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Insights From "Geopolitical Alpha."

Every so often someone will send me a book recommendation. I will read the book and offer some thoughts if (and only if) I think the book is worth reading.

A kind, dynamic market strategist (thanks CD!) suggested I read the recent book Geopolitical Alpha by Marko Papic.

Here are some very quick thoughts and takeaways.

Is Geopolitics Useful? A Quick Review of Geopolitical Alpha.

[4min read]

‘A desk is a dangerous place from which to view the world.’- the late John Le Carré

In an age where opinions outnumber reality a million to one, we need to be absolutely ruthless with the information we allow into our heads. When I first started in the markets, I was consistently surprised how little impact seemingly-material geopolitical events had on asset prices. Is keeping abreast of the latest developments in Kashmir, Yemen, or Syria useful or entertainment?

I think it’s fair to say that geopolitical events get too much attention and geopolitical trends get too little. Research from BCA has shown that very few geopolitical events since the Second World War have had a long-term impact on markets. Generational surprises like 9/11 or COVID can alter the course of history, but generally speaking, the trend is more important and enduring than a discrete event.

Marko Papic is a partner and Chief Strategist at Clocktower Group and his new book is titled Geopolitical Alpha- An Investment Framework for Predicting the Future. Even the title risks being accused of being an oxymoron, and the subtitle is a pretty punchy claim. But Papic’s book is worth paying some attention to.

  • Firstly, the world is changing so rapidly that it makes sense to read a book painting the global picture at least once every ~5 years.
  • Secondly, Papic believes geopolitics and politics have switched from being tailwinds to the global economy and markets to being headwinds. The world is deglobalizing, and thus, it makes sense to understand the radically different dynamics of a new, multipolar system.
  • Thirdly, rather than pure opinion, his constraints-based framework gives investors a way to think about geopolitics that is “data-driven, focused on the observable, and rooted in the material world.”

I particularly like the idea of books that provide empirical frameworks for thinking about complex issues, because of my increasing disdain for commentary and the pace with which the world is changing. The rub is obvious: does the model work on a forward-looking basis however successful it’s been in the past? We shall see.

Papic’s constraint that was most compelling is the preferences of the median voter. These tend to lead policy for all parties and be much more predictive than political rhetoric. Once again: the opinion of the policymaker is less important than their ability to effect change. One of Papic’s big themes is that developed world voter preferences are increasingly moving from a laissez-faire, markets-driven framework to a much more interventionist period. Especially in the U.S.

“Over the next decade, I would expect more unorthodox fiscal and monetary policy, an increase in antitrust cases, further fiscal easing, selective regulatory pressures, and higher taxes on both capital gains and high-income taxpayers. If you’re fretting about the extraordinary fiscal cliff coming up in 2021, don’t. Policymakers will assuage it with even more fiscal stimulus.”

Obviously the unprecedented stimulus response to COVID represents a massive endorsement of this theory.

For China, their median voter, and largest constraint, is a middle class that now makes up more than 50% of the population.

“Delivering economic growth to its middle class is the main priority because it is Beijing’s constraint to action on any scale. Anything that impedes Beijing’s ability to provide for the middle class — including a bid to challenge the U.S. as a global hegemon — comes second.”

If a trade war is therefore unlikely, Papic argues that the greatest risk to global order and peace is actually American miscalculation of Chinese intentions, not Chinese aggression itself. Indeed- we recently hosted a webinar with Dan Wang at Gavekal (notes on request). Dan believes that America may have inadvertently triggered a Manhattan project for China’s internal technology infrastructure. “For the first time arguably since the industrial rise of Japan in the 1950s, a major country is committed to thinking deeply about the invention of its own tooling.” It also fits with the view that China will not be willing to retaliate in force, as Apple alone directly and indirectly employs 4 million Chinese workers.

Papic’s general theme of constant-updating concurs with another superb book from last year, Klein and Pettis’ Trade Wars are Class Wars. If you’re focused on old national or ideological stereotypes you’re going to be anchored to stale perceptions that change far too slowly for today’s world.

Another long-term trend I would add to Papic’s list is immigration into Europe. This is the single factor that Gavekal has identified as most risky to Europe’s long-term stability. Many Emerging Markets are rising out of poverty before they have the infrastructure to support themselves. By 2030, the global population of slum-dwellers is expected to reach 2 billion people. Declining infant mortality means that, by 2035, more Sub-Saharan Africans will be reaching working-age every year than the rest of the world combined. Do they stay in the slums or gamble on reaching a better life they can now see on their smartphones? Meanwhile, the decline of fossil fuels will increasingly destabilize the Middle East. “The stone age did not end for a lack of stones, the oil age will not end for a lack of oil.” Add-in UN estimates of a billion climate refugees by 2055 and you have a secular issue.

The bottom line is that geopolitics increasingly needs to be classified like food. We can only consume so much of it a day, and the nutritional content can be wildly different. Real-world constraints don’t change that often, but events can often cause a Bayesian updating of probabilities. Like almost all information approaches- geopolitics requires a barbell approach of accurate, factual inputs, and an understanding of the linkages in the whole system. The middle ground, opinion, is now mostly too crowded to be useful. Papic’s view is useful for offering a subjective bird’s eye view of the global geopolitics, but also offers a framework he thinks can work more objectively in future.

Have a wonderful day, let me know if there are any great books you’d like to recommend!

Tom



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