How a Dead Russian Guides My Investment Philosophy

Nikolai Kondratiev (1892-1938) was a Russian economist suggested that capitalist economies undergo long cycles lasting from 40-60 years of booms followed by depression.  These cycles are now referred to as “Kondratiev waves” or “K-waves”. Most academic economists don’t acknowledge the existence of K-waves. Personally, I find the lack of acceptance somewhat puzzling, but let me explain a little more about my investment philosophy and allow you to come to your own conclusions.

Personal Experience

I have always had some interest in economics and investing although I am not formally trained in that discipline.  I remember when the Dow crossed 1,000 for the last time.  I remember Black Monday.  I remember Warren Buffett saving Solomon Brothers.  But I was too young and poor to invest during those days.

I didn’t start investing until 1999, and it wasn’t long until I lost money in the dot-com bust.  So, I started doing more research and learning more and more.  I bought a little real estate which I still own.  I also started reading a lot about oil and gold and inflation.

It was during my readings on gold that I ran across the name of Kondratiev.  His theories intrigued me and seemed to make inherent sense.  I started placing some of my investments in energy and precious metals.  I have been following gold since it traded below $400 per ounce.  But, let’s get back to those K-waves.

Kondratiev Waves

Kondratiev observed that capitalistic economies seemed to have periods of expansion and growth followed by stagnation and then recession and that the completion of a full cycle lasted between 40 and 60 years with an average of about 50.

There are several possible explanations that have been proposed over the years although it has been difficult for economists to prove that K-waves even exist.

  1. Technological innovation–This explanation states that the long waves result from innovations that lead to new industries and markets which get built up.  Investment gets over allocated to this sector which then stabilizes, stagnates, and is then replaced by a new innovation.  Think railroads in the mid-1800’s and the internet in the 1990’s.
  2. Credit cycles–This explanation will probably hit very close to home.  Banks lend money taking excessive risks during the boom times until they come to an end.  Then debt has to be washed out of the  through restructuring and bankruptcy during which contraction of credit occurs until public and private balance sheets are repaired.
  3. Demographics–This explanation relates to the typical life cycle of an investor.  We all start out by working and saving scraping by to make ends meet.  We eventually have surplus savings and can begin to invest in the latest, greatest thing during our peak earning years.  Then we get a little more conservative and start focusing on capital protection and income generation.

Personally, I think combining these 3 explanations into a coherent process is a very logical step.  It is investors with excess savings that help to fuel and identify the next technological innovation arising out of the ashes of the previous boom.

In the early 1980’s when equities were declared dead, the personal computer was born ushering in the computer age.  Companies like Microsoft and Apple were born culminating in a 20 year bull market in stocks that ended with the dot-com bust.

Also in 1980, gold was peaking at the end of its secular bull market and just starting its 2 decade descent until central banks began selling gold thinking that it was no longer needed in an enlightened non-barbarous time.

Now the pendulum has begun to swing back in the other direction and with each 20-25 year swing, history begins to rhyme.  Back and forth, back and forth with meter just like a sonnet, each line rhyming with those that come before but telling its own story.

My grandparents told me stories of the Great Depression.  I will tell mine of the Great Recession and the Housing Bubble.  And so each generation will have its story to tell because human nature, greed and fear, never change.

In my next post, I will break down the “seasons” that have been ascribed to Kondratiev’s long waves and highlight the investments that might be appropriate to each.  In the meantime, I would encourage you to read a little more about K-waves and think for yourselves.

Final Thoughts

Just because the established wisdom is established doesn’t make it true.  It often takes years before the observations of one scientist are explained by another.  Look at the development of germ theory over hundreds of years that has led to our current understanding.  Or simply remember that at one time the world was thought to be flat and the center of the universe.

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