Home / Analysis / Summers’ sober view on nukes, Cathie Wood and the ‘somewhere people’

For all the risks that lie up ahead, the market is pricing very few of them in. But the situation in the United Kingdom should be a warning to investors of the "accidents" that may come.

For evidence of how mad the world has become – and the ability of money managers to mostly ignore that madness in favour of jumping on the latest bear rally – look no further than former US Treasury secretary Larry Summers’ closing remarks to Citi’s Investment Conference on Wednesday (October 12).

“I do not see much evidence that tactical nuclear (weapon) risk is currently priced into markets,” Summers said, adding that while he lacked the expertise to say what the likelihood of their use would be he would be surprised if it was below two per cent or above 20 per cent.

“I think that if there were to be the use of tactical nuclear weapons of anything but the smallest scale, it would probably be a seismic event in markets and it would set off all kinds of volatility, all kinds of increases in risk premia, and I would be surprised if you didn’t see forced liquidations that led to a need for some kind of emergency lender of last resort or market maker of last resort type of activity.”

There is instead a basic optimism about the Ukraine War priced into markets, Summers said, which is therefore “a source of significant risk”. Though perhaps what is perceived as optimism is borne not so much from ignorance about the future as a need to deal with the challenges of the present –  among them the shockwaves caused by the policies of the UK’s new-ish government.

“I’ve been doing this a long time, and it is rare that I’ve seen so misguided a combination of policy and policy communication as the new Tory government delivered,” Summers said.

First there were enormous energy subsidies, then a commitment to a substantial increase in defence spending, a major set of tax cuts and a doomed attempt to walk it all back.

“It could hardly have been surprising that this was alarming to the market. And when you alarm the markets that badly and you’re still working on your plan to un-alarm them for more than a month, it’s not hugely reassuring to the market,” Summers said, adding that the Bank of England’s (BoE) decision to announce that it would withdraw support for pension funds on Friday was akin to an army informing its enemy of when it would pull its forces out.

“You just encourage speculators to wait for the moment it ends. And so I have to say that I was not surprised that the BoE’s announcement about ending their program on Friday proved to have significant negative impacts in markets.”

Many things can make the US stock market gyrate, Summers said, but he does believe there has been some financial and reputational contagion.

“People are looking at what happened in the UK and saying ‘Gosh, I didn’t see that one coming’… This is the beginning of the process; it’s not the end of the process, and there’s probably going to be more illiquidity. I don’t know where it will happen, but I should just be more careful about everything.”

“If you know that a road is really icy you know that there are going to be automobile accidents. It may be completely fruitless to try and figure out which cars are going to be in the accidents, but you know some which way there are going to be accidents. The lesson from the UK is to make people think that it is a bit more likely.”

And in the United States, one of Wall Street’s most infamous investors is particularly pressed. Cathie Wood’s ARK Invest recently penned an open letter to the Federal Reserve questioning the data underpinning their stance on rate rises – a letter that has mostly been interpreted as a plea for mercy given that low rates fueled drove of ARK’s performance and that it is now given back all of that performance as they leap higher.

“I’d say, in general, that I have not found over the last 15 months that Cathie Wood’s economic commentary matched my own assessments of the situation, and I guess that the fact that the fund is down 75 per cent would suggest that the analysis that fund has done has not been particularly accurate with respect to the underlying economic situation,” Summers said.

And for US investors, another flashpoint looms: the outcome of the midterm elections. Summers sees the political division in the US arising not so much out of economic inequality but the divide between “people from anywhere” – those who are beneficiaries of a global system and who value “the cognitive” – and “people from somewhere” – who perceive themselves as formerly the heart of the US but are now squeezed between the poor and the elite, who are leveraging the cosmopolitan global world for their own benefit.

“They perceive opportunities for their children to be substantially limited, and they’re resentful and they take their resentment out by being against government,” Summers said. “I think you’re seeing that in a rise in right-wing populism in many places, including the US, and it’s also manifested in British politics, as well as in continental Europe.”