Dalio’s Warning to Yellen: Don’t Repeat 1937

Bridgewater Associates founder Ray Dalio has added his voice to those warning the Federal Reserve against raising interest rates too soon.

Fed Chair Janet Yellen is to speak later today following the Federal Open Market Committee’s two-day meeting, and speculation is mounting as to when the 12-strong committee will decide to lift the base interest rate from 0.25%, where it has remained since late 2008.

“We don’t know—nor does the Fed know—exactly how much tightening will knock over the apple cart.” —Ray Dalio, BridgewaterIn a letter to investors, Dalio warned that raising rates too soon risked a repeat of 1937, when the Fed hiked rates as the US economy was recovering from an economic depression. The shock move sent markets plummeting and, many argue, extended the US recession.

“We don’t know—nor does the Fed know—exactly how much tightening will knock over the apple cart,” Dalio wrote in the letter, also signed by Mark Dinner, a senior investment associate at Bridgewater. “We think it would be best for the Fed to err on the side of being later and more delicate than normal.”

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The pair said the Fed had “created expectations that it will tighten in either June or September and such expectations are difficult to deviate from.” Dalio and Dinner said they were “cautious” about exposures with a rate hike on the horizon.

“The financial system has become increasingly vulnerable only six years after its last collapse.” —Bill Gross, Janus CapitalA monthly survey of fund managers by Bank of America Merrill Lynch showed sentiment towards the US had fallen to its lowest level since the survey began, as attention turned to the Fed’s plans.

Janus Capital’s Bill Gross urged investors to “stay conservative” in his latest investment note.

“In an attempt to elevate returns, investors and savers do all the wrong things required of a stable capitalistic model,” he said. “The financial system has become increasingly vulnerable only six years after its last collapse in 2009.”

Investment staff at pension funds need to take into account the interests of their sponsors when making big decisions—even if there is no direct impact on their financial positions.

This was the message from UK pensions lawyer Rosalind Knowles, a partner at law firm Linklaters, speaking at the National Association of Pension Funds’ investment conference last week.

“The regulator clearly thinks that more engagement is better.” —Rosalind Knowles, LinklatersCiting case law from the UK and the US, Knowles said the emphasis was shifting away from trustees and investors acting purely in the interests of members and towards a balanced approach, with more importance placed on employers’ interests.

The UK Pensions Regulator’s recently updated code of practice for defined benefit scheme funding emphasised this balance, Knowles said. Crucially, however, the guidance is not legally binding.

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“Above all, it talks about consulting with employers about investment decisions,” she said, “and goes on to suggest that trustees should engage even when not required by law. So although it is made quite clear that decisions are never subject to employer consent, the regulator clearly thinks that more engagement is better.”

Too much risk was clearly undesirable given the potential poor outcomes, Knowles explained, but an overabundance of caution could place excessive pressure on the plan sponsor to make good a deficit.

“We are talking about trustees giving serious consideration to the viewpoint of the company. We are not saying the company should dictate the outcome,” Knowles stated. “A good way to analyse that is to ask ‘is there a good reason why not?’ If there is then perhaps you should not.”

The key recent case cited by Knowles related to the UK’s Merchant Navy Ratings Pension Fund, a multi-employer plan. Existing companies contributing to the pension were unhappy at the potential requirement to fund the deficits of other companies.

According to a case summary from law firm Eversheds, “the question was whether the trustees could, in introducing a new deficit contribution regime, take account of what was fair between the fund’s employers”.

The High Court ruled that the pension could take into account the interests of the employers funding the deficit contributions, but were not obliged to. It was also not obliged to take the lowest-risk funding plan.

Eversheds said pensions “should be wary of any suggestion that they are now required to take employers’ interests into account when reaching decisions—this goes beyond the scope of the judgment.”