Can You Make Money During a Downturn?

“It would be silly to expect every bear market to turn into the Great Depression. It would be equally wrong to expect that a fall from overvalued, to more fairly valued, couldn’t badly overshoot on the downside.”

– Seth Klarman, recent winner of the Preakness here in Baltimore

Addison Wiggin Dear Reader,

It’s not a question we’ve had to answer recently. We have this fund, that fund, the other one. Mostly we’ve been doing well. But when the market turns, money begins to matter again.

Our current fear is… the global economy is about to come to a screeching halt.

“Just because the economy’s a mess,” we glean advice from our guest this week, “doesn’t mean you can’t make money in the markets!”

When we talked to Andrew Zatlin, he gave us a rudimentary lesson in banking. We thought it was helpful, so we pass it on today with some modesty and a bit of dander.

“Customers like us deposit money,” says Mr. Zatlin, “and then banks lend out our deposits to others. The thing is, for every dollar a bank gets in deposits, it can lend it out 10 times. In other words, a $1 deposit becomes $10 worth of loans.”

I remember reading Garret Garet on the banking crash in the 1930s that led to the Great Depression. I also remember interviewing Robert Rubin, erstwhile Treasury Secretary, when he held the lead spot at Citi. We’d scheduled some time to talk to him, but he let us run over because, in his words, “we don’t do much here, we lend money to people, then we try to get it back.”

Moneyball Economics’ Andrew Zatlin on hiring data, guidance through rough markets

The flow of money helps stimulate the economy, doesn’t it?

“In fact,” says Zatlin, “after money is lent out, it often gets re-deposited —so the bank can often lend out the same funds again and again. But banks can’t lend out every dollar they get…”

Each country’s central bank (in the U.S., it’s the Fed) sets what’s called a Reserve Requirement Ratio (RRR), or RRR for short. The RRR is the portion of a bank’s liabilities that it’s obligated to hold onto, rather than lend out or invest.

In the U.S., the pre-Covid RRR was 10%. So if a bank had $1 billion in deposits, it could lend out up to $900 million. But during Covid, the rate was dropped to 0%. So banks could lend out every dollar they took in. This policy was aimed at stimulating the economy.

But that’s the U.S. One of the important economies in the world doesn’t follow our best practices.

Tomorrow we’re going to look at the crazy [expletive deleted for the faint of heart] borrowing and spending going on in China related to both their rail system and their banks!

Follow your bliss,

Addison Wiggin