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Thank you for posting this Tyler!
I've been waiting to see where Mr Hendry's at.
Thanks for the post Tyler.
Just today I was thinking to myself, "I wonder what Hugh has to say about the current market?"
Also, I wonder what Taleb has been up to? Haven't heard for him recently either.
Deep thoughts from Goldman's Head of Research Jim O'Neil on his recent trips to China:
some of the Key Highlights (seriously) from Mr. O'Neil's interview:
"I travelled on some roads that weren't there a year ago, fantastic roads I might add."
"Beijing and Shanghai have really nice airports (they were there a year ago), As a big user of Heathrow and JFK they are an embarrassment."
With respect to naysayers on China (Chanos view ); "these opinions are generally written by people that obviously don't follow China. ... They obviously don't talk to people on the ground. I sent that article to my staff in China and they told me they cannot find enough cars to buy. I actually find those investor type blogs just typical not just of China but of the broader mood in this market.
Jim O'Neil Went to Beijing and Shanghai to see, Why not visit other cities or the country side to visit and see purchasing power of the majority of Chinese people. Then you will realized that their salary are still low in comparison so that their exports are still competitive.
I read the whole thing and can't make heads or tails out of it. Lots of tangents and factoids, but no coherent thesis I can follow, no reason I can find to support the conclusion that the USD may strengthen (itself a rather weak assertion). Can anyone else summarize and explain the author's point?
max, i agree completely. i was totally confused with what he was writing. whatever point he was attempting to make i think he could have made it by writing in simpler and clearer terms. guess it's just me that had trouble though.
HH has been a leading proponent of the GDP being overstated by trillions in the US. Therefore one could conclude that the ability to service that mushrooming debt is vastly overstated (e.g default). He goes on to state that the consumers and the pensions etc have all this wealth that could be shifted to treasuries, but that wealth is contingent on the overstated GDP. By admitting that and scaring people into Treasury debt, the Fed would be endorsing the Edwards Ice Age thesis. Ergo, money printing and his endosement of gold as a rebuke to the scoundrels he lauds and loaths at the same time. I get the feeling every time I read him that his entire mssion in life is to defend to the death his deflation thesis if only reflected in dropping 10 yr yields.
HH: [insert picture of wheelbarrow in keeping with the art theme] and run with it
For all in-ten-sive purposes, I find his zig zag ramble a little hard to digest. That and remembering his call that Gold would be below $600 months ago--and would stay there.
Indeed, the worst sort of art collector (or prognosticator collector) is the one who holds both masters AND fakes. Be careful of those who admit themselves possessed of a forked tongue. Be careful too of soothsayers who subtly lure you with confirmed truths and then mingle their half-truth and untruths into the cloth.
Collect only genuines, don't acquire forgeries no matter how artful. Neither hold mingled veritas; just as floorbeams made of iron and clay--they will not hold in the hour of need.
Years of excessive credit growth created a phantom GDP level. The unwinding of the credit excess shrinks GDP and also unwinds inflation that has already occurred. The reflationist trade in all its various forms of buying risk spread is crowded. It is crowded because of present condition myopia and a disregard for historical context. A huge part of this risk trade is a crowded position in overnight dollar liability.
British style of being clear and entertaining.
I shall do all my best:
The main gist of the paper is that we have come to the end of the road in creating wealth through the government. Back in the day, 1865, post-Civil War, government stimulus built the nation back from next to nothing. Government stimulus, for lack of a better word, worked.
Now that our "world" is so much bigger and so much more complex, government stimulus does very little in helping to grow the real economy. In fact, stimulus from anywhere has reached what Mr. Hendry called the "zero hour," as foretold by Japan in the '80's, in that any amount of stimulus will do absolutely nothing for the economy. It is just too ginormous to move. In fact, now you are throwing good money after bad and actually negativising the effect on GDP.
But our multi-trillion dollar "stimulus" in the modern day, there is all this money out there floating around. That makes bond traders' hair raise up on the back of their necks. "All that money makes for an inflationary scenario!" they say. Inflation rises, bond yields must go up because people want more profit for their perceived higher risk. If bond yields go up, bond prices go down. They say to short long-term government bonds (TBT, for instance..) because as inflation kicks in, bond prices will naturally plummet.
But not so fast, Hendry says. Let's think about this: if nobody is buying anything, no one is loaning anything and the velocity of money has come to a virtual halt in comparison to 2007, then inflation is not the thing (or it is not going to happen anytime soon...). The thing is going to be deflation- but maybe not so much.
The problem is that even with a little relative delfation in asset prices, such as commodities and stocks, large firms with high debt are going to incur slimmer and slimmer margins to the point where they actually owe more than their enterprises are worth. That means bankruptcy.
Companies go bankrupt, everyone gets scared, people start BUYING bonds, not selling them! The guys short the long-term treasuries (including China, btw..) get hammered again on the way down. Fear reins in risk. Stocks sell off, oil sells off and people put their money into places deemed relatively safe, such as gold and US Dollars. Gold shoots the moon (I don't personally believe that. I am just translating...) and the way to make a boat-load of money is to make bets that corporate debt is going to crash under its own weight. Buy Credit Default Swaps and watch the carnage.
I hope my understanding is accurate. :D
Which is why since July 2008 that I noticed and gave it up, there is no profit shorting TN futures. As Eclectica's thesis and mirroring Japan on a sliding scale, we may have reached the debt Zero hour when each USD creates a negative GNP. The stimulus is the knee-jerk response, but to a Black Hole. The only stimulus must be engineered to produce an event subject to HDTV metrics...like stimulating SB lending might create a job, but if it is to flip out-sourced goods, it is not helpful and must be refined away. Financial egineering? Dead! Outsourcing without US Manufacturing? Dead!
Buying CDS from who? Without the TP unlikely to play that again to cover there is a BK counterparty. The system is built now set to produce a net short in Cash. The only way out is to grow a US backbone in this jellyfish economy. No inflation hedges, nothing but a grindingly slow tendency toward lower rates and higher USD. Find some way to actually help someone/system and get over thinking you can participate in life best by producing cash and most of all, get over yourself. It's triage time.
So yes Orly, I agree but the CDS counterparty risk is too high a hurdle for a real fix.
NICE...I vastly appreciate any reference to the "Cross of Gold" speech.
So many lessons from the election of 1896. One very relevant one is that government purchase programs always end badly (as did the silver purchase program of this day). The other lesson is that choices about the nature of our monetary system are ALWAYS political. The Democrats supported creation of the Fed largely because they got their asses handed in 1896 stumping for a bimetallic standard (and fiat money was the only other politically favored alternative to the Gold Standard).
Its history MFs. Read up on it.
Though we walk through the valley of debt we fear 'no easing'.
As mentioned many times i'm still expecting a USD RALLY.
So am I, but Bernanke has other ideas.
There are a couple major risks to betting on the Bernanke/Geithner weak dollar strategy.
1. Populist backlash against banks prevents any more bailouts could cause a stronger dollar due to the massive losses remaining to be recognized on bank balance sheets.
2. Mercantilists decide to print faster than Bernanke/Geithner, leading to devaluation of all currencies, but a stronger dollar versus all currencies other than gold.
3. Populist backlash in the mercantilist countries against losing money on their dollar reserves forces them to demand a strong dollar policy from the US.
You assume TPTB care about what the populace thinks or does. There was a significant populist backlash against TARP, and it got passed anyways...
Your point about USD coming out ahead in the middle of competitive currency devaluations is interesting, though. That would seem to set up a strong dollar scenario while simultaneously being good for PMs.
Perhaps that's the goal? Bring the whole thing down, but still assume the US is smarter than everyone else and will be able to come up on top while inflating away the debt?
I agree to a degree. B&G are going to do whatever it takes with Congress's tacit or, if absolutely necessary, active (through some excuse they'll pull out of their asses) backing at least through the first Tuesday in November 2010. The equity markets need to stay aloft or a lot of incumbents will get tossed off the Gravy Train. After that. . . not so much.
That's the trouble. You can't, as I have learned over the last several months, invest in or short equities as in days of old (last year).
Until the mother of all pumps ends I'll be ok just looking at special situations and missing the fraudulent general runup.
Reits are up how much (shaking head violently)?
Mother Pumpers !
what I got was not that the dollar is in a strong position, but that other currencies are in a weaker position
Breaking news - Bernanke loses out in 2009 stimulus awards.
Have a good weekend.
Tyler, thanks for sharing. First time I am reading this guy - I love his style! For those confused about what he is saying, it is very simple - he thinks overcapacity and lack of demand will trump dollar depreciation in the short-intermediate term. Interestingly, he does seem to suggest that Japan could experience a sovereign default (and hence hyperinflation) in the short-intermediate term. So my takeaway is yes, the policies of Bernanke and Obama/Geithner will result in a dollar collapse, but only at the END of a journey (which we have just begun) whose BEGINNING is a Japan-style deflation first.
In this 'must read' piece I have difficulties to follow the facts. Inflation as explanation?? There are different definitions of inflation but neither started ten years ago. Growth in money supply, CPI and Pre-Clinton CPI from shadowstats all do not match the timeframe. To finance China Dollars are needed? I heard they use yuan in China.
To call the loss of manufacturing base to China 'comparative advantage' reminds me of Orwell's 1984.
To criticize the monetarist view of inflation please to provide a definition of inflation to start.The pension fund of the Church of England invested at the top in a bull market; Harvard has a risky portfolio - what does that tell about other investors or even readers of Zerohedge?
If China is the commodity market, what is crude oil?The US consumes some 25% of the world's production of that stuff.Not exactly my field, but I highly doubt that a quarter of the cost of an aluminum plant is the inventory of aluminum. Then that plant would have a cost structure completely different from any other basic material production plant.If China is cornering commodities, there is a difference to the Hunt Brothers. China is not trading on credit and it has nukes. Nobody can change the rules to squeeze China out of a position. That is a subtle difference.
After 27 years of rising bond prices it must be the right thing to buy, as well as buying stocks 1999 was for the Church of England.
There could be a shift of investments to treasuries; the wealth is there. But the money is mostly invested somewhere and for pensions needs usually a return of some 7% or more. Pleas explain how that works. Sure Bond prices could go up and provide investment return, but who would buy the bonds at high price and low yield?
After four pages of bull excrement I give up.I am glad that my money is not managed by this guy.
can you give an example please?
Or is that irony?
It was a superbly written piece. Inflation is a crowded trade today - and I'm in the crowd - but crowded trades have a way of being wrong. The fact that most of the Treasuries obligations are short term in nature may ultimately be what proves him right.
JGB trade: Helping blow up a longstanding peer/lackey that is drifting out of the orbit anyway (Okinawa basing, treasury debt, China relations, trade etc.) is not outside the realm of reality - diversionary. Wonder how timbo fells about the Einhorn comments?
Gold vs. 10 yr: gold you can take delivery, interest rate swaps not so much
that cold be a trade.
Second thought: "The credit intermediation process has been broken," so get out of everything that needs credit to survive. That excludes most stocks and leaves government bonds, hard asstes, forests and so on. In this view investing in government bonds for a while makes sense.
The credit intermediation process has been broken, people don't get that
Maybe, or maybe people get that it is broke and further recognize countries around the world are debasing their currnecies in a crazed attempt to print enough money to save the banks.
Inflation by currency depreciation because credit is broke is the path to worldwide hyperinflation. Hyperinfaltion is simply monetary panic in the face of deflation. Deflation and currency depreciation go together in our modern fiat world.
When sovereigns announce default, it will be the the short term traders that take the loss thinking they will be able to trade out before the full impact.
They will be wrong. Trade sovereign debt instruments at your peril.
Take the 30 year. Trading it since March would you exceed the dollar decline of 16%.
You have to be a superstar trader to out trade the currency debasement AND sovereign risk.
I always enjoy reading what Mr. Hendry has to say. So Jim Shepherdesque. As for Treasuries what asset class has ever topped while inspiring such universal revulsion? While the path may be uneven, the secular journey has, I think, some distance to run. The problem with the 30 year is a lot of folks equate buying with marriage. I started picking it up last summer with the view to holding it for a year or two, maybe longer. Nominal interest rates will remain low as long as the unemployment picture worsens or fails to improve. Mish has an interesting post today postulating unemployment could be a problem for years considering the number of parttime workers and historically low (currently averaging 33hrs) hours worked per week. The other thing people miss is how high real interest rates actually are. People were impressed when nominal rates were 15% plus in the early eighties but forget inflation was about two or three percent behind. By some estimates the CPI is running between -2 and -6% today, producing real interest rates on the 30 year of 6 to 10 percent depending whose view you believe. That's a pretty respectable return from an asset class that is far safer than a lot of the crap pension and hedge funds have been dabbling in. Oh and if we should get a spike in long yields (ala 1931) driven by the hysterically irrational fear of inflation I will be buying with both hands.
Trading treasuries is like playing piano. Down and up the curve as fear grows and subsides.
The US treasury market has been in continuous existence since 1790. It has seen worse QE than what 2009 dished out-- multiple times.
And we are no where near out of the woods yet. Plenty of fear to come.
CPI may be running in negative territory, but that is all because of real estate. Almost everything else of importance is going up in price.
I wandered among shadowing figures in the fog only to behold credit default swaps on Japanese utilities.
my, I do dislike his style of expression, though the message be a pleasure to receive.
An excellent post that gives creedence to the deflationist side of the argument, and poses the question of what if all this Q.E. and stimilus does not add bupkiss to world GDP, and why Treasuries are a good long play..
A plausible argument, since deflation is very difficult to cure..
Also offers a convincing argument that we are on the road to repeat Japan's failed economic experiment..
deflation means default - that is the the point. If it didn't benji wouldnt be printing like a madman. perhaps a short term trade for the risk reversal, but a natural restting lower on all asset classes hence his butterfly gold trade
Yes, indeed. The Banks are sopping up and hoarding Ben's paper. Combined with suspension of Mark to Market, they have temporarily put the finger in the leaking dyke of asset deflation...
It reminds me of that old Kansas song.
"How long..........to the point of no retuuuuurnn ???"
“And an America that saves is an America that does not run a current account deficit. It is an America that can finance its own spending domestically.”
Can someone show this guy the unemployment trends and corporate tax receipt trends?
An America that can't eat or keep a roof over its head is an America that doesn't keep a whole lot of cash in pension funds - early withdrawal fees be damned. And even if they did, $8trn still comes up a little short to paper over the pink-elephant-in-the-room derivatives problem.
To say that the dollar will be saved by pension funds shifting money to Treasuries during the next down wave in equities wreaks of someone who hasn't been to the south side of downtown in awhile...
A great article. At the end did you catch his portfolio?? Talk about tail risk! I am not smart enough to do that. The only dif between Jap and us is that just maybe we a little more innovative than they are. Could be wrong. Also we don't have the demographic problem they do.
US do not have the same demographics? The US has quite a pronounced demographics issue as do most of the Western Economies due to the post war baby boom, we can not all import other countries youngster.
In J Paulson I trust. I like Hendrys CDS ideas but I think he's off with this long term dollar strength crap. A bounce in the near future? almost certainly. But that will not last.
Nobody contests that we have deflation now and will for some time. That is not the point. The point is that to avoid this, Benny is going apeshit at the presses. Expect Stimulus 2.0 emanating from a crisis at the FHA (see todays WSJ) or FDIC, possibly both in a chain reaction as mortgages default, then banks go bust again at a greater pace. Lots of ARMs yet to refinance - without having the benefit of any home price increases to fall back on. The housing bust is not over, money supply and velocity has a long way to go still. Buy gold and gold stocks on dips, stay away from the stock market in general and be patient.
Problem is we really don't know what Paulson doing unless it's SEC reportable and then maybe not so timely. Offshore?...whatever.
Well, we know that Paulson, in his non-risk arb plays likes to go for long term trades with pot. very high R multiples (e.g a monstrous 12 in the case of the CDSs he bought in 2005), and if you postulate that he is right and we are talking timing only, this trade has a long way to go since his gold investments have not gone that far yet. Trouble is of course we don't know if he is right or not. I was a long term goldbug before I knew he was, so I am not a copycat in this case, but I must admit it didn't hurt my confidence when I heard he was all-out long gold. The man is pretty smart. Calling him a one-hit wonder is also a little ridiculous. His track record pre-housing bubble may not have been stellar, but it was far, far above average.
thats his intention - to confuse you. Why would someone spent his valuable time to work on something and then share for free with his competitors in the market. O yea, another intention - attract cusstomers that think wow this guy is soooo smart, i need to give my money to him.
Is the bulk of sovereign cds trading on sovereign bonds in its own currency? An early poster pointed out that if that was the case, a default must be voluntary, which makes a lot of sense. What about Euro members. Teh pigs could default, couldn't they? Any thoughtful responses appreciated.
So China defaults on CDSs as they said they may... What then would their increasing Gold stores be worth? Would we be at Ammo and canned food by then?
Boggles, don't it?
What? No Dr. Seuss to get his point across? The anecdotes are cute, but meaningless. He may be right that what governments have done thus far will be proven impotent in halting deflation, but we will have to see is what they are willing to do. Who would have thought a few years ago that our largest insurance company, one of our largest banks, and our auto industry would be effectively nationalized?
If his definition of inflation is more money supply, no problem. If it is higher prices, there are plenty of things governments can do. They can pay farmers to burn crops, as they did during the Great Depression. They could send out "stimulus" checks, not for $500, but for $50,000. They could have the PPT push the S&P to 5,000. They can print money to build new shopping malls to sit empty. Or better yet, then pay someone to knock them down. If they are hell bent on rising prices they can do it. They just have to make sure Dancing with the Stars is on so noone thinks and questions the long term ramifications.
It would seem to me that governments all over the world are printing like crazy and eventually economies will heal themselves despite their interference. And then? Wham! More inflation than they ever thought possible.
Overall a good article. I too am a short term deflationist. Benji and the feds have put "a finger in the deflationary dike" for now but they will have to do even more in order to stave off the deflationary abyss. One point that he left out was the 900 billion dollar price tag for the US empire and its overseas adventures.
Here is the best analogy i could think of for the current situation. Governments and central banks are at war with deflation right now. At the same time they have to be careful of inflation and inflation expectations. The US is tiptoeing on a tightrope as the USD is the world reserve currency and want to avoid a USD panic selloff. So if they shoot too many bullets they will destroy the city killing every man, woman, and child (inflation overshoot). If they dont shoot enough then the troops get slaughtered (deflation continues). There will be ebbs and flows in both directions and this is what we need to base our trades off of. In the end, however, inflation will prevail as i can see the feds literally sending out printed money to households within a few years.
I think Hugh Hendry's greatest flaw is his insistence on being a contrarian. Just because everyone is bearish on the dollar he believes that he has to be bullish to differentiate himself from the crowd. While it is always important to consider alternatives it usually does not pay to go against the crowd. Generally you make money following the herd.
Hendry seems to be someone who would rather be right than rich.
what would constitute a sovereign default? failure to pay what? how would that cds be triggered? would like to hear from steak or ghostface (always appreciate the knowledge) or anyone else on this question.
HH used to work with colleagues of mine and was regarded as a bumptious upstart, not above considerably padding his CV and talking a good game to get himself out of a corner. take a pinch of salt between each paragraph.
However, I'm seeing a consistent Japan rumble building and a change of government makes everything possible because it introduces the required note of uncertainty that makes for a tipping point if even a fleck of shit hits the fan.
Ultimately, I don't buy his CDS trade because it relies on the counterparty to pony up and if Japan goes down the toilet, AIG will just be the slightly less impressive warm up act before the real comedy gets started.
O beautiful China:
Remember guys Banana Ben can "make" money faster than people can spend it. And I don't know of any paper currency that died because it became too strong. Don't get fooled by the so called deflation. That's exactly what I witnessed back in the old country. Very, very tricky!
yeah, fair enough but do you think that London was pretty when it suffered the Great Stink or in the 1950s when city centre coal fired power stations were choking the populace to death? Was NYC pretty when the Hudson was essentially a rank sewer? Are they pretty now? The path to world domination is dirty and smelly.
Love Hugh Hendry but he doesnt answer the main dilemma. If you have money/saving, then u can survive deflation. if there isinflation, you are wiped out. thats the real assymetry in the real world.
Hughbert the Hendry. Nice Scottish brogue, looks like he's had half a nip all the time. Talk, talk, talk.
He's still just another allocator. Put in this paper, avoid that paper, blah. blah. blah.
Expenditures exceed income. Credit will constrict to nothing. The real economy is being destroyed. The economy built around political and monetary access is being propped. All the institutions which direct the "productive" impulses of the masses are distorted; if not outright owned.
All the signals and indicators are sullied. All the prognosticators still standing are part of the Matrix. Anyone with any insight is off the grid.
Yes, it is that bad.
Ladies and Gentlemen:
I'm writing CDS on all Japan JGB's and all US Treasuries. No amount is too large. Since we are gentlemen and ladies, let's not get sticky about collateral. But please forward the CDS purchase price to the following account at Bank Pictet:
XXXXXXXX in favor of Chindit13
And rest assured I am as likely to pay off in the event of default as anyone else on this planet.
I'll take a stab at paraphrasing a few of his key points:
---China and most of Asia are all ready for a party at which they are the caterers; if the party is called off they went to a lot of wasted effort. They cannot afford their own output.
---There is some advantage in not having a massive industrial base when everything one might produce sells for a price below the cost of production
---The marginal return on new debt results (now) in zero contribution to GDP, and QE does not necessarily lead to inflation or a declining currency (Japan)
---End use, rather than stockpiling, is the key to long term price rises...petroleum is used; copper is stockpiled
---Domestic US investors are heavily underweight the Treasury market, and renewed savings plus asset shifts could lead to a domestically funded deficit (only problem here is where is the money now? If it's in EM funds or under the mattress I might buy this, but otherwise it's just a shift from one pocket to another)
---The inflation trade is crowded, and it relies on the almost universal assumption that the dollar will always decline
It seems so incredibly obvious.
We just *did* 8 years of inflation. We created the biggest credit bubble in history.
Inflationists are resting their hats not only on the belief that we can do it again, but that we can do it bigger.
The position seems crazy. I'm with HH in the deflation camp. We can do this quickly, or we can do it slowly -- but we are going down. Cash will be scarce, not plentiful. The colapse cometh.
"Clearly the additional return from ¥en debt in Japan is close to zero and it exposes the nightmare of interventionists everywhere: it may just be that there are no policy remedies for a debt deflation."
Von Mises said it more concisely -- but yes, that's exactly right. The emperor has no clothes (and nor do his policy makers). There is no avoiding the final collapse of a credit bubble. The only choices are: Do it quickly, or do it slowly. But it will and must collapse.
I address Hendry's dubious citation of Japan as an example of how to maintain a crippling debt with low yields on my blog for those who have interest. holler
This painfully long article can be summed up in one prediction and one recommendation. The prediction: Deflation, not inflation, is to come. The recommendation: Short Japan
As to the prediction... time will tell.
As to the recommendation... investors have been losing $$$ on this trade for two decades. Beware.
This Hendry guy, much makes sense, but i looked up his performance, is really not that impressive? info on Bbg:
2009 return -8%
5 yr return 6.44%
Ticker: ODYECLE KY
Hugh Hendry - good entertaining theater, does make some sense.
soliciting comments on him and his fund performance, data on Bloomberg:
5 Year: 6.44%
Charges 1/20, ticker: ODYECLE KY
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