BentinPartner Weekly
Dear Reader,
2021: An Exceptional Year …
Last year was exceptional and wild in many respects, driven by the pandemic and Western deficit spending explosions, exceptional monetary easing, historic (but relatively narrow with GAFA’s leading the way) stock markets performance, soaring commodities and the somewhat associated inflation running hotter and possibly not on a so “temporary basis”, all at the same time.
- While there were more deaths from covid in 2021 than in 2020 and while the late December surge in daily cases exploded to 2mn globally, markets did not seem to want to care too much, delivering a powerful late Christmas rally, seemingly reassured by the Omicron Tsunami not translating into a concomitant acceleration in the number of daily casualties (giving people some hopes (at least) that 2022 will be the year when covid finally fades away. This has the potential to be the good news.
- Taking the US as a reference, 2021 US federal fiscal deficit reached USD2.77trn, bringing the cumulated 2-year shortfall to an historic USD5.9trn, matching the total amount of debt of accumulated since 2006 and leaving Treasuries/GDP ratio at 105% (from 41% in Q42007). The same happened in Europe.
- Debt monetization and ZIRP combined were the main policy choices to fund deficits (holding the rationale of a temporary spike in inflation for most of the year) and drive equity markets through 70 consecutive new highs late last year. Investors were left with no other choices than piling on equities driven by TINA (“there is no alternative”) and the most powerful magnet of all, FOMO (“fear of missing out”). Investors (among them a new breed of investors and speculators trading “meme” stocks on Robinhood for a living and who do not want to go back to work, at least not at the same salary) bought more stocks (USD1trn) last year than over the past 19 years combined while large corporations, already winning from the pandemic (apple, msft…) continued to buy back shares only too happy to substitute debt to equity as a source of cheap capital. Others delisted for the same reason with leverage buyouts. Now that inflation, set to rise on a confluence of factors (asset inflation, supply chain disruptions, geopolitical tensions, accelerated and sometimes awkward Green transition policies) has become more entrenched, with lasting second round effects (salary inflation, rents, second hand cars etc.), there is a need to lift the foot from the accelerator and push on the brake (should Omicron permit). It is going to be a delicate balancing act with wide ranging implications (for bonds, stocks, FX and precious metals).
- Despite solid rising inflation and heavy fiscal issuance, bond yields dropped, real yields cratered (also and primarily in Europe) and yield curves flattened because of debt monetization. If monetization stops, other policy relays will be necessary to keep the status quo. I do not quite see which one, baring a sharp stock market correction or a resumption of QE (ultimately my guess). This seems to be the scenario shared by F. Zulauf, a member of the Barron’s roundtable for 20 years, (who correctly anticipated the 1987 and 2007 “corrections”. He does not expect too much of a conflicted situation…until 2024, however. Hence his relatively benign medium-term outlook for stocks for this year.
- 2021 was also the year, despite a rocky last couple of months, when a broader range of investors started to consider that cryptos were worth investing 2% or 3% of their assets into, “just in case fiat money goes to hell”, to paraphrase T. Peterfly, the billionaire founder of Interactive Brokers. I could not bite into the narrative that cryptos could constitute a valid long term inflation hedge (the last 6 months of the year where inflation really took off did not coincide with the best part of the year for the bulk of bitcoin’s 60% YTD gain) but cryptos took gold lunch last year. They could remain well worth investing the money we can afford to lose. The fact that cryptos can be negatively correlated with everything one day and positively correlated with anything the next also make cryptos a useful diversifier in portfolio construction (which is a reason why many hedge funds also own some). The key risks for cryptos (besides the interest of the underlying technology) are that unlike fiat currencies, they are not backed by anything, not even the sovereign taxation power. They are also intrinsically worthless (unlike gold and silver), highly volatile, hence unfit as a means of payment for most, exposed to the risk of being regulated away (as they are mostly in China, India, Russia and “officially” critically viewed elsewhere). As outlined by Robert McCauley, in a recent FT article, bitcoin could also be viewed (beyond its huge ecologic footprint) as worse than a Madoff-style Ponzi Scheme and a mere “pump and dump” scheme. History will judge but cryptos have certainly been a powerful “pump” scheme and a great way for intermediaries (crypto exchanges) to make lots of money on the back of retail investors who pay heavy transaction costs (much more than an stocks, bonds, FX) and face heavy roll down costs for those owning cryptos via futures backed ETF’s.
Some of the key risks ahead?
Making forecasts is a difficult exercise but one that can hardly be avoided at this time of the year. We can at least identify the major risks:
- High and rising inflation rates (we will cover the subject in some more details tomorrow …and expectations. This is a key risk because a little bit of inflation always benefits everybody but too much of it for too long invariably becomes toxic economically, fiscally, financially, socially and ultimately politically).
- the ways that will be deployed (or not) to contain inflation (Fed tapering and tightening) will define the favorable or unfavorable outcome.
- geopolitical tensions. The risks of things going “mad” in either Taiwan or Ukraine are almost impossible to hedge and will remain as hard left tail risks to the global outlook. Cool heads will most likely prevail. But debates and conflicting economic and geopolitical interests will remain heated with elevated military tensions and the risks of accidents not inexistent.
- Social tensions derived from the “all round” asset inflation coupled to rising food and energy inflation if not contained could increase the social divide with risks of mounting populism. Some are arguing that we are witnessing the first innings of Orwellian crackdown on civil liberties by governments everywhere. But I am not going there… and I hope the end of the pandemic situation will bring back our lives more or less where they were before.
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Have a nice week ahead and stay safe!
Marc Bentin, BentinPartner GmbH
Founder, Chief Investment Officer
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