By Ron Albahary, Chief Investment Officer
Posted 10/20/2011

Make no mistake, the credit crisis, aside from its natural evolution into a sovereign debt crisis, has shined a spotlight on wealth inequality in the developed world, especially here at home.  Since its initially innocuous and local germination in Manhattan’s Zuccotti Park one month ago, the “Occupy Wall Street” movement has spread globally, fueled by the Internet’s hyper-connectivity.   The purpose of this brief missive is to examine its origins and highlight some potential implications to markets.

While widespread, Occupy Wall Street is highly unorganized with an ostensibly fungible and diverse set of identities depending on who is being asked.   At first blush, it may be easy for someone in my chair to discount the entire movement’s purpose due to some of the baseless complaints, such as a 37-year-old Columbia University graduate student who expects someone else to pay off her student loans.  (Factoid: Students graduating from university are saddled with an average of $24,000 in debt.)  However, if we apply credibility filters to the youthful bluster and cloudy logic at some of these gatherings, it’s clear these protests reflect disillusionment with our current socio-economic condition.  It comes in response to dysfunctional leadership in Washington and capitals around the world, and from anger at the lack of accountability by global financial institutions (read: Wall Street) in creating the financial crisis and the resulting worldwide economic downturn. A real fear has taken hold of many Americans and that is, the American Dream of upward mobility and personal financial success is seen as a promise of the past. While it is easy to deride the movement for its lack of leadership and absence of a singular demand, we need to pay heed to the amplification of a deepening divide between those perceived as “rich” and everyone else, thus their refrain, “We are the 99%.”

How did we get here? 

Books have been written – and expect more to be written – on the topic.  In the interest of brevity, I can sum it up this way.  In the early 1990s the Baby Boomer generation began to use debt as the rocket fuel to accelerate realization of the American Dream.  Today, with easy credit nowhere to be found, leverage is no longer the great equalizer.  Now, it is time to pay our debts. Burdened by overwhelming debt levels, the wealth inequality in the U.S. is much closer to Iran and China than Germany, France and the UK. The chasm has widened dramatically since 2000 as real wage growth has stagnated. Meanwhile education (~70%) and healthcare costs (~50%) have soared, stunting the possibility of upward mobility for the lower to middle class.  Not surprisingly, many of the protestors are college graduates in their 20s, a group suffering from unemployment in the 15%-25% range. 

What are the implications?

I don’t know the sustainability of this populist movement.  However, what is more important is its potential impact on the behavior of politicians and corporate decision-makers.  Try these on for size.

·         Elevated market volatility.  While the Tea Party may go down in history as the vocal catalyst that elevated the need for government fiscal reform, its rise to prominence enflamed the bipartisanship burning in D.C.  Occupy Wall Street may have a similar effect by giving voice once again to Washington’s lack of leadership and its inability to find common ground as a basis for achieving society’s higher goals. This uncertainty and sense of paralysis emanating from the halls of government may result in investors demanding a higher return on risky assets to compensate for accepting their inherent volatility.

·         Tax Reform.  The Buffett Rule, the Millionaire Tax, 9-9-9, and now the Occupy Wall Street movement — who knows what form it will take next? All these calls for tax reform may drown out the Tea Party and most likely increase the odds of tax increases on high-income earners.  A recent Bloomberg-Washington Post national poll indicates 53% of Republicans favor a tax increase on households earning more than $250K. If this trend persists, Republicans staunchly defending their position not to raise tax revenues may be ostracized.  Politics aside, for taxable investors, a focus on after-tax investing will become even more important than it is today.

·         Financial Reform. Boards may become more sensitized to holding their corporate executives truly accountable for engaging in practices that are potentially harmful to shareholders and the public at large.  Perhaps the Federal Reserve will take notice and react by devising a viable way to minimize large banks’ threat of systemic risk.  For example, could the Federal Reserve force a Ma Bell-style breakup of the big banks to minimize each one’s potential impact on the financial system and spur more competition?  Optimistically, these changes in behavior and structure may have a salutary effect on markets in the form of lower volatility.

·         Lobbyist and Campaign Finance Reform.  Companies and unions may be forced to curtail their lobbying efforts to ensure shareholder cash or union dues are not used to drive political action.  Granted, this is a lofty expectation.  However, there is some hope.  In August, we saw Starbucks CEO Howard Schultz attempt to create a campaign reform tipping point by calling for corporations and individuals to boycott campaign donations until lawmakers show some sign of meaningful collaboration on fiscal issues.  Imagine if companies allocated these funds to capital investments or even adding workers.

I admit my ramblings here are speculative at best.  Whether any or all of these things will come to pass, I don’t know.  I do know people are tired of the world’s politicians appearing to act in their own self-interest or catering to interest groups.  It is difficult to ignore a movement involving 1,500 protests in 100 countries during the past month.  It is even more difficult to ignore the clarion call to reform Wall Street since TIME Magazine’s recent poll showed 86% (including 77% Republicans) agreed that Wall Street has an overbearing impact on the political process.  The good news is this – we live in a country that permits these types of protests and has a history of learning and evolving from them.

I would like to leave you with one final thought.  We live in a post-credit crisis world where government policies will play a more significant role in the global economy as consumers repair their balance sheets.  I expect systemic shocks to be more frequent (i.e., the norm) and market cycles to be more compressed for many years to come. This outlook is not something to fear but something to accept simply as a frame of reference for setting one’s expectations regarding volatility and risk.   Carefully diversified portfolios are more essential than ever as vehicles to achieve your goals because any market environment – especially one convulsing with socio economic dissent – offers opportunities to be captured and risks to be mitigated.

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