Brian Pretti: The World's Capital Is Now Dangerously Boxed In

Tyler Durden's picture

Submitted by Adam Taggart via Peak Prosperity,

If you would have told me that we would be in this set of circumstances today ten years ago, I would have told you you were out of your mind.

~ Brian Pretti

This week Chris speaks with Brian Pretti, managing editor of, a financial commentary site published by institutional buy-side portfolio managers. In their discussion, they focus on the global movement of capital since quantitative easing (QE) became the policy of the world's major central banks.

The ensuing excellent discussion is wide ranging, but the key takeaway is that capital is being herded into fewer and fewer asset classes. With such huge volumes of money at play, very crowded trades in assets like stocks and housing have resulted -- bringing us back to familiar bubble territory in record time.

The key for the individual, Pretti emphasizes, is risk management. The safety many investors believe they are buying in today's markets is not real.

The Housing Market Is a One-Sided Investment Cycle

I think what we have got going on here in housing is we have got an investment cycle, not an economically-driven housing cycle, from the standpoint that really, never before have 40 to 50% of all residential real estate transactions been for cash. We have never seen that in prior cycles, absolutely not. You know, what is driving that? Well, in one sense – and it is not a point of blame, but more a look at the unintended consequences of what the actions of QE are – when you lower these interest rates and you take away safe rate of return in alternative assets. Five years ago you could have got 5% in a CD, a Treasury bond, even a money market fund. Well, for a lot of those people who had been savers and investors in safe assets, they do not have rate of return any more. What do they do? They take their $300-$400 thousand nest egg out of the bank, and they turn around and buy a rental property where they can theoretical get the 6%, 7% cash on cash rate of return. And all of a sudden that becomes their rate of return.


So, I think we are clearly seeing this, where assets are being lifted out of other investments – whether it is Treasurys or CDs or bank accounts – and being used to buy residential real estate. Of course, the issue becomes one of risk, meaning a Treasury bond never really needs a replacement roof, and the water heater does not break, and there are no vacancies. So, we are increasing risk in these asset class choices and investment choices, but it is a forced choice, because there is no other rate of return. And for people who need that to live, that is why I think we are seeing the big cash transaction levels that we have never really seen before.


Second part of the equation, foreign money is absolutely on the move. I mean, we are talking on the first business day of the new year, and one of the things that is in the news this morning and being talked about is, Is there going to be some type of an IMF-driven 10% deposit tax in the Euro banking system? Well, this has been being talked about now for probably two, three, four months. The trial balloons go up in the air. The Euro banking crowd has also talked about potentially negative interest rates. So may be a very simple question, Chris. If you are a Euro citizen and your net worth is caught up in euros and/or you have assets in the Euro banking system, what do you do? You get them out before something like this happens.


And really, maybe we can draw the parallels, too, with Japan, where we have seen monetary debasement and true currency debasement in very violent form over the last year since Abe’s been elected. If you are a Japanese citizen and your net worth is caught up in yen, you have lost 20% of your global purchasing power. What do you do? Capital begins to move globally.


And I think part of what we are seeing – well, maybe one last piece here, too, is, the current leadership in China is cracking down on corruption. So, I know you know full well, moving capital out of China is illegal. There is only one way to get it out. You have got to have serious capital. So, what is it doing? It is hiding in alternative assets globally. It is coming to what it perceives, for now, the perception of safety that maybe includes the U. S. dollar, and if you are coming to the U. S. dollar, what do you do? Well, you can buy bonds, you can buy stocks, you can buy a business, you can buy real estate, and because safe rate of return has been basically taken away, real estate and perhaps stocks, too, are a repository for that foreign capital.


And then, maybe lastly more than not, that global capital being on the move is concentrating in some of these geographic areas that we are seeing. I mean, prices in the New Yorks, prices in the Londons, prices in the San Francisco Bay Areas are just really off the charts here. So this is very much unlike prior cycles where we saw – and I know this sounds a little simplistic and Pollyannaish – but we see younger families getting jobs, making a little bit more money. All of a sudden, they can afford a home; they take on a mortgage purchase application. Maybe they buy your or my house and the food chain moves up. That is not happening this time. So, this is really an investment cycle, as opposed to a true economically-driven housing cycle.


And I just ask myself, is the lynch pin in all of this the dividing line of alternative rates of return, meaning interest rates? And as we saw rates pick up really since May of last year, we saw things like mortgage purchase apps and refi apps just drop like a rock. So as we move forward, these big metrics that are the interest rates that are Treasury rates are very, very meaningful. And will they be the catalyst of change, ultimately, in the housing cycle, as opposed to the economy being that catalyst? We are just seeing something very different this time.

The Box Global Capital Is Now In

The minute the Fed started talking about tapering – I mean, if we roll the clock back to 2009 when the Fed started their QE extravaganza, that money absolutely got into U.S. equities and got into U. S. bonds. But as the money kept being printed, it rolled across Planet Earth. It got into the emerging markets, it got into their bonds, their currencies, their equities. It got into global real estate, it got into gold, it got into commodities. The minute the 'taper' keyword was starting to be used by the Fed, all of a sudden, global investors were anticipating the recission of that tidal wave of liquidity. And all of a sudden, these asset classes started to contract to the point where it is really U.S. equities, the very large blue-chip global equities here that continue to perform well. They offer yields higher than safe bonds, for now, and are also the only place we are seeing rate of return.


But within this, we are herding capital into a very, very small sector of asset classes. And then lastly, fortunately or unfortunately, when we have the global central bankers and the global politicians doing what they are doing – Europe, we may take 10% of your assets in the European banking system. Europe, we may invoke negative interest rates; you bring a dollar into a bank, we will give you back 99 ½ cents. You cause capital to move, potentially, and to me this is a big issue. I think 2013 was driven as much by momentum, and there is no place else to go, and all those other wonderful things, as it was driven by the weight and movement of global capital. Global capital coming out of China, because it was scared of – if we are going to crack down on corruption and you have got corrupt capital, you get it out right away. Japan, the drop in the yen, you have got to move some of your capital to an alternative venue in an alternative currency. Europe, the threat of confiscation, and maybe just the basic question of, What the heck is the euro going to look like in three years? I know if my net worth was caught up in euros, I sure as heck would not be 100% vested in the euro.


So, a lot of this, I think, too, is global capital is hiding in an asset class that it considers to be relatively safe, because all these other asset classes have proven to be unsafe. And for right or for wrong, in U.S. and really large blue-chip globals, they have been very, very good stewards of capital over time. Their balance sheets are relatively clean, and if you are looking for safety, then this is just a very simple question. Would you rather lever your family’s balance sheet to one of the global governments, or would you rather lever it to Johnson & Johnson? Which one do you trust more? Which one is going to take better care of your capital over time?


So I think there are so many different factors that have been forcing capital into these narrow asset classes that basically are equities and real estate. The key issue to me, going forward, is risk management. For people who sat this one out, for people who have said, Hey, wait a minute; I am looking at the Bob Shiller CAPE ratio here, and we are at levels that we have only seen four times in the last 100 years.You have got to be kidding me. I am not getting into this thing. The only way to participate in these markets, in my mind, is to make sure that you have a plan for managing risk, period. This is not throw your money into the equity market and hope for a great 2014, because every year that the market was up like it was last year was followed by a year that blah, blah, blah. It does not matter. It is about making sure that we manage risk. And we need to draw hard lines underneath certain levels of capital.


Very easy to say, but for your listeners, too, I think this comes down to individual families and making an assessment of how much risk they can afford to take. Below that line, they do not allow it to happen. I know it may sound trite:You have every day of your life to get back into the market, but sometimes you do not have a second chance to get out. 

Click the play button below to listen to Chris' interview with Brian Pretti (101m:31s):

Click here to read the full transcript

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Colonel Klink's picture

They're just winding the spring, once it's finally released it's going to be U G L Y !

I am Jobe's picture

Col Klink- You might be right. No Make up is going to make this shit look good. Also the Mortgage Interest Ded is gone in 2014. Party Time. 

Colonel Klink's picture

Is it the actual interest deduction or the suspension of loss on a foreclosure counting towards income?  I could only find something about the loss provision, nothing specific on the loss of the mortgage interest deduction itself.

Colonel Klink's picture

I see nothing about the actual mortgage interest, only the mortgage debt forgiveness and mortgage insurance deduction.

If the actually did remove the interest deduction, trust me you'd (the politicians) would hear the SQUEAL heard round the world!

EDIT:  I still keep abreast of industry changes since I was in mortgage banking for 20 years.

Seasmoke's picture

i dont believe the assholes got rid of mortgage interest deduction..........YET !

Harbanger's picture

It's all tied into knowing how to play "the game" with the rules "given you" at any particular time.  They will do away with mortgage interest deduction on your income tax return, exactly at the same time they will stop lending you money.  I can live in a world without credit, most will have a very hard time adjusting to their new living standards.

Omen IV's picture

" I can live in a world without credit" if you own the asset then its worth less the day after due to loss in liquidity and purchasing power in the market then there is something wrong with how you think-

Harbanger's picture

"if you own the asset then its worth less the day after due to loss in liquidity and purchasing power."


Good observation, but I disagree with your definition of "worth".  If you don't own "the asset" however, then you will have NOTHING the day after, due to loss in liquidity.  Think about what I said.

Colonel Klink's picture

Right with you there Harbanger, if they take the deduction away the housing industry will CRATER!!

new game's picture

bullshit, as obviously you don't understand taxes and income.  for many the standard deuction is better than itemized deductions, taxes, interest at 3-3 1/2 percent refied, ect ect....

fucken eh, bitch, bitch about everything, bitcheez.

Colonel Klink's picture

Keep telling yourself that chief!  I understand taxes and income just fine.  There's a point where it is, it all depends on how much mortgage people carry, and most of the sheep are encouraged to borrow as much as they can.

It's true that the ultra low interest rates can skew point.  Please don't tell me what I do and don't know.

The only thing around here that's a bitch, is you!  Because I just made you mine.

EDIT:  Also note I said HOUSING industry, and not real estate.  Fine distinction as I choose my words carefully and your reading comprehension sucks.  Go look up how much GDP is related to new construction, and that's not just the actual building of the home.  It includes all industries which contribute to it and benefit from it.

new game's picture

sorry dude. i think if you take average income, average mortgage and assume it was refied between 3 and 4 you may find that in an average family with normal itemizations it won't mater.

Colonel Klink's picture

And real estate taxes in the more expensive areas such as the north east, mid atlantic, and california can easily be as much as the standard deduction.

And we all know that the "average income" people are still buying those McMansions with their impaired credit now.  /sarc  Homeownership numbers are dropping.  We can argue all day about individual cases, average this and that, but in the end a removal of the mortgage interest deduction will put a damper on REAL ESTATE in general.  If not by specific number calculations, then by the psychological effect on the potentials buyers.  The vast majority of people don't get into the numbers, they buy driven by other factors.  A major one being that the interest is deductible, whether or not it actually is better than the standard deduction.  The mere whiff that the deduction isn't there will turn a lot of people away.

Stick with selling real estate Mr. Agent.  I'll stick with my business system analysis and policy/procedure background having worked in virutally every part of the mortgage process from origination to payoff, including secondary markets.

EDIT:  I'll add that any smart person doing their own taxes, or having them prepared will take whichever deduction provides the most benefit.  Removal of the interest deduction WILL in fact make the standard deduction that much more appealing.  It still doesn't take away from my original point that it will have a chilling effect.

FredFlintstone's picture

I don't have a mortgage and still itemize. State and local taxes!!

Colonel Klink's picture

Thanks Fred for making my point.  I hear we're still waiting for things to hit Bedrock!

SoilMyselfRotten's picture

Yes Fred, but you have a single story stone home with a pet dinosaur

tip e. canoe's picture

(with respect) game, what you're not factoring in is that mortgage interest is one of the very few deductions those who are subject to the AMT can take.

wisehiney's picture

It won't matter when mel watt begins making dead beat mortgages one day and forgiving principal the next day. He takes office this month.

AR15AU's picture

That article says nothing about mortgage interest deduction going away. Sorry man, but stop spreading bad info. The housing market is doomed anyway.



new game's picture

housing market is risky place for parking of assests by idiots that will be in dire trouble when incomes don't match break even rents, vacancies, taxes, repairs and hostile surfs ruining the "investment".


bubble nomics - new norm as sea of liquidity chases best bubble nomics return fueled by our own trusted servants to the banking indstry-the federal "private" reserve s/

what nex, 55 chevs for 250k, leave it to beaver lunch boxes for 5k

lava lamps for 1000...

long hemp head shops and paraphanalia-new bubble - pot!

Colonel Klink's picture

What a bunch of gibberish.  Hey look, A SQUIRREL!

Oquities's picture

6-7% cash-on-cash return in rental real estate is ridiculous!  i'm getting 13% on a property bot May 2013, 5 apt and 1 storefront..  i'll gladly sell it to someone looking for a rich 9% return

Whoa Dammit's picture

Waiting for the Hedgies experince this week (due to the extreme cold)  the true meaning of plumbing repairs in rental houses.

Harbanger's picture

Never install water pipes along exterior walls.  It pays to run the verticals inside and then run lines out to the exterior with a shutoff valve.  No?

NoDebt's picture

Yes.  That's much easier to do if the house is plumbed that way from the beginning.  Anything can changed for money, obviously, but it costs no more to do it right from the start than to do it stupidly from the start.

I'm lucky- I have a ranch house with a basement.  All the pipes are easily accessible.  You remember the dad in the movie "A Christmas Story" running downstairs and doing the worlds fastest fuse changes?  That's me, but with sweating in a new piece of copper pipe.  Yeah, yeah, I coulda changed out all the copper years ago, but how else am I going to look like a hero if I don't have a pipe to fix from time to time?


Harbanger's picture

Time will come soon enough when they will recognize your worth, once again.  It's all tied to progressivism and feminism but I don't want to get into that now .  It only costs a few dollars more to build something the right way from the beginning.  No codes, just common sense and doing what's right.

FredFlintstone's picture

Do you "weave a tapestry of obscenities" while performing repairs in the basement?

Colonel Klink's picture

When I have to do it in the crawlspace it's a veritable textile factory of obscenities!

Thomas's picture

Pretti is great. Very few know how to tease insights out of graphical output like Pretti. The one point I disagreed with when I listened to the interview was the empahsis on retail cash buyers. I suspect he is under-estimating the importance of the Wall Street Tranche Machine.

foodisgood's picture

Everyone of ya fakin naggers to the idea Capital is anything but the fruit of Labor deserves all the paranoid perspective outcomes of taking it deeper in the rectum than ya could imagine income fer yourself.

prains's picture

your mother should have made you wear a helmet

Colonel Klink's picture

I think he took some shots to the head while he was still in the womb.  If you know what I'm saying.  wink wink nod nod

Colonel Klink's picture

Thanks, I think he hit him in the soft spot in the crown a few times.

Daddy must have been well endowed because the brain damage seems to be severe.

MollyHacker's picture

Does anyone notice wtf the Feds "asset management team" is spinning off in the way of underperforming S&Bs

DOGGONE's picture

Look here
Real Homes, Real Dow

Most of us, including me, don't want a roller-coaster ride for their money. The last half-decade includes market price manipulation -- a serious added deterrent, I judge.

tip e. canoe's picture

is it just my eyesight, or does it seem on that chart that real homes have reverted to the mean?

DOGGONE's picture

Please see NYT chart here
Note BOOM TIMES, "returns to levels consistent since"
I reckon most likely 'ought to be' is 54.

See also

vincent's picture

Net worth seems to increase slowly, but usually decreases quickly.   Those 40% corrections are a bitch.

I'm not ashamed to say I enjoyed watching the high flyers during the most recent real estate mania. Their greed blinded them, and most had the money spent before they even realized the gain (or never realized it). Now the realtors, title company employees, building sub contractors, and all around handymen turned RE investors (enter your profession here) toil at their 10.00/hr jobs after losing not only their multiple rental purchases, but their primary residences in the process. Deeply in debt, and with no light at the end of the tunnel because, after a weekend course, they became smarter than everybody else.

There is no future and no past.. just the present repeating over and over again right now.

I admire the smarts amongst the ZH'ers, and also applaud those of you who have accumulated baskets of fruit through your efforts, labors, and wise decision making. Substantial disposable income is not a luxury for most (me included), but I would not trade the modest existence I've chosen. It's forced me to sharpen skills, learn to be more resourceful, and produced thought provoking conversations. These are attributes/mindsets which the vast majority lack (IMHO), thus condemning them to feelings of hopelessness, negativity, desperation, and downright nastiness. These individuals are the ones who worry me, as I can see the anger building.

Like it or not, it's possible liquid USD could be the safest place to be in the near term (yes metals too). When considering the debate between inflation and deflation, which do US citizens believe is more likely over the next 48 to 60 months? This is the epitome of being boxed in. The Fed may fear deflation, but what's the alternative? The majority of the population will not survive much more inflation. Fuel and food must be contained, and disposable income is vanishing quickly.

Slow and steady is working well for me personally. I'm sleeping better than most.










FredFlintstone's picture

I vote near-term deflation.

Professorlocknload's picture

+ vince.

  It's called living within ones means and deferring gratification. Two lost concepts in this "want it now" environment.

Dr. Destructo's picture

I want my green arrows now I'll post something good later -I promise.

Gromit's picture


Thank you for your kind remarks.

It's a dog eat dog world out there and I had to scratch and claw to move upwards on the pile....

but the booze and the toys and the chicks make it all feel worthwhile.

Reader1's picture

Dude, you're like a poet! 

I like that line, "There is no future and no past.. just the present repeating over and over again right now." 

Now write the rest of the song around it and make me warm and fuzzy!  Perhaps you could go, "There is no future and no past.. just the present repeating over and over again right now.  Now shake that ass!  Shake!  Shake!  Shake!"  And show some twerking.  Great music has twerking.

Seriously, that's a memorable line. 

Hubbs's picture

You have every day of your life to get back into the market, but sometimes you do not have a second chance to get out.




You have every day of your life to get back into the market, but sometimes you do not have a second to get out.

q99x2's picture

Jamet Yellen is REAL.



satoshi101's picture

Prez Hillary2016CLINTON is even uglier


Ugly women to rule the world, the new paradigm, in the meantime behind the curtains, good ole boys at the NSA rule the real world, but out on stage ugly white women rule the world.

When will the NSA become bored of this paradigm and put KARDASHIAN family in positions of political theater?


satoshi101's picture

Talking about MONEY.

Well this seems to be the only POST today dealing with money. So I would like to see if any of the BOT's here has a programmed 'opinion' on currency?

It seems that the INR&ZAR are down over 50% in the past 1+ year, not good for those countrys(india,so-africa)

It appears that AUD-JPY are heading in the same direction ( australia,japan), but CHINA and family is still hold well against the USD.


All this money 'boxed' in and sloshing around, but it appears to be running away from specific country's in pairs,... almost like dominoes dropping or specific country's being attacked, and slowly of course the USD emerges as KING once again, ..