#21 -The Economist

Gavyn Davies is an economist, co-founder of 4 multi-billion asset managers, a former Government adviser to both Labour and Tory administrations and a former Chairman of the BBC. He takes the bus to work!

SUMMARY

Gavyn Davies is an economist and a former partner of Goldman Sachs. He is the Chairman and co-founder of macro asset manager Fulcrum Asset Management and is a co-founder of 3 other multi-billion asset managers. He is a former Government adviser and was Chairman of the BBC, the UK public service broadcaster. Of course we talk about economics, about investing, and about financial services; but we also cover public service broadcasting, streaming and politics.

GETTING INTO INVESTING

Gavyn always wanted to be an economist – he liked the analytics. He started as a government advisor and saw an opportunity in providing macro-economic research to investors – amazingly in the mid-1980s there were very few macro-economists at investment banks, and the quality of economic research was not that high (one of those has changed). He joined Goldman, Sachs in its early days in London when it had only a few hundred employees and had no international economists. He voted for Goldman to go public as the trading risk had become too large for a partnership and partners’ personal exposures.

MACRO ECONOMICS

Today we have a lot more economists than when Gavyn joined Goldmans. The subject has become much more dominant in the way people think about investing. And of course there is a lot more attention paid to the Fed and analysis has become deeper and wider and economics as a discipline has grown along with markets.

Some equity investors who focus on micro company research are sceptical of the value added by macro economists. Gavyn understands their preference but points out that this likely needs a much longer timescale to deliver performance and clients have to be willing to tolerate drawdowns which can last several years – that’s uncommon today and it’s challenging to maintain client trust and confidence.

Gavyn thinks we are too short term in a number of areas – markets react sharply to short term changes in newsflow. He cites the example of the collapse in sterling, a 15% fall in a week, which subsequently recovered. The impact of Truss on the pound and gilts was greater than Brexit. But these are opportunities for a macro fund like his. He also sees short term thinking in politics.

THE MEDIA

Gavyn is a former Chairman of the BBC. He was always interested in the economics of public service broadcasting and how you could justify such a large incursion into free markets and how you should fund it. (For overseas listeners, the BBC is funded by a licence paid by each household with a TV.)

I set out the objective of my podcast as “to inform, educate and entertain” which are the values John Reith used as the foundation for the BBC’s inception in 1922. They still stand and I could not and cannot think of a better objective for this type of show.

The proliferation of alternatives and the media have changed but the need for an unbiased source of news is greater than ever. And young people today still know they can access a good version of the truth on the BBC. And the proliferation of streaming channels has broadened the choice, although the BBC is now unable to compete for the more expensive media – the most popular sports and the best drama – Gavyn is impressed with the Crown on Netflix.

THE INVESTMENT CLIMATE

We have had 40 years of falling rates but Gavyn does not see this as a massive bubble. Rather, he perceives it as a decline in the equilibrium rate of interest in the economy. Central banks had to follow this with downward rates to prevent a massive deflation in the system. By 2021, in some parts of the market there was a bubble but those have largely been deflated.

But the high returns we have seen have borrowed from the future and hence he expects returns to be lower in the future. And if interest rates have to rise further to stem inflation, that will be a further drag on returns.

Overall his long term prognosis is that the returns from markets he saw in his career as an economist are a lot higher than we are likely to see in the future.

He sees inflation as persistent – not at the levels of 2022, which was fuelled by energy and food, but at higher levels than hitherto.

PENSION FUNDS AND PRIVATE EQUITY

He does not see this as causing particular stress in pension funds or private equity, to name two examples. The move from defined benefit to defined contribution funds makes them less vulnerable to increasing rate or lower returns. Government pension schemes will have to adjust, especially if longevity continues to increase.

Gavyn co-founded two private equity firms, one in the UK and one on the west coast. For the most part, he sees private equity returns as being leveraged public equity returns; he expects them to be healthily positive by lower than in the last 10-20 years.

Interestingly, the demands on the economists at private equity funds have sharply increased. Half the fortnightly calls currently are devoted to the macro-environment. KKR is unusual in private equity firms as having a significant emphasis on economics, but it’s making a lot of sectoral choices.

Gavyn reckons that macro-economists tend to be better in bad times than in good times. They are pessimistic by nature but you cannot be a pessimist in private equity, because you will never buy anything. Gavyn says he is trying to be more optimistic in his day job.

DEBT AND FINANCIAL REPRESSION

Debt matters, it increases economic risk, especially in a period of inflation. And the importance of debt was highlighted in the UK when Truss was Prime Minister. Gavyn agrees that the most likely outcome is that we shall muddle through and flags Olivir Blanchard’s book which concludes that as long as nominal GDP growth exceeds the interest on the debt, serious problems can be avoided. And that’s where we are.

This creates a positive environment for macro. Fulcrum has done pretty well in the last decade, not keeping up with flying macro, but positive returns and more consistent than some of the faster charging higher risk macro wizards. Fulcrum takes much more diversified positions in markets, not trying to blow the lights out and genuinely trying to hedge and managing assets with a n objective of low (8%) volatility – trying to be macro investors rather than a macro hedge fund

ECONOMICS AS A CAREER

Gavyn and Steve share a passion for inspiring young people to adopt a career in analysis or macro economics. Gavyn points out that macro is always about things that matter – it’s about subjects that are in the news that are intrinsically important and issues like inflation and unemployment matter to large parts of the population. It also gives scope to different types of analytical thought – mathematical, econometric and political economics which is not readily quantifiable. But you need to be good at what you do, work hard and you almost certainly need a PhD from the right university to get into a big bank

ABOUT GAVYN DAVIES

Gavyn Davies is a Co-Founder and the Chairman of Fulcrum AM. He started his career as a Government advisor before moving to the City, working as an economist. He joined Goldman Sachs in 1986 and became Partner in 1988 when he also became the Chief International Economist.

Gavyn was Chairman of the BBC from 2001-04. He has had several public service roles including as a member of H.M.Treasury Independent Forecasting Panel and as an Economic Policy Adviser to the British Prime Minister (1976-1979).

Gavyn graduated in Economics from Cambridge in 1972 followed by two years of research at Oxford.

BOOK RECOMMENDATIONS

We talked about Martin Wolf, whom Gavyn reckons is the best economic correspondent in the world. He has just published his magnum opus, The Crisis of Democratic Capitalism which Gavyn thoroughly enjoyed. Wolff’s family were refugees from Nazi Germany and he warns that it could happen again.

He wraps together democracy and market economics as two sides of the same coin. They thrive together but the can also be challenged and fail together and there are signs that economies are not performing as well, that the market system is coming under strain and that could lead to negative developments for our democracies.

Gavyn also neatly summarised Olivier Blanchard’s book, Fiscal Policy under Low Interest Rates.

HOW STEVE KNOWS THE GUESTS

Steve met a former colleague of Gavyn’s when speaking at a school careers fair and he kindly introduced us. We had a great introductory call and Gavyn generously agreed to give up his time. He is obviously rich but amazingly, likes to take the bus to work!