The transcript from this week’s MiB, Maria Vassalou, Head of the Pictet Research Institute, is below.
You can stream and download our full conversation, including any podcast extras, on Apple Podcasts, Spotify, YouTube (video), YouTube (audio), and Bloomberg. All of our earlier podcasts on your favorite pod hosts can be found here.
~~~
Transcript: Maria Vassalou Head of the Pictet Research Institute
Masters in Business with Barry Ritholtz · Bloomberg Radio
[00:00:07] BARRY RITHOLTZ: I’m Barry Ritholtz. You are listening to Masters in Business on Bloomberg Radio. My extra special guest is Dr. Maria Vassalou. She is head of the Pictet Research Institute, which she joined in 2024 to help build a staff of PhD-level researchers that collaborate with outside academics and think tanks.
Pictet’s long-term strategic mandate covers asset allocation, portfolio construction, risk premia, capital market structures, global economic and investment trends. The firm manages nearly a trillion dollars. Dr. Vassalou arrived from Goldman Sachs Asset Management, where she was co-CIO, and SAC Capital. She also served as president of the European Finance Association.
Pictet was founded in 1805 as a partnership of managers and owners, which it still is to this day. I thought this conversation was utterly fascinating, and I think you will also. With no further ado, my sit-down with Pictet researcher Maria Vassalou.
Dr. Maria Vassalou, welcome back to Bloomberg.
[00:01:35] MARIA VASSALOU: Thank you, Barry. Thank you for having me. It’s always a great pleasure to be here.
[00:01:39] BARRY RITHOLTZ: The last time you were here, you were co-CIO at GSAM. We’ll talk a little bit about your career in a minute, but I gotta roll back to the academics: bachelor’s in economics at the University of Athens, PhD in financial economics at the London Business School, which leads to you becoming a professor of finance at Columbia for over a decade, 1995 to 2006. Academia: was that always the career plan?
[00:02:08] MARIA VASSALOU: When you do a PhD, you’re expected to go to academia, and the reason I did a PhD was because I wanted to delve deeper into the various topics. I didn’t want to have a superficial understanding of economics and finance, and that’s what made me get into it. And then I had this wonderful opportunity to join Columbia as a European PhD. At least at the time, it was a very rare occurrence.
I was actually, at the time, probably the first or second PhD from Europe that was ever hired at an Ivy League school. And so of course it was an offer I couldn’t turn down.
[00:02:58] BARRY RITHOLTZ: And you spent a good 11 years there. I’m fascinated by your work history. It’s like a who’s who of investing. You’re head of quants at Soros, you’re a portfolio manager at SAC Capital. You consult for Citadel, you’re head of asset allocation at McKinsey, PM at Perella Weinberg, co-CIO at GSAM. That’s an incredible run.
[00:03:11] MARIA VASSALOU: Thank you.
[00:03:11] BARRY RITHOLTZ: How different were each of those shops? What were the big takeaways? What’d you learn at each?
[00:03:27] MARIA VASSALOU: Well, they were very different, as you know, and also, coming out of academia, going into the industry, you know, to some extent you don’t really know the cultures of all these places. But the reason I made this transition was because my research in academia was in empirical asset pricing and how macro factors affect asset returns. So I was always working on this interrelation of macro and finance, which at that time was not a very big area. There were a few other people doing it, obviously. And it started finding applications to hedge fund strategies.
So I started being approached by various hedge funds to consult. And so over time, of course, that led to job offers, and I was very reluctant to make the switch, because it’s a big change, obviously.
[00:04:31] BARRY RITHOLTZ: To say the very least. The first gig out of Columbia: was that with Soros Fund Management?
[00:04:38] MARIA VASSALOU: Actually, it was with another hedge fund that approached me to consult for them. And then—
[00:04:38] BARRY RITHOLTZ: Was that Citadel?
[00:04:38] MARIA VASSALOU: No, it was a smaller hedge fund in Connecticut, DSD Capital, I think it was called. And then I had various others that approached me, and then Citadel approached me, and I was a retained consultant. They wanted me to join full time, but I was very scared to leave academia, if you like.
[00:05:11] BARRY RITHOLTZ: Well, safe and secure, and, you know, out in the real world, they’re very demanding.
[00:05:16] MARIA VASSALOU: Yeah. So I said, I’m not ready to leave academia, but I’m happy to consult. So we had this arrangement where I would spend one or two days a week in Chicago in their offices. At that time, that’s where their main offices were. And then Soros approached me, and I started consulting for them.
And eventually I joined them to start this quantitative strategies group. But as we started developing the strategies, and I was presenting them to the management there — Robert Soros was the CIO at the time — he liked the idea. So he said, okay, take 20 million to try this one, take 30 million to try the other one.
And at the end I was managing about 200 million for them, which was not a lot of money for Soros, but it was an opportunity for me to, you know, dip my toes into the markets and start seeing how things work. And the strategies were quantitative in nature. So eventually, when I left Soros, I was able to take the code with me, and I moved to SAC, and then I was a full-blown PM with my own silo and team and so on and so forth. So that launched my career as a global macro PM.
[00:06:47] BARRY RITHOLTZ: So I have to ask: how different is teaching at a place like Columbia versus managing money at Soros, Citadel, SAC? What’s the biggest gap between academic theory and real-world practice?
[00:07:05] MARIA VASSALOU: Ego.
[00:07:06] BARRY RITHOLTZ: Is that a big part of it?
[00:07:07] MARIA VASSALOU: I think it’s a big part. And one of the biggest hurdles I had to overcome when I moved to industry — when I was meeting different people, or people were approaching me for positions — the first question would be: academics don’t succeed on Wall Street. What do you think is different about you? And that was because, you know, LTCM was very recent.
Sandy Grossman hadn’t done well. I mean, he had done well initially, but then he didn’t. There were a couple of other examples that—
[00:07:44] BARRY RITHOLTZ: Here’s the pushback. Dimensional Funds is a trillion dollars, academically driven. Vanguard is 12 trillion, BlackRock is 13 trillion. I mean, those are big academically driven shops.
[00:07:56] MARIA VASSALOU: But these are not hedge funds. They’re long-only shops. So in the hedge fund world, the perceptions are different. And I think they were very much colored by the failure of LTCM, because there you had all these big names in academia—
[00:08:14] BARRY RITHOLTZ: And a hundred-x leverage.
[00:08:14] MARIA VASSALOU: Yes, exactly.
[00:08:14] BARRY RITHOLTZ: Less academia than a bad—
[00:08:14] MARIA VASSALOU: Exactly.
[00:08:14] BARRY RITHOLTZ: That’s more [inaudible]. And here we are, fast forward, and Situational Awareness blows up for the same reason. So you mention ego. I saw a study, I don’t know, about five years ago: women PMs tend to outperform male PMs by something like 80 basis points. And my immediate thought was, oh, I don’t even have to read this. It’s testosterone poisoning and male ego. Is that an exaggeration, or how accurate is that?
[00:08:46] MARIA VASSALOU: Well, you know, at some level in academia, the stakes are not as high, in the sense that you can have your views and go with them. And most of the time, there is no way to unequivocally prove whether you’re right or wrong. I mean, in some cases you can.
[00:09:06] BARRY RITHOLTZ: But there’s no P&L where at the end of the quarter, you’re—
[00:09:09] MARIA VASSALOU: You know, when you run a fund, I could be very, you know, confident about my idea or my trade, but if it works against me and I’m about to hit my stop-loss point, I have to cut risk. And there, you know, it doesn’t matter how strongly you feel about the idea. You get your scorecard every day that says how well you’ve done. And that’s the case at least in public markets. If you are in private markets, you have a longer runway.
But in public markets, it’s very brutal. You get a scorecard every day. When you make money, you’re happy, but you’re not as happy as you are sad when you lose money.
[00:09:56] BARRY RITHOLTZ: Isn’t that Kahneman and Tversky’s classic finding, that the reason we have such loss aversion is we feel the pain twice as much as we enjoy the pleasure?
[00:10:10] MARIA VASSALOU: Yeah, exactly.
[00:10:11] BARRY RITHOLTZ: So how do you balance — I’m hearing a mix of theory, conviction, and risk management. How does a PM balance that when, all right, the risk says 5%, I’m out, but I know that this trade is gonna work out and I would love to reenter it? How does a PM like yourself, that’s so quantitative and theoretical in nature, how do you balance those out?
[00:10:35] MARIA VASSALOU: Well, the premise of my strategy was having a view in the markets and expressing it through many different trades in many different ways. So no particular trade was dominant in the portfolio. And always I was focused very much on protecting the downside. So in that sense, the risk management was integrated into the portfolio construction phase of the strategy.
And I must say, going from Soros to SAC, in each of these places I learned different things. So Soros was a big macro shop, so it was a great school from that perspective. But SAC was so focused on risk management. So even someone like me, coming from academia, where risk management is an obvious thing to focus on, I had to spend a lot of time refining that part of my strategy in order to be able to do well and, you know, succeed there.
So that’s really how it was happening. It would be small trades, and then I would do volatility targeting at the portfolio level. I had many metrics by which I was tracking volatility in the markets, and if I would expect that the volatility going forward will be elevated, then I would cut the risk across the board at a portfolio level. So I would, you know, basically target the lower vol.
[00:12:26] BARRY RITHOLTZ: Let’s stay with the macro, ’cause I wanna relate it back to some of your academic work. One of the things you focused on was analyzing how news about future economic growth relates to equity returns. But as anybody who’s invested or traded for any length of time knows, getting the economy right is not enough to get the market right. How do you reconcile those two?
[00:12:52] MARIA VASSALOU: Well, the market is a predictor of future economic growth. So that’s the case. And so it depends on the horizon at which you trade. So my approach was never, you know, day trading.
It was more longer-term themes that were playing in the portfolio. And so from that perspective, having this more long-term aspect in the portfolio construction was helpful. But it was complemented with shorter-term themes. So we had a blend of different ideas that were playing out over different horizons.
[00:13:39] BARRY RITHOLTZ: Really, really interesting. Coming up, we continue our conversation with Maria Vassalou, head of the Pictet Research Institute, discussing the academic theory behind investing. I’m Barry Ritholtz. You’re listening to Masters in Business on Bloomberg Radio.
I’m Barry Ritholtz. You’re listening to Masters in Business on Bloomberg Radio. My guest is Dr. Maria Vassalou. She is head of the Pictet Research Institute, which runs essentially all of the academic market research for the firm, which manages nearly a trillion dollars in assets.
So you joined Pictet in January 2024. I mentioned earlier the firm was founded in 1805, but you joined specifically to build the research institute from scratch. What was that like, starting from, you know, the ground floor? That sounds like quite a lift.
[00:14:40] MARIA VASSALOU: Yes. And that was really the attraction of this opportunity: the fact that Pictet had this vision of creating this institute for quite a while. And being a firm that has been around for a long time, they have weathered many cycles in the markets and the geopolitical developments, obviously. So they’re very careful and deliberate about the decisions they make, but once they make a decision, they really go for it in a very methodical, high-conviction way.
So eventually, you know, they were looking for someone for a while. Eventually we met, and I found the idea fascinating, to start this internal think tank, effectively, that would be focused on the study of long-term trends that can affect the way we approach investing. So effectively we focus on three areas: geopolitics, macro, and portfolio implementation issues. We have a team of PhDs that are dedicated to the institute, and we do academic-level research.
We don’t focus on short-term themes. So we are not going to be the ones to tell you whether the market will go up or down next month, or where the S&P will end the year, or things like that. But we focus more on long-term themes that could be important for how we approach investing, how we develop our investment processes, how we develop our product offerings, if you like, and really provide new insights to our clients and investment professionals.
[00:16:36] BARRY RITHOLTZ: So I’m fascinated about how you balance all this. You’ve said, both here and elsewhere, the focus is long-term, it’s macro, it’s geopolitical. How do you prevent your whole research team from getting sucked into the daily news cycle? Especially here in the US, but globally, there’s so much news. It’s so noisy and distracting. How do you keep everybody focused?
[00:17:03] MARIA VASSALOU: Well, first of all, the institute is a group-level function. We cut across all the different businesses of Pictet. But under us, or in parallel to us, each business line has its own economists and strategists that focus more on the short term and the news flow. So this is not our job. We have other people doing that.
So we take a step back. All the members of my team are PhDs, and we have an agenda of different topics we work on, and we do basically academic-level work. It’s academic in terms of its rigor, but it’s not academic in the sense of being abstract. We always ask the question: What does this mean for investing? What does this mean for our business? What does this mean about how we should plan our future as a firm?
So that’s the main difference. And then I cooperate with the different businesses.
[00:18:16] BARRY RITHOLTZ: So I want to talk about some of the academic and Pictet research you’ve done, and how all of this eventually is expressed in portfolio allocations. Your ’04 paper is one of the best known in the Journal of Finance, “Default Risk in Equity Returns,” where you effectively argue that size and value is a default effect, meaning the small-cap and value premiums show up in the high-default-risk corners of the market, if I’m not oversimplifying that. Walk us through what you found. How was it received at the time, and how do you express that with actual dollars?
[00:18:56] MARIA VASSALOU: Well, that’s part of my academic work. It’s not part of the institute, the work that we’re doing now. Back then, my focus in academia was to explain asset pricing anomalies through, you know, economic factors.
So what we’ve done there — and I did it with a PhD student of mine — what we’ve done was to create a measure of default risk, which was effectively the Merton measure of risk, calculating probabilities of default and creating a measure from it, and using this measure to basically show — there was this big debate about the small-cap effect at the time and what is driving it. Is it an anomaly, or is there a risk-based explanation?
And our approach was to develop a default probability measure based on Merton’s model, where we would measure the default risk of different types of stocks and focus then on the small caps. And what we would show is that the small caps will always load highly on this default measure, but as the default probability in the markets will vary over time with the business cycle, when default risk was low in the economy, the effect will be diluted. So you wouldn’t really see the small-cap effect. And when the default probability will rise, then that will become more pronounced.
And once we were using that measure, we could effectively explain away all the small-cap effect. So that was part of this research. Now at the institute, we are focusing on other work, and we are also going through a transformative time in our history, because we are moving away from the world of globalization, the dominance of the US, and the world in a way that was established after the end of the Cold War, to a new equilibrium that is yet to be defined. And this is really a period of high uncertainty, a period where a lot of things are happening, and where, to be a good investor, you need to also focus on geopolitics and macro.
You cannot do your job well by just focusing on the particular asset class that you manage. And this is where the institute comes in. So we developed a framework to understand what is happening in the world and how the different pieces fit together: from geopolitical initiatives and policies to economic policies, to what is happening in terms of the competition between China and the US, the rest of the world, the position of the US, the role of technology, the role of demographics, industrial policies, and so on.
[00:22:29] BARRY RITHOLTZ: So let’s talk about some of the Pictet Research Institute’s published studies over the past couple of years. In 2024, the study was titled “The Critical Role of US Debt Sustainability in World Financial Architecture.” And that was before we had the tariffs, before we had the Iran war, before the current administration repositioned the US in a somewhat aggressively isolationist way. Tell us what you found. What is the contested leadership? What is the power battle, the dynamic between the US and China? How does that all manifest in markets? What does it mean for the average investor?
[00:23:16] MARIA VASSALOU: After the end of the Cold War, there was a global financial arrangement that was put in place by which the rest of the world will produce surpluses. They will ship these surpluses to the US, and in exchange the US will provide to the rest of the world the US dollar as a reference currency, US safe assets in terms of US Treasuries, and US equity returns. And this arrangement was working so long as the US was the undisputable leader in technology. Why?
Because for the US to play that role, it had to issue debt. It had to run deficits. And as we know from economics and the Triffin dilemma, this is what eventually leads to the demise of the reference currency providers, because you have to issue debt in order to become a dominant hegemon in the global financial system. But as you issue more and more debt, you erode your own creditworthiness, and eventually you lose that privilege.
[00:24:42] BARRY RITHOLTZ: Is that inevitable? ’Cause we saw it go back over the centuries. First it was Amsterdam, then it was London—
[00:24:42] MARIA VASSALOU: Exactly.
[00:24:42] BARRY RITHOLTZ: Then it was New York. And there were dalliances with Tokyo, and people have talked about Beijing as possibly the next leader. Is it just inevitable that all empires crumble and every country with the mantle of leadership eventually puts itself in so much debt they no longer can lead the global economy?
[00:25:13] MARIA VASSALOU: Well, this is exactly the point of this paper, and this is what is different with the US. The US has done all these things, but the smart thing that the US has done over its history is to focus on innovation and technology. And that effectively works as a collateral for the debt it issues. Because what is the problem with issuing a lot of debt?
Well, beyond a certain point, the markets start doubting whether you will ever be able to repay that debt. But if you have a great machinery of producing innovation and technology that fuels economic growth, then that effectively will be your guarantee that you’ll be able to service your debt. And so the US has been the indisputable leader in technology all these years, until recently. Well, we were seeing this coming, but it has become a real issue in recent years. Now we see China seriously challenging the leadership of the US as a technology provider. And the moment the US loses its leadership, the whole global financial architecture and this arrangement that we described crumbles.
And so for the US to maintain its leadership in technology and innovation is not an ego-driven pursuit. It’s really existential in nature. And I think this is what a lot of people are missing. So this competition between the US and China is not going to go away when the administration changes, for instance.
[00:27:10] BARRY RITHOLTZ: So that’s really fascinating. When I look at the history of the past, I dunno, the entire postwar era, it began with us as an industrial power. Eventually that migrated to Germany, Japan, and then Korea. Then it was technology — semiconductors, software, internet — where still the US has maintained somewhat of a lead. Now we look at AI, and yet in every one of these areas, China has very aggressively pushed into the space.
The central government has funded lots and lots of entrepreneurs and businesses. There’s a big industrial policy there. Let’s say in the next 10 years, China passes the US in terms of technological leadership. What does that mean for the US as an economic power? What does it mean for the people who are sitting on a lot of bonds and fixed income, the debt of the US government?
[00:28:17] MARIA VASSALOU: Well, that’s really the risk ahead, and how we manage the period between now and the next five to 10 years. I’m not even sure we have 10 years ahead of us. I think a lot of things will play out over the next five years.
So how we manage this period will be key in terms of the standing of the US in the global geopolitical pecking order, which will have profound implications for the global financial system, the standing of the US, the standing of the US dollar, of US Treasuries, and so on. So I think we are really under pressure to make the right decisions now. Now, how did we get to that point? We got to that point because the emphasis was on globalization, on economic efficiency.
So it was all driven by low cost of production. The US was happy to produce the ideas, but then produce the goods at the lowest cost, wherever that may have been. China was always very farsighted in terms of its policies. So it always insisted that when they produce something, there will be a knowledge transfer. They would learn from that.
There will be JVs with local firms. So it always had a very strong industrial policy as part of its agenda. So it managed to learn and evolve over time. And the other thing that happened was China was very strategic in accumulating key resources around the world that it either controls directly or indirectly, or controls the processing of these resources that are important for industrial production, for innovation, for the new technologies, and so on.
So now we are in a situation where China is not at the same level as the US in terms of innovation production, even though the patents — the number of patents — may give a different idea. But I would say this is misleading. But it controls so many of the factors that one needs to be a producer of these technologies going forward that effectively it controls a lot of this process. And so all the developments we see also at the geopolitical level have to do with that. So how to redress this—
[00:31:15] BARRY RITHOLTZ: So for most of my lifetime, the US deficit and debt has been expanding. And more or less, there were the usual deficit hawks, chicken hawks, always complaining about it. But it felt manageable. It’s only in recent years — and I wanna talk about policy, not politics — but it’s only in recent years where we saw a couple of giant tax cuts that really opened up the deficit.
The tariffs sent inflation higher. The war in Iran sent inflation higher. That made servicing the debt much more challenging, and at the same time created even more spending on the military side. It kind of sounds like the risk factor you envision is the result of a series of unforced errors. Is that a fair policy analysis? Did we shoot ourselves in the foot over the past couple of years?
[00:32:18] MARIA VASSALOU: I think the US and Europe have been very naive in terms of their long-term economic policies, letting their countries de-industrialize.
[00:32:30] BARRY RITHOLTZ: In other words, just outsourcing manufacturing to China, to Korea, to Turkey, to Vietnam, to anyone that would do it cheaper.
[00:32:39] MARIA VASSALOU: Yes. Yes. So—
[00:32:41] BARRY RITHOLTZ: Well, we saw it during COVID, where you couldn’t even buy masks or toilet paper, ’cause nothing was made here.
[00:32:47] MARIA VASSALOU: Exactly. So I think, if I remember correctly, after the Second World War, US manufacturing accounted for about 45% of global manufacturing. And now it’s down to 19%.
Europe is in the process of also de-industrializing. It’s not just that all this manufacturing moves to other countries, and primarily to China, but it’s also that it increases the vulnerability of these economies, clearly. So now we have moved to a world where the focus has moved from economic efficiency to economic resilience.
And that means that the mixture of services and manufacturing has to be redressed. And actually the current technologies help in that respect. At the same time, you see that the demographics are also changing around the world, and that also has an effect.
[00:33:48] BARRY RITHOLTZ: So let’s talk about that, ’cause you’ve published several studies on that. What’s going on both in the US and Europe demographically? We’ve seen the fertility rates plummet, the number of people having children drop significantly, and the whole society aging. What does that mean from an investment perspective?
[00:34:09] MARIA VASSALOU: What it means from an investment perspective is that successful investments going forward would have to basically fulfill three criteria. First of all, they should use technology to improve productivity. Productivity has been low in various parts of the world, particularly in Europe. But with the current technologies, there is an opportunity to increase productivity even with reduced use of labor, which in a way mitigates some of the effects of the declining demographics.
These new investments should cater to the evolving demographics, in the sense that they should cater to the needs of this cohort of people that age over time. And they should be developed in an economic environment that has the infrastructure to allow these potential productivity gains to get realized. So as an investor, you can invest at various points of this process. It could be in the infrastructure, it could be in the development of the technologies, it could be in the applications of these technologies, and so on.
But when we talk about technology, we shouldn’t just think in terms of the tech firms. A lot of the productivity gains will be in the use of these technologies in other products. And I think some of the more, you know, old-economy sectors, for instance, can greatly benefit from these technologies and become very attractive in terms of their investment potential.
[00:36:03] BARRY RITHOLTZ: That’s Joseph Davis at Vanguard’s book, which is: technology arrives in two waves. First the tech companies, then everybody else that sees productivity gains. But I wanna stay focused on Europe and how different they are from the US in terms of productivity. First, how much of that is purely cultural?
And second, do you really want to give that up? I’m so envious of the lifestyle in Italy, in France, in Greece, where it just feels so much more relaxed and less stressful than the United States. Especially New York, San Francisco, LA, Chicago, any of the big cities just are go, go, go. I don’t get that vibe in the major cities in Europe.
[00:36:52] MARIA VASSALOU: Yeah. So I think there is a middle route. It doesn’t mean that these countries have to change their culture, but they have to improve their efficiency. They have to invest in productivity gains, which have been very low. Even if you look at Germany, for instance, which is the manufacturing heart of Europe, productivity has been effectively zero. So that—
[00:37:20] BARRY RITHOLTZ: No gains at all for the past couple of decades?
[00:37:22] MARIA VASSALOU: Yeah. Very, very, very low gains, and certainly not in total factor productivity. And—
[00:37:29] BARRY RITHOLTZ: So even with automation and software improvements and robotics, Germany hasn’t seen an uptick in productivity. That’s amazing.
[00:37:37] MARIA VASSALOU: Not really. And you can see that also in real wages that haven’t gone up. And so that increases the income inequality in the country. But I think that there is the realization that they need to invest in those things.
And at the same time, there are also certain constraints, because these technologies also require sufficient, cheap energy. And Europe hasn’t really invested in energy sources.
[00:38:13] BARRY RITHOLTZ: They seem to have embraced more electrification and solar and wind and geothermal than the US has, but not nearly as much as China has.
[00:38:22] MARIA VASSALOU: Yes. And this is all nice and good. I don’t have anything against the green forms of energy, but just like in the case of, you know, the structure of an economy, you need to have a diversified pool of energy resources. You need effectively a portfolio approach to energy resources.
And that should include also other sources of energy, including nuclear. And it was a mistake that Germany got out of nuclear power. We see the benefits of nuclear power in France, for instance.
[00:39:05] BARRY RITHOLTZ: 90-plus percent of their energy comes from nuclear.
[00:39:08] MARIA VASSALOU: Exactly. For the foreseeable future, I don’t think we can walk away completely from fossil fuels. This is going to be in the mix. But we see now what’s happening with Hormuz, and so on. And Russia.
[00:39:23] BARRY RITHOLTZ: And Russia.
[00:39:23] MARIA VASSALOU: Yeah. So having alternative ways to provide cheap energy is very, very important. And you can’t really invest in automation technology if you don’t have access to cheap energy and abundant energy.
[00:39:40] BARRY RITHOLTZ: Last question about Europe. The changes in the United States have been leading Europe to consider reinvesting and raising their own defense spending, especially with homegrown manufacturing and their own various defense products. What does that mean? They’ve been relying on the US for so long — the change in the US relationship to NATO, and just who the US, or at least who this administration, considers an ally. What does this mean for spending, if more and more of European spending has to be steered towards defense?
[00:40:27] MARIA VASSALOU: Well, first of all, in terms of US interests, Europe is not as strategic as it used to be. It’s important to have it as an ally. But in the past, the main adversary of the US was Russia — the USSR before that. Now the competition has moved to China. So the role of Europe in that respect has been degraded.
That’s number one. Number two, Europe is a very affluent part of the world. It doesn’t need this military subsidy that it has been receiving since the Second World War.
Not spending 3% of their GDP over 80 years on military has allowed them to build their social safety net: free education at a very high level, free healthcare, and so on. On the other hand, of course, Europe has been investing a lot of its surpluses in the US, but most of these surpluses were invested in the stock market and in Treasuries. So they have been receiving the dividends from them that have been supplementing the growth rates of Europe. And this effort from US administrations to really convince Europe to increase their spending on military is not a new thing.
It started with President Obama — even with President Bush, I would say, before that. But the tone was gentler and, you know, less pushy. I would say the current administration has been much more vocal about it. And in a way, I think it led to an overdue wake-up call for Europe, because Europe now starts debating how they are going to structure their economies going forward, what they need to do to become more self-sufficient.
And in a way, when you have a reordering of countries in terms of their geopolitical importance, being able to stand on your own makes you also more valuable as an ally to other countries, and especially to the US. So I don’t think that this is necessarily a bad thing. Now, in terms of the military, if you leave aside France, where the French defense system is independent of NATO, the rest are all linked to the central command of NATO. So they can’t really function on their own unless they go through the NATO command, which is controlled by the US.
So this is a major issue they have. So of course they can produce some drones or some other equipment, but they can’t really work together as different countries, as they stand now, unless they build a new framework to integrate their military.
[00:43:49] BARRY RITHOLTZ: Really interesting. Coming up, we continue our conversation with Maria Vassalou, head of the Pictet Research Institute, discussing how to turn theory into practice. I’m Barry Ritholtz. You are listening to Masters in Business on Bloomberg Radio.
I’m Barry Ritholtz. You are listening to Masters in Business on Bloomberg Radio. My extra special guest is Dr. Maria Vassalou. She’s head of the Pictet Research Institute. The firm was founded in 1805 and manages nearly a trillion dollars in assets.
So I’m fascinated by the concept of taking all of this original academic research and expressing it in a portfolio. Walk us through the process. How does a research finding actually become a portfolio decision?
[00:44:43] MARIA VASSALOU: So the role of the institute is to provide some new insights, or a new way of looking at what’s happening in the world. And then one of my functions is also to discuss those findings with our investment teams and see how they can affect different products, the different ways we invest, and so on. I’m not a risk taker anymore, so I’m not going to incorporate them into a particular strategy, but I am working with our investment professionals to help them understand what we are doing, or express those findings into potentially useful things for their investment process. So for instance, a lot of our work points to the fact that this categorization we have in countries between developed markets and emerging markets becomes increasingly obsolete. So how we explain that—
[00:45:59] BARRY RITHOLTZ: ’Cause that’s so fascinating. You would think there’s a huge difference between Greece and Japan, between Turkey and the United States. How are those distinctions becoming less important?
[00:46:14] MARIA VASSALOU: Well, there are big differences among those countries that you mentioned, but it’s not a matter of where they are now. It’s a matter of what is likely to affect growth going forward. So we have those important factors that are affecting growth that have to do with productivity, with access to important commodities, with access to energy, with demographics. And so the mix is changing, and that’s why it’s also important for Europe or other parts of the world not to neglect how their economic structure evolves over time. Because the fact that this part of the world is developed does not necessarily mean that it will always stay at that high level of development going forward.
So what defines a developed economy? It’s their GDP growth, it’s their trade, it’s their manufacturing, it’s their use of technology. But those five elements are changing.
So technology is not necessarily produced all in the currently defined developed markets. There are economies that are considered emerging. China shouldn’t be an emerging economy, but it is still—
[00:47:37] BARRY RITHOLTZ: No longer, right?
[00:47:57] MARIA VASSALOU: Considering that it’s a leader in technology. On the other hand, you have various bottlenecks in economic growth, which have to do with access to minerals, to commodities, to energy. So some of the emerging markets that have control over such resources can become much more important going forward. So there is a change in that respect.
We think that if you look at what defines a middle power or a great power, the factors that define them are changing going forward.
[00:48:43] BARRY RITHOLTZ: So let’s stay with that for a second, ’cause you’ve said the investment playbook needs a complete reset.
[00:48:43] MARIA VASSALOU: Yes.
[00:48:43] BARRY RITHOLTZ: What we’ve been dancing around is little changes around the edges, but you’re really saying, hey, we need a clean sheet. We have to rethink — the geopolitics of the world are changing, the macro side of the world is changing. So what are the assumptions that the old playbook had built into it that have to be thrown away? What does that clean-sheet new investment playbook look like?
[00:49:18] MARIA VASSALOU: So first of all, there is a reordering of countries in terms of their geopolitical and economic importance. And what one needs to focus on is not what has happened in the past. The past is becoming increasingly less helpful in predicting the future. One needs to see what are the driving forces of growth going forward, and which countries control, or have already in their possession, or have the ability to develop those elements that will lead to growth going forward.
So this is really the key. And so one needs to focus on who is likely to grow going forward, and commodities and technology are important factors in the standing of these countries going forward. So that’s one thing. The second element is: Where are you standing in the spectrum of technology?
Are you a producer of innovation? Are you a competent adopter of innovation? Are you someone who is providing the inputs for the development of this innovation? And so on.
And the third one is demographics: how you use your demographics to promote your growth and effectively ensure that productivity growth will continue going forward.
[00:50:53] BARRY RITHOLTZ: One of the themes I’m hearing over and over from you is economic growth seems to cure a lot of problems.
[00:50:53] MARIA VASSALOU: Yes.
[00:50:53] BARRY RITHOLTZ: And if you can grow fast enough, it offsets geopolitics, it offsets deficits, it offsets almost everything.
[00:51:09] MARIA VASSALOU: Exactly. And that has always been the case for the US. The US has never really paid off its debt, even after the Second World War. It just grew at higher rates and reduced its debt-to-GDP ratio. And actually, in fairness, the US has been the only developed economy that has grown at a 2% real growth rate for the past several decades.
So this is quite spectacular. And when you look also at the debt of the US, as you mentioned before, the US had a pretty modest level of debt until the financial crisis. So there have been two episodes that led to the increase of debt. One is the financial crisis, and the second one is COVID.
And I would say that the second time, that was a bit of a misguided increase of debt. I think there was way too much accommodation — fiscal accommodation — thrown into the economy, together with a lot of monetary accommodation, that eventually led to this inflationary episode. But if I—
[00:52:25] BARRY RITHOLTZ: I wanna just jump in, because the criticism of the spending post–financial crisis was all focused on Wall Street banks and brokers, and they ignored the average person, homeowners, mortgage owners, who were also suffering from the same problem. The overcompensation in COVID was, let’s just flood the economy. And I wanna remind people: the CARES Act one and CARES Act two under President Trump, CARES Act three and the infrastructure bill under President Biden was the single biggest fiscal stimulus as a percentage of GDP since World War II. I mean, people don’t realize how unprecedented that fiscal surge was.
[00:53:15] MARIA VASSALOU: Yes. And at the same time, the Fed cut rates to zero, they started QE, and so you had stimulus on both sides. And there’s no surprise that we ended up with inflation.
[00:53:33] BARRY RITHOLTZ: So let’s stay with the US and debt. You’ve called the United States the ultimate too big to fail. And you’ve said the main risk to US debt sustainability is geopolitical, not simply numbers. Explain that a little bit. What does that mean for fixed income investors?
[00:53:54] MARIA VASSALOU: First of all, we were used to very low rates because of financial repression. So the yield curves that most people active in the markets are currently used to are rates that were established under the involvement of the Fed, buying at the different parts of the curve, Treasuries and so on. So the rates weren’t really reflecting reality. The purpose was to push investors out the yield curve and take risk.
So as the Fed started stepping back, it’s normal to expect the yield curve to start becoming upward sloping. I don’t personally find the steepness of the curve particularly worrisome in terms of how steep it is. The problem is that, of course, we have a high debt that needs to be rolled over.
And now if you look at the budget deficits, a greater part of the budget deficits goes to servicing the debt. And obviously, as the yields go up, that becomes more onerous. But in terms of the — if you remember, before the financial crisis, the 10-year was at 6% or so.
[00:55:23] BARRY RITHOLTZ: Let’s talk about that, ’cause all my friends who were bond managers have said, now we’re just reverting back to the long-term average. These rates aren’t high. They’re just higher than the financial repression rates. And a 5% 10-year yield and a six-and-a-half or 7% mortgage rate, that’s the average for the past 50 years. It’s not a crisis. It just feels that way relative to zero.
[00:55:50] MARIA VASSALOU: I agree. I completely agree. The difference is that back then, the debt-to-GDP in the US was — I don’t remember off the top of my head—
[00:55:59] BARRY RITHOLTZ: 80%, 90%?
[00:56:00] MARIA VASSALOU: Even less. I think before, it was even less than that. And—
[00:56:05] BARRY RITHOLTZ: And now it’s well over a hundred.
[00:56:06] MARIA VASSALOU: Yeah. So that’s the main problem that we have.
[00:56:11] BARRY RITHOLTZ: Although, where’s Japan? 220, 240?
[00:56:14] MARIA VASSALOU: Yeah, but it’s different, because 90% of the debt in Japan is internally held. And so you don’t worry about refinancing that debt. In the US, foreigners hold close to 28% of US debt. So there is a bit more risk. However, people only focus on the external debt of the US. If you look at all the obligations of the federal governments, or of the governments in different parts of the world —
and we do that in a new study I’m working on with Professor Donaldson from Columbia, where we look at reindustrialization, the fiscal space that exists in different parts of the world, and so on — and you add, for example, the pension obligations that exist across the world, Europe scores actually higher than the US. So it’s one thing to focus on external debt; it’s another thing to focus on the total obligations that these governments have.
[00:57:28] BARRY RITHOLTZ: So as long as we’re talking about debt, I feel obligated to talk about the US dollar as the reserve currency of the world. As the geopolitics change, as China continues to ascend, as we continue to make a series of unforced errors, what does it mean for the dollar? Are there any other currencies that are potential replacements? I’ve heard people float a basket of everybody versus it, but that’s not really a reserve currency. Is it the dollar for the foreseeable future?
[00:58:03] MARIA VASSALOU: There is no obvious alternative to the dollar. And it’s not in China’s interest to make the renminbi a reference currency.
[00:58:13] BARRY RITHOLTZ: Why is that?
[00:58:14] MARIA VASSALOU: Because they would have to run deficits. And China is doing exactly the opposite. And they have capital controls. If China lifts capital controls, a lot of money will leave China.
And, you know, then they cannot really be the manufacturer of the world and the producer of these surpluses. So what they are doing is effectively just some trade it does with other BRICS countries or other emerging market countries. They do them in renminbi.
But then, you know, whether this is attractive to the other side depends also on the extent that both countries trade with each other. Because if China doesn’t want to import anything from the rest of the world, then the rest of the world can’t really do anything with the renminbi they receive from selling to China. So—
[00:59:22] BARRY RITHOLTZ: In other words, you need to be a big importer in order to be the reserve currency. And that’s just not—
[00:59:26] MARIA VASSALOU: You need to be a big importer. And you need to be a producer of safe assets, because if you hold renminbi, you don’t have anything to invest them in. Whereas if you receive dollars, then you invest them in Treasuries, you earn a yield.
[00:59:47] BARRY RITHOLTZ: So all this is so fascinating and so incredible. I’m simultaneously hearing from you that, on the one hand, there are huge changes happening geopolitically — we really haven’t even barely touched on AI and what that might do for productivity. At the same time, there’s no substitute for the reserve currency of the US, the safe asset of US Treasuries. It would probably be in our interest to not alienate a lot of our allies. But the world really doesn’t seem like it has any other choices, does it?
[01:00:29] MARIA VASSALOU: It doesn’t have any other choices. Of course, you know, weaponizing the dollar beyond a certain point is not a good strategy, because countries and people have memories. But I think what is key is for the US to remain, if not the world’s leader in technology, certainly one of the main producers of technology. And it has to improve its economic resilience.
So I think the US needs, to some extent, to reindustrialize — not produce T-shirts and plastic toys, but be self-sufficient in certain key industries.
[01:01:15] BARRY RITHOLTZ: Semiconductors, everything from solar to cells—
[01:01:18] MARIA VASSALOU: Pharmaceuticals, you know, certain equipment, and so on. So things where, at a pinch, they can be self-sufficient. But it’s not just that. It’s also that the process of producing innovation passes through the production of the product. And there is a lot of knowledge acquired there that then feeds into new innovation. And it also creates a pool of labor that can migrate from one subsector of the economy to another and cross-pollinate and enhance the production of further innovation.
[01:02:05] BARRY RITHOLTZ: The Silicon Valley flywheel.
[01:02:07] MARIA VASSALOU: Exactly. And China is benefiting from that, and we’re missing out.
[01:02:15] BARRY RITHOLTZ: So I only have you for a few more minutes. I’m gonna jump to my favorite questions that I ask all of my guests, starting with: Tell us who your mentors are. Who helped shape your career?
[01:02:28] MARIA VASSALOU: A lot of people, but I’m not the typical case where I had one person that was my mentor through my career, because I moved around a lot. I moved, as we said, from academia to the industry. But I’m someone who likes to study people, and whether they’re officially my mentors or not, I try to learn from them and, you know, try to emulate their good sides and try to avoid things that I find potentially were not very helpful. So there were professors at the various schools I went to, my thesis advisor, people I worked with at different firms.
[01:03:18] BARRY RITHOLTZ: I’ll let you in on a little secret: that’s the motivation of this whole podcast for 12 years. Let’s talk about books. What are you reading? What are some of your favorites?
[01:03:28] MARIA VASSALOU: Well, I spent most of my life studying the themes we just discussed. So in my spare time now, I started a new book by [author name unclear in audio]. It’s a book in French—
[01:03:50] BARRY RITHOLTZ: You speak several languages, right?
[01:03:52] MARIA VASSALOU: Well, three, not too many. But yeah, so I’m reading it in French, and it’s a very nice, partly autobiographical book that also talks about his relationship with his mother. And it seems like a very nice book to change ideas from everything that is going on in the world.
[01:04:19] BARRY RITHOLTZ: A good break. Anything you’re streaming these days? Are you listening to anything or watching anything in particular?
[01:04:25] MARIA VASSALOU: I must say that since I moved to Geneva, I have much more opportunity to be outdoors and do sports. So that means less streaming after work. It’s a really wonderful city, very livable, very much in human dimensions. So you can be from one side to the other in 20 minutes. Very walkable. And so after work I try to spend some time doing sports and then limit my screen time. So I don’t stream very much these days.
[01:05:03] BARRY RITHOLTZ: I’m jealous. We were in Lake Geneva a couple of falls ago, and it was just spectacular. It’s like an hour or two from Geneva. Have you spent much time up there?
[01:05:14] MARIA VASSALOU: Oh yeah. I mean, even 20 minutes, you’re in the countryside.
[01:05:18] BARRY RITHOLTZ: It really is very spectacular. Our final two questions. What sort of advice would you give to a recent college graduate interested in a career in either financial academics or actual research and hedge fund asset management?
[01:05:38] MARIA VASSALOU: I don’t envy the people who are starting their career now. I think every generation has its own challenges. I think people now have to remain very agile, very adaptable. You have to continue learning all the time.
That has always been the case for everyone. But I think the pace of change is so much higher now, so fast. And so all these people need to constantly reeducate themselves. They have to be very proficient with the development of technologies, with the implications of these technologies for their own career.
But I think my view in general is technology in a sense eliminates certain jobs, but that also pushes people to use their creativity and intellect at a higher level. And I think these technologies that we’re facing now will lead people to be more creative, to try to come up with new ideas. And so I think they need to invest in that process, and also invest not just in the technology, but in the full set of their skills.
[01:06:59] BARRY RITHOLTZ: And our final question: What do you know about the world of investing and research — and just looking at all the opportunities that any allocator of capital has to manage — what do you know today that might have been useful 25, 30 years ago, when you were really first starting out?
[01:07:20] MARIA VASSALOU: I think we live in a very different world now than 25 years ago. 25 years ago, you could study the past and learn something about the future. Now we are in a phase of history where the future will look very different. We are in a transformational, pivotal time.
So I would put less emphasis on the past and more on understanding the drivers of the future. So sitting now here and looking at what happened in the past hundred years, yes, there may be some elements you can extract from that, but there is so much innovation also in the markets, in the asset classes, in the drivers of those asset classes, that you can actually come up with very misleading, you know, conclusions if you put too much weight on the past.
[01:08:20] BARRY RITHOLTZ: Maria, this has been absolutely fascinating. Thank you so much for coming back. We have been speaking with Dr. Maria Vassalou. She’s head of the Pictet Research Institute.
If you enjoy this conversation, well, check out any of the 667 we’ve done over the past 12 years. You can find those at iTunes, Spotify, Bloomberg, YouTube, wherever you get your favorite podcasts. I would be remiss if I didn’t thank the crack team that helps me put these conversations together each week. Elizabeth Srin is my video producer. Sean Russo is my researcher. Anna Luke is my podcast producer. I’m Barry Ritholtz. You’ve been listening to Masters in Business on Bloomberg Radio.
~~~
