Natural Stupidity vs. Artificial Intelligence

As fast as artificial intelligence gains capabilities, I’ve noticed that many humans seem to be losing their critical reasoning abilities, exhibiting more “Natural Stupidity.”  I believe there is a direct cause and effect relationship.  As artificial intelligence advances, its ability to curate content tailored to our preferences has a darker side—intensifying confirmation bias and reinforcing echo chambers.

There are many signs of the rise of natural stupidity:

• Reduced Vaccine Use: Childhood vaccination rates have decreased significantly, with less than 93% of kindergartners having received state requirements, down from 95% pre-COVID [1]. Vaccines are perhaps the largest net positive health innovation in the history of medicine.  The CDC estimates that routine vaccinations saved over thirty million children from becoming hospitalized, and one million from dying, between 1993 and 2023 [2].  Despite this, vaccine hesitancy is growing, and there is growing support for the appointment of anti-vaccination health officials like RFK Jr.

• Worsening Academic Results: Thirteen-year-olds in the United States have had the lowest reading and math test scores since the 1970’s.

[1]: Kaiser Family Foundation

[2]: CDC

Source: The Nation’s Report Card

I do not think it is an accident that we are more easily fooled by hoaxes and hucksters.  It is a direct result of artificial intelligence becoming very good at serving us social media that we like.

And what do we like?  What do we crave, as humans?

We crave confirmation bias!  We love being right.   We enjoy the affirmation that we are strong and brave and just. 

And the people that disagree with us?  Well, they must be stupid, or evil, or motivated by making a quick buck. 

Social media, aided by artificial intelligence, is very good at delivering confirmation bias to us in our feeds.  Whatever our initial biases are, social media platforms, e.g., TikTok, Instagram, Facebook, Twitter/X, YouTube, will deliver it to us in a way that reinforces those convictions with an endless stream of videos, posts, and memes designed to reinforce our pleasing world view.  They will rewire our brains in a subtle and ongoing manner to believe things that only make sense within a carefully crafted bubble of information. 

Social media takes advantage of our natural stupidity.  And we are all susceptible. 

What We Want vs. What We Need

What we want is confirmation bias.  And social media gives that to us.

What we need is critical thinking.  And social media tries to keep us “safe” from that.

Critical thinking is not easy.  Critical thinking is not innate.  Critical thinking takes effort and often requires homework and preparation.  It requires skepticism.  It requires being able to reason in a precise way.  And it requires an openness to being wrong – to following evidence or logic that may contradict one’s own biases.  The whole exercise can be difficult.  But critical thinking is extremely helpful when dealing with critical situations.  It helps us make better decisions that affect our lives and our well-being.   

A few easy ways to help on this:

• When you do use social media, it’s helpful to try sticking to less algorithmically generated feeds.  The “Following” tab is better than the “For You” tab on X for instance, because the “Following” tab is mostly created by the chronological posts of those you follow.

• Try to cultivate sources that have a history of being more focused on accuracy than sensationalism.   A good sign of this is some history of retractions by the source.  They will have admitted factual mistakes.  They will have changed their minds on certain topics. 

As Forest Gump famously said, “Stupid is as stupid does.”  I don’t believe that there are intelligent or stupid people, but that there are intelligent or stupid actions.  You can increase your odds of acting intelligent by doing your best to avoid confirmation bias.

The Impact of Artificial Intelligence on Markets

It’s very clear to me that artificial intelligence is having a massive impact on markets.  Huge new data centers are being created that are power hungry.  Many companies are hiring less, or downsizing existing workforces, due to their ability to use AI to increase productivity.  Higher productivity is deflationary, while capital expenditures into data centers is potentially inflationary.

We see other forces in 2025 that could lead to higher inflation and interest rates: tariffs, a tight labor market, tax cuts, greater fiscal deficits, efforts to reshore manufacturing, and the wealth effect of the recent stock market and crypto rally. 

Inflationary and deflationary forces will compete with each other over the coming years, and I do not believe the outcome is predictable in terms of which force will be more dominant.

Stocks 

The market has been very hot and has rewarded investors in US broad based equities indices (the S&P 500 is up 58%) over the last two years.  While this is very nice in the short term, it does make it more difficult to find new opportunities, and it potentially leads to arrogance and sloppiness.  In the face of this, we try to maintain discipline and humility.  We also seek to broaden our perspective, by trying to find great businesses that have been perhaps overlooked. 

We loath to make predictions about the future.  We try to be reasonable and rational, and to find investment opportunities that will work with reasonable expectations of business performance and macro developments.  So we will continue to operate as if a more difficult environment is in the future - one with higher inflation and higher interest rates.  And if we are wrong, and the market is more benign on those measures - then the investments we've made should do better than we expected.  

Total Returns (Time Weighted / Distributions Re-invested)

Source: Bloomberg

Note: Equity Indices - DJIA, S&P 500, NASDAQ; Fixed Income Indices - SPDR Bloomberg 1-3 Month T-Bill, BBG Municipal Bond Index, BBG US Corporate High Yield, BBG US Agg. Total Return, BBG US Gov.t 10 Year, respectively.

Public & Private Fixed Income

Source: Bloomberg, HY (High Yield ) Bond: LF98TRUU, IG (Investment Grade) Bond: LBUSTRUU, Municipal Bond: LMBITR, respectively. Income Tax Rate Assumptions: Federal (37%), State (10%)

Cash vs. Other Fixed Income

Fixed income yields are now above after-tax cash yields.  That means there is more rationale for moving out the risk curve and investing in fixed income.  Across a slightly longer time horizon, there is still substantial risk to longer duration assets, as the market has essentially stopped pricing-in significant interest rate cuts, but also has not priced-in significant interest rate increases, which is likely to happen if inflation picks up again. 

Short Term Interest Rate Market Predicted Path (as of 1/23/25)

Source: Bloomberg, World Interest Rate Probability (WIRP) as of 7/8/2024

We see little reason to currently dump short duration treasury bills for longer duration treasury bonds. 

High Yield Bonds (Junk Bonds)

High Yield Credit Spreads: Additional yield received above US Treasuries for debt of riskier companies

Source: Bloomberg, BarCap US Corp HY YTW 10-Yr Spread (CSI BARC Index)

The above chart displays a modest credit spread for high-yield bonds issued by companies with riskier balance sheets. We think investing in high-yield bonds will make more sense once credit spreads substantially increase.   

If the United States does enter a recession over the next few quarters, we believe that the 2.63% credit spread, shown in the above chart, will provide poor compensation for defaults in high yield bond portfolios. 

Investment Grade (IG) Bonds

Investment Grade Credit Spreads: AAA 10-Yr premium received above US Treasuries (in basis points; 1 basis point = 0.01%)

Source: Bloomberg, BASPCAAA Index

Investment Grade bonds are debt instruments issued by companies that rating agencies deem high quality and have a low risk of defaults. An investor is receiving very minimal additional compensation to treasuries (0.79%), shown in the above chart, for investing in this asset class.   

On an after-tax basis, we see slight additional yield for investment grade bonds compared to US Treasuries, though not enough to provide adequate compensation for a standard default cycle. 

Municipal Bonds

Municipal Bond Index (YTW)

Source: Bloomberg, LMBIYW Index

Municipal bonds can be a tax-efficient way to generate yield and have recently reached levels that are more favorable. We recommend allocating exposure to the short end of the curve (maturities <1 year) as long-duration bonds still do not give adequate yield to compensate for interest rate and duration risk. 

It’s important to understand one’s marginal tax rates and jurisdiction before investing in municipal bonds as those factors determine one’s after-tax yield and the attractiveness of the asset relative to treasuries or corporate bonds.  This category has becomes slightly more compelling recently.

Alternatives: Real Estate & Private Equity

We’ve been able to find a few compelling opportunities in more niche strategies within Real Estate and Private Equity. 

In Real Estate, we remain wary of macro headwinds (higher interest rates leading to lower property values and a more difficult financing environment), but we’ve been able to find a few strategies where we believe the manager brings enough operational edge to overcome what may be a difficult macro environment for the asset class. 

We continue to watch the public REIT space closely and we are beginning to see a few opportunities becoming interesting.

In Private Equity, we are very pleased to have invested in four companies in the last year that have the potential to create extraordinary positive change in the world.  All are on the bleeding edge of new technologies and paradigms, and accordingly, all face significant execution challenges.  We are pleased with the progress the companies have made so far and we are cautiously optimistic that these companies will make our world healthier, safer, and more productive. If this happens, our clients will have become more prosperous.