Full Transcription
John Paulson, there is a lot of talk about dedollarisation, the process of substituting the U.S. currency as the medium for international trade. What is your point of view on this?
It is a key question that all investors have to deal with today. The trends are towards dedollarisation but it’ll take a while to happen. The dollar is still very dominant in terms of reserves and trade, but the U.S. post WW2 economy is not quite the powerhouse it was. Its share of world GDP has come down and the emergence of Asia, particularly China, as an alternative economic power has risen. Other countries do not want to rely on the dollar as much as they have in the past, and the U.S. also has an enormous deficit with the rest of the world in terms of trade and investment balances that used to be very positive, but now it’s very negative. That points to the intermediate and long term depreciation of the dollar versus other currencies. The amount of money printing the U.S. central bank has done in order to stimulate the economy has also caused doubt. A lot of our growth has been based on fiscal spending that has been financed by the Fed buying the debt of government. The Fed balance sheet has exploded due to ‘quantitative easing’, a polite way of saying ‘money printing’, and inflation resulted. If you had dollars and 9% inflation, this year you lost 9% of your money; interest rates were nowhere close to compensating for that loss. That is driving investors and central banks around the world to look for an alternative reserve currency, and gold is rising again. I say again because it’s been the reserve currency of the world for thousands of years, a legitimate alternative to holding the dollar or other paper currencies. There has been a significant increase in demand from central banks to replace dollars with gold, and we’re just at the beginning of that trend. Gold will go up and the dollar will go down, so you’d be better off keeping your investment reserves in gold at this point.
Why in gold rather than in other currencies such as Euros, Pounds, Swiss Francs?
The other currencies will likely rise in value against the dollar, but each has their own issues. The European Central Bank (ECB) has also printed a significant amount of money, and if you keep your money in fiat currencies you face the risk, due to geopolitical events, that your reserves can be seized. As the central banks did with Russia. China probably think that as they have so much of their reserves in dollars, if they get into a geopolitical spat with the Western world over Taiwan or something else there is a possibility these reserves will be frozen, like they did with Russia.
They’d rather invest in gold?
If you possess physical gold you don’t face that risk. You also have the potential for appreciation. We’re at the beginning of trends that are going to increase the demand for gold, and inflation and geopolitical tensions will determine the rate at which gold increases. This year gold will appreciate versus the dollar, and also over a three, five and ten year basis.
Are we near the end of the process of the Federal Reserve Board (Fed) raising interest rates?
We are approaching the end. Maybe another 50 on the low end to 100 basis points on the high end over the next few Fed meetings will reach our maximum tightening. Many people are expecting that the Fed will start easing in the second half of the year, but inflation will be more persistent than the markets currently perceive. They’ll likely raise it another 50, 75, 100 basis points over the next few meetings, and then hold it there until we get a severe economic shock. Then they’ll have to reduce rates in order to re-stimulate the economy, if the economy declines more than expected, or unemployment rises more than expected, or the stock market falls more than expected. But if we do have a soft landing and we get a modest recession and unemployment goes from 3.5% to maybe 5%, then I don’t think they’ll ease so quickly in that environment.
“The traditional American values are based on thrift, hard work, savings, and re-investment. That’s what leads to success.”
John Paulson in New York’s Central Park, to which he gave $100 million. Courtesy of the Central Park Conservancy
John Paulson, has the Fed been doing a good job?
Not on the easing side. They did quantitative easing well beyond what was needed. They printed way too much money. We had the COVID crisis and the economy collapsed, so they had very stimulative monetary policy starting in the second quarter of 2020, and they would have been best to have ended that policy at the beginning of 2021. Instead they continued to print money all through 2021 and amazingly only stopped printing money in April of this year. They flooded the economy with money, and initially it was delusional. They believed in some new modern monetary theory that printing money does not lead to inflation, so they were happily printing $120 billion a month all through 2021, claiming that it doesn’t lead to inflation. Then, when we had actual inflation – and by 2021 it was already running at 6% – they said it was transitory and caused by supply constraints not by their monetary policy. They ignored the impact of the money printing on inflation, and they continued to print, because they didn’t correctly diagnose the cause of the inflation and blamed it all on supply constraints. They thought we can print money. It doesn’t lead to inflation. It’s absurd when you think about it! But then they finally changed their tune starting in the fourth quarter of 2022, and they stopped this transitory nonsense and realised they were contributing. But rather than bite the bullet, they said, okay, we’ll just slow our printing money, we will reduce it every month. But they continued to print right up till April, and by then we had inflation close to double digits! Then they started the tightening policy, and then realised they were way beyond the inflation curve, so they had to accelerate the tightening very aggressively and raise rates very aggressively to get us to the point we are today. We haven’t really seen the impact of higher interest rates yet. It’s a good opportunity to pause or to slow the rate of increase, because there is a lag effect on the impact of higher interest rates in the economy. They should slow and pause, because the negative effects of higher interest rates will start to show.
What do you feel about the U.S. stock market?
Because of the magnitude of the quantitative easing there’s just so much money around. It’s still finding its way into the stock market. Rates have risen and earnings are soft and we’re starting to see layoffs, but there’s still plenty of money to buy stocks and bonds. So the Fed, in addition to raising rates, is also reversing the ‘quantitative easing’ by doing something called ‘quantitative tightening’, where they’re actually removing liquidity from the market at almost the same rate they were adding previously. Before they were adding $120 billion a month. Now they are tightening $90 billion a month. There’s going to be several repercussions. It’s very difficult to refinance maturing debt right now and it’s a lot more expensive. As a result, I would expect the default rate and the bankruptcy rate to increase. When you borrowed money at 5% and it doesn’t mature it doesn’t matter that rates rise, but if you have a maturity and the borrowing costs are now 12% or 13% or 15%, or not available at all, then once your bonds mature that’s when you default. So over the course of this year, as more bonds mature without financing alternatives, we will see the default rate rise and bankruptcies increase.
Companies will default on their debt, bond prices will go down and bankruptcies increase?
Yes, and that will cause overall interest rates for non-investment grade debt to rise, and the amount of bonds that are distressed to rise as the economy weakens. My anticipation is that bond prices, particularly non-investment grade but also investment grade, will decline throughout the course of this year and yields will rise. As that happens, and as the Fed withdraws liquidity, I would expect that the stock market will also correct, and in the second quarter start to decline from current levels.
The market will fall in the second quarter?
It’ll fall over the course of the year. This current rally won’t be sustainable. Generally I expect: first the economy to weaken; then yields to rise; bond prices to fall; and stock prices to fall.
What should people do?
If you have flexibility, keeping reserves in cash at this point would be the best thing. If you had the ability to move your portfolio and you’re a trader, you would want to take advantage of this rise in the market to sell stocks and your fixed income securities to increase your cash reserves, so that when the market – both the stock and bond market – corrects later on this year, you’ll have an opportunity to come back in the market at lower levels. For our portfolio we reduced our net exposure, we raised cash, and at this point we have nothing long on fixed income. Although yields have risen, we’re not taking that bait and buying into bonds yet, because we think as the default rate rises that yields will also rise and there’ll be better opportunities to enter the bond market.
Should people who have invested in bonds sell them?
It’s hard to say because everyone has different economic circumstances. It depends on the age and the trading capability of people. It’s difficult to trade. Everyone has their own investment strategies, but if you’re a trader like I am, an investment professional, my advice would be to create liquidity to the extent you can, because there will be better opportunities.
“We have a big hangover coming. At some point we’ll have to either repay the debt or inflate the economy to monetise the debt.”
John Paulson, you said that the dollar will eventually go down. If you have cash in dollars, would you convert it into gold?
The advantage of having cash in dollars is you can move it very quickly into something else. While the dollar may depreciate on a modest basis, you basically preserve the purchasing power in the short run and you always want to have liquidity reserves. If you sold your bonds, realised cash and then bought gold, gold may be higher a year from now. But six months from now it could be lower. So then, six months from now when the bond market collapses, you want to go take your dollars – but gold went down! If you are too short term oriented it’s not always going to work.
Mario Gabelli, another renowned investor, says that with the reopening of China the market will go up in the fall. Do you differ?
I don’t think we’re saying different things. It’s difficult to pinpoint the market’s going to be up or down in the fall. What I expect is the dollar will decline over time, so, over a year, a three year or five year basis, you’ll be better off having your liquid reserves in gold rather than the U.S. dollar. Secondly, yields will rise as the economy weakens and likely goes into a recession, and particularly in non-investment grade there’ll be very good opportunities to buy high yield and distressed bonds. The beauty of that is if yields go to 10%, 15%, 18% in bonds, and they don’t default, and you buy bonds instead of at par at $0.50 $0.60, you lock in that yield until the maturity of the bonds. Timing your entry into distressed and high yields can be very advantageous. Regarding stocks, the market is currently overvalued because you have the economy weakening and corporate earnings declining. Every day major companies are announcing layoffs, so the unemployment rate will rise, and yields are going up and the default rate and bankruptcies will increase. All these should be negative for stock valuations. The market is going up because of the liquidity, but at some point over the course of a year fundamentals will prevail and the stock market will be much lower than it is today.
Were you selling your shares?
I have a lot of investment positions. To the extent that I have stocks that I can sell or trading positions, I have sold those stocks and increased my shorts. There are longs I can’t sell because they’re long term investments. I have control positions, or I could be a director of a company – but to hedge my positions I have increased my short exposure and brought down my net exposure in the portfolio. I can’t sell the longs so I have increased the shorts; and when the market does go down my longs go down and I’ll benefit from my short portfolio.
The NASDAQ has plunged in the past year. What about this?
The NASDAQ was way overvalued and it’s come down. It’s risen lately, but I think it comes down more over the course of a year. In the last cycle we had, in 2000 the NASDAQ peaked. It took 16 years for the Nasdaq to return to the peak it had in 2000. The NASDAQ peaked again in October 2021. It will take a long time to get back to that peak, and it will go lower from where it is today.
What about the people who invested in cryptocurrencies, who have seen huge losses?
Probably the biggest bubble the Fed created with massive money printing was in cryptocurrencies. Crypto is one of the most ridiculous investment vehicles ever created. There’s no intrinsic value to any cryptocurrency, the only potential value is there’s a limited supply, and with the excess liquidity the demand for these increased and the prices went up. Now, as liquidity is drying up and as rates are rising, people are selling their cryptocurrencies. Probably 99% of cryptocurrencies have evaporated to zero. There’s a few left, but overall the cryptocurrency from its peak lost 70 to 75% of its value and over the next two years I think it will lose most of the remaining value. It’s very unfortunate that so many people have lost so much money investing in crypto.
What is going on in the American economy?
The Fed provided enormous amount of stimulus for money printing, and that gave the government the fiscal capability to spend tremendous sums of money. The combination of fiscal spending and money printing led to a very strong economy, and even though the Fed is tightening there’s still a lot of excess liquidity in the system, which is sustaining spending and economic growth. But it’s like having a party. You go to a party, you drink a lot, you laugh a lot. But after the party is over is when you have the hangover. We have a big hangover coming. At some point we’ll have to either repay the debt or inflate the economy to monetise the debt. That’s what’s going on now. Inflation is reducing the value of government debt, but it has costs for the average individual because prices are rising more than wages, so the real purchasing power of American consumers has gone down.
Is America going into a recession?
We are going into a recession. How deep it will be is based on policy, but it looks like it’ll be a modest recession at this point.
Central Park New York: Courtesy of the Central Park Conservancy
John Paulson at New York University. Courtesy of NYU Photo Bureau
NYU’s new John A. Paulson Center on Mercer Street, New York. Courtesy of NYU Photo Bureau
Harvard University: John A Paulson School of Engineering and Applied Sciences
Rendering of the new building: Courtesy of Harvard John A. Paulson School of Engineering and Applied Sciences
Harvard University: Courtesy of Harvard John A. Paulson School of Engineering and Applied Sciences
“Although I graduated from the Business School, I did grant a $400 million gift to Harvard to develop the School of Engineering.”
John Paulson, what about the very polarised political scene in America?
The traditional American values are based on thrift, hard work, savings, and re-investment. That’s what leads to success. If you want the benefits of success, spending but without the hard work or savings, then that will lead to ultimate decline. That’s how I view the political divide in the U.S. today. There’s a segment that wants all the benefit, but they want the government to provide it without contributing to the economic growth, and they achieve that by borrowing and spending.
When he was President, Donald Trump promoted withdrawing the U.S. from the expense of NATO. It is a very different situation today. What is your opinion about the U.S. relationship with Europe?
Recent events have brought Western Europe and the U.S. closer together, both in our shared concern about the emergence of China and China’s policies and how that at times conflicts with Western values, and also with the aggressiveness of Russia threatening democratic values in Western Europe. That has re-emphasized the importance of NATO. On the one hand, the U.S. and Europe, representing domestic democracies, has become stronger, perhaps with the addition of our Asian allies, Korea and Japan, and perhaps India. On the other hand, another block of countries like China, Russia, and Iran, being an alternative economic force.
Is the Western world politically and militarily prepared for all this?
There has been a cooling off in a re-evaluation of the relationship between the West and China. Neither wants an escalation of military conflict, so China has been somewhat more conciliatory towards the West and the West has also realised the importance of China in the economy. There’s some level of rationalisation, to try and get back to shared mutual benefits for all and dial down the rhetoric. But the Russian Ukrainian conflict is something that disrupts that. If it can be resolved it will certainly benefit everybody.
What is the gut feeling of Americans when it comes to Ukraine?
It’s a situation that’s pretty far removed from us. We have a very good relationship with the two countries we border, Canada and Mexico – there’s not even 1% of any type of military conflict – and then we have the Atlantic and the Pacific. We’re very isolated and protected from the situation going on now in Eastern Europe. We realise the threat of Russia and what it means to democratic values, and we’re trying to be supportive of Europe. Recently the Germans didn’t want to provide tanks to support the Ukrainians unless the Americans did, so reluctantly and belatedly both countries agreed to supply tanks. They tried to prevent an escalation of the conflict, at the same time trying to give the Ukrainians support they need to repel Russia.
Will the Republicans win the next election?
It depends which Republicans. The two strongest candidates are President Trump and Governor Ron DeSantis, who is the governor of Florida. Governor DeSantis won by just shy of a 20% margin over his Democratic challenger. He’s a very important force, a smart man, a pragmatic governor. He’s somewhat to the centre right, but he’s done a great job in Florida. It’s a very well-run state, efficient on all services, crime, and education. He’d be a very good leader for America.
Does DeSantis have a chance to become President?
Unlike President Trump, Governor DeSantis has not announced his candidacy for President yet, so first there will be the Republican primary. It’ll be close. It’s hard to predict who will win. And then it depends who runs on the Democratic side. We’re still two years away from the election and it’s a little bit early to try to predict what the outcome will be.
Why have you made major donations to New York University (NYU) and Harvard?
Education is so important to society, and Harvard is pivotal to our culture. Harvard Law School was around at the time of the formation of the United States. John Adams, the second President of the United States and the Vice-President under George Washington, was a graduate of Harvard and was the principal author of the U.S. Constitution. Harvard has been a source of knowledge and good for the world for a very long time, and both Harvard and NYU were very important in my own development. Harvard is strong in the basic sciences, law and business, liberal arts and medicine, biotech, but the one area they were not strong in was engineering and applied sciences. Probably Stanford and the Massachusetts Institute of Technology (MIT) are two of the top universities in that area. Harvard realised that was a weakness, and their number one priority was to establish a school of engineering applied sciences, so, although I graduated from the Business School, I did grant a $400 million gift to Harvard to develop the School of Engineering. NYU was a little bit different. I went to NYU as an undergraduate and NYU is in the heart of New York. It’s filled with culture, film, dance, music; and NYU has tremendous talents in that area, but because of the expense of Manhattan they lacked the physical facilities that were commensurate with the talent of the students. NYU’s priority number one was to build a new campus, primarily for the arts, so the gift you are referring to of $100 million was to provide a foundation for the development of an incredible building that opened this year, with new theatres and music rooms and so forth.
These are your personal gifts and the gifts of the Paulson Family Foundation?
That’s right. The other large gift was $100 million to Central Park. Anyone who comes to New York realises how beautiful and important Central Park is, not only to all New Yorkers but to all visitors from both U.S. and abroad. Over 44 million people visit Central Park every year. What people don’t know is it’s 100% private funded by the Central Park Conservancy. The New York City government gives nothing to maintain the park. It’s really the heart and soul of New York, so that’s why I gave that gift to Central Park, which looks better than ever and gives so much happiness to so many people.
John Paulson, thank you for your time.
Original Interview here
UNLOCKED: The John Paulson Interview