From: allin
The current market landscape presents an “interesting, challenging enigma” with a significant divergence in asset performance [09:16]. This unusual divergence has prompted market commentators, analysts, and economists to analyze underlying causes and potential future implications [09:31].
Current Market Indicators
A key observation in the markets includes:
- Bonds Falling: US Treasury yields have spiked, with the 10-year yield rising over 4.25% after nearly dropping to 3.5% in September [09:38]. This is despite a large 50 basis point rate cut [09:54].
- Gold Prices Spiking: Gold, traditionally a safe asset, has seen an “incredible runup” from around 2,750 an ounce, making it one of the best-performing assets of the year [10:03].
- Equities Rising: Despite typical pain in equities during such market conditions, the S&P 500 has risen considerably, reaching all-time highs [10:22].
- US Dollar Strength: The US dollar complex is thriving, indicating a strong dollar [11:01].
- Backend Yields Rising: Longer-term bond yields are on the rise [11:13].
- Put/Call Skew in Bond Market: There is a significant ownership of puts over calls in the bond market, indicating an expectation of falling bond prices [11:15].
Theories Behind Market Behavior
Political Influence: Presidential Election Outlook
One perspective suggests that the entire financial infrastructure of the world is repositioning itself from a toss-up election to an anticipated Trump victory [11:31]. This theory posits that the Trump economic plan is expected to drive better growth, which would likely lead to more inflation and a higher risk premium [11:55]. This outlook could explain why gold, Bitcoin, and equities are projected to rise, while long-term rates would also be pushed higher [13:00].
Federal Reserve Policy Critique
An alternative interpretation attributes the market shifts less to the election and more to the markets’ disapproval of the Federal Reserve’s rate cut on September 18th [15:38]. The 50 basis point cut was seen as too aggressive, especially given that similar large initial cuts in 2001 and 2008 preceded major recessions [15:53]. At the time, the Fed’s rhetoric suggested the economy was performing well, making a large cut seem contradictory [16:21]. Concerns persist that inflation is not fully “whipped” and that the Fed might have to pivot from the pivot and raise interest rates again [14:51], leading to a period of “higher interest rates for longer” [40:38].
US Fiscal Picture and Global Leverage
The markets are also reacting negatively to the long-term fiscal picture of the US [16:57].
- Soaring National Debt Interest: Interest payments on the national debt have become “absolutely parabolic,” reaching a run rate of 3,500 per American [17:01]. This amounts to 20-25% of federal revenue now going towards debt service [17:21].
- Global Debt Crisis: Total US household, corporate, and government debt amounts to 4 trillion per year in interest payments, or 15% of every dollar traded [22:11]. This problem is not unique to the US, with countries like the UK, France, and Brazil facing their own budget crises and accelerating inflation [22:47].
- China’s Role in US Treasuries: China, historically the largest buyer of US treasuries, has been selling off its holdings and buying gold instead, returning to levels seen nearly 15 years ago [24:30]. This raises the question of who will buy US debt in the future [25:01].
- Inevitable Debt Monetization: It is increasingly seen as inevitable that the Federal Reserve will need to buy (monetize) the debt, meaning printing more money. This would further fuel inflation [24:18].
Investment Strategies in an Inflationary Environment
Given the outlook of potential inflation and higher rates, investment discussions highlight:
- Avoiding Treasuries: There is little desire to own US bonds given low yields and looming inflation or debt crises [39:49].
- Gold and Bitcoin as Hedges: Both Gold and Bitcoin are considered long-term inflation hedges [13:10]. Paul Tudor Jones, a financial legend, is long both gold and Bitcoin, believing “all roads lead to inflation” [14:06].
- Commodities: Commodities are seen as “ridiculously under owned” and a good investment [14:16].
- Equities: Equities are generally an inflation hedge because companies can raise prices. However, if a period of high interest rates for longer materializes, it could be “bad for equities” [40:47]. Conversely, if central banks monetize debt, this influx of capital could drive both equities and gold up, even as fixed income goes down [41:11].
- Commodity-Linked Businesses: Investing in businesses whose revenue or profit grows with underlying commodity prices (e.g., mining, agricultural traders) is suggested as a strategy that outperforms others in inflationary cycles [42:03].
- Market Valuation Concerns: Indicators like the Buffett Indicator (Wilshire 5000 divided by GDP) and the Price-to-Earnings (PE) ratio are at historic highs, suggesting that equities are likely to be cheaper in the future [43:05].
Era of Consequences
Since 2008, the US has experienced a “consequence-free environment” with low interest rates, normalized trillion-dollar deficits, and quantitative easing by the Federal Reserve [46:13]. However, this may be ending, ushering in an “era of consequences” where trade-offs are inevitable [47:07].
- Inflation vs. Fiscal Discipline: If higher inflation is allowed (via debt monetization), bond markets will demand higher interest rates on government debt, which would negatively impact equities, real estate, and home values [47:20]. Alternatively, tackling inflation would require the Fed to tighten, forcing the government to curb spending and “get religion around spending” [47:43].
- Austerity Measures: The example of Argentina’s President Javier Milei shows how slashing government spending can reduce inflation but also cause the economy to shrink and unemployment to spike [49:37].
- The US Dilemma: The Federal Reserve has a mandate to keep unemployment low. However, high federal debt means that cutting spending too fast could cause unemployment to spike, while not cutting spending could lead to sustained inflation [50:18].
- Economic Plans and Market Impact: It is argued that a Trump economic plan is viewed by markets as more stimulative to long-term economic growth, leading to hedging against inflation risk, while a Harris plan is seen as more immediate spending [51:36]. Reducing government spending could unlock resources for the private sector, potentially stimulating it, especially in a full employment economy [52:53].
- Political Implications: The current political climate, characterized by inflammatory rhetoric, poses challenges for national reconciliation regardless of the election outcome [58:39].
The long-term outlook highlights the need for significant fiscal adjustments and strategic investment decisions in an increasingly leveraged global economy [23:59].