Markets have either decided that the Fed will soon capitulate or had simply put so much money on one of the boat it had to tip the other way. Though the US financial media are framing it as rip in US stocks, it’s a very narrow view … so far this week virtually everything that trades in real time markets is up in dollar terms … bonds, stocks, other currencies, cryptocurrencies, and commodities from gold to silver to copper to platinum to oil. The rally in non-US stocks even exceeds the rally in US stocks.
As we have observed before, when you see virtually everything you price in any unit move together, you have to either posit some kind of spooky metaphysical conspiracy or conclude the real action is in your pricing unit, in this case the US Federal Reserve Note, the world’s most widely held and traded security. Financology, as readers know, favors the Occam’s Razor approach of the latter.
This poses a problem for its issuer, which has been pushing hard against the delayed effects of its plunge in 2020-2021, which became painfully obvious in consumer prices in 2022. It has come under tremendous pressure however to relent as the effects of its efforts are causing pain for those short dollars (in debt) … a very large constituency.
What to do now? If you accept the story told by Fed officials – that it will not soon relent – then you will want hold onto your dollars as this will soon pass. If you accept the story told by Wall Street – that the putative policy “pivot” is near, then you want to own other assets like stocks, bonds and commodities. If you’re not sure, you’ll want to do some of both.
I’m firmly in that last camp, but for reasons of record continue to think the Wall Street view is more wishful thinking than calculated rationality.
2 thoughts on “Dollar Down”
>”…so far this week virtually everything that trades in real time markets is up in dollar terms … bonds, stocks, other currencies, cryptocurrencies, and commodities from gold to silver to copper to platinum to oil.”
Add to the list of assets that went up in price over the past two days barrels of aging Scotch whiskey. It truly is an all-assets-up situation after the previous week of all-assets-down.
Nouriel Roubini makes mention of all-asset correlation and, if I read him correctly, he’s predicting a 30% – 40% drop in equities unless the central banks somehow manage a soft landing, which he states is very unlikely.
If the Project Syndicate link doesn’t work, the entire article has been posted to ZeroHedge:
I am scratching my head on why bond prices go up when the central banks ease considering we are in an environment of pretty high inflation. Easing monetary conditions–especially in light of the never-before-seen ugliness of the central banks’ balance sheets–would seem to me a sign that currency is going to lose a lot of purchasing power and thus bonds should fall in price (yields go higher) to compensate for the loss of purchasing power.
I have the strange suspicion that bonds are terribly mispriced to the high end and the movement in bonds is muscle-memory based on what worked in the past two crashes. While I suspect we will see bonds increase in price over the next year or two, it’s very difficult for me to accept that holding bonds for a long-term investment at current prices is a good idea.
Let’s deconstruct the asset correlation phenomenon.
Measure the square footage of your house with a rubber ruler. Stretch the ruler out a bit, and measure the house again. Presto your house shrunk.
Next go to measure the size of other things. You find the neighbor’s house shrunk. The length of your street shrunk. Your 40 foot boat is now a 35 foot boat. You find you’re even a couple inches shorter.
A typical financial analyst “explains” this by saying the size of all these things became “correlated”. Financology says nonsense; you’re playing with a rubber ruler.
This in a nutshell is what has happened in the asset markets this year. Prices fell in USD, but most of the movement has been due to an appreciating USD. The ruler got stretched. How do we know it was the ruler? Because the price movements occurred across so many disparate assets. Just like with the house and the street and the boat and your height, you can conclude that they’re all correlated … which lets you sound smart, but tells you nothing … and begs for some spooky metaphysical conspiracy theory as to how they all colluded to go “all together now” … or … you can conclude that these common movements are artifacts of your flaky ruler.
This also helps explain how bond prices could “go up” despite having every reason for doing the opposite. If bonds go down but dollars go down more, bond prices go up. But we’re at risk of mixing issues here … are we talking about return prospects over the next few quarters … or over the next several years? One can easily be a bull on one count and a bear on the other without fear of cracked integrity.
Another crucial point for investors to bear in mind: Selecting only those assets with good return prospects is an unworkable approach to investment. What if they’re all lousy? In other words, if somebody tells me how stocks have poor prospects, that’s not helpful. The next guy might tell me the same thing about bonds. And the next about real estate … etcetera.
We just don’t have the luxury of discarding investment options because they have weaknesses. We’re stuck with a finite menu and the best we can do is compare the selections with each other.
So the real question about bonds is not whether they’re a bad investment, but what is a better one. Or still more realistically, how they rank among the alternatives, and ultimately how much weight each asset class should receive in your investment portfolio.
But wait … if everything looks bad, then maybe the best thing to do is not invest at all. Just sit in cash. USD. But this is only an exercise in self delusion. You’re still invested in a security. If you want to claim you’ve sidestepped the game, I will ask you to prove that your choice doesn’t go up and down like everything else. But you can’t … the best argument you can come up with is the circular tautology that a dollar is always worth a dollar. To see what happened to the dollar, reverse the calculus.
In investing, the only choices you have are the ones on the menu. There’s no “null” option … forget winning, you can’t even get out of the game. The only alternative is to take a vow of poverty and join the brotherhood.