LYN ALDEN: My name's Lyn Alden of Lynn Alden
Investment Strategy and I'm here to talk about my outlook for 2021 and beyond, as well as
how it can affect various asset classes ranging from currencies to commodities to equities
and even into Bitcoin. The Dollar-- since October of 2019, I've been
in a dollar bears camp, which is-- basically, after we got the reboost spike in September,
I put out a public article explaining my longer term dollar bearish view. And so if you take a step back-- if you look
back over the past 50 years of the dollar index-- ever since it became free floating
in the 70s-- we can see that there's been three really big dollar spikes and dollar
declines. And most of those were based on either intentional
movements or big shifts in monetary policy. And so we had the big giant spike in the mid
1980s, then we had another big spike in the late 90s, early 2000s. And then we've had this third spike ever since
quantitative easing ended in late 2014, early 2015. We've been in a strong dollar environment
ever since. And so my base case starting from that late
2019 period where the dollar index was in the upper 90s-- like around 99-- was that
we were likely beginning the third major decline. So we're probably ending this current period
of dollar strength. And so we got a little curveball obviously,
in the early part of 2020 because we had the pandemic. And so we got that-- we temporarily had that
spike. But then we had all the policy response that
I was anticipating. And then since then, we've had a very sharp
dollar decline. As of today we broke below 90 in the dollar
index. And so one of the big concerns now is if a
trade goes your way, it becomes a crowded trade. And then the question is, do you stick with
it? Or is that trade over now? And so I think a really important part of
answering that question has to do with making sure you establish you time frames. And so I don't have a strong view about the
dollar over the next three to six months because it is true that we've come down pretty far
pretty fast. It's a pretty consensus view that the dollar
is going to weaken. And we have a variety of unknowns as we enter
the new year. So we have, what's going to happen with stimulus? What's going to happen with the vaccines? What's going to happen with rent, evictions,
things like that? And so we still have-- as many people on Real
Vision have pointed out-- a solvency crisis. Right? So we still have this broad solvency question. And so I don't have a strong view of the next
three months or so. But as we look deep into 2021, I still have
a pretty dollar bearish outlook. Because if you look at how these dollar cycles
normally end, they do tend to be pretty spectacular in their declines. So if you look at the monthly chart over the
past 50 years, we're not even oversold yet on the monthly chart. So I think until we kind of reach a pretty
sharp declines that I still remain in a pretty dollar bearish long-term camp. And I think a key level to watch is probably
88 on the dollar index because that was the low over the past several years right before
we had quantitative tightening that pulled it back up. And so that's a potential support level. So I wouldn't be surprised to see a bounce
or some sort of temps. We also can look at the dollar compared to
the euro. There are certain key levels there. But if we break below those, I think there's
still room for more declines. If you look at the long term dollar cycle,
we can identify reasons for some of the shifts to happen. There's kind of the self reinforcing mechanism. And so when the dollar gets very strong, a
couple of things happen. One is you start to get a global slowdown
because emerging markets with all their dollars on their debt. They start to have currency crises, recessions,
sometimes depressions. And that of course trickles out into the developed
world. And in addition, we start to see that because
of that tightening, foreigners buy fewer Treasuries. And so that-- RAOUL PAL: Hi, I’m Raoul Pal. Sorry to interrupt your video - I know it’s
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it. LYN ALDEN: And that of course trickles out
into the developed world. And in addition, we start to see that because
of that tightening, foreigners buy fewer Treasuries. And so that the treasury market-- it has to
become more domestically funded. And so we get tightening conditions. And so eventually what happens is we end up--
corporate profits go flat in dollar terms during all these strong dollar periods. And we start to get a declining GDP growth,
some sort of tightening. And then usually it forces the Fed to become
more dovish and supply more liquidity. And so when the Fed shifts to a more dovish
policy, at a stage where the dollar is mainly propped up due to offshore dollar shortage,
due to tight monetary conditions, it has a lot of room to fall after that, especially
because the United States runs persistent current account deficits. And then so it's natural status is to want
to fall. But it's held up by all this offshore demand
for it. And so when you get those big shifts in monetary
policy, it does tend to fall pretty hard, pretty fast because a lot of the conditions
that were specifically holding it up are relieved and even reversed. So if you look at this current dollar cycle,
the dollar strength began when quantitative easing ended in late 2014. And we've been in a strong dollar environment. Even the second leg of it, we started to get
restrengthening back in 2018. That was due to quantitative tightening. But ever since we had the Fed shift to a balance
sheet expansion in late 2019 in response to the repo crisis, we've been in this trend,
of course, with the exception of the pandemic. Views on growth, inflation, interest rates,
and liquidity-- so as we get towards, especially the second half of 2021, a lot of the economic
indicators look pretty favorable. And so if the vaccines are successful some
people hope if consumer-- whether or not-- however they function-- if consumers just
get more open, if governments stop doing lockdowns, we could potentially see an increase in travel,
increase in energy usage. That, of course, is coming after. There have been a lot of capex cuts in the
energy space. And so you're likely to see potentially higher
commodity prices. And we've had so much broad money supply expansion
that if you get past this current deflationary shock, it's also possible you see an uptick
in inflation potentially above the Fed's 2% long term goal. And if you look at how they've signaled in
recent FOMC meetings, the Fed is not too strongly interested yet in directly controlling the
long end of the treasury curve. So they are buying a large amount of treasury. So they're taking a lot of excess supply off
the market, but they're still-- and they have of course, the lower end of interest rates
fixed roughly at 0. But there appear to be rates of the long end
of the curve do its own thing given that they're already, of course, taking a lot of the excess
supply off the market. And so I wouldn't be surprised to see rising
long end of the curve next year, as well as an uptick in growth, especially later in the
year. I think we still have to get past the challenging
winter where we have this big unknown. So I think it depends on how you want to trade
around that. Or does it establish a long-term position
being able to ride through volatility. The challenging part about estimating the
next three to six months is that you're basically trying to assume how policymakers are going
to respond. And so we're all watching to see what happens
with congressional stimulus for example. And so that's a pretty binary outcome. If you don't get the stimulus, then the solvency
crisis becomes much more acute. If you get the stimulus, for many people that
holds off the solvency crisis because monetary policy can only address liquidity, whereas
fiscal policy can potentially address solvency, especially for the edge cases that are kind
of borderline and getting stimulus checks or getting some sort of aid can potentially
get them through. And so we're looking at how Congress is going
to do with fiscal stimulus. We're also going to see if the Federal Reserve
maintains liquidity conditions. So for example, with so much treasury issuance
expected, while the Fed is not really committing to higher treasury purchases or buying more
in the long end of the curve, that could potentially actually squeeze liquidity because even though
the Fed is buying a lot of Treasuries, they're not buying more treasuries than are issued. And so it is important that they did a signal
that they're potentially willing to buy more treasuries. So they change their language in the latest
FOMC statement press conference to buying at least $120 billion a month of treasuries
and mortgage backed securities combined. And so the Fed does seem aware of that liquidity
issue. They certainly don't want any sort of crisis
into year end. And so they do seem to be on track to purchase
as needed, but it's not necessarily going to be super liquid because they're mainly
just keeping up with treasury issuance rather than frontrunning that. One thing to focus on is there's a lot of
kind of temptation to chase some of the junkiest companies because if you get that rebound
in growth, some of the most explosive gains can come from some of the weakness areas of
the market. However, I like to emphasize quality here
even going into some of the more cyclical, some of the more challenging spaces, to find
some of the best operators, the least leveraged players in those spaces. And that's because the fiscal authority can
address solvency issues but only up to a point. I mean, they're not going to bail everyone
out. And so they're focused on making sure that
the overall system remains solvent, that there's not some sort of deflationary collapse, that
there's not some massive spike in civil unrest. And so they're addressing the minimum needed
to keep the system stable in that sense. So potentially heightened consumer bail outs,
some degree of small business, or additional corporate aid. And so you see that around the edges they
take some of the blow off of the solvency crisis playing out. But it can't necessarily save the weakest
firms, the most over levered firms, the one whose business models are structurally or
permanently damaged. And so I'd be very cautious about chasing
some of the weakest names and definitely stick to the more solvent things that can definitely
get past the next six to 12 months that are structured in such a way that if you're looking
at energy for example, ones that can maintain solvency even at low energy prices. If you're looking at some of the more cyclical
industrial companies-- the ones that are least leveraged, best managed-- because they're
still, I think, potentially a good amount of value to get from those spaces. Another thing to keep in mind is that we've
had a pretty strong run in a lot of these value stocks over the past six weeks or so--
or up to eight weeks when this airs. And so it's important to kind of separate
the long term from the short term. So a lot of these names could be near-term
overbought, even though if you zoom out and look at the five-year chart, the 10-year chart,
many of them are still below where they were a couple years ago. So I still think that if you look out three
to five years, some of these value names have pretty good room to run. But that doesn't mean they're necessarily
going to run in a six-month window, especially when they've already come pretty far pretty
fast. How Lyn's macro thesis shapes her investment
outlook. LYN ALDEN: My overall portfolio positioning
is still somewhat towards value-- internationals, equities, and commodities in general. And so I got pretty bullish on energy this
summer when it was really washed out. But rather than buy the absolute "bottom of
the barrel" shell companies, I've been emphasizing low-cost producers, strong balance sheets,
high-quality management that historically gets through the bear markets pretty well,
as well as some of the energy transporters that are-- they're less commodity-price sensitive. And so as long as there isn't a sharp reduction
in production, they can do pretty well, and they can continue making profits on their
fees and the volumes that they transmit. And so same as value stock. For example, I've been cycling into some of
the luxury makers, some of the industrials. And now, the challenge, of course, is that
in the past two months or so, they have come pretty far pretty fast. And so I think it's important to manage expectations
about what they can do in any six-month period. But I think looking out over the next several
years, in this earlier part of a business cycle after you get this big economic shock,
usually, some of those more cyclical plays tend to do better. And especially if you compare them to tech
stocks, many of them have been bid up to very high valuations because investors didn't know
what else to invest in. There's a broad solvency issue playing out. And so long bonds and very long-duration,
high-growth tech stocks were bid up to very high levels, whereas I think some of that
is likely to unwind. And there's much more interest in some of
these foreign equities, value equities, as well as in the commodity space. And so we've had a correction consolidation
in gold and silver over the past several months. And I think it's possible that that's ending. I still remain bullish on those with a 2021
outlook, especially on silver. In addition, I'm bullish on uranium. And of course, I've been pounding the table
on Bitcoin this whole year. And even though we've had a pretty strong
run there, I still remain quite bullish on Bitcoin with a 12-month view through 2021
if the dollar does continue to weaken. Say we'll see what happens when the dollar
index gets around 88 or how the dollar compares to some key levels in the euro. But if the dollar were to continue to weaken,
especially against emerging market currencies, that's historically pretty good for commodities
for two reasons. One, of course, is that commodities are generally
priced in dollars. So if you get a weaker dollar, that's beneficial
for their dollar price. In addition, that weaker dollar tends to be
good for emerging-market growth, which is-- that's where most of the population is. That's where a lot of the commodity consumption
is. That's where a lot of the global economic
growth comes from. And so if you get that uptick in emerging-market
performance later in 2021, that could be very beneficial for many types of commodities. And of course, they all have their own unique
differences. So the reason copper has done very well this
year because there never really was a big supply glut for it in the first place. And so after the initial volatility it had,
it's performed very well. In addition, you've had some supply reductions
due to unrest at some of the mines or closures of mines. But of course, in the energy space, we've
had a long period of oversupply. And so that's taking much longer to work out. In addition, we've seen some life out of uranium. The interesting thing about uranium, of course,
is that it's on its own supply/demand characteristics. It's not really tied to global growth. It's operating on its own cycle. So it's a nice diversifier. And so as those forces play out-- the combination
of a weaker dollar and then the global growth that can come from that-- it just tends to
be, historically, a very strong period for commodities. And if you look at key charts, like equities
versus commodities ratio, that's bottom level. Commodities have been terrible performers
for the past several years. And so if you were to get that true rotation,
commodities potentially have a lot of runway ahead of them compared to some of the high-value
tech stocks or some of the broad-equity indices in general. And for Bitcoin, in particular, Bitcoin, of
course, is-- it's like uranium. It's on its own cycle. It's doing its own thing. It can still be impacted by liquidity shocks,
other things like that. Pretty much every asset went down in March,
for example. But for a multi-year view, Bitcoin tends to
be very correlated to its four-year supply-having cycle. And so my bullish case, since April of this
year, is that Bitcoin is likely to do well through 2020, and likely to continue to do
well through 2021. And it could potentially get more overbought
than people think. And so we've had a really strong- - we're
now-- as of this recording, we're over 23,000. But of course, it's volatile. So we could give up those gains tomorrow,
or we could go up another 50% in a week. Who knows? But I remain pretty bullish on Bitcoin through
2021 because it's accessible for consumers around the world. We're starting to see more institutional interest
in it, both from hedge funds-- even from some insurance companies. And so I still think that's a very strong
emerging asset class to consider and that it's, in some ways, risky not to have at least
some in a portfolio as a hedge. How reflation will affect tech and value stocks. LYN ALDEN: So if you look at how the equity
market generally behaves compared to the business cycle, 2020, of course, has been a very unusual
year. And so we've had one of the worst economic
shocks in history while the S&P 500 reached new all-time highs this year. However, if you separate out the big tech
stocks and look at some of the more value sectors, they behaved generally like you'd
expect in a recession. So of course, we had very bad performance
in banks, energy stocks, industrials-- things that are more cyclical that are more tied
to the actual real economy. Tech stocks have soared for a variety of reasons. One is, rather than being harmed by the pandemic,
they actually benefited from the pandemic in many cases. And even the ones that didn't benefit-- they
at least weren't harmed. Their cash flows were essentially intact. In addition, we had, of course, interest rates
come down to historically-low levels. And so whenever you have a company that most
of their-- if you look at their expected long-term cash flows, if a lot of that is out in the
future at very high growth expectations, that it's very sensitive to the discount rate you
use or the interest rate that you're assuming, whereas value stocks tend to have their cash
flows more forward because they're trading at lower valuations. But they have lower growth. And so if we do get a rising-rate environment,
that tends to be harmful for some of those really highly-valued, growth-oriented equities
and tends to be less harmful for value stocks, especially because they're tied to rising
inflation expectations, rising growth levels. And of course, banks, in particular, benefit
from a steeper yield curve. And so if you were to get that dollar weakness,
that uptick in interest rates, or at least just a leveling out of interest rates, that
tends to be pretty good for more value-oriented stocks as well as more international-oriented
equities. Because I focus on the individual equities,
I'm able to separate out stocks that I think are still attractive, even in a sector that
I'm not particularly interested in. And so despite the fact that I'm cautious
about high growth, or tech in general, I still think there are some areas that are better
than others. And so some of the more bubbly areas I've
seen are in anything renewable energy related, electrical vehicle related. Some of those stocks have gone absolutely
parabolic, despite the fact that their fundamentals haven't really changed over the past 12 months. And so I think there's a lot of caution to
be warranted in some of those sort of companies. In addition, IPOs are showing a lot of activity
similar to the late '90s. Replace the IPO with the SPAC. Look at the percentage of them that are profitable. Look at the price-to-sales ratios, things
like that. We're seeing a lot of euphoria in the IPO
market. And so I'd be very cautious about some of
these no-profit, hyper-growth stocks that are trading at extraordinarily-high valuations. Now, if you look at some of the blue-chip
tech, for example, I think Facebook, of course, has all sorts of uncertainty around it regarding
regulation. But if you look at-- from a raw valuation
perspective relative to consensus analysts' froward growth expectations, that's an example
that does not appear strongly overvalued. In addition, some of the Chinese growth stocks--
for example, Tencent or JD-- a lot of them are arguably fairly valued when you take into
account their high expected growth rate combined with the fact that the valuations might be
rich, but they're not excessive. And so I still have allocations to certain
tech stocks, certain growth stocks. But I've been trimming some of the more egregious
high flyers from my portfolio over the past several months and emphasizing some of these
more beaten-down industries. For example, I sold Adobe and Nvidia earlier
this-- several months ago and put that somewhat into more energy exposure. And so I would like to see more correction,
because a lot of these companies are very high quality. It's just that if you buy them at the wrong
price, it's not that hard to have a three to fiveyear period of underperformance with
them. Views on emerging markets, real estate, and
credit. LYN ALDEN: If you look back over the past
several decades, usually, whatever equity market does very well in one decade is generally
not the same equity market that does very well in the next decade. And there are a variety of reasons for that. One is the big shifts in monetary policy,
fiscal policy, mainly that we talked about with the dollar index and its big, giant,
multi-year rotations. But it's also due to valuations. So whenever a region is doing good for a variety
of-- whether it's demographics, or fiscal policy, monetary policy, tech innovation--
whatever the case may be, if an area is doing very good, capital piles into that until it
brings it up to excesses. And if there's any sort of rotation in any
of those factors that allowed that market to outperform, then in addition to other markets
doing well fundamentally, capital starts flowing to them. And so if you look back over the past 5 to
10 years, the United States has been the biggest performer. And we've hit historically-high valuations. But if you look at many international markets,
including emerging markets, their valuations are very historically reasonable. So if you look at-- the previous emerging-market
peak was around that height right before the global financial crisis around 2007 or so. And some of the valuations in China, or India,
or Brazil were extraordinarily high. And we've had a multi-year-- more than a decade-long
consolidation, a cooling off of valuations. As so many of those places are quite reasonable
if you were to get that weaker dollar and that global growth outlook, because you're
buying in at a pretty good base. Meanwhile, because the US equities are so
dominated by these very highly-valued tech stocks, that, if you were to get a capital
rotation, those could potentially underperform, even if the underlying companies continue
to do well. So for example, I don't expect Amazon to do
poorly. But I might think that its stock won't do
as well as, say, some of its foreign counterparts, or compared to some of the markets that have
not done very well over the past 5 to 10 years. Real estate is one of those places where there
are specialists that cover it very closely. I monitor it from a pretty high, broad perspective. And I do think that if you look at the asset
class as a whole, residential real estate is still reasonably attractive, especially
in certain zip codes, especially in some of the Southern states that people are flocking
to. Now, of course, it could be near-term overbought. But again, if you're looking out over the
multiyear perspective, if you can get an attractively-priced piece of real estate with a very, very low
fixed-rate mortgage while the Fed is doing their best to try to inflate, and we have
fiscal spending which is different than we've had over the past several years, that could
be a pretty attractive piece of property. And so, of course, there's a lot of pressure
on real estate in major cities. There's a lot of pressure on commercial real
estate. That's certainly an environment where you
need a specialist, because the overall commercial real estate industry is in a lot of trouble. But of course, there are some diamonds in
the rough. So a specialist can go in and find the properties
that can be repurposed, the properties that-- they might have trouble, but they're priced
so low that they're likely to do well anyway, especially if they get better financing. And so I think it's really important, when
it comes to real estate, to focus on the specifics and make sure you know what you're getting
into. So I still remain pretty favorable on it. In addition, if we do get continued-- a strong
housing data, that tends to further support a bullish commodity thesis because homebuilding
is one of the more commodity-intensive things in an economy. And so if you do get that in the United States
and elsewhere, that just further adds fire to, potentially, a reflationary narrative
or to a bullish commodity narrative-- again, especially when we're looking past, say, the
next six months or so of big uncertainty. I'd be very cautious about some of the broad
credit ETFs, because as a whole, those yields are pretty low. And the market seems to still be pricing in
that everything is going to be fine, even though the Fed is not really emotionally backstopping
that market like they were earlier this year. And so I think there's a lot of risk in credit. Now, of course, there are specialists that
can go in and separate the wheat from the chaff. But as an overall portfolio allocation, credit
is still one of the areas I'm quite concerned with, especially as you get this potential
solvency issue playing out over the next six months or so. And so it's potentially useful as a portfolio
hedge. You can, for example, be long many of these
individual, high-quality things, and you can short credit. But there's a couple of ways to play that. But credit is not one of the areas that I
think has a favorable risk-reward situation at this time. Longer term views on the dollar. LYN ALDEN: When we talk about the dollar,
one thing that's important too is separate a dollar bear from someone who thinks that
the global reserve status is changing. And so a lot of times-- whenever we see a
5% to 10% weakness in the dollar, we often start to see headlines like "is the dollar
losing global reserve status" or scare headlines like that. But it's funny because if you look back over
the past 50 years, we've had these major dollar bear markets. But of course, the dollar never lost its global
reserve status. In many ways, it strengthened it after some
of those declines. And so it's important to keep in mind that
there's a big difference between having an outlook for a weaker dollar versus having
an outlook for some sort of structural difference. So the things we talked about before were
mainly about dollar weakness within this current framework as structured. So it doesn't require any loss of global reserve
status. It doesn't require any sort of major structural
shift to the global monetary system. And it's mainly a result of the Fed becoming
dovish in supplying liquidity combined with the US' structural current account deficits. And that tends to be a weaker dollar environment. But if we look forward over a longer term,
we can also discuss some of those more structural issues that are starting to become pretty
interesting. And so if we look back over the past several
decades-- so if we look at the evolution of the global monetary system-- prior to the
global war, most currencies were gold backed. And then, of course, in 1944, we established
the Bretton Woods system, which was that the dollar was backed by gold, and other currencies
were pegged to the dollar at fixed exchange rates. And there's a variety of reasons they did
that. Of course, the United States emerged from
World War II as a massive global superpower. We had something like 40% of global GDP. We had the largest gold reserves. We were also a custody. We were holding gold reserves for other countries. We were separated. We weren't damaged heavily from the war. And so it was basically that natural superpower
status that allowed us to build that. Now, there were some economists, from the
beginning, that warned that that system would eventually break down. So Keynes was a vocal critic of it as well
as Robert Triffin. And with Robert Triffin, he testified in Congress. It's now known as the Triffin dilemma that,
basically, that the system, as currently structured back then, would eventually break down. And there's a variety of different formations
of the Triffin dilemma. His emphasis was mostly on the capital account
at the time, that the United States would be forced to basically supply all these dollars. And eventually, we wouldn't be able to back
that situation. And so if you look back over the next several
decades, in the '50s and '60s, we started to see that the United States' foreign liabilities
began outpacing their gold reserves. So we all think of 1971 as the moment where
it broke down. But it was already gradually breaking down
under the surface. It was already inherently unstable and started
to get a sharp decline in US gold reserves. And of course, in 1971, Nixon ended that gold
standard by eliminating the convertibility of dollars into gold. And so that entered a new kind of era where
all currencies were fiat currencies, and they were floating exchange rates. And then, of course, in the mid 1970s, we
had that reformulated as the petrodollar system, which is that the United States made deals
with Saudi Arabia and others where some of these major oil producers would only sell
their oil in dollars. So even if France buys their oil from Saudi
Arabia, for example, they do so in dollars, even though it's neither of their currencies. And in exchange for that, the United States
provides protection, keeps the global oil shipping lanes open, and basically provides
that sort of order. And so they get the hegemonic benefits in
exchange for having to supply a lot of military or geopolitical might around the world. And so this system is what we've been in for
the past four to five decades, and there's starting to be some signs that it's working
a lot less effectively than it did all those years ago. And so for example, when we transitioned from
the Bretton Woods system to the petrodollar system, the United States was still something
like 35% of global GDP. But over time, as we've gotten the growth
in emerging markets, which is where most of the population is, we've seen the United States
fall to closer to 20% of global GDP, even though our currency is still being used around
the world for oil purchases, and commodity purchases, and global financing. So it's much harder to use a currency of a
smaller country for global needs than it is to use the currency of a bigger country. And so it's arguably the case that the United
States is no longer big enough to serve the role as being the only currency that all global
energy can be priced in, for example. And that would be the case for any other currency
bloc as well. The euro is not big enough. China is not big enough. There's no individual currency anymore that
is large enough to supply the global world with the amount of currency needed to price
all commodities and all energy in that currency. And so we're starting to see the emergence
of payment systems that go around that dollar system. And so, of course, these were attempted decades
ago by smaller countries. But because they lacked political power, because
they lacked military power, they couldn't sustain that, whereas now, we're seeing players
like Russia, India, China, places that are essentially immune from any sort of military
intervention and somewhat resistant to sanctions-- these countries have been pretty aggressive
at establishing nondollar payment systems, led, of course, by Russia. And so if you look at the trade between Russia
and China, it used to be almost entirely dollar based as recently as five years ago. But that's rapidly shifted more towards the
euro and to some of their local currencies. In addition, if you look at trade between
Russia and India, that is also rapidly dedollarized, even though India is still, for the most part,
on friendly terms with the United States compared to Russia and China. They've still had interest in finding other
payment channels. And if you look, of course, at Russia and
Europe, more and more of Russia's exports to Europe are priced in euros. And now we're roughly at euro-dollar parity
between the trade that Russia's exports to Europe are priced in. And so as we see these systems gradually go
around-- the system that's been in place for a while-- it results in a more multipolar
energy-pricing world. And the reason that's important is because
all these countries-- it's all about a network effect. So all these countries-- they have to buy
commodities in dollars, so they have to maintain a lot of dollar reserves. A lot of global financing happens in dollars. And you get this big, multi-decade network
effect build up over time. But because it's performed so poorly over
the past 10 years, especially since the global financial crisis, especially with the United
States becoming no longer the biggest commodity importer, no longer a big share of global
GDP compared to what it once was, we're seeing that inherit more decentralization. And so that's certainly something to watch
as we move forward throughout the 2020s decade to see if that continues as it has been. The health of the petrodollar system. LYN ALDEN: So there's a couple ways to monitor
the health of the petrodollar system. And so one of the ways is basically to see
if there's persistent global dollar shortages. And so this has been a topic that a lot of
macro analysts have covered over the past decade, that we've been in a period of more
frequent dollar shortages. And so if you look back historically, these
dollar shortages happened during big spikes in the dollar. But they tend to be relieved more quickly,
whereas because we've had an increase in global debt and because we've had a decrease in the
United States' share of global GDP and global trade, that's put a lot of pressure on the
circulation of dollars around the world and the availability of dollars to service debts
or to buy commodities as needed. And so over time, the system's been fraying
around the edges. And then, of course, you can separate different
periods of time-- who's benefiting? Who's being harmed by it? So the United States, earlier in the petrodollar
system, was benefiting from it. It increased the United States' hegemonic
power. But the sacrifice we had to make was, in order
to supply the world with all these dollars to buy oil and all of this, basically, we
had to run persistent current-account deficits. So we have a reformation of the Triffin dilemma,
except instead of being focused on the capital account, it's focused on the current account. And so if you look at the United States' long-term
trade deficit, current-account deficit, it really collapsed, starting in the mid '70s
when we shifted away from the Bretton Woods system and towards the petrodollar system. And so basically, instead of drawing down
our gold reserves piece by piece, we've drawn down our domestic manufacturing base, essentially
shifted to emerging markets. And of course, to some extent, all developed
markets have done that. We've had more manufacturing from emerging
markets. But the United States has done it at a much
faster and more thorough pace. So if you look at Japan, if you look at Germany,
and many of these other developed markets, they still have a pretty robust domestic-manufacturing
scene, whereas the United States has outsourced it and now has a much smaller share of its
GDP derived from the industrial sector compared to many of our developed peers. And so we've had rising populism-- rising
economic troubles among blue-collar workers here in the United States. And so it's already breaking even within the
United States. And then if we look globally, if we look at
how different actors behave with this-- so many countries have benefited from this system. And this is a chat I had back with Hugh Hendry
about some of these mercantilist nations that benefit from aggressively weakening their
own currency versus the dollar, having persistent trade surpluses, building up big foreign-exchange
reserves, building up big manufacturing bases that they-- they benefit from basically taking
advantage of the fact that we have to run persistent trade deficits. And so there are countries like Switzerland,
countries like Taiwan, countries like South Korea, countries like China. A lot of these have benefited from the system
as currently structured. But that eventually reaches a tipping point
where, if they want to be, for example, free of US sanctions-- So China has benefited from
the system, and they've grown into a very, very large nation. But now that they're a larger commodity importer
than the United States, they find it less in their favor to be relying on, literally,
a smaller country with less commodity imports-- their currency-- to buy all of their commodities
with. And so they're more interested in now shifting
from that more export-driven economy to a more balanced economy or a more consumption-driven
economy. And in doing so, being able to buy commodities
in more than one currency, including, potentially, their own currency, is something they have
an incentive for. In addition, they don't want the vulnerability
of being exposed to US sanctions or basically having their payment networks shut off by
a foreign country just because, if they all have to pay-- if all of their payments route
through New York, that's outside of their control. And so they have an interest in shifting more
towards these digital currencies and domestic payment networks, or at least diversifying
their payment networks-- going through Europe, going directly with Russia, all these different
technologies and different platforms that they can use. So that's something to keep in mind, is that,
as we go forward, some of these more powerful nations, even ones that have historically
benefited in the system no longer see it in their interest to keep doing the system in
the same way. And of course, Russia-- the United States
and Russia have had a long antagonist relationship. And we're seeing more interest out of Russia
over the past several years, in response to US sanctions, to basically dedollarize and
to price their oil in euros or other currencies wherever possible. And then lastly, we've had China, in some
ways, subverting the petrodollar system by intentionally making a lot of dollar-based
loans. And so up until about 2013, China focused
on being this aggressive exporter, building more and more treasuries in their reserves,
buying treasuries. And then they decided it's no longer in their
interest to keep buying treasuries. They publicly stated it's no longer in their
interest to keep accumulating. And then instead, they announced the Belt
and Road Initiative, which is basically that they want to promote infrastructure projects
throughout the world, especially Eurasia, all throughout developing markets, even into
Latin America, Eastern Europe, Asia-Pacific. And so they started making, instead, a lot
of dollar-based loans to these developing markets in addition to providing their infrastructure
expertise, because China has a long history of these big megaprojects. And so they can provide both financing and
technical expertise. And of course, that creates a problem for
the United States, because historically, our end of the bargain is, we have to run these
big current-account deficits. But then all those dollars we send out to
the rest of the world-- they mostly get reinvested in treasuries and held in reserves. But then if those countries keep running those
trade deficits with us but then no longer even buying our treasuries, and instead, they're
financing their own commodity needs, their own infrastructure needs, that really gets
around the hegemonic benefits the United States had from the system for several decades. And so we're starting to see that the current
system as structured is no longer really benefiting almost anyone. It's not benefiting the United States, and
it's not benefiting from these other countries, except for ones that are still being highly
mercantilist or that are subverting it. And so that's why I think, over time, we're
likely to see a more diversified global energy-pricing model. Technical analysis of foreign ownership of
treasuries and other dollar-denominated assets. LYN ALDEN: So if you look at the long-term
dollar cycle, it is pretty normal that, in the later stages of a dollar bull run, we
start to see declining foreign purchases of treasuries. And there's a variety of reasons for that. A big reason is that they simply can't, right? So when the whole world becomes tightened
by dollar tightening, compared to the dollar-based debts, instead of buying treasuries, we start
to see either them selling some of their assets to defend their currency, or we at least see
a slowdown in purchases. And so this happened in the mid 1980s. It happened again starting in the late '90s. And it happened again over the past five to
six years. Whenever you have this really strong dollar
environment, it puts enough pressure on them. And then the United States end up having to
selffinance more of its fiscal deficits. Now, this latest period is somewhat different
because it actually started to happen a little bit before the dollar strengthened. And it began happening a year or two earlier,
when China announced that it's no longer in their national interest to keep accumulating
treasuries. And so there's a variety of reasons for that. But basically, you have the combination of
strategic reasons for no longer buying treasuries as well as the natural tightening effects
of the strong dollar preventing a lot of treasury accumulation. And so in China's case, this is the first
time where an emerging market became so big that it's able to act more freely in the global
marketplace and start acting, in some ways, like a developed market when it comes to international
financing-- so an emerging market that finances other emerging markets. And so China-- it doesn't fit neatly in the
emerging-market or developing-market basket anymore. Of course, if you look at per-capita GDP,
they're still firmly in the emerging-market camp. But if you look at the overall geopolitical
power that they wield, as well as some of the technical capabilities they have, some
of the infrastructure capabilities they have, in some of those ways, they're more aligned
with a developed market. And so it's a very unique situation compared
to the previous two dollar-cycle peaks. And so if you look at just the math of how
the globe is structured, there is a lot of dollar-based debt out in the world. It's something like $13 trillion, based on
the BIS estimate. It's probably more than that when you count
other forms of leverage. But in addition, the whole world, as a collective,
has something like $40 trillion in US assets. And that includes treasuries. That includes US stocks. That includes corporate bonds. That includes US real estate. And of course, one of the challenges is there's
not a perfect overlap. And so some of the countries have a ton of
assets, whereas other countries-- some of the ones that have a lot of liabilities don't
have a lot of assets. And those are the ones where we see currency
crises. So for example, Argentina, Turkey, places
like that-- they've had a lot of dollar-based debts. But they haven't really had the massive foreign-exchange
reserves or other strong sources of US assets-- sovereign wealth funds-- to be able to offset
that, whereas if you look at Europe, if you look at Japan, if you look at some of the
stronger developed markets, like most of Asia, they tend to have a lot more dollar-based
assets than they have dollar-based debts. And that's, in some ways, what forces the
Fed to shift from a dovish monetary policy. So when we got that dollar spike earlier this
year, for example, during the heart of the pandemic, we started to see foreigners sell
some of their treasuries to satisfy their dollar-based needs. And when you have foreigners selling treasuries,
and then you have risk-parity funds selling treasuries at a time when you want to issue
a record amount of treasuries, that's, of course, a problem. And you can't have the treasury market become
illiquid, which is what we saw. And so the Federal Reserve had to step in
and create bank reserves and buy a trillion dollars worth of treasuries in a three-week
period. And so that's one of those big shifts that
you see at the end of a dollar bull spike. Of course, this one was, in some ways, more
extreme. And so that's why, if you look at the longer
term, as the system is currently structured, I think that even though-- even if we get
a dollar-weakness period, we could start to see more foreign-treasury accumulation again. But if you look at-- if you measured as percent
of US treasuries owned by foreigners, I doubt that we're going to hit the peak that we hit
back in 2013 or so. FX reserves, debt levels, and Paul Volcker. LYN ALDEN: So when we separate out what happens
over the course of a normal dollar cycle with what could happen over the next cycle, there's
a couple things to keep in mind. So as I pointed out, whenever you have this
dollar-strengthening period, you have fewer foreigners buying treasuries. And so we see that the share of total treasuries
owned by the foreign sector goes down. Now, whenever that dollar situation gets relieved,
we get a weaker dollar. Then we get a rebound in foreign purchase
of treasuries. We get more global growth. And so they're able to get more dollars and
buy more treasuries. And over the past couple cycles, we've hit
new highs in terms of foreign ownership of US treasuries. Now, my base case is that the ultimate peak
was probably in 2013 and that due to the fact that China is no-- it's more strategic now. So instead of just the dollar-strong period,
it's also that we've essentially run out of major economies willing to accumulate a lot
of treasuries, because I think we're getting closer to the end of the system as structered
over the past 50 years. And so there are a couple ways to measure
what might have been the peak in the petrodollar system. So one way to look at it is that if you look
at the allocation of foreign-exchange reserves, treasuries in the dollar hit the peak in the
early 2000s. So with the introduction of the euro, the
United States was at over 60% of global foreign-exchange reserves. But then as we've had some competition from
the euro, we've seen that the United States, over the past 20 years, has slightly declined
from that high watermark. Now, the United States is still-- the treasury
is still the most dominant currency by far in global exchange reserves. But it's just-- it's never retained that high
peak that it reached in the early 2000s. So you can argue that that might have been
the peak of the system. Another way of measuring it is, you can say--
you can look at US treasuries and then look at the percent of them owned by the foreign
sector. And so that peaked somewhere around 2013. So you can also argue that that might have
been the peak of the system, and that if we never reach that level again, that the system
is now winding down rather than continue to build up cycle by cycle. And so that's how I'm viewing it. It is that, in some ways, you can argue that
the early 2000s were the peak. And I guess another way to measure it is that
2013 was the peak, which is probably the peak I would go with. That's where a lot of things changed structurally. Now, if you look at-- this isn't the first
time where the system was in danger. So if you look back in the 1970s, of course,
when the system was still in its infancy, and the United States had very high inflation
in the late '70s, the system started to break down pretty early on in its life, right? So we could have had an alternative world
where, after Bretton Woods, the United States was never able to reassemble the global reserve
currency. But of course, in this timeline, the United
States did reassemble it, in part due to Volcker. And so we started to get-- the dollar share
of gold reserves was going down. Gold was going up, of course, because the
dollar was devaluing versus gold. And then, of course, when Volcker jacked up
interest rates, that gave a lot of global credibility to the dollar and basically said,
no, this dollar is here to stay. It's not going anywhere. It's not going to lose a lot of value. And then we entered a 40-year period of, basically,
if you owned treasuries, you got a positive real return on those treasuries, right? So instead of inflation eating away at your
treasuries faster than your interest rate, Volcker brought us into a four-decade period
of subdued inflation, positive real yields. And it made that treasury a very attractive
asset to hold around the world. Now, if you look at recent times, that's no
longer the case. So the treasuries are no longer keeping up
with inflation, and we're issuing so many treasuries that the Federal Reserve is now
the biggest holder of treasuries. And so we're eating our own cooking, in a
way. It's like if we were running a restaurant
but then eating most of what we're making rather than our customers eating it. And so if you look at a chart, for example,
the Federal Reserve now owns more treasuries than all foreign central banks combined, which
is structurally different than how it worked over the past 20, 30, 40 years. And so we're entering a new era of self-financing
and less of a buildup of foreigners owning more and more treasuries as a percentage of
our total treasuries. And you could also-- you could think, could
that happen again? Could we somehow save the system, prevent
this gradual unwind? But the answer is probably not, because the
difference between-- so the environment that Paul Volcker had to work with was a very low-debt
environment. And so the United States-- we reached peak
debt levels back in the 1930s and 1940s. And then we entered a multi-decade period
of lower and lower debt as a percentage of GDP. And in the '70s, that hit a system bottom. And so Volcker was able to raise rates to
double digits-- pretty much whatever number he needed to quell inflation-- because debt
levels were so low. It wouldn't result in a broad solvency crisis
for him to jack up interest rates. But because we've been in this environment
of declining interest rates now for 40 years, we have so much debt built up in the system--
so much federal debt, so much private debt-- that if you were to jack up interest rates
and keep them at a positive real yield for a long period of time, the system would likely
become insolvent as currently structured. And so we're entering this phase where the
United States, in their own interest, has to keep real yields negative in order to continue
to finance themselves and keep debt from growing rapidly compared to GDP. But that also prevents us from making the
treasury a very attractive asset for a lot of foreign central banks to still want to
own. The long-term outlook, global bancor, decentralized
energy pricing, and central-bank digital currencies. LYN ALDEN: So if you look at the very long
term, right? So we already have kind of an outlook for
what's going to happen in the next couple years. But if we look at-- if we're trying to envision
what the next 10 years looks like, for example, we can start to look at a range of possibilities
for what the next global monetary system could look like. And so my base case is essentially a gradual
fraying of the current system. So with a lack of central leadership, we start
to inherently see more and more decentralization. So I already talked about, Russia is seeking
to price its exports-- and so far, successfully, over the past couple years-- pricing its exports
in euros, in rubles-- in other currencies, essentially. And so my base case is to see that continue. So I think that China can continue to diversify
the currencies it uses to buy commodities. I think Russia is likely going to be successful
in continuing to sell oil in euros or other currencies. And so I think that, over time, we can see
the dollar gradually decrease as a percentage of energy trade worldwide. So it's historically had an almost 100% lock. And that could go down over time. Now, it still might be the largest individual
currency involved in global energy pricing, but it just-- it'll no longer be that near-100%
monopoly. And so that's my base case going forward,
is to see a diversification in payment channels. And so the European Union has INSTEX, for
example. We haven't seen a lot of activity out of that,
but it's something to keep watching. We've seen emergence of central-bank digital
currencies. And we're seeing that roughly happen in order
of establishment systems. So the Fed has been slow to act, in terms
of digital currencies, because we are the ones that run the current system. United States is at the heart of the current
system. So we have less an incentive to disrupt ourselves
and move forward, whereas China, that is less thrilled with the way the current system is
structured-- because they want more self-sovereignty with regards to their currency, their commodity
pricing, they've been more aggressive at advancing their currency. And so with China spearheading the central-bank
digital currency, that could potentially expand their usage of alternate payment systems that
don't use [INAUDIBLE], that don't go through New York, that aren't dollar based. And so that can include domestic usage. But of course, also, with their trade partners,
like Russia, with Asia-Pacific, we, of course, have that really big, new trade deal for most
of the Asia-Pacific countries. And so I would expect to see more and more
nondollar pricing over time. Now, there also are certain abrupt scenarios
that could happen that accelerate that. If the United States no longer tries to maintain
the current system, they could do something like a sharp dollar devaluation. They could do-- there are a variety of factors
they can do to have a more stepwise increase in the usage of nondollar payment systems
around the world. But as a base case-- so I maintain that as
a possible tail-risk upside to that scenario. But as a base case, I look for a gradual decentralization
of how global payment networks work, both due to existing technology-- just a strong
incentive for some of these countries to want to go around the dollar-based systems-- as
well as the new technologies from central-bank digital currencies or private stablecoins
that allow more ways to bypass the current system. And then if you look at, for example-- even
Bitcoin is becoming interesting because we see some of these more rogue states explore
its use as a way to bypass sanctions. So we see, for example, Iran dabbling in Bitcoin,
potentially as a way to go around any sort of sanctions, because Bitcoin is, of course,
decentralized. Transactions can't be stopped between willing
parties. And so as all these different countries try
to build their own system, we're also seeing, just from the shadows, Bitcoin has emerged
from $0 to a "$400 billion market cap" asset class. And that potentially can also serve as a form
of global payment. We could start to see it show up on some of
these smaller central banks that are not at the heart of the current system. If we go back and look at the formation of
the Bretton Woods system-- so of course, I mentioned that it's the dollar is pegged to
gold, and other currencies are pegged to the dollar. The competing idea at the time was something
called a bancor. And so that was proposed by Keynes. And there are a couple different versions
that it could take. But essentially, the bancor would be a basket
of multiple major currencies that central banks could use as a medium of international
trade and as a reserve holding. And that would basically make it so that the
global currency wasn't any one country's currency, but instead, it was this neutral actor. But of course, that lost out to Bretton Woods. Now, it showed up in the late '60s in the
form of the IMF special drawing rights. And so they issued these baskets of multiple
currencies that several central banks still hold to this day. Some countries pegged their currency to the
SDR. And so that was essentially a global money. It was a global monetary unit that could be
used to sell, trade, or held as reserves. But it never took off. It never became a big player in the global
scene. Now, in recent years, the emergence of stablecoins
have reintroduced that possibility. And so for example, we saw Facebook attempt
to come out with the Libra. And so that's still a shifting project over
time. But that would have been, essentially, a private
bancor. That would have been a basket of global currencies
in a stablecoin wrapper. But instead of introduced by the IMF, it would
have been introduced by a private company. And we've also seen, for example, some key
policymakers, like Mark Carney, for example-- he referenced the Libra and has basically
been a proponent of something like a bancor that's used, in the modern technological sense,
to reduce the focus on the dollar and to have a global unit that is backed by multiple currencies
as a basket. Now, the problem with that system is it requires
a lot of international cooperation. So as we see the world become more and more
bipolar between the United States' sphere of influence, and China's sphere of influence,
and Europe's sphere of influence, something like a global cooperation seems rather unlikely. It's not impossible, but it requires a lot
of pieces to fall in line to have something like a global bancor be used. So there are a couple of other possibilities. We could see regional bancors, for example. We could see certain trade partnerships agree
to use a stablecoin unit that might consist of a basket of multiple of their currencies. And so there are a couple things to watch
in that regard. We could also just see none of that and to
see continued decentralization of payment networks as they're currently acting. So we could see, for example, Europe able
to buy more of its energy in euros. We could see China able to buy more of its
energy in either euros or its own currency. We could see-- of course, the United States
will continue to buy energy in dollars. And many other countries will. And so we could see multiple major currencies
that all act as regional globalreserve currencies rather than one central global-reserve currency. And of course, as those currencies become
increasingly digital, that eases their ability to be used as international trade and go around
heavily-centralized payment systems. Gold, as a reserve asset, and the Bitcoin
standard. LYN ALDEN: Some of the proposals for how global
trade could be restructured involve gold. And so part of why we've had so much issue
over the past five decades is that, with this environment of floating exchange rates, it
really incentivizes mercantilist behavior. It incentivizes countries to basically weaken
their currency to make sure that their exports are strong and develop trade surpluses. And so we've been in this environment of competitive
currency devaluation. And that will likely continue to some time. But especially if you enter a more inflationary
phase or if that whole situation becomes unsustainable, there could be calls to try to fix currencies
to something to prevent that. And so, of course, one of the topics that
comes up is, of course, gold, because that was historically the major peg for many currencies. Now, the problem with gold is that, at the
current prices, it's nowhere near big enough to back a global currency in any sort of significant
way. And that's, of course, why you've seen calls
from some analysts for much, much higher gold prices, because gold would have to grow as
an asset class if it were to ever back those currencies to a meaningful degree again. Now, of course, you could see limited gold
usage. For example, over the past five years, we've
seen a renewed accumulation in gold by central banks. So even if gold is not officially backing
any currency, it can be a reserve asset. It can be an implicit backstop to the currency. We've seen that especially out of Russia. They've been very aggressive in buying gold,
but a number of other countries as well, that they've been using gold as one of their foreign
exchangereserve assets, because it's neutral, because it's somewhat inflation adjusted. It's not backed to any one country's currency. Now, we're also seeing, of course, Bitcoin
emerge. Some people have been proponents that Bitcoin
could take gold's mantle as a global reserve asset. And of course, the problem is that, right
now, Bitcoin is quite small in the grand scheme of things. So gold is estimated to be something like
a $10-trillion asset if you look at the global market cap of estimated gold, according to
the World Gold Council or other entities like that. Now, Bitcoin is a fraction of that. As of this discussion, Bitcoin is worth something
like $400 billion. And it's a much higher volatility. And so we're not seeing Russia, for example,
rush in and say, "we're going on the Bitcoin standard," or anything like that. We're only seeing it show up in some of these
more rogue nations, potentially. But if you were to get a case three years
from now, five years from now, where Bitcoin continues to grow in market capitalization,
becomes a multi-trillion-dollar asset, and if the volatility goes down over time due
to more widespread ownership and due to more liquidity, then you could see Bitcoin become
interesting as a reserve asset, because it's both a store of value and a payment network
combined into one. And so it solves one of the problems of international
trade, which is trust, and currency pairs, and things like that, whereas if you price--
if you use Bitcoin as a settlement asset or as a reserve asset, it's basically-- it's
neutral. It's not tied to any one currency. There's nothing they can sanction you from
using it. There's no one that can turn off your Bitcoin
or block you from doing transactions. And so in a world with less centralization,
and more distrust, and more actors wanting to be able to do their own thing, incorporating
Bitcoin is one of the ways that they can go around that. Now, it's still, I think, premature to discuss
that too much, because again, Bitcoin is still a very small asset. I'm mostly emphasizing Bitcoin as-- there's
a couple ways to look at it, but, essentially, digital gold as a store of value that is backed
by the network effect of Bitcoin, that is backed by the scarcity of its supply. But if it were to continue to do well in that
particular sense, then it opens up questions-- what could be next. Could we see it show up on more central-bank
balance sheets, or will it ultimately be limited to just a store of value for private actors? So if we look at, over the next six months,
there's a lot of uncertainty. A lot of these kind of value or commodity-oriented
things have come very far very fast. We've had a pretty rapid decline in the dollar
in recent months. And so the next several months are vulnerable
to corrections, vulnerable to counter rallies, vulnerable to all the political uncertainty
that's happening with stimulus, with monetary policy, with the vaccines, with the winter. But as we look out over late 2021, as we look
out into 2022, I think the odds are more towards global reflation, continued weakening dollar
within the grand scheme of this 50-year floatingexchange-rate dollar-- so the third major bear leg in the
dollar-- which, if that happens, would be quite beneficial for commodities, quite beneficial
for emerging markets. Also, of course, things like uncorrelated
assets, like uranium or Bitcoin, are pretty attractive in this environment, as well as
just international equities more broadly. US value stocks, especially if you have some
sort of quality filter to emphasize ones that are-- they might be in trouble in industries,
but they're one of the stronger ones in their industry. And so that's essentially how I'm playing
it, is to have that kind of global reflationary outlook, but be in quality names so that you
can survive a three to six-month counter rally. It's not like a heavily-leveraged kind of
outlook. And it's rather a more resilient outlook towards
that period of decentralization and reflation. NICK CORREA: I hope you enjoyed this special
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