A link to the full report is posted in the Subcsriber's Area.

The US government expects to issue about $1 trillion more bonds than the Fed currently expects to buy in 2021. Without a clear move to boost the amounts committed to the bond buying program yields will inevitably rise. It’s a simple supply and demand argument. Of course, no one really believes the Fed will fail in its commitment to provide assistance while unemployment is well above trend.

Until the beginning of last year you often spoke on the theme of the early stages of a secular bull market. David had begun speaking about it as long as 4 years ago. But with the onset of the pandemic, you have been largely silent about it. Has it stalled or, in your view, already peaked?

Thank you for this important question. In October 2008, I remember sitting at my desk and looking at the calculation that the S&P500 was sitting on the widest overextension relative to the 200-day ever. Acceleration is always a trend ending and the crash signalled the beginning of the bottoming process. By the time Wall Street reached its nadir in March 2009 many instruments were well off their lows and by the end of the year the leaders were making new highs.

Gold, commodities, ASEAN and technology took off. Of these, technology is the only one which had uninterrupted staying power all the way through the bull market to date.  

I started writing Crowd Money in 2011. At the time a host of big international companies, with global franchises, that dominate their niches were breaking out of long-term ranges. It was a clear signal that a new secular bull market was underway. By the time the book was published in 2013, it was still a minority view that a new bull market was underway.

There is nothing in the financial markets that can’t be made better with leverage. That’s the foundation most trading operations are based on. One of the most common trade patterns is to source cheap funding in a currency which is depreciating in value. That way when it comes to paying back the loan, you get to keep the profit on the currency trade as well as any gain from the assets you invested in.

Japan’s zero interest rates made it an ideal candidate for carry trades but the propensity for the Yen to strengthen meant that short yen carry trades tended to be rather volatile. It was common in the decade up to the introduction of Abenomics in early 2012 for unwinding of carry trades to contribute to profit taking across global markets.

As interest rates have trended towards zero across the world the opportunity to access cheap funding in a wide array of currencies has never been greater. The challenge today is to find the currency most likely to decline versus assets with high growth and yield potential.

Thanks so much for the terrifically informative analysis that you continue to provide. The quality of your work is simply jaw dropping at times. But I wonder if you could please clarify one thing. Would you mind defining more clearly what you mean by the term “financial repression”? I can certainly search this, but I’d like to know what it means to you.

Thank you for your kind words and I’m delighted you enjoy the service. The term “financial repression” is emotionally charged because of its historic significance. After World War II the US government paid back its war debt by inflating it away. That was a deliberate policy where interest rates were held at a low level for a prolonged period, taxes were raised and inflation eroded the debt over decades. From an investors perspective it was akin to the government reaching into your pocket and taking your money.

A link to the full note is posted in the Subscriber's Area.

The absence of a credit multiplier helped to keep inflation under wraps for the decade after the Global Financial Crisis. Banks just did not have the ability to lend, even if they had wanted to. Rebuilding their balance sheets was the number one priority. It was a monumental task. New regulations massively increased the burden of compliance and simultaneously denuded banks of some of their most profitable operations. The result is that the sector has been recapitalised but it is now much more risk averse than before.

There is no way the storming of the Capitol can be justified. Overwhelming an unsuspecting police cordon and disrespecting the nation’s seat of power is an affront no government is going to tolerate. That’s on top of what impact it has had on the vast majority of people who live their lives by a code of common decency.

By the same token, riots where private businesses are destroyed, police stations set light and people afraid for the integrity of their homes should also be condemned.

The problem with the polarization of political discourse in the USA is neither side is willing to sharply criticize the actions of their adherents. To do so would be political or busines suicide.

We are currently being treated to commentary fomenting fear that there will be a great deal of unrest at the upcoming Presidential inauguration. It’s a significant risk but it is far from the only form of intimidation.

My doorbell rang on Saturday night while we were sitting down to dinner. I thought it was an Amazon delivery so I went out to see what it was. Two BLM activists were waiting and informed me they were collecting donations. I told them we were in the middle of dinner and closed the door. They left chanting Black Lives Matter.

One way of looking at this encounter is that it was innocuous. Another is that they were indeed innocently collecting donations for their cause. Another is that they were canvasing the leafy suburb to identify who supports them and who doesn’t. For Mrs. Treacy’s part, she saw correlations with the Cultural Revolution.

The challenge is that the rioters during the summer threatened they would come into the neighborhoods. It never happened, but when fund raisers come knocking on the door it feels like they are after protection money. I think our days in Los Angeles are numbered. This is not the city we moved to seven years ago.

President-elect Biden says he wants to heal the country. That’s a tall order but regardless of its success it will mean throwing money at the problem. There is clear potential the USA is now moving towards formal adoption of MMT.

AN INEPT INSURRECTION FAILED, and there will be an orderly transition of power on Jan. 20; even Trump pledged as much early this morning. He probably won’t be ousted but his legacy will be forever stained, and his sycophants — Josh Hawley, Ted Cruz, etc. — will never recover.

THE TEMPERATURE WILL LOWER SOON: For the next few days, there will be speculation about removing Trump, largely out of fear over what he may do — especially geopolitically — in his final two weeks. And there will be questions about why the Capitol Hill police were so pathetically caught off guard yesterday. But a change is coming . . .

Stoking the mob is always tempting for populists on both sides of the spectrum.

That was abundantly clear in the mass protests, looting and destruction of public property over the summer. Those protests have since abated because the organisers achieved their goal of overthrowing the Trump administration.

The big question now is whether the mob seeking to overthrow the new Democrat controlled government will be chastened by yesterday’s events. My intuition tells me they represent a significant demographic and will form a significant portion of the new opposition, regardless of whether Donald Trump is banned on Twitter/Facebook.

Investors poured into financial assets that benefit from a stronger economy after Democrats looked set to take control of Congress, potentially unleashing a torrent of federal spending to revive growth.

Banks and energy producers led gains in the S&P 500 as the Russell 2000 Index of smaller companies climbed 3%. The Nasdaq 100 fell as traders sold out of high-flying stocks such as the Apple Inc. and Amazon.com Inc. The Dow Jones Industrial Average outperformed.

Democrats claimed one of the two Senate seats contested in Georgia and led in the other tight race. Two wins would give President-elect Joe Biden’s party control of Congress and smooth the path for some of his spending policies. That’s fueled bets that increased stimulus will boost the economy and spark inflation. The 10-year Treasury yield powered past 1% for the first time since March, and the dollar fluctuated after earlier weakening toward a six-year low.

“The growth-into-value rotation may be reinforced after the results of the Georgia Senate election amid the prospect of a higher fiscal stimulus bill and steeper yield curve, which would benefit banks and other non-tech companies,” David Bahnsen, chief investment officer of the Bahnsen Group in Newport Beach, California, wrote in a note to clients.

Control of the Senate will give the Democrats greater power to remake policy. It won’t all be plain sailing since such a slim majority will require total unanimity but it certainly means they will have an easier time passing spending measures. If debt financing and Modern Monetary Theory were likely before, they are doubly so today.

The strangest feature of this bull market is how unlike every previous great bubble it is in one respect. Previous bubbles have combined accommodative monetary conditions with economic conditions that are perceived at the time, rightly or wrongly, as near perfect, which perfection is extrapolated into the indefinite future. The state of economic excellence of any previous bubble of course did not last long, but if it could have lasted, then the market would justifiably have sold at a huge multiple of book. But today’s wounded economy is totally different: only partly recovered, possibly facing a double-dip, probably facing a slowdown, and certainly facing a very high degree of uncertainty. Yet the market is much higher today than it was last fall when the economy looked fine and unemployment was at a historic low. Today the P/E ratio of the market is in the top few percent of the historical range and the economy is in the worst few percent. This is completely without precedent and may even be a better measure of speculative intensity than any SPAC.

This time, more than in any previous bubble, investors are relying on accommodative monetary conditions and zero real rates extrapolated indefinitely. This has in theory a similar effect to assuming peak economic performance forever: it can be used to justify much lower yields on all assets and therefore correspondingly higher asset prices. But neither perfect economic conditions nor perfect financial conditions can last forever, and there’s the rub.

All bubbles end with near universal acceptance that the current one will not end yet…because. Because in 1929 the economy had clicked into “a permanently high plateau”; because Greenspan’s Fed in 2000 was predicting an enduring improvement in productivity and was pledging its loyalty (or moral hazard) to the stock market; because Bernanke believed in 2006 that “U.S. house prices merely reflect a strong U.S. economy” as he perpetuated the moral hazard: if you win you’re on your own, but if you lose you can count on our support. Yellen, and now Powell, maintained this approach. All three of Powell’s predecessors claimed that the asset prices they helped inflate in turn aided the economy through the wealth effect. Which effect we all admit is real. But all three avoided claiming credit for the ensuing market breaks that inevitably followed: the equity bust of 2000 and the housing bust of 2008, each replete with the accompanying anti-wealth effect that came when we least needed it, exaggerating the already guaranteed weakness in the economy. This game surely is the ultimate deal with the devil.

The challenge for value investors is they tend to see trouble coming way before the rest of the crowd. For many funds the high Cyclically Adjusted P/E ratio has ensured they have been underinvested for years so bearishness is not a new phenomenon even if some are now doubling down on their view.

Contributing to the supply shortage, the number of major new gold discoveries by year, i.e., greater than 2 million Troy ounces, has been in a declining secular trend for 30 years including the cyclical boost between 2000 and 2007. At Crescat, we have been building an activist portfolio of gold and silver mining exploration companies that we believe will kick off a new cyclical surge in discoveries over the next several years from today’s depressed levels.

Gold mining exploration expense industrywide, down sharply since 2012, has been one of the issues adding to the supply problems today. Crescat is providing capital to the industry to help reverse this trend.

Since 2012, there has also been a declining trend of capital expenditures toward developing new mines. From a macro standpoint, gold prices are likely to be supported by this lack of past investment until these trends are dramatically reversed over the next several years. Credit availability for gold and silver mining companies completely dried up over the last decade. Companies were forced to buckle up and apply strict capital controls to financially survive during that period. Investors demanded significant reductions in debt and equity issuances while miners had to effectively tighten up operational costs, cut back investment, and prioritize the quality of their balance sheet assets.

Supply Inelasticity Meets Rising Demand was the catch call of the commodity-led bull market between the early 2000s and 2011. Once identified it represents the beginning of a new bull market.

It takes time to convince investors there is a new bull market. By the time that happens prices have been trending higher for years already. Then it takes time to find and build new mines. That can take anything up to five years. Over that time, the firmness of prices convinces more and more people that the trend of demand dominance is irreversible so miners come under a great deal of pressure to expand capital expenditure or to buy out other operations. That generally occurs around the same time that new mines come online and contributes to a triple waterfall decline. Supply increases, debt is unmanageable and prices declines destroy valuations. Such is the cyclicality of the mining sector.

For an example of how the economy might recover faster than expected, consider that the consensus estimate for fourth-quarter growth is just under 4% while the Atlanta Fed’s GDPNow current estimate is 10.4%. Although the fourth quarter might not turn out to be quite so rosy given rising Covid-19 cases, the Atlanta Fed number still illustrates the possibility of some very good outcomes for the economy. For another example, consider that the $900 billion fiscal package is about 4.5% of GDP, or just about the size of the output gap. Imagine the possibility of being on the edge of full capacity already when the vaccine has been sufficiently distributed to allow the resumption of normal activities.

To be sure, any estimates of the output or unemployment gaps are just that — estimates. They will raise some worries about reports showing higher rates of inflation yet still leave the Fed hesitant to change the expected path of rate increases. The Fed will believe the economy is operating closer to full capacity if wage growth accelerates meaningfully beyond the 3.5% seen in July 2019, the high of the last cycle. That would help the clear the way to higher interest rates

​My instinct is that getting all three of these pieces to come together makes inflation more of a 2022 story than a 2021 story. At this point, the 2021 story still looks less like real inflation and more like an inflation scare. And with its new policy strategy, the Fed won’t scare easily.

The rebound from a large decline will always have the benefit of a base effect. A decline of 20% requires a rebound of 25% to get back to even. When that occurs in a short period of time it looks like a big move and it affects sentiment. 2021 is going to be a year of reflation because economic contractions are already being repaired as vaccines are rolled out. The rising number of cases at present are as much to do with the higher transmissibility of the new strain as they are about the impatience of consumers to get back to life as normal. That suggests plenty of scope for higher consumption.

I hope you are enjoying the holidays and looking forward to a better year next year.

Here’s another one of Charles Gave's excellent articles-the oil price is on the move thus starting to bear out his fear of a 1970s-type repeat.

Secondly, regarding Ethereum, have you been able to quantify any price target and if so, what technical data/events have you chosen to use?

Thank you for this interesting report which repeats Gave’s earlier call for an inflationary boom with which I agree. However, I’m not sure we are in the same kind of bull market in oil that we had in the first decade of this century. The history of secular bull markets in oil points to rising prices lasting as long as it takes new sources of supply to reach market. That is followed by decades of ranging.

One reason it hasn’t leaned on its balance sheet as much as global peers is the PBOC largely handed the task of increasing money supply and lowering interest-rates to state-owned banks. It cut bank reserve-requirements, meaning they had more cash to dole out in loans.

With the economy growing again, policy makers have signaled they want a more sustainable pace of credit expansion. By contrast, the Fed, European Central Bank and Bank of Japan have all announced plans to maintain and step-up stimulus into the next year.

“Advanced economy central banks will try to use negative real interest rates and inflation to erode the real value of their sovereign debt,” said Andrew Sheng, chief adviser to China’s Banking and Insurance Regulatory Commission. “This is why real money flows will go to the economies that show growth, higher productivity” and steady monetary and exchange rate policy, he said.

The difference in yield between Chinese government bonds and U.S. Treasuries is already near record levels, with many market players expecting the gap to widen further next year

The Chinese approach to the pandemic has been to allow companies to issue a lot more debt and to give banks the leeway to facilitate that practice. That has occurred despite the uptick in corporate defaults. That has amounted to an addition CNY5 trillion in debt issuance this year or an increase of about 40% over the peaks of the last four years.

Andrea Enria, head of the ECB’s supervisory arm, said in a Bloomberg Television interview that there’s limited visibility on asset quality and that the bank will revisit its decision in September. He also called for moderation on banks’ variable pay.

The cap makes the ECB one of the more hawkish banking watchdogs in Europe. The Bank of England said last week that it will allow lenders to make payouts that don’t exceed 0.2% their risk-weighted assets, or 25% of cumulative quarterly profits over 2019 and 2020 after deducting shareholder distributions.

Europe’s banks are hamstrung by negative interest rates but they still charge fees for just about everything and don’t pay an interest rate. The most significant factor in their favour is the bad debts issue is slowly being eroded. That particularly true on the periphery. 

Thanks, Eoin, for your considered response. The point I was trying to get at though is that looking at a stock price chart only can hide all manner of sins. If the share count has doubled, all else equal, the price per share should only be worth half what it was previously. Having said that, I wouldn’t be in the least bit surprised if the Robinhood crowd bid up these names as they search for the last remaining recovery names without due consideration for all of the facts. Though in the short-term markets can be a voting machine, in the long term they are a weighing machine, and ultimately these investors will be found out.

Thank you for coming back on this topic. The most basic principle of price setting is to find the balance point between supply and demand. Supply is a present real-world statistic and demand is always going to be about what the future holds. Therefore, the price reflects both what is known and what is expected about any given instrument.

On the weekend review you highlighted Norwegian Cruiselines as one of the deeply impacted stocks along with the likes of Rolls Royce. At what point though should you be considering what has happened balance sheet wise? In their case, at the end of 2019 they had 214mn shares outstanding. At the end of Sept Q that had risen to 271mn (+27%). They have also just issued another 40mn shares to 311mn (+45% on 2019). In addition, they have issued $1.4bn in additional debt as well as convertible notes that can be exchanged for equity at prices lower than today's price. If those notes are converted, another 120mn shares will be issued by 2022, taking the share count to a 431mn, double the 2019 share count. The enterprise value right now is $17.1bn, compared to the Dec 19 enterprise value of $18.5bn. On this basis then, NCLH is within 10% of its pre Covid-high, and so surely, we can't look at the chart and look to the previous trading range for stock price potential. 10% above the current price is roughly $30, rather than the $50 price point the chart might otherwise indicate. The same applies to a host of these sorts of stocks such as Carnival, Royal Caribbean, American Airlines, etc etc.

Thank you for this question which may be of interest to subscribers. There are a large number of companies that have taken on extraordinary quantities of debt this year. That’s true pretty much across the board. Existing shareholders have therefore been heavily diluted.

On November 24th I posted a review of candidates I believe likely to prosper in the emerging post-pandemic market. It was well received by subscribers so I will post an update on my views on the first Friday of the month going forward. That way subscribers can have an expectation that long-term themes will be covered in a systematic manner and will have a point of reference to look back on.

Media hysteria about the 2nd or 3rd waves has not led to new highs in the number of deaths. The success of biotech companies in deploying vaccines means there is going to be a substantial recovery in the economic activity in 2021 and going forward.

The stay-at-home champions saw their sales growth surge in 2020. It will be impossible to sustain that growth rate in 2021. That’s particularly true for mega-caps. One-way bets on the sector are likely to work less well in the FAANGs going forward.

With the growing expectation of rising inflation in 2021 what areas of the world markets would you choose to be positioned in if this proves to be the case? I note you only have a few trades on at present. Ae you likely to broaden these in the future?

https://www.bloomberg.com/opinion/articles/2020-12-03/five-reasons-to-worry-about-faster-u-s-inflation

https://twitter.com/Ole_S_Hansen/status/1334476194218205186

Thank you for this question. Governments are going all in on reflation and they are unlikely to stop until they get the inflationary outcome their desire. When above trend inflation is policy rather than a “nice to have” is has to be a more credible option.

At its heart, the rotation is based on the idea that there’s a lot of money in the economy waiting to be spent on things besides video streaming and online shopping. The U.S. personal savings rate was 7.2% at the end of 2019. By April it had surged to 33.7%, and it was still 13.6% in October—almost double where it started the year. Deposits at U.S. commercial banks swelled to almost $16 trillion in November, up from $13.2 trillion at the end of last year. If consumers revert to their pre-pandemic ways, that could set off what Jim Paulsen, chief investment strategist for the Leuthold Group, has called “a growth bomb,” as companies gear up to replace lean inventories.

Fund managers with a value bias say there are still opportunities to take advantage of the change in investors’ tastes. Chris Davis of Davis Funds points to the banks Wells Fargo & Co. and Capital One Financial Corp., whose prices were hammered when lockdowns began in March and still haven’t fully recovered. Davis thinks investors have overlooked how banking regulations enacted after the global financial crisis have made these lenders better able to handle recessions. “When you look at their valuations, the amount of cash they produce, the capital ratios that they have, the reserves they’ve been able to put up—they really have this characteristic of resilience and durability, and yet are priced at this sort of shockingly low level,” he says.

Value has outperformed growth over the last month and yields have been rising. That’s not a coincidence. Value metrics need a discount rate against which to make comparisons while growth sectors tend to do best when interest rates are low.

I have been a subscriber for just over 30 years, and in that time, I can't recall many times when a clear and concise analysis of economic and political conditions was as important as it is today. You are doing a wonderful job at keeping the collective informed, allowing us to see a broader picture than our individual biases might otherwise give us. Thanks so much!

And

Congratulations our last subscriber commentary was exceptional. You have done wonders for my confidence and ability to help my clients. Keep up the good work. Best wishes

Thank you both for your kind words and it is enormously gratifying that subscribers find value in the Service. That’s particularly true for veterans who have been with us for decades. Given both the demand and positive response for a reasonably succinct list of thematic investments that cover the prevailing market outlook, I’ll review the list on at least a monthly basis. The first Friday of the month which would coincide with the Big Picture Long-Term audio/video makes sense to me.

What strikes me and many other observers is that Gold is down by 1.5% to 1785 cash (just before Nov. contract expiry date…) but GDX and GDXJ are UP by 0.4% and 0.9%!

Silver is DOWN by 3% (just before Nov. contract expiry date…) while Silver miners SIL is also slightly UP!

As miners normally lead for me the dichotomy between metals and miners is probably due to the bullion banks trying to push down prices for the (RECORD!) deliverable contracts (they are short Gold by about USD 35bn!) and will allow metal prices to rise next week

If so, then this then be in tune with your Nov. 26 turn-around/bottom +- 1-2 trading days for the 10 and 20 day cycles.

Thinking about undoing my residual hedge via JDST before markets close early today….

What is your view on the above?

I much wonder if your bottom-fishing orders for PM’s were triggered today – but I suppose you want to get in at prices closer to 1700 for gold…

Thank you for this question and for pointing out this divergence between gold and gold mining stocks. The proximity of the expiry of gold contracts is relevant not least because of demand for physical metal. It is well within the realm of the possible to think enterprising institutional traders might like to see a lower price ahead of delivery.

So there’s plenty to choose from here and all seven are useful to hold in mind when thinking about inflation. For our part, we think an acceleration in inflation could now be driven by a combination of the following – the first two being critical to our case:

Monetarism – expecting persistent deficit financing causing the money stock (M2) to rise relative to GDP. Some would classify this as demand-pull inflation;

Marxism – believing that it will be impossible to re-impose austerity after the Coronavirus is over and that voters will demand rising real wages to control income inequality. Some would classify this as cost-push inflation;

Neoclassical effects – the just in time, Asia-dominated global supply chain is likely to morph into a just in case, home-grown supply chain, causing a large-scale supply-side disruption;

Environmental effects – on the basis the one should never let a good crisis go to waste, it’s likely that G7 governments now use their new-found balance sheet room to accelerate the capital investment required to make their economies ecologically sustainable, which will have the side effect of raising fixed capital costs for private sector firms.

A link to today's video commentary is posted in the Subscriber's Area.

Some concern has been expressed this week at the impending expiry of the moratorium on evictions in the USA. This is a useful graphic.

It highlights the fact that many states have 30% delinquency on mortgages/rent. Interestingly, despite the widely held view that New York is on the cusp of being denuded of inhabitants, it is far from the worst in terms of delinquency.

#1: A global synchronous recovery: We expect a broad-based recovery, both geographically and sectorally, to take hold from March/April onwards. Driving this synchronous recovery will be a more expansive reopening of economies worldwide and the extraordinary monetary and fiscal support now in place. Global GDP, already at pre-COVID-19 levels (based on seasonally adjusted GDP levels), continues to accelerate and is on track to resume its pre-COVID-19 trajectory by 2Q21. We expect China to return to its pre-COVID-19 path this quarter, and the US to reach it by 4Q21.

#2: EMs boarding the reflation train: After a prolonged period in which EMs have faced a series of cyclical challenges, macro stability is now in check. With the COVID-19 situation improving in a broad range of EMs, their pace of recovery is catching up. EM growth rebounds sharply in 2021, helped by a widening US current account deficit, low US real rates, a weaker dollar, China’s reflationary impulse, and EMs ex China's own accommodative domestic macro policies.

#3: Inflation regime change in the US: We see a very different inflation dynamic taking hold, especially in the US. The COVID-19 shock has accelerated the pace of restructuring, creating a significant divergence between the output and unemployment paths. With policymakers maintaining highly reflationary policies to get back to preCOVID-19 rates of unemployment quickly, wage pressures and inflation will pick up from 2H21. We expect underlying core PCE inflation to rise to 2%Y in 2H21 and to overshoot from 1H22, with the risk that it happens sooner.

A link to the full report is posted in the Subscriber's Area.

With millions of people out of work it is easy to form a gloomy picture of economic potential. However, even at a US unemployment rate of 10%, there are still 90% of people with jobs. Moreover, many people who have held onto their employment have boosted savings this year.

When 90% of people come through a crisis in OK shape and a significant minority come out ahead, there is ample scope for a significant bounce back in activity. There is a great deal of pent up demand in the global economy and all that cash on the side lines is fuel for bull markets. The fact monetary and fiscal policy is aimed to improving the outcomes for the remaining 10% suggests loss credit and low rates are here to stay.

1.Vaccine-led Recovery to Lift Cyclical Assets
2. Navigating the Path
3. A Steeper Real Yield Curve
4. Europe: Two Steps forward, One Step Back
5. China: Forging Ahead, with Assets in Tow
6. A New Commodity Bull Cycle
7. EM Outperformance: More than Before, Less than Sometimes
8. Rotations: Cyclical, North Asia in Focus but Vaccine News Key to Near Term
9. In Search of New (and Old) Safe Havens, Hedges and Diversifiers
10. Risks from Corona and Beyond

A link to the full report is posted in the Subscriber's Area.

If we had to distill the priorities of governments next year there is only one word captures their intentions. Reflation. With millions of unemployed people, defaults only kept at bay by massive intervention and rising public discontent economic revival is the only possible solution. That’s true of every country. No one has been left unscathed by the pandemic. Whether the challenge has been domestic or from a loss of export markets, the solution is the same. Reflation.

I remember a few years ago that you wrote in one of your articles that Tesla could well go broke! It could yet happen but they seem to have found a firmer footing since then for the time being. 

Could their joining the S&P Index be an early warning of trouble ahead for the market generally as this Bloomberg report suggests?

https://www.bloomberg.com/opinion/articles/2020-11-17/will-the-stock-bubble-burst-as-soon-as-tesla-joins-the-s-p-500?sref=O3zvoUBa

Thank you for this question. I’ve written a lot about Tesla over the last decade. It’s a highly leveraged company so there is always a risk it will not be able to achieve its goals. At its current valuation it cannot afford to disappoint. If we listen to Elon Musk, the company was about a month from bankruptcy during the ramp up of Model 3 production but it successfully pulled through. 

Can you please help me understand the attached article that says prices are not related to the velocity of money.  It even includes a Fed chart (page 5) to support its case. 

Thank you for this question which is very relevant to the current market environment and may be of interest to the Collective. Here is a section from the article:

GDP can be thought of as Prices * Transactions or (P * T).

This leads us to: V = (P * T) / M2

Observations
Velocity can rise if prices fall if the number of transactions goes up.
Velocity can rise if prices stay the same and M2 goes down.
Velocity can fall if prices rise if M2 goes up
Velocity can fall if prices rise and the number of transactions drops.

Key Points
Prices can rise, fall, or stay the same, no matter what velocity does.
Velocity does not determine prices.
Velocity does not determine or even influence anything at all.

Velocity of Money is reported in arrears with a quarterly lag so whatever data we look at is six months out of date. I agree velocity of money does not itself lead to higher inflation. However rather than think about how velocity of money can rise or fall in the abstract let’s think about what it has been trending lower since 1997.

Traders are building the risk of Federal Reserve hikes back into interest-rate markets following news of
the most encouraging scientific advancement so far toward a coronavirus vaccine.

The sudden improvement in the economic outlook prompted a fresh burst of trade in Eurodollar futures, which are hugely popular as a low-cost way to play the Fed outlook. As daily volumes of contracts surged to the most since March, prices tumbled sharply, reflecting a flurry of bets on higher interest rates.

As front-end rates jolted higher, overnight index swap markets -- a proxy for the Fed’s policy rate -- show pricing for a quarter-point hike around the fourth quarter of 2023, and a second by the end of 2024.

ECB Easing
Rate hikes by the European Central Bank are not on the horizon yet, though investors trimmed bets on further easing and exited haven trades following the vaccine report. Money markets pared the odds of easing by almost half by the end of next year, betting on a 6 basis point rate cut, compared with 11 basis points at the end of last week.

BOE Bets
Similarly, Bank of England easing bets have been slashed, banishing the prospect of negative interest rates. Investors, who had bet on a 10 basis-point cut by August and sub-zero rates by the end of 2021, no longer expect the BOE to cut rates to 0%. Instead, wagers are for 7 basis points of easing by the end of next year.

There is a great deal of commonality in the government bonds markets at present. That is usually a sign that what is going on in the market is not isolated to a single market but is global in nature.

The total quantity of negative yielding bonds is a handy barometer for how much demand for debt is evident. It hit a new high last week and has pulled back this week. Downside follow through next week would confirm a failed upside break and greatly increase scope for at least a reversion towards the mean.

A link to the full report is posted in the Subscriber's Area. 

Manufacturing activity figures have rebounded impressively over the last month on a global basis. That’s reflective of the snapback in activity following the contraction in the 2nd quarter and will probably moderate over coming months. Nonetheless, it is supportive of the view that this will be have been a short sharp recession.

Markets were born free but are now everywhere in chains. Cash deposit rates are now derisory, but with added bail-in risk. Bond yields are likely to remain squashed indefinitely, helped by governmental funny money. So, cash and bonds are largely out of the question. The one market too big for even the world’s central banks collectively to kick around is the currency market. So, we would not be surprised to see some kind of reset develop there. Our way of anticipating that reset is to own precious metals and the shares of sensibly priced mining concerns in “safer” jurisdictions. Because we anticipate an ultimately inflationary outcome due to those aforementioned torrents of funny money, we value claims on the real economy in the form of equity ownership of cash-flow generative businesses run by principled, shareholder-friendly management with an excellent track record of capital allocation, especially when such stocks can be bought at a discount to their inherent worth. And because we frankly have no clue how the Great Suppression will necessarily play out, we hold uncorrelated (systematic trend-following) funds that offer the potential to zig when the markets finally and conclusively zag. Our watchword: if in doubt, diversify.

Not the sort of commentary we would prefer to be sending out into the world. But sometimes spades must be identified as such. On a more positive note, some wisdom from the ages: this too shall pass. It just better gets a bloody move on.

The question for investors is whether the ECB announced additional stimulative action to support the economy or arrest the advance of the Euro. The region’s plan for climbing out of the lockdown-induced recession will be founded on exports. A weaker currency would certainly help and the ECB is delivering.

“Yields are almost behaving as if we have yield-curve control already,” said Esty Dwek, head of global market strategy for Natixis Investment Managers, which oversees about $1 billion. “The yield rise will probably remain contained because the Fed is more important than anything else and they will limit it.”

Call it stealth yield-curve control, as Fed policy makers have pushed back on the idea of capping yields. It’s a step that central banks in Australia and Japan have already taken. The Bank of Japan has been pinning 10-year rates at around zero, while the Reserve Bank of Australia targets three-year yields at 0.25%.

U.S., yields have been boxed in from both directions. On the upside, the potential for Fed action should the economic picture darken, along with overseas buying and haven demand because of worries about the pandemic, are keeping long-term yields in check. On the downside, the central bank’s reluctance to drive policy rates below zero creates a floor.

The Fed might in fact be completing its promised purchases of $120 billion a month but it is not showing up on the balance sheet. The only explanation for that which makes any sense is that the purchases are being sanitised.

The Emerging Market (EM) share of world output in the last 20 years doubled from 19% to 38% with the EM world growing at about double the rate of the Developed world (DM). This kept the total world growth at a 3-3.5% range over the last decade despite every region in the world growing a little slower than in the previous decade.

The implications of the swings in the global deflator and the FX on businesses and global incomes was much larger than most imagined which is visible in Fig 1 above. It breaks down the nominal world output and its components showing that the world in real terms grew at a pretty even rate of 3-3.5% through most of the last twenty years, with the swing in the ‘Deflator+FX component’ creating the big booms or bust feel in the world.

We are entering another such ‘Supercycle’ which was born about a quarter ago. Our definition of a supercycle is nominal World Output growing at 8-10% for a few years lifting most boats globally. Our view on the components of this global Supercycle are essentially building in a few key assumptions –

1. The World growth in real terms continues in the 3% +/- 1% range after normalizing to pre Covid levels in real terms by 2022. This is line with the IMF and many other estimates.

2. We expect the Global deflator to stay elevated in the 2-4% range for the next few years driven by stimulative fiscal and monetary policy by most large world economies. This would be aided by a weaker US$ and concurrent to it.

3. The US$ weakens 3-4% per annum for the next few years with rising deficits, with the Chinese Yuan doing the heavy lifting on the other side. The Yuan weakness in the previous few years had prevented this from playing out earlier. This paves the way for a strong Asian and EM FX basket which together account for about half of the world output. This is in a way similar to what happened in 2003-2005.

A link to the full note is posted in the Subscriber's Area.

Thanks for this interesting missive which may be of value to subscribers. Here is an additional note from the sender:

Additionally, Roach said, new COVID-19 infections and higher mortality rates must be part of assessing the risk of an aftershock, Roach said.

"As we head into flu season with the new infection rates moving back up again, with mortality unacceptably high, the risk of an aftershock is not something you can dismiss," he said. "So that's a tough combination. And I think the record of history suggests that this is not a time, unlike what the frothy markets are doing, to bet that this is different."

With the stock market close to new highs it is easy to conclude that the economic recovery will follow suit. The reality is it might be a while but we are quite likely past the trough. Consumer sentiment has taken a big hit. That damage is strongly correlated with the strictness of lockdowns.

Although volatility has collapsed in the era of quantitative easing, in those periods when it has increased, it has generally risen unusually fast and created much pain for investors. Take the CBOE Volatility Index, or VIX. Even though it is more likely to stay below 20 these days, it is twice as likely to surge above 40 when it does rise. It doesn’t help that passive investment strategies make up half of all share trading, twice as much as 10 years ago, meaning there are fewer humans at the helm to make rational decisions when markets go haywire.

What’s more, market makers hold a tenth of the trading inventories they had in 2007, according to data from the Federal Reserve Bank of New York. As a result, they are unable to act as a sort of market shock absorber during periods of rapid price swings like they had in the past. That combined with capital flocking in and out of the same trades means markets are breaking down more often.

A good example comes from March, when exchange-traded funds owning investment-grade corporate bonds experienced price declines exceeding 10%, dropping 4% to 5% below their net asset values. Worried that the episode might cause credit markets to stop functioning, the Fed stepped into the markets to buy corporate debt for the first time.
 

2019 was one of the best years ever for the balanced 60/40 portfolio. That helps to highlight that it might still be premature to suggest the age of balancing bonds versus equities is dead. Obviously 2020 has been a very difficult year where risk takers have been rewarded and savers have been denuded of income. The challenge for long-term investors is the low interest rate environment distorts valuations so that momentum strategies tend to trump everything else.

Yet, in periods when both budget deficits and monetary aggregates have rapidly grown, gold has historically outperformed—and it is doing so now. At such times, gold also adds diversification benefits to portfolios.

Over the past few years, we have argued in numerous pieces that gold has started a bull run. And once they start, gold bull markets tend to run until either the US dollar strengthens meaningfully, and/or the Federal Reserve tightens monetary policy. Right now, neither of these two outcomes is likely. Hence, the gold bull market looks set to continue.

A link to the full report is posted in the Subscriber's Area. 

The Dollar declined in a meaningful manner as soon as combined monetary and fiscal stimulus kicked off in March. It staged a modest rebound in September when doubt arose about the persistence of the fiscal portion of that program.

President Donald Trump told his negotiators to stop talks with Democratic leaders on a fiscal stimulus package, hours after Federal Reserve Chair Jerome Powell’s strongest call yet for greater spending to shore up the economic recovery.

“I have instructed my representatives to stop negotiating until after the election when, immediately after I win, we will pass a major Stimulus Bill that focuses on hardworking Americans and Small Business,” Trump said Tuesday in a tweet.

Stocks tumbled after Trump’s posting effectively called an end to months of hard-fought negotiations between the administration and Congress. Democrats had most recently pushed a $2.2 trillion package that failed to garner Republican support in the House, while the White House had endorsed $1.6 trillion.

This decision clearly amps up the brinksmanship between the USA’s opposing political parties. It also lays a stark choice at the feet of American voters. If they vote for divided government, they can look forward to at least two more years of messy negotiations on economic stimulus. The Trump administration has obviously concluded they have nothing to gain by agreeing to bailouts for bankrupt states even if that is going to force municipals to raise taxes.

In your opinion, will the introduction of a vaccine(s) be a headwind for the precious metals?

Thank you for this question which may be of interest to the Collective. The global economy has experienced a significant shock and millions of people are out of work. The primary way I view the effect of the coronavirus on the economy is as an accelerant. It took trends that have been in evidence for a while and exaggerated them. At the same time, it introduced new challenges which require new solutions.

“We are ready for a negotiation,” she said. “I am talking with my caucus and my leadership and we will see what we are going to do,” Pelosi said.

The prospect of talks helped push stocks higher briefly, with the S&P 500 extending gains after the Pelosi and Mnuchin remarks. But that optimism was tempered by reports showing a resurgence in coronavirus cases in Europe and investors pulled stocks back off session highs.

The risk of a slowdown in the recovery is rising with the lack of movement on fiscal stimulus. Initial claims for unemployment insurance remained at a level above the peak during the Great Recession of 2007-09, the latest weekly data showed on Thursday.

Fed Chair Jerome Powell reiterated his conclusion that “it’s likely that additional fiscal support will be needed,” speaking at the same Senate panel where Mnuchin was testifying.

The recovery has been faster than anticipated so far, Powell said, thanks to income support to those affected by the pandemic.

“The risk is that they’ll go through that money, ultimately, and have to cut back on spending and maybe lose their home,” the Fed chief said. “That’s the downside risk of no further action.”

The big question for investors is to determine how credible this news story is. The Fed has been very clear that it sees a need for additional stimulus and that the path out of the recession is dependent on support mechanisms remaining open ended.

Federal Reserve policy makers on Wednesday highlighted the importance of fiscal stimulus for an economic recovery that recently has outperformed forecasts. Chairman Jerome Powell continued to wave the fiscal flag carefully at a congressional hearing -- amid a political stalemate over a new package -- saying that more support was likely to be necessary. Others were more full-throated, with Cleveland Fed President Loretta Mester saying it was very much needed given the “deep hole” the economy is climbing out of.

Chicago Fed President Charles Evans expressed concern the stimulus he penciled in won’t be forthcoming, while Boston Fed President Eric Rosengren suggested it’ll take another wave of infections to prompt action, and likely not until next year.

Declines in the stock market, until recently attributed to a reversal of excessive tech-share gains, have increasingly been attributed in part to worries about the recovery and the need for more stimulus. The S&P 500 Index was down 1.7% as of 2:22 p.m. in New York, the fifth drop in six days.

“The most difficult part of the recovery is still ahead of us,” Rosengren said in remarks Wednesday, saying he was more pessimistic than his colleagues over how many Americans will return to work over the next 15 months.

The impending bitter dispute between the Democrats and Republicans about the latter’s determination to approve a new supreme court justice before the election has pretty much shelved any hope of additional stimulus before the election. Add to that the real potential that an election result may not be immediately available and the timeline for when an additional fiscal stimulus will be agreed gets pushed further out.

I may be mistaken but I thought in one of your commentaries you listed some betting stocks.

Assuming the continue pandemic mode, sport fans may be eager to bet, same for the elections, Point bets PBH .au and Penn gaming PENN may be good idea.

DraftKings is the name that has been recognized DNKG

 Pls. confirm you had mentioned in one of your commentaries, alternatively, any ideas / opinion on the space

Best keep safe

Thank you for this question. I have spoken about the airline and tourist sectors generally but not about pure gambling plays. However, I agree that speculative fervour is a significant factor in the market today. The lack of sports events to bet on has been a factor in the surge in online stock market trading among retail investors. The buzz people get from punting is addictive so demand will likely persist for at least as long as their money lasts. The online venues are likely to benefit at the expense of physical locations.

I have a couple of questions for Mr. Treacy which I would be most grateful if he could answer:

1) Traditional portfolios have managed risk by allocating % to stocks and bonds. The closer to retirement someone is and presumably more risk averse one allocated proportionally more to bonds. Given that interest rates are at historical lows is this formula still appropriate? Should we look at allocation to gold instead of bonds? Thank you

2) Earlier this year Mr. Treacy shared the performance, dividend yields and length of time these dividend yields have been awarded for key Investment Trusts. I would be grateful (and perhaps other investors as well) if he could share growth performance, dividends and chargers of key ETFs. Thank you.

Thank you for these questions which may be of interest to the Collective. The rationale for investing in bonds as a stabilising force in a portfolio is a lot more difficult to justify when interest rates are zero. One comforting factor is the inverse correlation between the assets has been sustained over the last few months.

As a result of their longer history and their more intensive studying of it, the Chinese are much more interested in evolving well over much longer time frames than Americans, who are much more interested in making quick hits—i.e., the Chinese are more strategic than Americans, who are more tactical.  The arc that Chinese leaders pay the most attention to is well over a hundred years long (because that’s how long good dynasties last) and they understand that the typical arc of development has different multidecade phases in it, and they plan for them.  For example, the first phase, which occurred under Mao, was when the revolution took place, control of the country was won, and power and institutions were solidified.  The second phase of building wealth, power, and cohesiveness without threatening the leading world power (i.e., the United States) occurred under Deng and his successors up to Xi.  The third phase of building on these accomplishments and moving China toward where it has set out to be on the 100th anniversary of the People’s Republic of China (PRC) in 2049—which is to be “a modern socialist country that is prosperous, strong, democratic, culturally advanced, and harmonious,” which would make the Chinese economy about twice the size of the US economy[4]—is occurring under Xi and his successors.  Nearer-term goals and ways for getting toward these goals are set out in nearer-term plans like the Made in China 2025 plan,[5] Xi’s new China Standards 2035 plan, and the usual five-year plans.[6] 

There is a quote from the movie Pirates of the Caribbean which is doing the rounds on the social media. It’s “part of the ship, part of the crew” The Communist Party equates itself with the country. That means that if you are Chinese you owe fealty to the Party. That belief is at the essence of the ruling ideology.

A brighter economic outlook was not paired with any pulling-forward of rate-hike projections -- in fact the opposite. The FOMC is signaling via projections and upgraded forward guidance that it does not expect to raise rates even if the jobless rate hits 4%. When unemployment hit that mark during the last expansion, the funds rate was already above 1% and steadily rising.

The Fed updated policy guidance after adopting its new inflation-targeting framework. New guidance entails achieving both inflation and the full employment targets.

The Fed’s assessment of “considerable risks” surrounding the economic outlook over the medium term remained in the statement, signaling that officials have not taken much comfort from recent better-than-expected activity and labor market data.

The Summary of Economic Projections, which extended forecasts into 2023, included an upgrade to GDP growth in 2020 and a downgrade to the unemployment rate throughout the horizon. The lack of action on the fiscal-aid front likely led to less optimistic projections for 2021 and 2022. The fed funds rate central tendency forecast indicates rates remaining at the zero-lower bound in 2023.

Assuming the economy rebounds by 28% annualized in the second quarter, as we project, U.S. GDP will need to grow by 3.4% in the fourth quarter to achieve the Fed’s forecast of -3.7% for the full year. This is slightly above our projections for growth of 2.5% in the fourth quarter and -4.0% for the year.

The Fed is hell bent on ensuring deflation does not become entrenched. That means interest rates are going nowhere for years. Vaccines are likely to be permissioned in October and will be widely available early next year. As the economy opens up, cash-rich consumers are going to make up for lost time and will leap back into social activities. That will boost velocity of money reading from the incredibly depressed level it is at right now.

A link to the full report is posted in the Subscriber's Area. 

The long-term charts contained in this report are helpful from the perspective of an investor either looking to monitor the potential for a bubble to evolve in the tech sector or the potential for cycles to rebound from depressed levels as a global recovery takes hold.

A link to the full report is posted in the Subscriber's Area. 

Media commentary continues to focus on the number of new cases of COVID-19 but that is an irrelevant figure. The numbers of hospitalisations and deaths and the fear that healthcare systems would be overrun was the reason for locking down economies. The reality today is even in countries where the number of cases is increasing, the hospitalization rate has not increased because most newly infected people are younger. Obviously, there are risks that younger people will infect older people but that is a manageable risk compared to the financial stress of total cessation of economic activity.

A link to the full report is posted in the Subscriber's Area. 

The fall of the Iron Curtain and ensuing spread of liberalism greatly enhanced the argument for globalisation and offshoring. The process lifted billions out of abject poverty and into the middle classes. Unfortunately, it also had a levelising effect which robbed lower middle class, less educated people in developed markets of their likelihoods.

The low-end service jobs that replaced manufacturing and mining do not offer the same compensation. That has hollowed out the middle class in much of the developed world. More reliance on social services and debt accumulation papered over some of the cracks but the credit crisis, housing busts and austerity have contributed to the rise of populism. That is a global phenomenon and is at its root a rebellion against the status quo.

Recently Mr. Treacy mentioned that most of the growth and yield opportunities are currently in the Private Equity. I would appreciate Mr Treacy's view on UK tax efficient Venture Capital Trusts. I am considering them as they provide exposure to early stage companies and provide tax efficient investment. Does Mr. Treacy deem this a good vehicle or would he suggest any other investment instruments?

- Thank you for this email which may be of interest to subscribers. There are plenty of growth opportunities in the regular stock market. The success of the recent IPO market is a testament to that phenomenon.

However, there is a clear trend among institutional investors towards stuffing portfolios with “alternatives”. It’s an incredibly broad sector including everything from seed capital for new companies to timberland, real estate and gold.

One trader in New York, who asked not to be named as he isn’t authorized to speak publicly, said the buying earlier this week was dominated by accounts taking off bets against long-maturity debt, as popular so-called steepener trades are pared down. A flurry of Treasury futures action on Thursday offers further evidence that investors are unwinding these wagers or calling it quits.

Positioning for a steeper yield curve, where rates on long-dated debt rise more than those on shorter Treasuries, has been a hot strategy in bond markets in recent months on the expectation the Federal Reserve would take a more relaxed approach on inflation -- something that came to fruition at a virtual Jackson Hole confab on Aug. 27. Yet even as Wall Street strategists reiterated their “steepener” recommendations, 30-year yields have fallen more than 15 basis points to 1.35% Thursday, having risen from 1.22% at the start of April.

The yield curve spreads, whether one looks at the difference between the 10-year and the 2-year or the 10-year and the 3-month both share a key similarity following inversions. They have both surged higher to approach wides of between 250 to 300 basis points during recessions. That has not been possible on this occasion because central banks have not had room to cut interest rates by that much and bond yields are too low to create that wide a spread.

“It is pretty obvious that with interest rates near zero and being held stable by central banks, bonds can provide neither returns nor risk reduction,” a team led by Co-Chief Investment Officer Bob Prince wrote in the July report.

Bridgewater’s famous All Weather portfolio has therefore been moving into gold and inflation-linked bonds, diversifying the countries it invests in and finding more stocks with stable cash flow.

The idea is to replicate the long-term positive returns typically generated by bonds while finding alternative ways to hedge a downturn in stocks, especially if higher inflation upends low-yielding nominal debt.

Risky Business
Bridgewater’s conviction that ultra-low yields are a game-changer for risk parity will resonate with many on Wall Street, who have also been fretting over the fate of traditional portfolios that allocate 60% to stocks and 40% to bonds.

According to the firm, about 80% of local-currency government bonds have been trading below 1%, which limits the room for such notes to rise in value during a bout of risk aversion since investors can simply hoard cash instead. That, combined with the potential for losses if yields jump from record lows, means that the world of government debt is potentially losing its function as a safety valve in portfolios.

Risk Parity is based on the correlation between rising stock prices and rising bond yields. The logic is that when investors are worried about stock market returns, they park excess cash in bonds. Over the years multiple strategies have evolved to size positions according to this correlation.

While the announcement of Abe’s resignation caused the yen to gain as much as 1% in the evening in Tokyo, the BOJ will continue to closely watch market developments, according to the people. The bank maintains its pledge that it will act without hesitation if necessary, the people said.

With the economy still healing from the biggest contraction in the post war era in the second quarter, an excessively strong yen will put pressure on the central bank to act if sustained. Abe came to power in 2012 pledging aggressive monetary easing and handpicked Kuroda to deliver it. Kuroda soon launched the “shock and awe” monetary bazooka, which increased asset purchases, leading the BOJ’s balance sheet to swell significantly larger than its global peers.

BOJ watchers will be closely monitoring who will replace Abe, because Kuroda is seen to have coordinated well with the government under the premier. The latest symbolic move was a joint statement between Kuroda and the government as the pandemic battered the economy.

Abe was driving force behind the global transition to simultaneous monetary and fiscal stimulus. His policies have been adopted at least in part by a host of countries as interest rates have trended towards zero.

“The lack of rain in August - plus extended heat - clipped the top end of soybean production for many areas,” Bob Linneman, broker at Kluis Commodity Advisors said in a research note. “There are many operations that watched a potentially record crop turn to a hopeful average crop.”

The agriculture sector has been plagued by uncertainty over the last few years. Record crops, trade wars, currency devaluations and weather events have conspired to create a great deal of uncertainty. None of that has succeeded in lifting prices for more than a few weeks at a time. I wonder if this time is different.

The new strategy is being undertaken to tackle years of too-low inflation. It hands the central bank flexibility to let the job market run hotter and price pressures float higher before taking action as it may previously have done.

“They really, really, really are not going to be raising interest rates any time soon,” said James Knightley, chief international economist at ING Financial Markets. “The Fed is saying rates will be lower for longer, but don’t worry inflation is not going to be picking up.”

While it doesn’t target a specific rate of unemployment broadly or for certain demographic groups, the approach may help address other weaknesses in the economy.

During the longest U.S. economic expansion on record until the pandemic hit earlier this year, many groups benefited -- including minorities and women. With millions out of work and unrest flaring up across the U.S. over racial inequality, questions about how the Fed’s policy helps diverse communities have been raised.

The Fed is happy to run the economy hot. That begs the question what happens next? Will they attempt to support the Treasury market in what is already de facto yield curve control? As the economy responds to the trillions in new liquidity, how will the Fed react to the rise in the velocity of money? If they are willing to run the economy hot a somewhat steeper yield curve is desirable but stoking inflation can have many unintended consequences.

The EC’s paradigm shift

By becoming the borrower through its issuance of €750 billion of debt, the EC sets a new precedent while becoming a major new force in the sovereign debt markets. It is also expected to demonstrate maximum flexibility in managing its debt to achieve the most favorable terms for the member states. The bonds are expected to be repaid through the EU budget through the end of 2058. New tax revenues have been proposed, such as a plastic levy, a digital tax, and a review of the EU Emissions Trading System.  

The recovery plan marks a significant moment in which EU Leaders recognized the need to create a new structure for raising funds under the auspices of the EC and funded by the EU budget. This structure has a strong likelihood of becoming a permanent funding mechanism at the EU level for emergency programs and other funding needs for the fiscally weak member states. They have also acted swiftly to stem the risks to the eurozone’s stability from alarmingly high fiscal deficits, and to front-load the raising of funds in order to plug the enormous fiscal gaps into the future. They have recognized the need to move away from the failed austerity approach of the past and to adopt a pro-growth policy through grants and loans on attractive terms with light conditionality – a major departure from the past.

‘Hamilton light’ plan is an auspicious beginning

The recovery plan could well become a permanent feature for the EU, serving to underpin the debt issued by the periphery member states. This has enormous significance for the EU banking industry, which has become reliant on the ECB’s QE programs for its stability and capital adequacy. If the fear of default is truly removed for any eurozone sovereign debt, without assuming intervention by the ECB, there could be broader implications for financial system integration within Europe, with cross-border mergers and acquisitions within the EU finally taking place. This is sorely needed to drive greater scale in a banking system that has poor profitability compared to that of the US.

The recovery fund may not be quite as far-reaching as Alexander Hamilton’s re-ordering of the financial system in the newly born United States. However, the progress made by EU leaders this summer points to a measured yet pivotal step toward very similar ends. 

Europe has just created Federal bonds which will be repaid from the bloc’s budget. New taxes are being proposed to increase the size of the budget and there are aspirations for the system to become permanent.

The top three holdings of the machine-guided fund in July were Amazon.com Inc., Alphabet Inc. and Facebook Inc. Those are far from the kind of undervalued stocks typically favored by a value strategy. But to Qraft, it’s just value 2.0.

“Intangible assets have become a more important factor in the actual value of the company due to the development of information technology,” founder Hyungsik Kim wrote in an email.

“It is easy to tell which of the following is more important in measuring the value of Amazon: warehouses (tangibles) or automated logistics systems (intangibles).”

It’s the rallying cry for many remaining proponents of value: The factor isn’t dead, it’s simply plagued by outdated accounting rules that treat intangible investments such as research as expenses rather than capital.

As a result, knowledge-intensive firms end up with much lower book values and higher costs, which make them look more expensive than they actually are.

The new ETF’s eye-catching backtests also speak to the variety of methods underlying even the best-known equity factors. One study estimated there are well over 3,000 different ways to define a value strategy.

Intangible values is a fascinating subject because it forms the basis for the investing in technology firms but is the reason to avoid legacy firms. The challenge in teaching an algorithm to know the difference means a great deal of labeling would be required to identify the differences.

UK National debt hits £2 trillion. As in astronomy, it is difficult to get one’s head around the numbers A financial journalist put this into some perspective this morning. Someone living in ancient Egypt at the time of the great pyramid spending a million pounds a day over the next 3000 years would still have money to spare today!

Thank you for this comparison. It is also a £30,000 ($39,240) debt for every one of the UK’s 66.5 million people. By comparison the debt per capita of the US is now $80,000 per person. As with so many items, the absolute level is often less important than the trend.

Lyft and Uber shares erased earlier losses to jump higher after the companies were spared from having to rapidly convert their California drivers to employees by a state appeals court

Shares of both companies had dropped earlier after Lyft said it will suspend its rideshare operation in California at 11:59 p.m. Pacific time today

“We don’t want to suspend operations. We are going to keep up the fight for a benefits model that works for all drivers and our riders,” Lyft said in statement

Lyft shares rose as much as 8.7%, Uber gained 7.8%

NOTE: Earlier, Former Uber Security Chief Charged With Obstruction of Justice

Tax codes generally favour business owners. It is in the public good to foster business creation because that improves the potential for new jobs to be created by entrepreneurs. The sole proprietor gains many of the benefits of business tax treatment, but also gives up the safety net provided by companies in the form of benefits. They lose access to unemployment benefits and the old age pension/social security benefits are also not as generous. In return sole proprietors generally pay less city, state and federal taxes than corporations do.

I am a pre-subscriber (financial constraints, exacerbated since Covid-19, make it impossible for me to become a full subscriber, I'm afraid, so I may not qualify for a reply. But David did reply to me on more than one occasion;  he was always so kind, and is greatly missed).

I remember your being on the panel at a money show in the conference centre in Westminster Square (I forget the name - possible Westminster Conference Centre) - it must have been about 2009 because I remember asking a question as to whether there were any "good" banks left that might be worth investing in.
  
Anyhow, in response to a question from another attendee about companies drilling for water in Australia, (or possibly into wind power or solar or even lithium miners (if it wasn't too early) - I forget exactly which), I remember you replying that you never favoured chasing these early-stage stories, and in general you have been proved right since.   

I still tend to class hydrogen fuel and battery power for vehicles in the same category, but perhaps you feel that times have changed sufficiently now?    Since I am only a pre-subscriber, and not able to read the full article, I appreciate that you may have said more on this there, or in previous Comments of the Day.
    
It seems to me that since hydrogen when mixed with oxygen is a very explosive mix (although this could also be said to a lesser extent of petrol vapour, I suppose), it would only take one careless mistake or faulty construction to cause a serious explosion.   But perhaps the design features are so tight that this would be impossible.   

At least I would trust an electric vehicle more than a self-driving one! In fact, I am a bit nervous by nature. I would never trust a Toyota now, after that stuck accelerator pedal caused a fatality. What the last minutes of those poor occupants were like I cannot face thinking about.

Whether it is possible to reply to this or not, many thanks Eoin for the comments that I am able to read daily. They give a very sane and reassuring perspective, especially in these difficult times.

David always saw value in conducting a public discourse with subscribers because it helped to educate us as much as the Collective. It also ensures we are covering topics of interest. I agree and one of the things I enjoy most is attempting to provide satisfactory answers to subscriber’ queries. However, as someone who has been familiar with the Service for at least 11 years, might I suggest you at least take a trial subscription?

If that is too much of a financial constraint it may be time to reassess your investment/trading ambitions. Investing involves a degree of risk. If you are uncomfortable with driving a Prius because of a fault corrected more than a decade ago, it might be time to conclude investing is not for you.

The response to this email continues in the Subscriber's Area. 

The unprecedented speed and scale of the Federal Reserve’s buying of Treasuries and mortgage debt to aid a severely impaired bond market has accomplished that without raising the specter of moral hazard, Federal Reserve Bank of New York researchers wrote in a note.

Pandemic-sparked volatility in March caused liquidity in the world’s biggest bond market to plunge to its worst since the 2008 financial crisis. The Fed responded with purchases of Treasuries and mortgage securities that peaked at more than $100 billion a day combined.
It’s still soaking up about $80 billion of Treasuries and at least $40 billion of mortgage securities a month, and some bond veterans warn that the central bank’s involvement in the market could potentially be encouraging risky behavior, such as excessive borrowing. But a post Thursday in the New York Fed’s Liberty Street blog argued against that.

“The magnitude of the Desk’s purchase program in 2020 ‘to support the smooth functioning’ of the Treasury and agency MBS markets marked those purchases as highly unusual,” wrote Kenneth Garbade, a senior vice president in the New York Fed’s Research and Statistics Group, and Frank Keane, a senior policy advisor.

But they also say that the tool has been used before and “the infrequency of Federal Reserve intervention suggests that relying on the Fed on those rare occasions when markets are in extremis has not materially exacerbated moral hazard.”

Reading over the Fed minutes feels like an episode of the Twilight Zone. This quote in particular is relevant. “many participants judged that yield caps and targets were not warranted in the current environment but should remain an option.”. It doesn’t have to engage in yield curve control because the market is already behaving like it is a fact.

The dollar sank to its lowest level since May 2018 on concern that the world’s biggest economy will struggle to regain momentum amid a standoff over further virus relief and as infections continue to mount.

The greenback has now erased most of the gains it built on the back of U.S.-China trade tensions that started heating up around two years ago, fueling worries about global growth prospects. This time investors see the U.S. as the potential laggard amid questions over the government’s response to the pandemic. The euro climbed to a two-year high, extending its advance since last month’s landmark European Union stimulus package brightened the region’s prospects relative to the U.S.

The dollar has been on the defensive since mid-year, with U.S. lawmakers unable to agree on measures to support the economy’s recovery from the pandemic, and with the nation’s real yields dropping to multiyear lows. On top of all that, investors’ attention is turning to the November presidential election and the uncertainty that may bring.

The primary argument to support US Dollar strength over the last few years was supply related. The Federal Reserve was raising interest rates and simultaneously reducing the size of its balance sheet.

Never mind whether that was a contributing factor in the pop in high yield spreads at the end of 2018 or the freezing up of the repo market in the autumn of 2019. The supply deficit was a central factor in boosting the value of the Dollar simply because there were fewer of them around. The situation could not be more different today.

China’s central bank supplied liquidity to commercial lenders on Monday to help them manage upcoming government bond sales, while leaving the price of the money unchanged as the economy recovers.

The People’s Bank of China added 700 billion yuan ($101 billion) of one-year funding via the medium-term lending facility. The central bank said Friday that today’s operation is meant to offset the 400 billion yuan in loans coming due Monday and another 150 billion yuan maturing on Aug. 26.

With the economy recovering slowly, the PBOC is trying to provide markets enough funding to purchase government bonds and make loans without fostering financial risks. In addition to Monday’s money, the central bank last week offered the most short-term funds since May, replenishing a banking system which needs about $500 billion this month.

The net injection indicates “a more accommodative stance on keeping liquidity levels ample” so that commercial banks can continue to support bond issuance and to stabilize credit growth, said Liu Peiqian, a China economist at Natwest Group Plc. in Singapore. The move is “a signal to ensure policy continuity and stability” rather than a reaction to a slower pace of economic recovery, she said.

The PBOC kept the interest rate on the funds unchanged at 2.95%. The yield on China’s 10-year government bonds fell 1 basis point to 2.93%.

“The MLF injection is larger than expected,” said Ming Ming, head of fixed-income research at Citic Securities Co. in Beijing. “The PBOC’s overall neutral monetary policy has an easing bias in August. I expect the 10-year government yield to drop to around 2.8%.”

The big unknown for the Chinese debt markets is where the natural default rate resides. It’s impossible to know since they never allowed defaults until quite recently. The current situation does not give an accurate picture either, since the aftershocks of the lockdowns are impossible to predict with any kind of accuracy. What we do know is the number of defaults is rising and has not stopped rising since the first were announced a couple of years ago.

A link to the full report is posted in the Subscriber's Area. 

I continue to think about my coffee cup analogy for inflation. When the cup is half full you need to stir quite quickly to get the level of liquid up towards brim without spilling over. When stirring slows down, the only way to maintain the level is to add more liquid. When stirring picks up again you had better siphon some of the liquid out or it will spill messily over the edges.

Dear Eoin and team, I would like to thank you very much for the big difference you have made to my confidence in advising my clients, since I re-joined the service. If only I could find a way of explaining the benefit to my professional contacts! All the very best

Thank you for your kind words and welcome back. The one thing I would highlight for prospective subscribers is that in the evolving global tapestry of events, some big picture perspective is likely to be beneficial.

“Today real rates clearly moved higher and that’s clearly what moved gold lower,” Michael Widmer, head of metals research at Bank of America Merrill Lynch, said by phone from London.

“You had stronger PPI data out and I think when that data came out the market had another look at rates and expectations.” Exchange-traded fund investors also took a breather, seeing back-to-back outflows for the first time since June. On Friday, State Street Corp.’s SPDR Gold Shares, the largest gold-backed ETF, saw its biggest outflow since March. Meanwhile, a Bloomberg Intelligence gauge of senior gold miners dropped the most intraday since March, down as much as 5.7%.

From a medium-term perspective gold does best in a negative real interest rate environment. The inverse correlation between TIPS yields and gold over the last two months has been very tight because investors have been actively seeking a hedge against devaluation of purchasing power.

The first is that many investors have underestimated the impact of low rates on valuations.  In short, what should the stock market yield?  Not its dividend yield, but its earnings yield: the ratio of earnings to price (that is, p/e inverted).  Simplistically, when Treasurys yield less than 1% and you add in the traditional equity premium, perhaps the earnings yield should be 4%.  That yield of 4/100 suggests a p/e ratio (the inverse) of 100/4, or 25.  Thus the S&P 500 shouldn’t trade at its traditional 16 times earnings, but roughly 50% higher.

Even that, it’s said, understates the case, because it ignores the fact that companies’ earnings grow, while bond interest doesn’t.  Thus the demanded return on stocks shouldn’t be (bond yield + equity premium) as suggested above, but rather (bond yield + equity premium - growth).  If the earnings on the S&P 500 will grow to eternity at 2% per year, for example, the right earnings yield isn’t 4%, but 2% (for a p/e ratio of 50).  And, mathematically, for a company whose growth rate exceeds the sum of the bond yield and the equity premium, the right p/e ratio is infinity.  On that basis, stocks may have a long way to go.

The removal of the discount rate, as a basis for valuing cashflows has an outsized effect on all income producing assets. That implies the persistent threat of deflation which allowed long-bond yields to compress to historically low levels globally will persist indefinitely.

The 12-inch square tile module will test whether power can be harvested from its solar panel and transform the energy to a radio frequency microwave. The experiment has been in the works for more than a decade.

The module converts sunlight for microwave power transmission. Depuma said engineers decided to not use optical power transmission because a lot of energy would be lost through clouds and atmosphere.

The Naval Research Laboratory said the results of the experiment could drive the design of a dedicated spacecraft to test the transmission of energy back to Earth. The Pentagon is interested in this technology to provide energy to remote installations like forward operating bases and disaster response areas.

Researchers believe that a space solar system traveling above the atmosphere would catch far more energy than it would be possible on the ground due to the abundant and unimpeded sunlight in space.

One of the concerns is the thermal performance of the hardware. “It’s kind of a tricky problem to have something that’s in direct sunlight all the time and maintain the temperature of the electronics,” said Jaffe.

Solar power satellites could provide energy anywhere in the world, he said. “So a really important component of these kind of satellites would be a device that can convert the sunlight into microwaves or some other form of electromagnetic energy that’s suitable for sending to Earth. Now is the time to test it in space and see how it performs.”

Development of SpaceX’s BFR is progressing much quicker than most people gave the company credit for. The delivery of the vehicle to active commercial service will greatly reduce the cost of lifting major payloads to space.

God only knows what the historians of the future will make of 2020. A global flu panic that results in countries shutting down entire economies sounds like the pinnacle of craziness – until you discover that Europe between the 15th and 17th centuries was periodically prone to something called the ‘glass delusion’, in which sufferers believed that they were made of glass and at risk of shattering into pieces. The French King Charles VI was one of the higher profile victims of the illness, and he would reportedly wrap himself in blankets to prevent his buttocks from breaking. Because human nature never really changes, we choose to allocate to uncorrelated investment vehicles known as systematic trend-followers, which make no attempt to predict the future, or to avoid seeming overvaluation, but which are simply content to ride such price trends as appear from time to time, both up and down, courtesy of the interests and enthusiasms of the mob.

We also allocate, at present, to precious metals-related companies, provided we can secure robust cash flows in the process from businesses trading on comparatively modest earnings multiples, and with little or no debt. As George Bernard Shaw once remarked,

“You have to choose (as a voter) between trusting to the natural stability of gold and the natural stability of the honesty and intelligence of the members of the Government. And, with due respect for these gentlemen, I advise you, as long as the Capitalist system lasts, to vote for gold.”

Those gentlemen in government are primed to issue a vast quantity of debt. And why wouldn’t they? Interest rates are at historic lows and investors seem willing to invest in anything with a promise of a cashflow. The US Treasury is now stretching the maturity of outstanding debt which raises some important questions. 

Investors are so concerned about the global outlook that worldwide holdings in gold-backed exchange-traded funds now stand behind only the official U.S. reserves of bullion after they surpassed Germany’s holdings.

Gold has rallied to a record this year as the coronavirus pandemic savaged growth, with gains supported by massive inflows into bullion-backed ETFs. Bulls are fearful that the waves of stimulus to fight the slowdown may debase paper currencies and ignite inflation. They also point to simmering geopolitical tensions, rising government debt burdens, and lofty equity valuations.

Worldwide holdings in gold-backed ETFs rose to 3,365.6 tons on Monday, up 30.5% this year, according to preliminary data compiled by Bloomberg. That’s a couple of tons ahead of Germany’s stash. U.S. reserves exceed 8,000 tons.

Even after futures topped $2,000 an ounce, there are plenty of forecasts for further, substantial gains. Among them, Goldman Sachs Group Inc. says gold may climb to $2,300 as investors are “in search of a new reserve currency,” while RBC Capital Markets puts the odds of a rally to $3,000 at 40%.

China and India have historically been the biggest consumers of gold. However, prices are set by the marginal buyer. Right now, that is investment demand from ETFs which has jumped by more than 50% in the last 12 months. This is a totally fresh phenomenon. ETFs did not exist in prior cycles so it was impossible to estimate how much gold was owned by investors. It is reasonable to conclude that before this bull market has climaxed ETF holding will be the largest gold stockpile in the world.

There is a negative correlation between what the S&P did a month ago and moves in the Fed’s balance sheet. In other words, if the S&P falls, we should expect the balance sheet to be increased about a month later. Once the Fed has made its change, we should expect the two to move in the same direction for the next month — a rising balance sheet raises the S&P, a shrinking balance sheet brings it down. The lag is clear; it takes about a month for a weak stock market to prod the Fed into a response, and once that response has been made the effect is felt in full a month later. 

So, the two are indeed related but with a lag. How strong is the link? The top chart shows us what we should expect the Fed to do in response to a 10% correction, while the lower chart shows the S&P 500’s response to a 10% shift in the balance sheet:

There was also — and this should surprise nobody — a marked asymmetry to the Fed’s actions. It responds to falls in the market with alacrity. It doesn’t seem to feel any great macro-prudential need to prick bubbles by comparison, and so the tendency to respond to a rise in stocks with a shrinking of the balance sheet, as seen at the end of Janet Yellen’s tenure and the beginning of Jerome Powell’s, was much weaker. In late 1996, less than two years before the “Put” era began with LTCM, Alan Greenspan was plainly worried about the possibility of asset bubbles, and uttered his famous warning of “irrational exuberance” (following through with a rise in rates that induced a minor stock market correction). Now, the idea of raising rates to curb share prices appears so outlandish to Powell that he said in June “we would never do this.”

The Fed is reluctant to intervene to slow or reverse the rise in asset prices for a very simple reason. They believe the easiest way to objectively measure the success of their policies is in asset prices.

The continued uptrend in bond, stock and property markets is viewed as positive from the Fed’s perspective because it signals efforts to stimulate risk taking behaviour are effective. Unfortunately, that way of thinking about markets pays little heed to egregious risk taking or the assumption bad behaviour will always be bailed out.

Read a very interesting piece in Saturday's Telegraph by financial journalist, Ambrose Evans Pritchard. In a nutshell he suggests that western governments risk making the most catastrophic error of economic policy since the thirties by pulling away the stimulus rug too soon. The pandemic is still causing havoc and stimulus is running out before the rebound can reach self-sustaining escape velocity. He suggests the crunch will come in September/October.

The prospect of stimulus being removed too early has made it onto the front page because of the politically motivated rancorous debate over extending the USA’s fiscal stimulus. It remains the base case that some form of agreement will be agreed to because neither party wants to be blamed for making the lives of tens of millions of unemployed people worse.  

Fed policy has been magnificently successful in achieving its objectives not only of lifting securities prices but also of altering investor behavior. The Fed wanted to influence buyers of securities to be bolder in their pursuit of return. The head of a major pension fund recently authored a piece describing how the fund had responded to lofty markets and low yields on safe debt instruments. Their reaction was not to lower the fund’s currently aggressive 7% risk-adjusted return objective to a more realistic threshold, but instead to direct more assets into “lower volatility” private investments while leveraging the portfolio. Private investments, of course, have the same underlying risk and inherent volatility as public investments – though because they are not publicly traded, their intermittent and privately determined appraisals may make them appear to be less volatile. And as for the choice to leverage up, we can only note that leverage is a double-edged sword that enhances returns in good times while sinking them in down markets. If markets falter, this fund will have not solved its problems but rather have multiplied them.  

Pension funds, life insurance companies and other firms with predictable future outlays are in a difficult position. If they do not take on additional risk, they will certainly not be able to meet their obligations. Alternatively, if they do take on additional risks, they might be able to reach their goals. However, that chance at success comes with the implied understanding that the alternative is financial oblivion.

How will data be used by central banks and how will the central bank reassure people about the privacy of their data?

The data you are going to collect, there are two sides to it. On one side, the data that they're going to collect, given they are going to be able to engage the complete economic activity of a country in realtime, that data will be recorded on a blockchain-type network, distributed ledger, we don't know exactly. So the government will have access to all of that. On the [other] hand, it will enable the central bank to do their job more effectively. Because rather than having a lag in economic data, they're monitoring all the spending, the transactions, money supply, inflation implications, all in realtime... Tracking where people go in the world, because CBDC will be available to Chinese as they do business in other countries. It's almost a sort of a way to track an individual. So there are big alarming questions that need to be properly considered when it comes to privacy and anonymity.

The technology is there to enforce anonymity, but it's a question of are they going to implement it? Is that something that they're going to build into their currency? Time will only tell if different central banks come up with their versions of digital currency, as they say there is no one-size-fits-all, they're all going to be different and likely to reflect the values and culture of their citizens. Are we just going to accept that all governments get to have this data like we've kind of accepted with tech giants like Facebook? No one has really done anything about it.

A classic blockchain is a public ledger. There is a clear record of all transactions, but not who participated in them.

It would be comparatively easy for a state to create a digital currency that attaches identity to the ledger.

That will allow governments to track every transaction in even greater detail than they do already.

In some ways, however, that was the easy bit. The U.S. economy now enters a phase that cautiously could be described as the beginning of a recovery. However, remember that the virus is still out there. This leads to the question of how QE can continue to provide support in the months ahead? In terms of mechanics, the Fed describes the main purpose of LSAP as putting "[…] downward pressure on longer-term interest rates […]" in order to stimulate economic activity by generating attractive financial conditions.5 The key word behind those mechanics would be financial conditions. Such metrics generally try to describe the "[…] financial conditions in money markets, debt and equity markets […]" as the Federal Reserve of Chicago puts it.6 In other words, measures of financial conditions gauge the effectiveness of monetary policy.

Deriving a metric that summarizes the stance of monetary policy once the policy rate hits the Zero Lower Bound (ZLB) is not a trivial task, however. The monetary stimulus, as a combination of rates at the ZLB and asset purchases, is not directly observable. Our preferred methodology to overcome this problem would be the so called shadow short rate (SSR) as provided through the Reserve Bank of New Zealand.7 This concept mathematically derives a theoretical policy rate which is based on the evolution of the whole yield curve, therefore accounting for the impact of QE once the true policy rate is at the ZLB (see Chart 2).

Using the inflation of financial assets as a way of measuring the success of monetary accommodation is a recipe for bubble inflation. Nevertheless, it is the most expedient way to measure the impact of a central bank’s actions in fostering growth.

The stimulus debate pits the GOP’s political pragmatists against its spending hawks, with the fate of swing-state incumbents hanging in the balance: At-risk Republican senators don’t want to return to the campaign trail during the August recess empty-handed, while fiscal conservatives recoil at any plan that they see as ballooning the deficit and conditioning the public to expect broader government assistance once the pandemic is over.

At stake could be control of the Senate and White House, some Republicans warn. The nonpartisan Cook Political Report last week released a new analysis of key Senate races that for the first time this cycle favored Democrats to take back the chamber.

Democrats already control the House and are expected to keep or expand their majority in November, making the GOP-held Senate a critical bulwark against total Democratic control of the legislature next year. Democrats need to flip three seats from red to blue to seize control of the chamber in November, or four if President Trump wins re-election.

The massive stimulus introduced during the initial lockdown with $1200 for the majority of adults and $600 a week for millions of unemployed people plugged a significant hole in consumer spending potential. It also allowed ecommerce businesses to flourish and gain market share.

Thanks to your good guidance, the month of July has (already) produced the best portfolio performance in my life-time of investing! The portfolio switch from NDX stocks to gold and silver stocks has been phenomenal (20.59% in one stock today).

Attached is a report from “Goldmoney” regarding future inflation that you have addressed in recent commentaries.  (Underlining in the article is mine) Could we expect a sudden change in the Velocity of Money to facilitate an inflationary outcome or will other factors cause inflation regardless of the VoM?

Thank you for this interesting article and congratulations on taking opportunities in the market. Velocity of Money is a major component of inflation. The fact it has been falling for so long is one of the primary reasons we have not seen widespread inflation resulting from massive money printing over the last 12 years.

The US dollar accounts for over 50% of reserves held and has unwaveringly remained the primary reserve currency since 1945, especially after it replaced gold as the most-held reserve asset after there was a move to a fiat monetary system.  European currencies have remained steady at 20-25% since the late 1970s, the yen and sterling are around 5%, and the Chinese RMB is only 2%, which is far below its share of world trade and world economic size, for reasons we will delve into in the Chinese section of this book.  As has been the case with the Dutch guilder and the British pound, the status of the US dollar has significantly lagged and is significantly greater than other measures of its power.

That means that if the US dollar were to lose its reserve status and significantly depreciate in value it would have a devastating effect on the finances of those countries holding those reserves as well as private-sector holders of dollar-debt assets.  Who would be the winners?  Those with dollar-debt liabilities and those with non-dollar assets would be the big winners.  In the concluding chapter, “The Future,” we will explore what such a shift might look like. 

The massive increase in the supply of currency since the end of the quantitative tightening regime last year is a headwind for the US Dollar. The fact the monetary and fiscal assistance programs deployed by the USA are much larger than in other countries is certainly a near-term headwind for the Dollar but the big question is whether this is a secular change?

But junior miners are now starting to benefit. Take the case of American Pacific Mining Corp., an exploration and gold-mining firm with market capitalization of less than $20 million. The company raised $3 million in the second quarter, six times more than it had initially planned. Interest was so big that it had to turn away offers for more, said CEO Warwick Smith.

“The big boys play first, and then that money trickles down to the smaller companies, exploration companies,” he said. Revival Gold Inc., a Toronto-based exploration company, said Tuesday it was increasing its previously-announced public offering by C$3 million ($2.2 million) amid “strong demand” from investors. Spot gold prices rose 1.3% Tuesday to $1,841.94 an ounce, trading near the highest level in almost nine years.

The reasons that boosted the appeal of gold miners are the very same pushing investors away from companies digging for metals like copper or lithium, which are more dependent on economic growth. Base and industrial metals firms raised just $34 million in the second quarter, data compiled by Bloomberg showed. That’s a 40% decrease from the same period a year earlier.

Free cash flow became the bane of miners during the latter stages of the last gold bull market. They were borrowing money at such a prodigious rate and were so eager to build new production that any hope of profitability fell by the wayside. That contributed to significant underperformance relative to the gold price.

Recently there has been discussion about yield curve control (YCC), and whether the FED will introduce a new policy on managing interest rates. Do not be fooled - this is a rather large red herring, as the debt is now too large in the US (as it is in most major economies) to raise rates without the increased interest cost having a debilitating effect on annual government budget figures.

There is no longer $ 1trn of outstanding US federal Bills - in June the outstanding amount surpassed $ 5trn. If rates rise from 0.2% to 2%, the ANNUAL interest cost just on that segment of the outstanding $19trn debt would rise from ~$ 8.5bn to ~$ 102bn. Naturally you would also need to also factor in the impact of higher interest rate costs on leveraged households and corporates.

This is the red herring - the size of the debt will force monetary policy. To think that the central bank can raise rates means ignoring the consequence from the debt stock. And this is the root of my lower for longer view, which is obviously influenced from years of studying Japan, and which is now almost completely priced in to rates markets. Remember that the YCC in Japan led to a severe reduction of the BOJ buying of JGBs - it just did not have to.

The Japanification of the developed world represents a massive challenge for investors in search of yield. 90% of all sovereign bonds have yields below 1% and the total of bonds with negative yields is back at $14 trillion and climbing.

After negotiating through the night, the Netherlands, Austria, Denmark and Sweden are satisfied with 390 billion euros ($450 billion) of the fund being made available as grants with the rest coming as low-interest loans, the officials said, asking not be named discussing private conversations. The total size of the recovery package is in flux, but an earlier proposal was for 750 billion euros.

The bloc’s 27 leaders will gather again at 4 p.m. in Brussels to settle the outstanding issues such as the overall size of the fund and the mechanisms for controlling its spending. A French official said that their delegation now see a path to a full deal.

“After lengthy talks last night, we worked out a framework for a possible agreement,” German Chancellor Angela Merkel said on Monday. “It’s progress and gives hope that perhaps today an agreement will be made, or at least that an agreement is possible.”

€750 billion is a substantial aid package, but is rather small when compared to the measures taken by the USA. The reluctance of creditor nations to give money away, the length of time taken to negotiate the deal, and the fact the agreement has been reached following the peak infection point for Eurozone countries have contributed to the tailored size of the package.

A link to the full report is posted in the Subscriber's Area. 

I found the chart comparing the Swedish and US COVID-19 infection rate to be particularly interesting. It suggests that anything less than total adherence to social distancing, effective testing and contact tracing is ineffectual. That’s a challenge because while some Asian countries have been able to implement these types of protocols swiftly, not least because of their prior experience with SARS, it seems beyond the ability of most countries to do. With cases in Hong Kong and Australia rising it is looking increasingly likely this is going to be a long hard slog until a vaccine is widely available.

The chancellor and Prime Minister Boris Johnson have repeatedly said they’re not planning on pursuing austerity policies to rein in government spending, and for now Sunak has focused on preserving jobs to avoid long-term scarring of the economy. He unveiled a 30-billion pound stimulus program last week, and plans a wider package in a budget in the fall.

Hughes said while there are upside and downside risks to inflation, they’re tilted toward it remaining below the Bank of England’s 2% target. He also warned that the debts being built up by companies to tide them over the pandemic could end up becoming a burden that leads to scarring of the economy.

“One of the concerns that we’ve had is that the longer the crisis goes on for, the more likely government-guaranteed loans becomes less of a facilitator of the recovery and more of a burden,” he said. “The more the debt is a burden on companies the less they will invest. We know from past crises that one of the reasons you see longer-term scarring on the economy is you have foregone investment, and that scarring can be significant.”

He suggested one way to mitigate for that effect would be to tie repayments of the government-backed loans to a company’s earnings and profitability.

Hughes said high frequency data pointed to a “a bit of good news,” with April representing the low point for the economy and output contracting by about 25% instead of the 35% initially forecast by the OBR. The question is how quickly the economy gets back that loss.

Current OBR projections are based on Britain and the European Union striking a free-trade agreement. If talks fail and Britain is forced onto WTO rules when the current transition period ends in December, there will be adverse “consequences” for growth and the public finances, he said.

The biggest challenge for every country as we look beyond the coronavirus-induced crisis is in what manner the debt will be paid back and how a drag on recovery can be avoided. The clear answer is to refuse to raise interest rates regardless of how powerful the economy is. Following that up with additional spending measures, to placate restive populations is also likely to be part of the solution.

Yet the book that has done the most to educate me about how China views America and the world today is, as I said, not a political text, but a work of science fiction. "The Dark Forest" was Liu Cixin’s 2008 sequel to the hugely successful "Three-Body Problem." It would be hard to overstate Liu’s influence in contemporary China: He is revered by the Shenzhen and Hangzhou tech companies, and was officially endorsed as one of the faces of 21st-century Chinese creativity by none other than … Wang Huning.

"The Dark Forest," which continues the story of the invasion of Earth by the ruthless and technologically superior Trisolarans, introduces Liu’s three axioms of “cosmic sociology.”

First, “Survival is the primary need of civilization.” Second, “Civilization continuously grows and expands, but the total matter in the universe remains constant.” Third, “chains of suspicion” and the risk of a “technological explosion” in another civilization mean that in space there can only be the law of the jungle. In the words of the book’s hero, Luo Ji: The universe is a dark forest. Every civilization is an armed hunter stalking through the trees like a ghost … trying to tread without sound … The hunter has to be careful, because everywhere in the forest are stealthy hunters like him. If he finds other life — another hunter, an angel or a demon, a delicate infant or a tottering old man, a fairy or a demigod — there’s only one thing he can do: open fire and eliminate them.

In this forest, hell is other people … any life that exposes its own existence will be swiftly wiped out. Kissinger is often thought of (in my view, wrongly) as the supreme American exponent of Realpolitik. But this is something much harsher than realism. This is intergalactic Darwinism.

Of course, you may say, it’s just sci-fi. Yes, but "The Dark Forest" gives us an insight into something we think too little about: how Xi’s China thinks. It’s not up to us whether or not we have a Cold War with China, if China has already declared Cold War on us. 

The Three Body Problem is an excellent read and The Dark Forest follows on well from where it left off. The third book in the series, Death’s End, was too meandering for me and I did not finish reading it. For a non-Chinese reader, the names can be a bit of an obstacle but the story is compelling.

Quantitative Easing Is Strong Gold Tailwind. Gold is in the early days of resuming the bull market that started about 20 years ago, in our view. The financial crisis and inception of central-bank quantitative easing (QE) accelerated the metal's upward trajectory then, and we see parallels that are likely more enduring this time. Our graphic depicts the potential upside in spot gold toward $3,000 an ounce vs. about $1,770 on June 26, if simply following the trajectory of the G4 central-bank balance sheet as a percent of GDP. Central banks essentially printing money to spur inflation is a solid foundation for the benchmark store of value.

Gold bottomed at about $700 in 2008 and peaked near $1,900 in 2011. A similar-velocity 2.7x advance from this year's low-close near $1,470 would approach $4,000 by 2023. Rising Stock-Market Volatility a Gold Launchpad. If gold's relationship with equity volatility that's mean-reverting higher and the financial crisis is a guide, the metal has plenty more upside potential vs. downside risks. Our graphic depicts the 100-week moving average of the CBOE Volatility Index (VIX) bottoming from the life-of-index low in 2018, like it did in 2007 before the financial crisis and which accelerated gold's rally. There are potential parallels to about a decade ago. A key difference is the metal has had a substantial correction and appears to be in the early days of resuming a bull market.

A link to the full report is posted in the Subscriber's Area.

Gold does best with negative real interest rates. That occurs when interest rates are held down because of fears of deflation, like now, and it also occurs when inflation advances quicker than central banks are willing to raise interest rates. That’s a scenario that could easily unfold in future considering the long-term repercussions of massive civil unrest and debt monetisation.  

President Donald Trump and senior White House officials have said a payroll tax cut, liability reform, tax incentives for businesses to adapt to the pandemic and a potential back-to-work bonus are priorities for the administration.

Short said the White House views liability protections as “essential” for companies to bring workers back and fully re-open the economy.

The administration wants to be sure it’s “striking the right balance between income replacement on the one hand, and ensuring that we don’t have excessively high implicit tax rates on the return to work, on the other hand,” Tyler Goodspeed, acting chairman of the president’s Council of Economic Advisers, said in a separate interview with Bloomberg Radio.

Implicit tax rates can’t exceed 100%, he said, meaning it can’t be more lucrative for workers to stay at home. But any plan will require “not allowing a big blow to household income,” which is core to the economy, Goodspeed added.

Ohio Republican Brad Wenstrup, a member of the House’s tax-writing committee, said the package should address the ability of working parents to find childcare and helping schools to reopen.

“We have a shortage of day care providers,” he said in another Bloomberg Radio interview. “I am going to look for incentives for those type of programs.”

Congress in March passed a $2.2 trillion pandemic relief program, with carve-outs for small businesses and the airline industry as well as multiple lending programs for corporations and Main Street businesses through the Federal Reserve. Treasury Secretary Steven Mnuchin sent out nearly $1 trillion in the first month after that bill became law, through checks directly to American families, forgivable loans to companies and unemployment insurance.

Still, much of that money remains unused. The Treasury Department has yet to disburse any loans from a $25 billion pool for airlines, and most of a $17 billion carve-out for firms deemed critical to national security remains untapped.

The idiosyncrasy of how data sets are reported means the rebound in economic activity probably looks better than it is. If an historic decline occurs it will necessarily result in a deep decline. If the rebound from that low is in the order of 10% it will come through as an historic percentage advance and yet the absolute level of activity may still be well below the peak.

To some extent, technology can help meet these new challenges. The costs of data collection and analysis are falling rapidly thanks to Internet of Things and AI. Satellites and sensors, for example, can generate highly accurate real-time data. A broader corporate data strategy aimed at collecting social and environmental cost data, in addition to the well-being of employees and local communities, might help fill significant gaps in measurement. Useful new corporate reporting that details progress toward a broader business purpose means building the prerequisite data capabilities first.

Governments also have an opportunity to leverage data generating technologies to enhance feedback. More than 20 countries from Singapore to Sweden have “smart city” initiatives, demonstrating how better measurement through data can improve public safety and citizen services, albeit not without risks. The UK’s National Health Service has dozens of partnerships with leading technology companies analyzing the vast troves of patient data to support the provision of its services.109 And big data techniques have also proved a significant part of the policymaking process when fighting the COVID-19 pandemic. Countries that successfully implemented track and-trace techniques using smartphones fared better in managing the deadly outbreak.

An inflection point is approaching, driven by necessity. Our industrial-era metrics are misaligned with the needs of a knowledge-based economy characterized by widespread technological disruption. We are on the cusp of a significant change in the way societies make policy and conduct business. Companies will either evolve to realign with new values, or risk dissolving as their social contract is withdrawn. There is no looking back.

The way in which we collect data about the economy is deeply flawed. That’s a well understood fact but we have not yet come up with a more effective way of measuring economic activity and potential. The problem with changing the status quo is it would completely upend the way in which economies are managed. That might well be inevitable because the populist uprising that continue to  spread are challenging the establishment already.

“Are you able to create a Work From Home/Stay at Home index for you/us to track on a regular basis. Today has been another big day for many of these stocks with Shopify for example up another 7% in here today, clearing the $1,000 level, Netflix up 5%, Amazon 4%, Peloton up 4, DocuSign up 4, and Wayfair 11%! Regretfully I’m not involved in any of these as I can’t get my head around valuations. When will this madness stop?”

Thank you for this email which highlights the dilemma of many people on the side-lines of the broad market rebound. There is always a crisis of confidence for anyone who has missed a rebound and is presented with the choice of buying a breakout or waiting for a pullback. That is amplified during accelerations where the fear of missing out is weighed against the fear of sitting through a reversal.

When I read that high house prices are a problem for the younger generation, I wonder whether the historical context is considered. I bought my first house in 1974 and I finally paid off the mortgage on my current home in1999. Over the 25 years that I had a mortgage the lowest interest rate I ever paid was 10% and the highest was 15%. Yes, for a quarter century I paid 10-15% interest on my mortgage, which frequently used up more than half my monthly income. Many of my age group went through a similar experience. My wife and I hardly ever ate out, and our children were treated to many years of cheap camping holidays. I had little spare cash at any time until the mortgage was gone.

Do today's new home buyers have any idea how we lived and struggled with finances? House prices today mirror the very low mortgage interest rate and I suspect that very few (if any) 20-40 year olds are using 50% or more of their income to pay their mortgage as we did. Their money goes on things we could not afford and did not regard as essentials. It's a matter of priorities.

Thank you for this perspective which I’m sure will be of interest to other subscribers. The personal experience you highlight is a testament to what can be achieved through resilience and frugality. If more people were willing to practice delayed gratification we would be in the very different world. As I see it there are two important trends that the younger generation face relative to the older generation. These are disinflation and globalisation.

The path the FDA outlines is a long one. It’s going to take a while to recruit and enroll 30,000 people in a trial and give half of them two shots in the arm — as Moderna Therapeutics Inc. intends to do to test its candidate. And until a sufficient number of subjects in the placebo arm of such a trial contract Covid-19, there won’t be any firm results. Any number of variables could cause further delays: bad luck, a poor vaccine performance, or slowing case growth.

The FDA is by no means ignoring the urgency of the moment. Its guidance includes a variety of concessions on safety data and other issues that are meant to speed the process. But the world can be grateful the agency is willing to bend only so far.
 

Setting a high standard for a vaccine that will be administered to hundreds of millions of people is imperative. It is the minimum requirement to instill faith in the population that it is worth accepting. I have every expectation that the advances in genetic sequencing and editing will deliver a positive result this year and that a true second wave will be avoided.

The impatience many people feel is perhaps the biggest obstacle to containing the spread before a vaccine has been delivered. I even find myself being less vigilant now than I was a few months ago. That is despite the massive swell of community spread and the greater likelihood of contracting it as a result. That’s a good example of how even the most extreme situation can assume an air of normalcy after a relatively short period of time. That’s one of humanity’s greatest survival instincts, although it is not especially helpful in the short term.

A link to the full report is posted in the Subscriber's Area. 

The biggest existential question in financial markets today is how likely are global interest rates to trend towards zero in aggregate. To date the Anglosphere countries have been adamant in their determination to avoid negative interest rates.

However, there is no avoiding the fact that interest rates are falling all over the world. Additionally, Poland, Ghana, Philippines, Chile, Turkey, Colombia, Thailand, South Africa, Egypt, Hungary, Romania, Indonesia and South Korea are all now engaged in quantitative easing.

Occidental Petroleum Corp. and Anheuser-Busch InBev SA/NV are seeking to buy back bonds through separate tender offers launched Thursday. Both are targeting debt due in the next three years.

Companies are seeking breathing room on debt payments as they contend with lower earnings amid the coronavirus outbreak, threatening to push leverage even higher. Credit raters are running out of patience: Occidental, already one of the largest fallen angels of this cycle, may be cut again by Moody’s Investors Service and S&P Global Ratings, while AB InBev was recently downgraded by S&P with a negative outlook.

Both companies largely amassed their massive debt loads by funding acquisitions. Much of Occidental’s nearly $40 billion of debt came from borrowing to help finance its takeover of Anadarko Petroleum Corp. last year, while AB InBev’s roughly $103 billion of obligations mostly stems from its purchase of SABMiller Plc in 2016.

While some firms are looking to buy back debt outright, others are pursuing different liability management exercises to push out maturities. Rite Aid Corp. launched a $750 million exchange offer Thursday, while Macy’s Inc. initiated one earlier this week. They’re also trying to amend certain covenants through what are known as consent solicitations.

Corporate debt issuance has surged over the last three years to a new all-time high and combined total of $2.4 trillion in only a couple of months. That is all aimed at ensuring they have enough capital to see them through a particularly uncertain period.

Right now, our model thinks Joe Biden is very likely to beat Donald Trump in the electoral college.

No President in modern history has been more stock market friendly than Donald Trump. Since he won the election in 2016, the Nasdaq-100 has doubled. The fiscal stimulus, tax cuts and tax holidays on foreign income, regulatory roll backs and championing of the stock market have all contributed to positive returns. The simple fact he has continually pointed to the strength of the market as vindication for his policies is a clear sign of his efforts to boost sentiment.

The International Monetary Fund downgraded its outlook for the coronavirus-ravaged world economy, projecting a significantly deeper recession and slower recovery than it anticipated just two months ago.

The fund said Wednesday it now expected global gross domestic product to shrink 4.9% this year, more than the 3% predicted in April. For 2021, the fund forecast growth of 5.4%, down from 5.8%.

Having already warned of the biggest slump since the Great Depression, the IMF said its increased pessimism reflected scarring from a larger-than-anticipated supply shock during the earlier lockdown, in addition to the continued hit to demand from social distancing and other safety measures. For nations struggling to control the virus spread, a longer lockdown also will take a toll on growth, the IMF said.

“With the relentless spread of the pandemic, prospects of long-lasting negative consequences for livelihoods, job security and inequality have grown more daunting,” the lender said in its update to the World Economic Outlook.

Last night, Mrs. Treacy was looking at flights to China and Japan for sometime in August. The rates are attractive, until you realise it is impossible for a non-national to enter. The borders are closed. That’s the challenge with the rolling wave of infections all over the world, cases flare up in one area and countries on the other side of the world are forced to take precautionary measures. It is probably going to be months before borders open and even then, it will take time for sentiment to recover. Until that happens only the most necessary of travel is likely. That has a knock-on effect for every sector that demands on travelers is likely to remain significant for the foreseeable future.

The analysts, led by chief investment officer Mark Haefele, said three narratives were currently driving markets; the ‘Fed story’ — ongoing central bank stimulus — the second-wave story, and the U.S. election story. Fears of a second coronavirus wave have come to the fore in recent days, with spikes in Beijing, Germany and a number of U.S. states. The UBS team said that U.S.-China tensions fed into the election narrative, which would come into focus over the next four months.

“Overall we see the second-wave and U.S. election stories as contributing to market volatility as headlines feed investors’ hopes and fears about the speed and strength of the economic recovery. But it is the Fed story that will endure over the medium term,” they said in a note on Monday. They said they were positive on the outlook for both equities and credit, preferring USD high yield, Asian high yield and USD-denominated emerging market sovereign bonds as well as stocks in sectors that have so far lagged behind the market.

“Against this backdrop, we think the most important thing an investor can do is to be invested, rather than sitting on the sidelines. As earnings are likely to recover in the second half of the year and excess liquidity continues to support risk assets, we see further upside potential in global equities, in particular among sectors that have lagged the rally so far,” they added.

Monetary policy beats most other factors most of the time” was one of David’s favourite sayings and it has certainly helped to inflate asset prices over the last 12 years. The process began another upward cycle when the Fed reversed its quantitative tightening program last year in response to the illiquidity in the repo market. It went into overdrive when following the imposition of the lockdowns.

After watching your latest insightful and thought-provoking long term take on the markets, I noticed on Friday there were daily downside key reversals both for the Dow Jones Utilities and Transportation indices. Could this be a straw in the wind for the main US indices?

Thank you for your kind words and this question which may be of interest to other subscribers. For a key reversal to occur, we need to see a new high reached for the move, only to be reversed and for the market to fall and close below the low of the previous day.

Questions like these can’t tell us for a fact whether an advance has been reasonable and current asset prices are justified. Buy they can assist in that assessment. They lead me to conclude that the powerful rally we’ve seen has been built on optimism; has incorporated positive expectation and overlooked potential negative; and has bene driven largely by the Fed’s injections of liquidity and the Treasury’s stimulus payments, which investors assume will bridge to a fundamental recovery and be free from highly negative second-order consequences.

A bounce from the depressed levels of late March was warranted at some point, but it came surprisingly early and quickly went incredibly far. The S&P500 closed last night at 3,133, down only 8% from an all-time high struck in troubled-free times. As such, it seems to me that the potential for further gains from things turning out better than expected or valuations continuing to expand doesn’t fully compensate for the risk of decline from events disappointing or multiples contracting.

In other words, the fundamental outlook may be positive on balance, but with listed security process where that are, the odds aren’t in investors’ favor.

The rise of earnings-agnostic investing has been a trend which has defined the bull market since 2008. Every major bull market thrives on a financial innovation. It would be tempting to think that in this case it was cryptocurrencies, but the answer is probably more mundane. ETFs have enabled factor investing and promoted the acceptance of Modern Monetary Theory. They have allowed companies like Blackrock and Vanguard to become titans of Wall Street on the back of value-agnostic investing.  

A link to the full report is posted in the Subcsriber's Area. 

There is a solid argument that the coronavirus lockdown is this generation’s Y2K. Back in the late 1990s there was a real fear electronics would stop working when the date ticked over into 01.01.2000. It prompted substantial investment in additional tech infrastructure and accelerated the rollout of the internet.

Bailey said that while the overall output is holding up better than expected in May, there’s probably worse to come for employment. Jobless claims have risen sharply and the number of workers on the government’s furlough program is higher than the BOE had anticipated.

“We certainly do see signs of activity picking up,” Bailey said. But “we also have quite a strong focus on the labor market,” where the data are “quite mixed.”

The new pace of bond purchases means the total QE target of 745 billion pounds should be reached around the end of the year, and the bank didn’t indicate a possible extension into 2021.

The UK missed the narrow window to get ahead of the virus and instead has had to deal with a prolonged period of uncertainty where economic statistic volatility is creating a great deal of uncertainty. The massive decline in GDP reported last week is likely to be countered by an historic rebound which benefits from the low base effect when it is next reported.

A link to the full report is posted in the Subscriber''s Area.

There is no question that the pace of market action has picked up. We had the quickest drop from an all-time high in history and one of the swiftest rebounds in history. On top of that, the Federal Reserve has morphed from being reactive to proactive. In so doing its actions are pre-empting weak economic figures which has helped to support asset prices.

After the recovery from the 23rd March lows (supreme irony: the very date that many countries went into social and economic “lockdown”) and the -6% mini-crash last Thursday, we see stock markets as being in a redistribution phase as “shareholder regret” kicks in. Nervous Nellies who regret holding equities will either exit altogether (“phew, I’m out!”), or switch money into “cheaper”, lagging sectors like banks, oils, real estate, airlines. Optimists will do something similar except that they’ll be more inclined to hold onto the quality (tech, healthcare, FMCG) that has stood them in good stead. These bulls will regret not holding lower quality sectors if their relative outperformance starts to slip. So lower quality could out-perform higher quality for a while. But….Caution!

A man-made Frankenstein (Modern Monetary Theory, which means hiring monetary policy to do the job of fiscal policy) is ringing an early bell for “stagflation” (low growth plus inflation). There may not be enough global demand or monetary velocity to revive stagflation…..yet. But survivors of the 1970s know what this implies for portfolios at the end of the day: inflation-proof growth equities, index linked bonds, real assets and……gold.

We are at a very interesting point in the market. There are completely different ways of looking at the market. For those who are long, the clearest rationale is $10 trillion has been thrown into the global market and more is on the way. One way or another that is going to inflate asset prices.

A link to the full note is posted in the Subcsriber's Area. 

There is probably no more important question than in which direction bond yields are likely to move. Is the Anglosphere moving increasingly towards negative yields or are we on the cusp of a revolt which will see interest rates rise?

Liberal-market economies

Countries with liberal-market economies face greater short-term risks than do those with coordinated-market economies but have greater flexibility for long-term dynamism. The group includes Australia, Canada, the United Kingdom, and the United States. A key feature here is a limited framework of preexisting measures to protect households—the countries in this archetype spend 17 to 20 percent of GDP on social protection. Their economies skew more heavily toward big corporations than do those with coordinated-market economies, with a comparatively smaller role for SMEs, and flexible labor policies are dominant.

The limited degree of automatic coverage for workers and businesses drives a focus on emergency support-of-wage bills for companies and direct transfers to individuals. More companies will fail in such economies, and the reliance on massive cash transfers in those countries will increase the pressure to build a robust digital infrastructure. However, creative destruction in the least resilient sectors will provide more flexibility to pivot and emerge from the crisis stronger and more competitive, provided that economic shutdowns do not last too long, as unemployment can become sticky, driving up costs and dampening consumption in the longer term.

The clear message coming through from central banks is there needs to be additional and considerable increases in fiscal stimulus to put money in people’s pockets. That is a priority to both quell popular protest but to also reinvigorate demand.

European Central Bank Vice President Luis de Guindos said policy makers at the institution haven’t talk about creating a pan-European bad bank to manage the unpaid loans that are arising during the coronavirus crisis.

“We haven’t had any sort of serious discussion about this instrument,” Guindos said at a webinar hosted by the Institute of International and European Affairs

“I am a little bit surprised when I see this kind of information,” he said in response to a question about a report published by Reuters

Bad banks created after the last financial crisis in Ireland and Spain were “powerful instruments to clean up the balance sheets” of lenders

The potential for the EU to create a bad bank which would warehouse the large number of legacy and new bad debts is certainly a promising potential solution to the region’s systemic problems. Creation of a pan Eurozone body to issue debt and absorb regional debt would represent a significant step towards federalism. It would, however, be a massive step towards recapitalising bank balance sheets.