If 40:1 leverage was responsible for much of the GDP growth over the last decade or so, what does this mean for us going forward?
Here are a couple of questions we should be asking to determine where we are and where we are going (it’s already clear how the housing crises started):
- Which assets benefited most from this exorbitant leverage environment?
- What is a “healthy” level of leverage for these assets?
- Based on the above two answers, what is the legitimate price level for these assets?
- Did any of the financial engineering of the past decade have a legitimate use in risk reduction, thereby increasing what historical levels of “healthy” leverage are?
To the extent we can answer these questions, one should be able to call a “real” bottom and determine what the true expected returns will be in the long run. I haven’t seen a fair analysis of this anywhere, but if you have, please point to it in the comments below.
