The Post-Leverage Economy

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):

  1. Which assets benefited most from this exorbitant leverage environment?
  2. What is a “healthy” level of leverage for these assets?
  3. Based on the above two answers, what is the legitimate price level for these assets?
  4. 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.

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