What comes next?

For those of you who follow Raoul Pal on Twitter, he has recently released a number of tweets looking at three asset classes and what the charts are telling us about what comes next.

The Dollar Wrecking Ball

https://twitter.com/RaoulGMI/status/1254110879479746562

Deflationary Commodities

https://twitter.com/RaoulGMI/status/1252396835202715655

Commodities like oil, copper, corn have all formed multi decade bearish patterns suggesting reduced demand, consumption and price deflation (below is commodity index chart releasing a head and shoulder pattern formed since 2002). We also just saw the price of oil crater.

Bonds most likely going to zero or even negative rates in the US as the demand for the US Dollar globally pushes demand and prices for bonds higher (US bonds are dollar yielding, ‘safe haven’ assets). The price of bonds is inverse to the interest rate yield and thus higher demand and prices mean lower yield rates (and vice-versa). Chart below of the 5yr bond yield, looks like it is going to 0%.

Currencies, which in a global setting, boils down to the US Dollar vs everything else. With the USD as the global reserve asset, an extraordinary volume of USD debt is owed by foreign nations, corporations and individuals. There is orders of magnitude more USD denominated debt than there are US dollars. Furthermore, nobody demands AUD, GBP, YEN or EUR outside those nations/zones.

As a result, all other countries need to devalue their currencies to buy USD to service their debts. The chart below shows the performance of global currencies vs the USD…it is grim.

What the market is telling us is coming next is most likely a deflationary process in USD terms but inflationary in other currencies. This makes USD debts harder to service with non-USD currencies and leads to defaults, potentially on a scale of mass insolvency of large corporations and even nation states.

What is possibly unique about this, is that the US Fed could most likely print as much money as they want without any real inflation occurring (yet!). The demand globally for USD is so large, that the printing of several Trillions only goes a fraction of the way towards offsetting the debts and will continue to push the USD relative value higher. This is also deflationary as USD money gains purchasing power.

Outside the US, nations who do not have the privilege of printing US dollars must rapidly print and devalue their own currency to buy USD which is in fact inflationary locally. The local currencies are only useful inside the economy so whilst nations may print to service USD debts owed externally, that printed currency remains internal to the economy leading to inflation (perhaps in the medium to long term).

What may play out is actually inflation outside the US whilst deflation occurs inside the US. For a key data point on this, just check out the price of Gold in USD (black) vs every other major currency. Very different charts. Gold is at All time highs against all currencies except USD.

Concluding thoughts

As I zoom out and look to look at the likely outcome, it seems to be a deflationary period, coincident with the end of a long term debt cycle is upon us around the world. The interesting part is, deflation may not be evenly distributed. The demand for US dollars continues to strengthen and is likely to become or is already a critical issue for sovereign nations in paying back their debts.

The Triffin dilemma is in full effect. Whilst the US FED is printing money at an extraordinary rate, there is no incentive for INTERNAL US borrowers to send that fresh money overseas, they would rather hoard it for themselves. With reduced global trade due to COVID, fewer dollars are making their way into offshore markets making it even harder to pay back foreign debts.

We may very well see nation state level defaults. Bonds then become a liability rather than an asset. Bonds may not perform as the safe-haven asset the world has grown to treat them as. This again indicates we are at the end of a long term debt cycle.

The result is likely to be extraordinary printing globally whilst the inflationary effects start to be felt outside the USA first. For scarce assets like gold and bitcoin, this is a source of genuine demand in order to protect savings from devaluation. This is especially true for people who cannot access USD directly and gold and bitcoin, both priced in USD, become sane assets to hold. As the picture becomes clearer, day after day, the thesis seems to remain the same.

USD to outperform all other currencies

Gold to outperform USD

Bitcoin to ‘ideally’ outperform gold

Stocks likely to be extremely volatile and most likely becoming a product of market favouritism – most underperform, a select few perform spectacularly.