country’s economy.

“There is no way to know how much debt is too much, but America will inevitably reach an inflection point whereupon a suddenly more skeptical debt market will refuse to continue to lend to us at rates we can afford,” he wrote. 

“By the time such a crisis hits, it will likely be too late to get our house in order.”

Unfortunately, according to Klarman, the public is blasé to the point of irrationality, as investors have been lulled into continually taking on additional risk.

“Individuals, professional investors and financiers are prone to project their own recent experiences into the future,” he wrote. “So, when adversity is absent, investors become complacent. They assume good times will continue, and they grow careless about risk, perceiving it through rose-colored lenses.”

Whether a crisis is around the corner or still years away, Klarman is convinced that it is coming and that it will manifest itself not just in a market downturn but potentially in more violence as well.

“It is not hard to imagine worsening social unrest among a generation,” he wrote, “that is falling behind economically and feels betrayed by a massive national debt that was incurred without any obvious benefit to them.”

Finally, Klarman was particularly worried about the implications of, “fake news.”

“This post-truth moment is quite dangerous,” Mr. Klarman wrote. “Imagine an incident that threatens national security. Will we see eye to eye on the seriousness of the threat? If our leaders are truth-challenged, will Americans believe the official explanation of the threat and the wisdom of the proposed response?”

Lauren Rudd is a financial writer and columnist. You can write to him at Phone calls accepted between 9 AM and 3 PM at (941) 706-3449. For back columns please go to