Hedge fund boss Hugh Hendry sees new era for entrepreneurs

The next 20 years may usher in a new age of growth for entrepreneurship – but that said, hedge fund boss Hugh Hendry is careful not to sound bullish about the stock market.

Hendry, the founding partner of Eclectica Asset Management, states that equities have consistently been outperformed by 10-year treasury bonds over time, despite the technological revolution of the last 30 to 40 years.

In his global macro outlook for 2016, Hendry pointed out that, on a risk-adjusted basis, US equities have lost more than 75% of their value versus bonds since 1971.

His conclusion is that entrepreneurs have been paying too much for money. In other words, the creditor or the banking class have imposed a rent or a transfer levy on the rest of the economy. This disparity forms a pillar in Hendry's latter-day thesis, summed up in the title of his 2016 presentation; Imbalances, Crises and Rebalancing.

Hendry's thinking on the global economy changed dramatically post 2013. He shifted from being something of a moral curmudgeon regarding central bank economic policy after the economic crash of 2008 to a more enlightened state of mind.

Following the proliferation of credit that led to the crash, it became very necessary to stub out the overcompensation of creditors. This involved slashing nominal interest rates to zero at the short-end and bringing down the term structure of five-year and 10-year rates due to the central bank policy of quantitative easing. As a result, 10-year treasury bonds have never been this low, the Bank of England's benchmark interest rate is the lowest in 322 years, while more than $10tn (£7.6tn) of sovereign debt trades today at negative rates.

Hendry told IBTimes UK: "What they have done is create an environment now where there is a transfer levy running from the banking system back to the entrepreneurs. And I think that's likely to persist.

"Businesses with solid ideas can borrow money at the wrong price – it's too cheap now. That is already taking stock and leading to economic growth in America which has been superior to the rest of the world, and likewise been superior in the UK. There is no surprise that those economies were at the forefront of introducing that radical, but I would say just and necessary, monetary policy.

"So I am beginning to think the world is healing and in 20 years' time we will look back and you will see that stocks will have outperformed government bonds. But I don't believe that will be the case in the next two years.

"And of course the backdrop of technology and the revolution in technology, which is proven to be many things, at heart has been dis-inflationary. I no longer buy stamps, for instance; I can make calls using Skype that don't cost me any money. So we have displaced a lot of things that previously would have cost us money; they have gone from having a price to being priced at zero."

The comparison of S&P performance versus US treasuries seems astonishing over a cycle which has seen the creation of technology giants like Microsoft, Google, Facebook and the like, and which has seen a Chinese economic miracle that has lifted more than a billion people from profound poverty towards standards of living familiar to Western countries. The Chinese government is known to have aggressively fostered technological innovation, wielding a startup fund which is larger than the GDP of Denmark ($347bn).

Hendry includes the apparent largesse of the Chinese government within his thesis about credit imbalance. "I'm not desperately enthusiastic about an argument that they somehow have some Manchurian kind of higher intelligence, if you will. I'd rather throw that back into the preceding dialogue, and say that such was the great reward to being a creditor that even countries can change their composition and their policy objectives; they would become creditor nations.

"What China achieved is creditor status. It is the world's largest creditor. So not only individuals but countries were incentivised to become creditors."

Hendry acknowledges there is a conundrum at the heart of this: if interest rates were too high, why did debt to GDP go up? Why did people take on so much debt? That would suggest that interest rates were too low, which is the prevailing belief.

"I'm being contrary and I'm challenging an existing belief system. My point is that – and I think there is evidence for this – when something is so over-compensated and over-rewarded, you want to do it as much as possible.

"The bubble that we saw in economies taking on so much debt, which led to the crisis in 2008, was really the creditors and the banking sector loosening their underwriting standards. They could lend more and more money to people who otherwise would never have received credit."

Returning to Hendry's 2013 volte-face, he recounts how an apparent new-found bullishness on equities was met with dismay from his clients and the fund suffered redemptions.

"I wish I had been perhaps less foolhardy in that choice of language because it seemed I was saying I was just going to take big bets on markets going higher. That's not what a global macro portfolio does.

"I would like to use the analogy of F1 racing. Given the level of engineering and profound degree of thought that goes into setting up those cars, they are able to crash into walls at over 200mph, and nine times out of 10 the driver walks away uninjured.

"That's what macro hedge funds do. They give great consideration to things going wrong. The consequences of making mistakes tend not to be as grievous as you find in other platforms such as long only. A long-only equity fund – if everything goes wrong and it slams and hits the wall at 200mph – can in some unfortunate circumstances result in 40 or 50% declines in the value of those funds.

"That's not my business, but I fear that in proclaiming these binary concepts, of being either bullish or bearish, I was fanning the suspicion that my vehicle could be subject to such damage, when that's not the case."

As well as consternation about zero-interest rates, some market watchers think that a large scale liquidity event could be just around the corner.

However, Hendry has a different outlook: "A lot of clients and potential clients believe that is a clear and present danger. The world is immensely worried and concerned and bearish and unwilling to take risk. I cannot say that that will not happen, but I would presently assign a more modest probability to that event happening."

Hendry thinks over the next two years, it is most likely prevailing trends will persist: that all asset classes will be buoyed by money being created by the Japanese and European central banks.

The S&P has broken out on the upside from 18 months of kind of going sideways, to a new high: bond prices are going up, commodity prices are going up, and credit prices are going up.

"There is another tentative probability that people say, 'we just have to buy equities. Why do I have my money in negative yielding bonds when I can get a 5% yield from Glaxo. Their product pipeline is going to maintain and raise those dividends over the next 20 years'. So there is a rush or a stampede into stocks, and you have a bubble in stocks."

Hendry's portfolio is represented in each of those scenarios – crash, bubble, status quo – and has allocated risk capital according to those possibilities.

"If I am wrong and my F1 macro car hits a wall at 200mph, I will walk away fine. I've got immense convexity in my portfolio, where I can make a lot of money if bad things happen. I just don't think bad things are going to happen," he added.