Using Gold To See Where The Dollar Will Move Next

Using Gold To See Where The Dollar Will Move Next

I’ve written a lot about how the US dollar is the fulcrum of the global financial system.

Commodities are priced in dollars. Global trade is done in dollars. And the majority of international funding is in USD.

The dollar is important. Dollar trends impact markets and assets around the world in various ways. Hence why the dollar is the fulcrum.

But if the dollar is the fulcrum then gold is the foundation on which that fulcrum sits.

I should make clear, I’m no gold bug and have no special affinity for the yellow metal.

But when it comes to analyzing assets and markets we run into a measurement problem. That measurement problem is due to the fact that things that are priced in US dollars, or any currency, fluctuate according to the price of the currency in addition to the good’s underlying supply and demand fundamentals (ie, the price of oil is impacted by the relative price of a US dollar).

And the price of dollars can fluctuate a lot.

You can see how this makes things difficult. When you analyze goods priced in USD you have to also assess the US dollar as well.

Gold is a useful tool helping with this measurement issue.

Perhaps due to gold’s long history as a store of value it has a special place in the market’s psyche. Since gold is priced in USD but has little intrinsic value (ie, little productive use and no cash flows) it acts as a good barometer to gauge the changing relative value of $1 USD of account or the price of 1 unit of USD liquidity (USD assets).

When international demand for USD liquidity exceeds supply, gold tends to perform poorly. And vice-versa when USD liquidity exceeds global demand for that USD liquidity.

Make sense?

Because of this, when I’m trying to discern the probabilities of where the dollar is headed next, I always start with gold. Even though gold is priced in dollars, it often leads at major turning points because the fundamentals are similar for both assets but for whatever reason those fundamentals often show themselves in gold first.

Of course, this isn’t always the case (there’s no such thing as a perfect indicator). But even in the cases when it doesn’t lead it still serves as a good confirming or disconfirming signal for the dollar.

Below are some charts. They’re a little messy but I think they get my point across and show how useful gold can be as a leading and/or confirming signal for the dollar and hence the dollar priced commodities.

This chart shows gold inverted (black bars) and the US dollar (red line) on a monthly basis.

Notice how gold failed to confirm the dollar’s bear move from 94’-96’ when the dollar sold off but gold traded sideways in a range. This is a disconfirming signal for the dollar which suggested the move was a corrective one and not the start of a new trend.

But then in 96’ both the dollar and gold (inverted) began trending upwards together. This signalled that this was the start of a new trend. The macro fundamentals also supported the case. The world was hungry for US dollar liquidity (assets) and demand outstripped supply which was bearish for gold but bullish for the dollar.

Then go to 01’ where  inverted gold peaked and began making lower lows and lower highs. While at the sametime the dollar made one more new high. Gold gave a leading signal that the bull market in the dollar was over.

Now check out this chart.

Here’s the current dollar bull market (red line) on the weekly. The dollar made lower new highs and coiled into a tight range from 13’-14’. At the same time, inverted gold trended higher, not confirming the lower move in the dollar which suggested building pressure in USD demand.

And then again from 16’ to 17’ inverted gold moved lower while the dollar made a new cycle high that gold did not confirm. This gave a sell signal on the dollar and USD shortly turned over thereafter.

Of course, there’s instances where the indicator gives false signals and using it is as much an art as it is a science. It alone shouldn’t be used as a reason to go long or short the dollar but rather as a key input into one’s macro decision making process.

Now let’s quickly look at where gold and hence the dollar may be headed in the near future. Many of the charts are suggesting a coming explosive move in one direction or another.

Below is gold on the monthly timeframe showing a coiling pattern. This type of price action typically precedes large moves.

And I’ve been pointing out over the last month how numerous dollar pairs are at large critical junctures and a coming significant move is likely.

Below are AUDUSD, GBPUSD, and EURUSD on a monthly basis.

Now let’s take a closer look at gold and see if it’s telling us anything.

In this chart, gold (inverted) and marked by the black line failed to confirm the dollars most recent new pivot low. But the disparity isn’t that great so this doesn’t give us much confidence.

Another thing I like to do is to look at the momentum structure of gold to see if momentum is building in one direction or another.

The chart below shows gold (black line) and gold’s momentum relative to its 3-year mean. It signalled the end of the bull market in gold well beforehand. But right now, it’s not tipping the scales in one direction or another. It’s slightly positive to neutral.

So unfortunately it’s tough to get a good read at the moment. My bias is that US stocks are about to start outperforming the rest of the world soon. And this is going to help reverse capital flows which will put a bid back under the dollar and start a new leg higher in the greenback.

There are other macro dynamics such as changing international trade rules, raising of the debt ceiling, and US tax and monetary policy which are supportive of this hypothesis.

And I believe that gold is setting up to signal one way or another soon so I’ll be keeping a close eye on it.

In a future piece I’ll lay out a fundamental macro model I use that shows one way of looking at the big picture USD liquidity supply and demand picture. This is a useful tool for seeing where the attractors are for gold on a cyclic level.

PS — If you’d like more of this type of research, then check out the Macro Intelligence Report (MIR) here.



A Bullish Big Picture With Growing Near-Term Headwinds

A Bullish Big Picture With Growing Near-Term Headwinds

There’s some growing signs of weakness in this market. Breadth is slipping, credit doesn’t look too great, there’s more new lows versus new highs being made… that kind of stuff. I’m still not getting any major sell signals, except from my high-yield indicator. It flashed a signal today.

But there’s word the recent weakness in junk may be due to concerns over how deductions for debt and interest payments will be treated in the Republican tax reform plan. I don’t know. Either way, I’m not seeing any major red flags outside of junk bonds just yet.

I’m in “wait and see” mode, just “sitting on my hands” as Livermore would say. I’ve trimmed my book some but mostly because I want to free up capital for other trades that are lining up.

One of these trades is long dollar. I won’t expend much digital ink laying out my long dollar case, I’ve already done that plenty.

The skinny is that the market is underpricing the impact of tax reform, changing trade policies, and the coming normalization of the Treasuries balance sheet. These are bullish drivers for the dollar. I think the market will wake up to this in the coming months.

I’m already long the dollar through the yen pair. But I’m looking to also get long against the aussie and pound as well.

The technicals for the trades are setting up nicely. Take a look at this monthly chart of AUDUSD. Price has broken below a 15-year trendline and recently had a failed breakout to the upside.

Here’s the same chart on a weekly basis. You can see the bull trap failed breakout and now price is near the critical support line of its consolidation zone. The aussie is also plagued from a slowing China and a leveraged domestic housing market. A break below here would spell trouble for the pair.

Similarly, the pound has broken below a major 20+ year trading range shown on the monthly chart below.

It has retraced back up to its previous long-term support level which is now serving as resistance. Price is currently trading at a critical support level where if broken would likely indicate lower prices ahead. GBP has a number of political and economic headwinds, many of which could serve as a catalyst/driver for lower prices against the dollar.

Here’s a quick ‘Marcus Trifecta’ look at the technicals, sentiment, and macro of the market.

Sentiment: A little frothy

Market sentiment has notably shifted to very optimistic over the last six months. And nearly all of the sentiment and positioning indicators we track are showing that.

BofA’s Bull & Bear Indicator is nearing extreme bullish territory. The components of this indicator can be seen in the chart on the right.

And their latest fund manager survey showed that hedgies are becoming quite optimistic on equities and much less risk averse.

The chart below shows there’s a record number of survey participants taking on higher than average risk.

A record number also said stocks are overvalued, yet their cash levels are falling, meaning they’re upping their risk exposure. BofA is calling this a sign of “irrational exuberance”. I’m not sure we’re at that stage yet, but we’re be getting close — as I write this a Da Vinci painting of some dude or a chick that looks like dude just sold for roughly $500M. Yikes…

The latest positioning data has banks and the eurozone topping out as the assets that investors are the most long relative to the survey’s history.

I wonder how much this data is skewed though since banks and European stocks have been investor kryptonite over the last 8 years. Maybe overall positioning here isn’t indicative of extreme bullishness and therefore it’s less reliable as a contrarian signal? I don’t know, just something to think about.

Tech on the other hand remains a one way street. Investors have been throwing money at the big tech stocks, where being long FAANGs has become the “no-brainer” trade in the market. Weekly inflows into the sector recently hit their highest levels on record. And now with the FANG futures coming out things are really starting to get ridiculous.

Technicals: Path of least resistance is still up

SPX continues to trend higher in its ascending channel. The short-term trend is overextended but that alone is not cause for concern (chart below is a weekly).

Small-caps are close to having a failed breakout of their broadening top pattern. The weekly chart below shows price just trying to hold above the top support level of the pattern. Something to keep an eye on.

Many financials are retesting their recent breakouts.

The weekly chart of JPM below is a good bellweather to watch for this sector. This trade is largely moving off of long-term rates, so if the yield on the 10yr continues higher then we should expect to see financials trend up as well.

Macro: Strong but keep an eye on China

Growth is picking up in most countries around the world. Numerous ‘Big Picture’ macro indicators we track are signalling further economic strength in the months ahead, such as the BofA GLOBALcycle chart below showing a hockey stick move higher.

As growth picks up and the global credit cycle progresses, a number of inflationary pressures are building such as growing wage pressures and higher input costs from rising commodity prices. Expect these pressures to continue to build as more output gaps tighten in the coming months.

One of the major threats to the global economic recovery is China.

China’s credit cycle is long in the tooth and now that Xi has consolidated power he has the freedom to make the moves to begin deleveraging the economy. How this plays out will have consequences for the rest of the world. And things won’t be helped by the beginning of a liquidity suck driven by a tightening Fed and a US Treasury normalizing its cash balance; both of which will pull the dollar higher.

I like to keep a close eye on China’s property market since it tends to act as good indication of which direction leverage/credit are moving in the country. And floor space sold in Tier 1 cities has recently fallen through the… It’s something to keep an eye on.

No cause for alarm yet. The broader cyclic indicators we track for China remain supportive in the near-term.

Conclusion: Big Picture remains bullish but near term there’s growing headwinds

  • Sentiment is reaching frothy levels and will likely act as a market headwind in the coming weeks. Tech, especially long FAANG stocks, is a crowded trade and there’s a good chance for a large shakeout soon.
  • Technicals: The trend is still clearly up. It’s overextended in the near-term but that’s not cause by itself for a sell-off. There are signs of growing technical weakness but no major sell-signals yet. It seems the market is waiting for news on tax reform (which I think is going to pass). I wouldn’t be surprised to see stocks rally on positive tax reform news only to sell off shortly after. But who knows, we’ll continue to read the tape and see.
  • The macro is strong and all signs point to higher growth ahead. This growth will bring inflationary pressures over the coming months which is going to push rates higher and change the tune for central banks. A tightening Fed and moves by the Treasury following a raised debt ceiling at the end of the year will start the process for global liquidity to begin to slowly get sucked from the system. This trend will also be exacerbated by more companies raising there CAPEX spend which will pull the buyback bid from markets. On top of this we need to keep a close eye on China where the property market is cooling but the main indicators remain supportive.

If you want more market analysis like this, be sure to the check out our Macro Intelligence Report (MIR) here.



Bitcoin Bubble

The Bitcoin Bubble: A $6,000 Pokémon Card

The following is an excerpt from our Macro Intelligence Report (MIR). If you’d like to learn more about the MIR, click here.

On May 22nd 2010, computer programmer Laszlo Hanyecz ordered two Papa John’s pizzas. They were Hawaiian style. He paid $60,000,000. According to Laszlo, they were your typical Papa John’s, and tasted only “okay…”

In 2013, a Brit by the name of James Howells accidentally threw away a laptop worth over $45,000,000. He realized what he’d done a few months later and went down to the landfill to dig through mountains of garbage to no avail. James says he’s now “at the point where it’s either laugh about it or cry about it… Why aren’t I out there with a shovel now? I think I’m just resigned to never being able to find it.”

In 2009, a Norwegian named Christopher Koch made a $27 investment on a whim. The investment “annoyed” his then girlfriend who thought it was a waste of money. Today, his $27 investment is worth $30,000,000. Chris now owns property in Toyen, the wealthiest neighborhood in Oslo. He has a new girlfriend.

You’re probably wondering what I’m talking about. Who are these guys that would drop millions on a pizza or somehow forget about buku money stored on a laptop?

The common thread here is bitcoin — the first and most popular cryptocurrency.

I was having some fun with the numbers. You see, Laszlo didn’t really spend $60M on two Papa John’s pizzas. He paid $25 for them, but in bitcoins. 10,000 of them to be exact. It was the first recorded merchant transaction in cryptocurrencies ever.

But the price of bitcoins has gone up a bit since then.

A single bitcoin today is now worth over $6,000. Those 10,000 bitcoins that amounted to only $25 in 2010 are now worth over $60M. So in hindsight, it was an expensive pizza.

Bitcoin has had an annualized rate of return of 715% since then. As far as returns go, that’s pretty darn good…

If you would have bought $10,000 worth of bitcoin in 2009, when our lucky Norwegian bought his, your “investment” would now be worth roughly $1,200,000,000. Granted, you would have had to sit through horrendous volatility and numerous drawdowns in the +80% range, but still….

Alright, I’m done pointing at how extremely rich we all could have been if we’d just bought a couple pizzas worth of bitcoins a few years ago. We didn’t… we bought actual pizzas instead… so let’s wipe our tears and move on.

In this month’s MIR, we’re going to talk about bitcoin, cryptos, blockchains and all that good stuff.

There’s a lot of hype, one could even say a religious zealotry around cryptocurrencies’ future. It’s not hard to understand why. Bitcoin is up over 500% again this year and many of the other cryptocurrencies are up even more. Returns like that tend to create a fervent following.

Today our Macro Ops team will cut through the crypto zealotry to see what’s actually going on in the blockchain market. We’ll briefly talk about what Bitcoin is, where it came from, and how the market is likely to evolve going forward.  

The Beginning… How Bitcoin Was Born

The Bitcoin origin story is a fascinating one.

It was first developed in 2009 by a group of computer programmers. They built it according to a cryptographic architecture created by a pseudonymous author who goes by the name of Satoshi Nakamoto.

The public still doesn’t know who Satoshi is. It’s believed that he actually might be a group of people and not an individual.

Either way, he (they?) are the largest holders of bitcoin after mining it in the early days. They possess more than 1 million of the coins. This puts Satoshi at 247 on the Forbes wealthy list.

Fun fact: There’s a conspiracy — which is probably true — that the NSA uncovered who the actual Satoshi is. When bitcoin was created, the US intelligence community became concerned that it was the product of a rival state like Russia or North Korea. The government was worried it could be weaponized someday against the US, perhaps by upsetting the dollar as the world’s reserve currency.

So the theory goes that the NSA used stylometry, which is the study of written language, in conjunction with their billions upon billions of data points to compare things written by Satoshi to things written by everybody else throughout the world. And the word is… they got a match.

Anyways, here’s how the original Satoshi Nakamoto white paper starts (you can read the whole paper here):

Commerce on the Internet has come to rely almost exclusively on financial institutions serving as trusted third parties to process electronic payments. While the system works well enough for most transactions, it still suffers from the inherent weaknesses of the trust based model. Completely non-reversible transactions are not really possible, since financial institutions cannot avoid mediating disputes. The cost of mediation increases transaction costs, limiting the minimum practical transaction size and cutting off the possibility for small casual transactions, and there is a broader cost in the loss of ability to make nonreversible payments for nonreversible services. With the possibility of reversal, the need for trust spreads. Merchants must be wary of their customers, hassling them for more information than they would otherwise need. A certain percentage of fraud is accepted as unavoidable. These costs and payment uncertainties can be avoided in person by using physical currency, but no mechanism exists to make payments over a communications channel without a trusted party.

What is needed is an electronic payment system based on cryptographic proof instead of trust, allowing any two willing parties to transact directly with each other without the need for a trusted third party. Transactions that are computationally impractical to reverse would protect sellers from fraud, and routine escrow mechanisms could easily be implemented to protect buyers. In this paper, we propose a solution to the double-spending problem using a peer-to-peer distributed timestamp server to generate computational proof of the chronological order of transactions. The system is secure as long as honest nodes collectively control more CPU power than any cooperating group of attacker nodes.

The problem being solved here is a very important one in computer science. It’s called the Byzantine Generals Problem or BGP.

Here’s how BGP is explained: “[Imagine] a group of generals of the Byzantine army camped with their troops around an enemy city. Communicating only by messenger, the generals must agree upon a common battle plan. However, one or more of them may be traitors, who will try to confuse the others. The problem is to find an algorithm to ensure that the loyal generals will reach agreement.”

Silicon Valley VC Marc Andreessen explains the importance of this here:

More generally, the B.G.P. poses the question of how to establish trust between otherwise unrelated parties over an untrusted network like the Internet.

The practical consequence of solving this problem is that Bitcoin gives us, for the first time, a way for one Internet user to transfer a unique piece of digital property to another Internet user, such that the transfer is guaranteed to be safe and secure, everyone knows that the transfer has taken place, and nobody can challenge the legitimacy of the transfer. The consequences of this breakthrough are hard to overstate.

Bitcoin is a digital bearer instrument. It is a way to exchange money or assets between parties with no pre-existing trust: A string of numbers is sent over email or text message in the simplest case. The sender doesn’t need to know or trust the receiver or vice versa. Related, there are no chargebacks – this is the part that is literally like cash – if you have the money or the asset, you can pay with it; if you don’t, you can’t. This is brand new. This has never existed in digital form before.

Marc Andreessen is a smart guy. He, along with many other tech geeks, are excited about what the mysterious Satoshi created.

We should make a quick and important distinction here.

There’s a difference between bitcoin and Bitcoin. Bitcoin, with a capital B, refers to the cryptographic protocol of the network, otherwise known as the blockchain.

Blockchain is the digital ledger that uses the cryptographic protocol proposed by Satoshi to solve the Byzantine Generals Problem — basically, the tech to help with our internet trust issues.

While bitcoin, small b, refers to bitcoin the currency. This is the token that’s connected to the Bitcoin’s blockchain network and which bitcoiners transact in. It’s also often used as a blanket term for cryptocurrencies in general.

There are now over 1,000 different cryptocurrencies that are similar, yet different, to bitcoin with a small b. This list is growing every day.


  • Bitcoin was developed from a cryptographic proof that was written by a pseudonymous person or persons who go by the name Satoshi Nakamoto.
  • It was developed to solve the Byzantine Generals Problem of how to establish trust over an untrusted network like the internet, where transacting parties don’t know who they’re transacting with.
  • Bitcoin does this through the creation of a digital ledger (the Blockchain) where two parties can exchange a digital asset in a safe and secured way to the extent that nobody can challenge the validity of the transfer.
  • Bitcoins have gone up A LOT since they were created 8 years ago.

The Blockchain: A Revolutionary Technology

I suggest you spend five minutes and watch this quick YouTube video explaining Bitcoin (link here).

Here’s a quick description of Blockchain via Joseph Pham from Quora.  

If you understand the concept of a blockchain, you will have heard people (especially in enterprise) talk about distributed ledger. It describes a technology that uses a write once, read only “database” system that is bound by cryptographic verification, and bound through a series of “blocks” (batches of data / datasets) that are subsequently verified into a “chain” sequence of linked batches over time. This characteristic is what gives the technology the name “blockchain”. Systems that spread / make copies of these blockchains available across a network are often referred to as distributed ledgers.

You can make a blockchain without distributing it, but it might not be as practical and useful for the real world applications you might consider with blockchains.

Bitcoin is just one configuration of blockchain technology, which integrates certain blockchain technology with innovative monetary incentives, social economics and cryptography. The innovative monetary incentive is to have a self verifying money supply – the bitcoins – which are basically entries in the ledger, that are determined mathematically, through solving a complex cryptographic puzzle (hashing), that must reach consensus (peer validation) and encodes a specific reward schedule (approximately every 10 minutes) and total supply of bitcoins (21 million).

A bitcoin is basically just a token value on a ledger (like in game gold and coin values in video games), that are created based on a set of system rules. There are a lot of Bitcoin based and bitcoin derived blockchain applications (using the Bitcoin open source data repository). These are usually referred to as Cryptocurrencies, as Bitcoin was designed to operate as an e-currency system.

I hope I’m not losing you. Stay with me, we’ll get through this tech talk soon enough.

Just to sum up, a blockchain is a digital ledger that encodes every transaction on its system forever. It uses cryptography to ensure the validity of these ledger entries. It’s basically a one-way street where once entries are encoded, it’s nearly impossible to hack or alter them.

I’ve heard the analogy used that each block of transactions in the chain is like a mosquito encased in amber — Jurassic Park style — and every time crypto miners authenticate a transaction and approve the entire blockchain, the amber gets thicker and thicker around the transaction. Meaning, the longer it lives on the blockchain, the more permanent it becomes; and more difficult (or impossible) to alter.

The blockchain can be distributed or not.

In Bitcoins case, and many of the other cryptocurrencies, this digital ledger is distributed across the world. The benefit of this is that no one entity has power over the network and the data is extremely safe and robust since it’s copied all across the globe. Many servers can be wiped out but the data (the Blockchain) will survive.

The bitcoins, or the crypto tokens, are used as an incentive system for miners on the network.

These digital miners use lots of computing power to solve the cryptographic puzzles (called hashing) that’s needed to encode the bitcoin transactions and maintain the integrity of the blockchain. The network works off a consensus. Once a majority of the miners agree on the answer to a hash, the attached transaction then gets recorded to the blockchain forever.

The Brookings Institute calls the blockchain “a foundational technology, like TCP/IP, which enables the internet. And much like the internet in the late 1990s, we don’t know exactly how the Blockchain will evolve, but evolve it will.”

That seems to be the broad consensus amongst technologists regarding blockchain’s potential — it’s revolutionary and will have as sizable impact as the internet itself. But nobody is quite sure exactly how, yet.

The reason is partly because the use cases for blockchain appear to be nearly limitless. Here’s an excerpt from a report by BofA on the subject.

To be frank, it’s difficult for us to think of a large industry where there is no applicability of a blockchain, given the technology’s ability to reduce data storage costs and prevent tampering. After all, blockchain at its core is just a way to store and access data. Startups, trials and proof-of-concepts are abundant in a myriad of industries. Blockchain technology could make tracking and managing digital identities more secure and efficient. A distributed ledger could aid online voting, cutting down on voter fraud. In financial services, the technology could ease payments and transfers; smart contracts could improve trade settlements. Smart contracts on the blockchain are being used to shake up prediction markets. In the music industry, the blockchain can be used to solve licensing issues: Artists, including English singer-songwriter Imogen Heap, have released music directly to fans via blockchain platforms.

Companies ranging from Walmart to Maersk are now using the tech to better track and manage their supply chains. A number of banks and brokerages like BNY Mellon are using it to record transactions.

It’s a safe assumption to say that blockchain is revolutionary and is here to stay. But like the internet in the early 90’s, we don’t know exactly how it will revolutionize things. And again, like the internet, it will probably take a decade or two at least for the tech to mature and dramatically add value.

Now that we’ve got that out of the way, what about the value in cryptocurrencies. Is there any?

What are they worth? Is it a bubble or is this just the beginnings of the largest bull market in history?


  • Blockchains are the cryptographic technology underlying cryptocurrencies.
  • There’s a broad consensus that this technology is revolutionary and will have far and wide-ranging impacts on many areas of the economy; similar to the internet.
  • But like the internet in the 90’s it’s still early days for this technology and nobody is quite sure how it will evolve.

Valuing Cryptos: Zeros Or Heros?

To value something we have to first define what it is and what it isn’t. And in the case of cryptocurrencies’, this is not exactly easy.

Let’s start with the obvious. Bitcoins, ethereum, Litecoins, and the hundreds of other crypto tokens are typically thought of as currencies, as their names imply.

But what makes a currency? And do these crypto tokens check the mark?

A currency is measured by how well it functions as two things:

  1. Medium of Exchange: Currencies exist to make transactional commerce possible. This means that the currency needs to be accessible, transportable, and fungible in that it’s accepted by large amounts of buyers and sellers as legal tender.
  2. Store of Value: Currencies have to act as a reasonable store of value. Meaning, buyers and sellers need to feel comfortable keeping a certain amount of their wealth in it, knowing it will retain its purchasing power.

Let’s start with cryptos as a medium of exchange. We’re going to focus on bitcoin, since with a market cap of $100B, it’s the most popular of all the cryptocurrencies.

Here’s NYU Professor Aswath Damodaran on bitcoin as a medium of exchange:

The weakest link in crypto currencies has been their failure to make deeper inroads as mediums of exchange or as stores of value. Using Bitcoin, to illustrate, it is disappointing that so few retailers still accept it as payment for goods and services. Even the much hyped successes, such as Overstock and Microsoft accepting Bitcoin is illusory, since they do so on limited items, and only with an intermediary who converts the bitcoin into US dollars for them. I certainly would not embark on a long or short trip away from home today, with just bitcoins in my pocket, nor would I be willing to convert all of my liquid savings into bitcoin or any other cryptocurrency. Would you?

There are a number of reasons why bitcoin has failed to make large inroads as a medium of exchange. One reason is that as the tech stands now, it’s a costly and timely transaction process compared to the available alternatives.  

Here’s BofA again:

The problem with bitcoin as a peer to peer payment system is that it’s expensive, relative to conventional alternatives. This comes from the mining process. Mining isn’t a zero sum game. The economics of mining are pretty simple. There is a fixed reward per block mined. At present, each block generates 12.5BTC. So, each block mined produces in Dollars around 12.5*bitcoin/dollar rate. At present, this is around $60k per block. This is a function of the bitcoin price. There are roughly 2000 transactions in a block, give or take. This implies that around $30 of bitcoin are created per transaction at present. Economically, we would regard this as a cost of the transaction, although this is not how people always view it.

Miners need to be paid because the cost of mining (of applying CPU to blockchain hashing) is becoming prohibitively expensive. It requires enormous and increasing amounts of energy. The chart below demonstrates such:

The electricity being used to mine bitcoin is now equivalent to the amount it would take to power over 1 million US homes!

Or to put it another way, the total energy consumption of the world’s bitcoin mining activities is more than 40 times that required to power the entire Visa network. The annual energy consumption is equivalent to 13,239,916 barrels of oil!

Not only are the costs of transacting and running the network absurd, but the speed at which transactions are processed are extremely slow. BofA lays out the problem:

To illustrate, Visa’s payment system processes 2,000 transactions per second, on average, and can handle up to 56,000 per second, if needed. Assuming similar transaction handling capabilities at other large payment schemes such MasterCard, UnionPay, AliPay etc, total digital payment transaction volume in the retail space can be an order of magnitude higher than the aforementioned 2,000 transactions per second. Assuming 20,000 retail transactions are processed every second, it would take about 100 minutes for one second’s worth of transactions to be recorded on the bitcoin blockchain.

Lastly, due to the astronomical rise of bitcoin and other cryptos over the last few years, the tokens have drawn quite a bit of attention. This has created a speculative fever where the tokens are not being bought for their value, or as a means to transact, but rather as a gambling vehicle used to bet on further price gains.

It’s a momentum driven market where everybody’s chasing returns. And that creates an issue because people don’t want to be like Laszlo Hanyecz and spend their bitcoins on a stupid Hawaiian pizza when those bitcoins could be worth many multiples of what they are today.

This creates a conundrum for cryptos. As Aswath Damodaran puts it, “It remains an unpleasant reality that what makes crypto currencies so attractive to traders (the wild swings in price, the unpredictability, the excitement) make them unacceptable to transactors.”

So bitcoin fails (currently) to meet the requirements of a proper medium of exchange.

What about store of value? Are cryptos a fiat currency similar to the US dollar, as many crypto fans proclaim?  

Here’s economist Brad deLong’s take:

Underpinning the value of gold is that if all else fails you can use it to make pretty things. Underpinning the value of the dollar is a combination of (a) the fact that you can use them to pay your taxes to the U.S. government, and (b) that the Federal Reserve is a potential dollar sink and has promised to buy them back and extinguish them if their real value starts to sink at (much) more than 2% / year (yes, I know).

Placing a ceiling on the value of gold is mining technology, and the prospect that if its price gets out of whack for long on the upside a great deal more of it will be created. Placing a ceiling on the value of the dollar is the Federal Reserve’s role as actual dollar source, and its commitment not to allow deflation to happen.

Placing a ceiling on the value of bitcoins is computer technology and the form of the hash function… until the limit of 21 million bitcoins is reached. Placing a floor on the value of bitcoins is… what, exactly?

Bitcoins lack the essential qualities to make it a viable medium of exchange and store of value. Hence they can’t and shouldn’t be thought of as currencies or valued as such.

The things that make bitcoin a libertarian’s wet dream such as its decentralized nature and the fact that no one has control over the system, also means that it doesn’t have any true intrinsic value.

Its value is based completely off of people’s beliefs… and more importantly, people’s beliefs about other people’s beliefs.

Crypto fans call this the network effect — which is a term used to describe companies whose values increase the more people use their products, like Facebook. But this is a limp comparison.

Network effects when applied to tech companies are important because they lead to greater earnings power and value creation — the more people use a social network, the more others want to join, and the more advertisers will pay for access to the network and so on.

Real network effects actually create more value for the owners of the company and users of the product.

Bitcoin doesn’t sell anything and doesn’t produce any cash flows. It’s a non-currency that doesn’t quite work as a medium of exchange or a store of value.

It’s “value” is based purely off the beliefs of those who buy it. And this belief is that bitcoin is valuable because other people think it’s valuable. “If I buy it now, I’ll be able to profit at a later date by selling to somebody else”.

In trading parlance, this is called “Greater Fool Theory” or GFT.

Wikipedia explains GFT as:

The price of an object is not determined not by its intrinsic value, but rather by irrational beliefs and expectations of market participants. A price can be justified by a rational buyer under the belief that another party is willing to pay an even higher price. In other words, one may pay a price that seems “foolishly” high because one may rationally have the expectation that the item can be resold to a “greater fool later.”

The Oracle of Omaha, Warren Buffett, agrees.

He calls bitcoin a bubble, stating “You can’t value bitcoin because it’s not a value-producing asset”. But “people get excited from big price movements, and Wall Street accommodates” making bitcoin a “real bubble in that sort of thing”.

Maybe bitcoin should then be thought of as equity in a pre-revenue biotech startup. A startup with no leadership (it’s decentralized), no product yet of intrinsic value, and a growing number of nearly identical competitors entering the market every single day.

But the shares of the 1,000+ various cryptocurrencies have a total market cap of $176B and growing. New shares are being issued every single day. Many, some, or maybe none, will eventually create intrinsic value somehow… but nobody knows exactly how quite yet.

A better comparison of how to think about bitcoin’s value might be trading cards (think Magic or Pokemon) or in-game artifacts like a flaming sword in World of Warcraft (I don’t know if the flaming sword is a thing but let’s pretend it is).

Unlike a pre-revenue startup that may produce actual value someday, trading cards and in-game artifacts only have value because they have devoted fans and there’s a false scarcity of these objects injected by their makers.

Neither of these have intrinsic value of any sort, but they have a price that fluctuates according to their popularity. So yeah, that’s a better comparison. Bitcoins are like a $6,000 Pikachu card.

Do you want to buy some bitcoin now?


  • Bitcoin is neither a good medium of exchange or a good store of value, making it a terrible currency
  • Bitcoin is “valued” purely through its popularity and Greater Fool Theory — making it more similar to a Pokemon card than a real currency

My Take On Investing In Bitcoin

As a long-term investor, I wouldn’t touch any of these with a ten foot pole even if my arch nemesis — you know who you are — was holding.

It’s a total crapshoot and gamble. This market is purely speculative at this point.

But since I am speculator, would I trade it?

Hell yeah, why not?

Traders love this type of positive volatility. And bitcoins have all the right ingredients to drive this trend even higher. It’s really the perfect “asset” for creating a frenzied mania along the likes of the Tulip and South Sea bubbles.

These ingredients are:

  • It’s impossible to value: Anybody who tries is lying to you and themselves. And this is great, because when something has no intrinsic value, it can be either zero or infinity or somewhere in between since there’s absolutely nothing reliable to gauge it off of.
  • Greater Fool Theory: It’s value relies entirely on what the other fool is willing to pay for it. That’s it and that’s the only thing you need to analyze in this market when making buy and sell decisions.
  • It’s a compelling and complex story and humans love stories: One of the best things that bitcoin has going for it is that nobody really understands the tech and what it’s actual use cases will end up being.
  • It’s anti-government/anti-establishment attributes make it a perfect tech for the times: Populism is rampant as well as distrust in institutions around the globe. The idea of a speculative instrument outside of institutional control has the perfect appeal.
  • It’s a global market: Anybody anywhere can play bitcoin (though in some countries it’s harder than others). This means there’s a huge pool of potential fools who still haven’t bought in.

And to top it all off, we’re in the perfect macro environment for a huge speculative bubble.

We’re coming off a period of horribly negative global sentiment stemming from the Great Financial Crisis. And long periods of negative sentiment are typically followed by the opposite.

Central banks have kept the world flush with easy money by keeping interest rates low and printing billions in new money. In macro terms, we say that global liquidity is flush.

And this creates the perfect environment for asset bubbles. This was perfectly described by 18th century editor of The Economist Walter Bagehot when he said:

One thing is certain, that at particular times a great deal of stupid people have a great deal of stupid money… At intervals, the money of these people — the blind capital, as we call it, of a country, is particularly large and craving; it seeks for someone to devour it, and there is a ‘plethora’; it finds someone, and there is speculation; it is devoured, and there is ‘panic’.

This is why we’re seeing celebrities like Paris Hilton and Floyd Mayweather advertising their own initial coin offerings (ICO’s are alternate coins that typically get split off the ethereum blockchain and become their own separate “currency”).

Since anybody can “fork” off a blockchain network (it’s all open source), everybody can create their own crypto token. And they are. And people, lots of people, are buying them…

Blockchain “startups” have raised a disclosed $1.85B in just the first half of this year.

This is leading to some outrageous scams that are often unwittingly being promoted by these said celebrities.

Take the example of Centra.

Centra was a recent initial coin offering that raised $30 million and was promoted by Mayweather and rapper DJ Khaled.

Centra made big promises of partnering with Visa and creating the first debit/credit card for the crypto market, amongst other grand visions.

The problem is that these were just empty words.

It was found that the company hadn’t even talked to any of the major credit card companies, employed no computer programmers, that the founders previously ran a luxury rental car service in Miami of all places, and their listed CEO was a fictional (as in completely made up) person.

The “founders” of Centra now have $30 million of investors’ money. Of which, they can choose to do anything they want… like buy a bunch of Maseratis or life-sized cheese molds of themselves, and investors be damned….

An “investor” in the Centra ICO posted on Reddit defending the company and it’s crypto tokens saying “What’s important is that Centra is being endorsed and they have a product. That’s what matters to investors”.

This is the type of highbrow “investor” who is now driving prices higher in the crypto market.

Again, the vast majority of the players in this market don’t care about “trivial” things like made up CEOs and not having a real business model. They just want a higher price to sell into, a greater fool than them.

Centra is not an isolated incident. This is happening more and more.

I find this extremely fascinating from a behavioral investing standpoint.

We’re witnessing what may well become one of the largest speculative bubbles in history. And people are becoming full-on punch drinking devotees. The more this zealotry spreads, the more crypto prices will rise, which will reinforce their beliefs and bring in ever more greater fools!

To play this kind of speculative bubble one needs to work off the technicals — which are very good in bitcoin where pure emotion/sentiment dominates price action — and keep a close eye on the liquidity.

Liquidity, which is the availability of money and demand in the global system, always precedes market moves.

A tightening of liquidity means a tightening of credit conditions. This leads to lower future demand and is a sign that investors are discounting greater risks in the market.

When global liquidity starts to drain (the black line moves higher on the chart below), rising volatility (orange line) typically follows.

And when market volatility rises, investors begin to reprice risk. The repricing of risk leads to lower demand and hence fewer fools to sell risky assets to. Fewer fools means less buyers and less buyers in a momo market leads to more sellers. This creates the scenario where you have a bunch of freaked crypto zealots all clambering for a shrinking exit at the exact same time.

This is when a boom leads to bust. And the warning signs will show on the various liquidity indicators beforehand.

(Note: If you want to learn how to track liquidity to get ahead of the bitcoin crash, then check out this guide right now.)

The chart below is from Peter Brandt. It shows bitcoin forming a classic parabola. This is a common technical pattern in a speculative bubble.

We should continue to see the channel narrow and compress as the dips get bought more quickly and prices rise. When the price hits the top of the parabolic channel we should expect a retrace of at least 50%. The current price target is $6,800, not far from where bitcoin is currently trading.

Buyers should beware once they see liquidity begin to tighten at the same time bitcoin is trading near the upper range of its channel. That will be a setup for a large pullback.

This setup is aligning perfectly with the launch of bitcoin futures by the CME. This is a huge deal for the bitcoin trading community because it opens the floodgates to institutions and other participants who can only trade on regulated exchanges.

It also allows guys like us to easily short bitcoin when the eventual bubble pops!

You can read more about the brand new CME bitcoin futures by clicking here.


  • The Blockchain is groundbreaking technology that, like the internet in the early 90s, will transform industries is ways none of us can fathom.
  • Bitcoins have no intrinsic value and it’s unclear how they develop any. Their “worth” is based purely off having a greater fool to sell to. The market is dominated by punch drunk speculators.
  • Bitcoins and other crypto tokens don’t meet the requirements of a currency and are closer to trading cards or in-game virtual objects that only have market prices due to a devoted fan base and false scarcity.
  • Bitcoin is the perfect asset for a speculative bubble: it has no intrinsic value so it can’t be objectively assessed, it has a complex and compelling story, it’s global, and it’s the perfect anti-establishment tech for the times. Because of this, bitcoin probably still has a ways to rise.
  • Bitcoins should not be bought as a long-term investment but instead traded on a purely technical basis.
  • Liquidity and technicals are the only forms of useful analysis to use on the crypto market simply because they help identify regimes where there’s likely to be increasing or decreasing Fools to sell into.

As for the future of the crypto and blockchain market in general, I think Matt Levine of Bloomberg has the best take. Here it is:

Look, I know I sound like a cryptocurrency/blockchain skeptic. I guess I am one, fine. But Walmart’s mangoes are being tracked throughout the supply chain in an auditable distributed database that makes them much easier to follow than previous methods did. A syndicated-loan blockchain probably will work better than the current system of transferring syndicated loans by, like, faxing signature pages. “Tokenization” of some transactions or ownership interests will probably turn out to be useful, and might change how the markets for digital advertising or cloud storage or housing or whatever work.

But the way I like to think about it is that cryptocurrency might be to the 21st century what stock was to the 17th century: an administrative change in the bookkeeping for ownership of certain assets that over time completely transformed the economy and the world, with a power that the early innovators could hardly have dreamed of. But also, the first like 300 years of the history of stocks were filled with hucksters and hype and bubbles and disaster. Cryptocurrencies and blockchain really could be revolutionary technologies that will ultimately pervade every aspect of the economy, even while almost every individual project could be nonsense.

The above was an excerpt from our Macro Intelligence Report (MIR). If you’d like to learn more about the MIR, click here.



“Marcus Trifecta” Look At Markets

A “Marcus Trifecta” Look At Markets

Over the last few months I’ve written about how we expect growth and inflation to pick up and surprise to the upside in the coming quarters.

This belief is built on positive pressures we’re seeing within the economy as we move into the ‘overheat phase’ and the world benefits from the wealth S-curve tipping point. And with the market holding consensus expectations for continued low inflation, we find this contrarian hypothesis an interesting and potentially lucrative one should it unfold.

But we never wed ourselves to a trade hypothesis because it’s just that, a hypothesis.

Cognitively we’re wired to latch onto single or binary outcomes when thinking and planning for the future. Reality is much messier than that. “Man Plans and God laughs” as the saying goes, which is why we prize mental flexibility above all else.

A favorite trading quote of mine that I often refer to comes from Bruce Kovner. He explains how one should think about markets:

One of the jobs of a good trader is to imagine alternative scenarios. I try to form many different mental pictures of what the world should be like and wait for one of them to be confirmed. You keep trying them on one at a time. Inevitably, most of these pictures will turn out to be wrong — that is, only a few elements of the picture may prove correct. But then, all of a sudden, you will find that in one picture, nine out of ten elements click. That scenario then becomes your image of the world reality.

The overheat phase is just one alternative scenario that we’re “trying on”. But there are many potential catalysts, such as a China crackdown on leverage or a large illiquidity impact from Treasury cash balance normalization, which could derail this narrative.

This is why we have to routinely turn to the data to see where we are and to get a better idea of where we may be headed.

So let’s take a look at the Marcus “Trifecta” of Macro, Sentiment, and Technicals of the market to get a sense of where the risks and opportunities lie over multiple timeframes.

Macro: Global reflation picking up steam

Global GDP is hockey sticking higher and the world economy is now growing at 4.3%; the highest level in 7 years.

This growth is matched by global trade which is also growing at its fastest pace since 2011.

The pickup in global growth is routinely beating estimates and trailing twelve month global GDP forecast revisions are at their highest levels in over 7 years and trending higher.

The global manufacturing PMI is trending upwards and hitting new cycle time highs. And the latest Markit PMI report suggests growth and inflationary pressures are building. Here’s a few highlights from the report:

National PMI indices signalled expansion in almost all of the nations covered by the survey… Manufacturing production rose at the quickest pace in six months, underpinned by further increases in both total new orders and international trade volumes. 

The continued upturn in new order inflows exerted further pressure on capacity, leading to one of the steepest increases in backlogs of work over the past three-and-a-half years. This in turn encouraged manufacturers to raise employment to the greatest extent since May 2011.

Staffing levels were increased in almost all of the nations covered by the survey… Price pressures intensified in September. Input cost inflation rose sharply to a seven-month high, a key factor underlying the steepest increase in selling prices since May 2011. Companies linked higher purchasing costs to rising commodity prices and increased supply-chain pressures (reflected in a steep lengthening of average vendor lead times).

Global oil demand is routinely beating estimates. We’ve noted over the last few months that demand forecasts were overly pessimistic and low balling likely demand growth. This still remains the case.

Global liquidity is extremely loose and the trend is still towards more easing though this trend should begin to slow at the start of next year.

The data isn’t all great though. In the US corporate buybacks have rolled over. This is typical late cycle behavior. Companies are diverting money from buying back their stocks and using it to invest in new capacity to meet rising demand and increasing competition.

While this sounds good for the economy it’s not good for the market. This acts as a liquidity suck as demand for stocks is pulled and that money goes into CAPEX which will lead to increased capacity and hence lower margins 1-2 years out.

In the US, the ISM is at its highest level since 1987.

This means the economy is running hot but it also suggest things might be a bit overextended in the short to intermediate term. The chart below marks every time over the last 35 years that the ISM has crossed 60 (vertical yellow lines). Each time has coincided with a short-term market top.

According to Goldman Sachs, the average return for the S&P 500 following over a 3 and 6 month period after the ISM has crossed 60, have tended to be weak.

The sample size for this is small. But something to keep in mind.

Sum up: Overall, the data is constructive for the global economy on a cyclic timeframe. Increasing global growth should continue to push economies up against capacity constraints bringing greater cost pressures and leading to rising inflation.

The macro environment remains supportive of risk assets.

Sentiment: A tale of two tales

This market has been a tough read sentiment wise.

There’s definitely pockets of wild speculation, such as in the cryptocurrency market. And equity prices are becoming somewhat richly valued even though there’s still plenty of room for appreciation on an equity risk premium basis.

Depending on what sentiment gauge you look at, market sentiment reads as either extremely frothy or mildly complacent.

I think the case here is that the psychological scars from the GFC run deep and these are just now starting to be overcome.

This market has acted as bad news teflon to everything from dumpster fire politics to the threat of all out nuclear war. And market participants are beginning to read this as an all-clear to up their risk exposure while many perma-bears who’ve missed out on the rally continue to gripe from the sidelines and look for a top that refuses to appear.

Here is the more interesting sentiment and positioning data that I’m tracking at the moment.

According to the latest BofA fund manager survey, the dominant market narrative has shifted from that of “secular stagnation” to “goldilocks” where participants expect continued above trend growth and below trend inflation.

The latest Investors Intelligence sentiment survey has net sentiment (bull – bear) at the survey’s highest level since 1987’.

Fund managers have been upping their exposure to equities.

The global equity net overweight reading is now 45%. The 40-45% zone has historically coincided with equity underperformance versus bonds and cash over the following 3-6 months.

S&P 500 futures sentiment is extended and near a level that typically coincides with reversal points.

And the SPX multiple conditional analysis chart below via Nautilus shows that the probabilities over the 1-3 month timeframe have shifted bearish.

Under this backdrop, positioning appears to be the most crowded in financials and the eurozone. While bonds, energy, and the US are some of the more underweighted assets, according to the BofA survey.

But despite these signs of frothy sentiment and increasing exposure to risk assets, fund managers cash balances remain fairly high and nowhere near the levels that typically mark a cyclical top.

Morgan Stanley’s net leverage ratio paints the same picture. Investor leverage remains muted and stands in stark contrast to the picture of exuberance that the other sentiment/positioning indicators paint.

Sum up: Sentiment and positioning are telling two different stories. It seems that over the short to intermediate term, sentiment and positioning are excessive and will act as a headwind for stocks.

This seems to be particularly true for financials and the eurozone where positioning and expectations appear to be stretched on a short-term basis.

But on a bigger picture basis, I’m not seeing signs of the leverage and low cash balances that indicate investors are overextended and which typically marks a market top.

So over the short-term, sentiment and positioning puts odds on a market pullback. This would reset crowded positioning in long financials and European equities.

Technicals: All Signs Point Up

The market remains technically strong. The trend is up, breadth is good, and credit is bid.

The only negative factor on a technical basis is that the short-term trend is overextended. But this is not a condition for a selloff by itself. Trend persistence is powerful and overextended moves have a tendency to become more overextended.

One thing to watch out for is the current breakdown in bonds. If yields rise significantly over a short period of time then that will likely lead to equity volatility.

Bonds and stocks compete for capital flows. When yields move higher it makes richly valued stocks less attractive to hold. So one indicator we like to track is the 26 week percentage change in Moody’s Baa bond yields.

When yields rise fast over a short period of time and cross the top red dotted line, a market selloff tends to follow shortly after. The change in yields currently remain well below that mark.

Trifecta Conclusion:

  • The macro data points to a continued strengthening cyclical global recovery but with some potential short-term headwinds.
  • Most signs point to increasing growth and inflation in the months ahead.
  • Sentiment and positioning tell two different tales. Sentiment and equity positioning is currently excessive and will act as a headwind for stocks and increase the likelihood of a market pullback. But in the bigger picture, cash balances are not excessively low and leverage is not at levels that are indicative of a top.
  • Technically the market is in a strong uptrend. Over the short-term the market is overextended but trends can remain overextended for a long time.

Looked at holistically, I’d say that the odds are increasing for a nearterm market selloff in the 3-10% range. But bigger picture, we remain in a strong bull market that’s unlikely to end anytime soon. A selloff should be viewed as an opportunity to add to positions, but not something to over react to.

One of the most common errors investors make is to fret too much over the potential for a correction and then chase the trend higher from a position of weakness. This leads to buying and selling at inopportune times.

Instead, we’ll sit long and add positions as opportunities present themselves.

If you’d like to dive deeper into the positions we’re targeting and how we’re playing them, then check out the Macro intelligence Report (MIR).

The MIR is our monthly report that cuts through the noise to alert you of the largest macro trends and how you can profit from them.

In November’s report (which we will release next week) we’re covering all the latest large macro events and how they’ll affect the markets and economy, including:

  • The conclusion of China’s November Congress
  • Shinzo Abe’s win in Japan
  • The new Fed chair
  • And more

If you want to know what these macro shifts mean for you and your investments, then subscribe to the MIR by clicking the link below and scrolling to the bottom of the page:

Click Here To Learn More About The MIR!

Our November issue will also have a special in-depth look at the mania that is Bitcoin. At this point I’m sure you’ve even heard your Uber driver talk about it…

Is it all hype? Should you buy in? Or is a spectacular crash coming?  

We’ll give you an Operator look at exactly what’s going in the cryptocurrency markets.

And of course, as always, we’ll show you a few of the stocks we’re targeting that are close to rocketing higher.

You won’t want to miss out on these plays… especially with the new option strategy we have to play them!

Remember, there’s no risk to try the MIR. Your subscription comes with a 60-day money-back guarantee. If it’s not right for you, we’ll return your money immediately.

Click Here To Learn More About The MIR!



Global Macro Renaissance

The Global Macro Renaissance

John Curran was the former head of commodities at Caxton Associates — the hedge fund founded by market wizard Bruce Kovner.

He wrote a great article in Barron’s titled The Coming Renaissance of Macro Investing. In the piece, John writes about what he sees as the coming paradigm shift in markets and how this shift will lead to the resurgence of macro investing. Here’s a snippet from the article:

In meetings with fund managers, asset allocators, and analysts, I have found a virtually universal view that macro investing—investing based on global macroeconomic and political, not security-specific trends—is dead, fueled by investor money exiting the space due to poor returns and historically high fees in relation to performance. This is what traders refer to as capitulation. It occurs when most market participants can’t take advantage of a promising opportunity due to losses, lack of dry powder, or a psychological inability to proceed because of recency bias.

It’s a great article and I suggest you read it. I agree with his main points, especially that we’re on the verge of a macro renaissance (I’ve written about this quite a bit recently) and how the market is ill-positioned for this. In other words, the consensus is wrong.  

Consensus’ in the market has a long history of being wrong. There’s good reason for this.

Expectations become embedded in price. And due to the common knowledge herding tendency of the market, dominant narratives (consensus) eventually become over-embedded in that price. The market becomes priced for a very narrow outcome set so any deviation from this predicted future leads to large price swings.

So while consensus narrative adoption can be self-fulfilling in the short-term (ie, it drives the trend the more popular it becomes) it’s ultimately self-defeating in the end. Because the consensus is built off looking at the past while the future is always changing. And even more importantly, market consensus today always changes the future set of outcomes due to the reflexivity inherent in markets (ie, beliefs today change outcomes tomorrow). Thus we get the boom and bust cycles that George Soros so often talked about.

This is why we want to identify consensus embedded in market prices along with alternative future outcomes and potential catalysts that could shatter this consensus. Popular narrative changes equate to profit opportunities.

The famous hedge fund manager, Michael Steinhardt, wrote about how he and his firm went about doing this in his book No Bull:

I defined variant perception as holding a well-founded view that was meaningfully different from market consensus. I often said that the only analytic tool that mattered was an intellectually advantaged disparate view. This included knowing more and perceiving the situation better than others did. It was also critical to have a keen understanding of what the market expectations truly were. Thus, the process by which a disparate perception, when correct, became consensus would almost inevitably lead to meaningful profit. Understanding market expectation was at least as important as, and often different from, fundamental knowledge.

As a firm, we soon found that we excelled at this… Having a variant perception can be seen benignly as simply being contrarian. The quintessential difference, that which separates disciplined, intensive analysis from “bottom fishing,” is the degree of conviction one can develop in one’s views. Reaching a level of understanding that allows one to feel competitively informed well ahead of changes in “street” views, even anticipating minor stock price changes, may justify at times making unpopular investments. They will, however, if proved right, result in a return both from perception change as well as valuation adjustment. Nirvana.

I’ve been writing lately about how the budding market consensus is that inflation will remain low… and that this low inflation is due to structural reasons (even though no one’s sure exactly what these structural reasons are). The asymmetry to the inflation trade is to the downside; meaning any surprises to inflation will lead to lower numbers.

This is why bonds are priced so high (and yields so low) and volatility is nonexistent because no one is expecting inflation to rear its ugly head.

But I’ve also written how our intellectually advantaged disparate view, as per our Investment Clock framework, is that inflation is set to materially pick up going into the end of the year as we enter the Overheat phase of the investment cycle.

The inflationary pressures that come with this phase will be exacerbated by the largest increase in the global middle class that the world has ever experienced (+$4 billion people will move up in income over the coming decade). We call this the Wealth S-curve Tipping Point and it’s being primarily driven by India and will result in exponential increases in commodity demand in the years ahead.

Not only are the inflationary pressures building but the skewness of the inflationary trade is building, and not in favor of the market’s narrative. And that’s because of the many political developments around the world that could result in inflationary shocks. (Think the scrapping of NAFTA and the increasing use of tariffs or breakout of war.)

So we have a consensus market view of lower inflation for longer. This narrative is driving the financial news cycle, where journalists consciously or unconsciously cherry pick the data to confirm the market belief while ignoring disconfirming evidence. And this further drives the narrative adoption which is being overly reflected in market prices — and these market prices are likely to be wrong.

This means that it will only take a couple prints of higher inflation numbers to shake the consensus view and drive a large repricing of market assets. This means an asymmetric profit opportunity for global macro traders like us who are positioning on the other side of the market.

And I’m seeing many asymmetric opportunities at the moment. Some we’re in and some we’ll be getting into shortly.

John Curran concluded his Barron’s article with the following:

As my mentor, Bruce Kovner [the founder of Caxton Associates] used to say, “Nobody rings a bell at key turning points.” The ability to properly anticipate change is predicated upon detached analysis of fundamental information, applying that information to imagine a plausible world different from today’s, understanding how new data points fit (or don’t fit) into that world, and adjusting accordingly. Ideally, this process leads to an “aha!” moment, and the idea crystallizes into a clear vision.

Winners anticipate changes before the market. Right now the market expects low inflation and low volatility for longer. We’re anticipating and positioning otherwise.

If you’re interested in seeing how we’re positioned, check out the Macro Intelligence Report (MIR) here.



Driving Current Global Macro Trends

The Wealth S-Curve That’s Driving Current Global Macro Trends

Standard Logistic Sigmoid Function

The graph above shows a logistic function that maps out a sigmoid curve… otherwise known as an S-curve.

This function was popularized by mid-19th century scientist Pierre Francois Verhulst who applied it in his study of population growth.

Verhulst found that population growth follows a certain S-curve. It grows at a steady state until it hits a certain point where it grows exponentially. This exponential growth sustains until the system hits a saturation point where it slows and eventually stops.

The S-curve is one of those strange universal laws that shows up all over the place. Similar to how power laws, as put forth by Pareto, dominate nature and the law of entropy permeates the universe, so to does the S-curve show up time after time in natural systems.

The S-curve has been successfully used in projecting growth in new technology adoption (we used it to analyze Apple’s business and iphone adoption rates), to biological systems, nonlinear geoscience relationships, economics, demography and the list goes on.

You’re probably wondering why I’m talking about some 19th century Belgian scientist, logistic functions, S-curves… and all this jazz.

Fair question.

Here’s the reason:

The S-curve lies at the foundation of what I think will be one of the largest global macro forces driving markets over the next decade.

We’re about to begin seeing its effects very soon.

Put simply, THIS WILL BE BIG.

Let me explain.

French philosopher Auguste Comte, rightly said that “demography is destiny”.

He was referring to national power. But, if you take demography and combine it with rising wealth, then you have economic and market destiny as well.

The IMF wrote recently that, “History has shown that as countries become richer, their commodity consumption rises at an increasing rate before eventually stabilizing at much higher levels.”

The more wealth people have, the more nonessential goods people buy, and the more commodities they consume.

There’s a very interesting and well documented relationship between rising GDP (as noted by GDP per capita) and commodity intensive consumption. In other words, once a country hits a certain level of GDP per capita (ie, wealth) they begin to consume a lot more oil, gas, wheat, copper, livestock etc… This consumption grows exponentially.

Can you guess what type of shape this gdp/commodity consumption relationship takes?

That’s right, an S-curve.

The chart below shows the S-curve (on top) and per capita energy consumption on the bottom.

wealth s-curve

When a country’s GDP per capita hits the ‘Tipping point’, energy consumption begins to rise at an exponential rate.

The same S-curve dynamics occur in agricultural consumption too.

Once a country passes the GDP per capita tipping point, they begin to eat significantly more protein.

Raising livestock is over seven times more grain-intensive than producing for a simple plant based diet. The resulting impact on the agriculture sector is significant.

Keeping track of where the world’s population sits on the GDP per capita S-curve, or let’s call it the wealth S-curve, is important.

If a large portion of the global population is transitioning from the turning point to the zero-growth point (refer to the chart above), or tipping point to turning point, it would have far reaching impacts on not just commodities but global markets as a whole.

For example, one of the largest drivers of the last secular commodity bull market which started in the early 2000s and ended in 2011 was the rise of China.

China, the most populous country in the world with 1.4 billion people, crossed the tipping point of the wealth S-curve in around the early 2000s.

GDP Per Capita S-Curve Tipping Point

From our global macro research we know the tipping point on the wealth S-curve that signals more intensive commodity consumption is in the range of $2,300 to $3,300.

Once a country crosses this point its commodity consumption begins to rise exponentially over the following decades.

Goehring & Rozencwajg Associates (GRA), a commodity fund, explained in their latest quarterly letter how this commodity intensive growth works. Excerpt below:

The average Chinese citizen in 2001 consumed 1.4 barrels of oil over the course of the full year. Total vehicle sales in 2001 averaged 2.2 vehicles per thousand Chinese citizens, while the airlines carried approximately 57 out of every thousand Chinese citizens. In many respects, 2001 was a typical year for Chinese per capita oil demand growth: it grew by 0.02 barrels per person that year, very much in line with the average rate it had grown over the prior 25 years of 0.03 barrels per person per year.

But shortly after it hit its “tipping point” in the S-curve….

The average Chinese citizen consumed 2.2 barrels of oil over the course of the year. Instead of two vehicles being sold per thousand citizens, by 2008 this figure reached nearly nine vehicles. Similarly, total passengers carried by airlines increased from 57 per 1,000 Chinese citizens to nearly 100. Before most analysts realized what had happened, Chinese oil demand growth had quadrupled from 0.03 barrels per person per year to 0.12 barrels per person per year in only seven years.

We can see the S-curve dynamic play out on the chart below.

A 20-year bear market in the Thomson Reuters equal weighted commodity index bottomed in 02’ and began a 11 year secular bull market right as China and its billion plus people crossed the tipping point.

China S-Curve Tipping Point

If you bought the commodity index in 2000, right as the tech bubble was bursting, you would have compounded your money at over 20% annually over the following decade.

Wealth + demographics = market and economic destiny.

Now that you know the massive impact shifting populations along this curve can have on global markets, here are some excerpts from a recent — and widely unnoticed — research paper put out by the Brookings Institute. It’s titled The Unprecedented Expansion of the Global Middle Class (emphasis mine).

There were about 3.2 billion people in the middle class at the end of 2016. This implies that in two to three years there might be a tipping point where a majority of the world’s population, for the first time ever, will live in middle-class or rich households.

The rate of increase of the middle class, in absolute numbers, is approaching its all-time peak. Already, about 140 million are joining the middle class annually and this number could rise to 170 million in five years’ time.

An overwhelming majority of new entrants into the middle class—by my calculations 88 percent of the next billion—will live in Asia.

The implications are stark. By 2022, the middle class could be consuming about $10 trillion more than in 2016; $8 trillion of this incremental spending will be in Asia.

By 2030, global middle-class consumption could be $29 trillion more than in 2015 . Only $1 trillion of that will come from more spending in advanced economies. Today’s lower middle-income countries, including India, Indonesia, and Vietnam, will have middle-class markets that are $15 trillion bigger than today.

We are witnessing the most rapid expansion of the middle class, at a global level, that the world has ever seen. And, as Figure 7 makes clear, the vast majority— almost 90 percent—of the next billion entrants into the global middle class will be in Asia: 380 million Indians, 350 million Chinese, and 210 million other Asians.

Brooking’s definition of global middle class income is approximately the same as our wealth S-curve tipping point. And as the chart above shows…

The new S-curve driver of this commodity intensive growth trend is going to be India.

India is nearing the tipping point on the wealth S-curve. It’s GDP per capita is exactly where China’s was in 2001, right before the last commodity bull market began. India has a population of over 1.3 billion people. Just 60 million shy of China’s.

GRA also shared the following in its quarterly letter (emphasis mine).

From 1970 to 2000, the average number of people going through the S-Curve tipping point globally was relatively stable at approximately 700 million. If we are correct, then we are on the verge of having four billion people globally all going through the S-Curve tipping point together. Simply put, we are potentially entering the largest period of commodity demand growth the global economy has ever experienced.

And as we’re about to enter the largest period of commodity demand growth the global economy has ever experienced, how exactly are commodities fairing?

Commodities have only been priced this low, relative to financial assets (as represented by the Dow), two other times in the last 100 years.

100 Years of Commodity Valuation

This is one of those things that makes you go “hmm….”


The market is clearly not seeing the forest from the trees in the commodity market and it’s about to be caught offsides.

And remember our discussion from last month’s Macro Intelligence Report (MIR) about how we’re in the third phase of the Investment Clock cycle, otherwise known as the overheat phase, where commodities are the best performing asset?

Here’s a quick refresher from that report.

Four Phases of Investment Clock

Phase 3 – Overheat phase: Productivity growth slows and the GDP gap closes causing the economy to bump up against supply constraints. This causes inflation to rise. Rising inflation spurs the central bank to hikes rates. As a result, the yield curve begins flattening. With high growth and high inflation stocks still perform but not as well as in phase 2. Volatility returns as bond yields rise and stocks compete with higher yields for capital flows. In this phase, commodities are the best asset class and cyclical value the best equity sector.

We have MASSIVE secular tailwinds lining up with third phase drivers plus commodities at 100-year lows relative to the stock market.  

Am I missing anything?

Oh, yeah, there’s sentiment. It’s negative…  

Not surprising given the horrid price action in commodities over the last five years. The BofA fund manager survey has hedge funds holding very low levels of commodities relative to historical positioning.

Morgan Stanley recently shared that the long/short equity managers they broker for have rarely had lower exposure to energy stocks than they do now. And the ratio of longs to shorts is in the bottom decile of the past seven years!

Energy Long/Short Ratio

As a contrarian, I love situations like this.

Finding and executing great trades is about peeling back the curtains of time and peering into the future and putting the pieces of the puzzle together better and faster than the market.

This is one of those times, where the market’s narrative has been carried to an extreme and is based off a past that’s no longer relevant and differs completely from the coming future.  

Macro trading legend and former Soros compatriot, Jim Rogers, said the key to his success was that he “waits until there’s money lying in the corner, and then all I have to do is go over there and pick it up.”

Well, right now, I see a big pile of commodity backed money lying over in the corner. And all we have to do is start picking it up!

We did this last month, by initiating our long position with an energy basket. In that report we recommended RIG, CRR, and COG. We bought those and also threw in WTI and ESV which our Collective members were notified of.

The basket is off to a good start. Since the MIR’s publication RIG’s up 27%, CRR +18%, COG +0.5%, ESV +30%, and WTI +57% (climbing as high as 90% at one point).

We believe, for the reasons stated above, that this is just the start of the run in the commodity market.

We expect a lot of up and down action in our holdings. This is usual at the start of a new bull market. But we’ll hold through the volatility, while respecting our risk points of course. And we’ll look to build on our energy plays as well as other commodities we’re stalking and which I will talk to you about next.


  • The S-curve lies at the foundation of one of the largest macroeconomic forces driving markets over the next decade.
  • When a country’s GDP per capita hits the ‘Tipping point’ on the S-curve, commodity consumption begins to rise at an exponential rate.
  • The new S-curve driver of this commodity intensive growth trend is going to be India.
  • We have MASSIVE secular tailwinds lining up with third phase drivers (Investment Clock) plus commodities at 100-year lows relative to the stock market. This will propel a commodity bull market forward.

If you’re interested in learning more about the Macro Intelligence Report (MIR), click here.



Preparing For The Macro Regime Shift To The “Overheat Phase”

Legendary speculator, Jesse Livermore, credits the following realization with transforming his trading game and turning him into one of the greats. He said:

Tape reading was an important part of the game; so was beginning at the right time; so was sticking to your position. But my greatest discovery was that a man must study general conditions, to size them so as to be able to anticipate probabilities.

A man must study general conditions, to size them so as to be able to anticipate probabilities….

This truth was realized by market wizard Michael Marcus over half a century later when he came up with the “Marcus Trifecta of technicals, fundamentals, and market tone.” Both traders, like all the greats, were aware of the importance of macro and keeping a finger to the wind to anticipate major changes in general conditions.

The importance of understanding general conditions is why we always start from a top down perspective. We know the majority of our market returns will be driven by macro factors.

And more importantly, we need to be white on rice focused on the inevitable changes in these conditions. It’s in correctly anticipating these large transitions — or what we refer to as inflection points —  ahead of the market where the macro speculator makes his beans.

We’re seeing one of these macro inflection points play out right now. The market is not prepared for it. This means it’s time for aware macro traders to reap their harvest.

I’m referring to the turning of the Investment Clock. And the return to higher trendline growth and inflation, as the business cycle progresses to the later stages and economic capacity tightens.

This is the dominant macro thematic we are tracking and which will play out over the next 12-months. It’ll have numerous and drastic impacts on every area of global markets.

It’s going to change the trend in currencies, precious metals, commodities, big tech stocks, bonds, emerging market stocks and so on. It’s a straight up macro regime change; the era of low volatility and subsequent melt up in equities is coming to an end.

For those of you not familiar with the Investment Clock concept you can read a full rundown from one of our earlier articles, here. And here’s an overview of the idea.

The Investment Clock splits the business cycle into four phases. Each phase is comprised of the direction of growth and inflation relative to their trends. You can see these four phases in the chart below via Merrill Lynch.

Here’s a breakdown of each phase.

Phase 1 – Reflation phase: Growth is sluggish and inflation is low. This phase occurs during the heart of a bear market. The economy is plagued by excess capacity and falling demand. This keeps commodity prices low and pulls down inflation. The yield curve steepens as the central bank lowers short-term rates in an attempt to stimulate growth and inflation. Bonds are the best asset class in this phase.

Phase 2 – Recovery phase: The central bank’s easing takes effect and begins driving growth to above the trend rate. Though growth picks up, inflation remains low because there’s still excess capacity. Rising growth and low inflation is the goldilocks phase of every cycle. Stocks are the best asset class in this phase.

Phase 3 – Overheat phase: Productivity growth slows and the GDP gap closes causing the economy to bump up against supply constraints. This causes inflation to rise. Rising inflation spurs the central bank to hikes rates. As a result, the yield curve begins flattening. With high growth and high inflation stocks still perform but not as well as in phase 2. Volatility returns as bond yields rise and stocks compete with higher yields for capital flows. In this phase, commodities are the best asset class.

Phase 4 – Stagflation phase: GDP growth slows but inflation remains high (sidenote: most bear markets are preceded by a 100%+ increase in the price of oil which drives inflation up and causes central banks to tighten). Productivity dives and a wage-price spiral develops as companies raise prices to protect compressing margins. This goes on until there’s a sharp rise in unemployment which breaks the cycle. Central banks keep rates high until they reign in inflation. This causes the yield curve to invert. During this phase, cash is the best asset.

This was pulled from our September Macro Intelligence Report (MIR) that went out to subscribers on Sep 1st.

In the report we detailed how the data is indicating we’ve reached a macro inflection point and are transitioning to Phase 3, or the Overheat phase, of the Investment Clock.

This means that both GDP growth and inflation will begin to pick up in the coming quarters. We also noted how the market, or central bankers, weren’t positioned for this inflection point at all. In fact, we’re seeing this phase shift at the sametime that the popular narrative of “secular low inflation for longer” has become consensus.

Here are two examples, out of many, of the data we’re tracking that tell us both higher growth and higher inflation are around the corner.

In market terms, this is called a FAT PITCH.

Are you ready to swing?

In Phase 3, the Overheat phase, commodities and cyclical value stocks outperform. This is because these asset classes both benefit from tighter economic capacity plus stronger growth and inflation.

In our September MIR, in true contrarian fashion, we recommended loading up on a basket of unloved energy stocks.

This basket consisted of RIG, CRR, COG, ESV, and WTI (one of the largest positions in our portfolio). It’s been on a tear, with some of the stocks up 20 to 50+% (in WTI’s case). We believe this is just the beginning of the move.

In our October MIR which we’ll be putting out next week we’re going to discuss another trade basket that we think has even more of a runway than the our energy play — agriculture.

Similar to energy, agriculture has suffered from a long multi-year bear market and is now trading at secular lows relative to stocks, last seen in 2000 — right before Ags took off on a 12 year bull run.

There are many reasons to like this space.

Sentiment is horrible. Investors won’t go near it with a 10-foot pole and a friend holding.

A number of formerly established commodity trading shops have been shuttering their doors and letting people go — another tell-tale sign of a bottom.

Plus, there’s some new macro developments, in addition to the coming pickup in growth and inflation that will spur the Ag sector off its lows and to new highs.

Some of these have to do with coming ethanol fuel blends in China and other forces that will significantly boost demand. We’ll cover those in the coming MIR.

Like all extreme contrarian plays, the long Ag theme will take some serious sifting through the chaff to get at the golden wheat — there’s a lot of landmines out there.

Instead of playing the underlying commodities in the futures market, we’re excited about a basket of related equities which will run significantly higher once soft commodities gain their footing.

An example of one of these plays is Intrepid Potash (IPI) — a stock that our readers are familiar with.

IPI, along with the rest of Ag related stocks, experienced a soul crushing bear market over the last five years. At one point, IPI had fallen over 98% from its 2012 highs.

But… one investor’s trash is another’s treasure.

We first recommended IPI last November, when it was trading at $1.29 a share. It’s since gone up 220+% to over $4.20 a share and counting. It’s one of our largest portfolio holdings.

There are a number of things to love about this stock.

Not only does it benefit from the macro transition to the Overheat phase which will pull certain commodities higher. But it has exposure to two horribly beaten down sectors that will outperform over the coming year. These being agriculture, of course, but also energy.

And this is because IPI is also a secret water play.

The company has the largest private water rights in the state of New Mexico. Fracking is extremely water intensive work and generally takes place in areas where water is scarce. IPI is situated on the southern portion of New Mexico… along the Permian Basin… which is the most profitable shale field in the country.

Management expects to be pulling in around $30M next year on just water sales alone. This is an extremely high margined revenue source because it cost the company virtually nothing to sell.

So with IPI you get the sole US based producer of potash in a commodity that is bottoming but with the downside protection from its water rights. Owning the stock is essentially like holding a call option on the Ag market with no expiry.

Huge upside, limited downside.

These are the kinds of plays we really like here at Macro Ops. And we’re seeing a number of them at the moment.

Phase 3 is a target rich environment, as we like to say.

The Ag basket that we’ll be writing about in next week’s MIR will cover, in detail, the other names that we’re buying and which we believe have IPI like potential.

“To the victors go the spoils!” and to collect spoils in this environment you have to follow Livermore’s advice, heed the “general conditions” and anticipate the major moves.

The phase shift and commodity rebound is just beginning… so if you’re ready to collect the spoils with us, make sure you subscribe to the Macro Intelligence Report (MIR).

The MIR is our monthly report that cuts through the noise to keep you informed of the largest macro trends and how you can profit from them.

From what you’ve already learned about the Overheat Phase and its effect on commodity stocks, you understand how effective our top-down macro research process is. You see how we source our trades and why they are so profitable.

If you’re interested in joining our team to continue finding lucrative plays like IPI, subscribe by clicking the link below and scrolling to the bottom of the page:

Click Here To Learn More About The MIR!

Our October issue will be released early next week. Make sure you’re subscribed so you don’t miss your chance to enter the basket of agricultural stocks poised to take off as the Overheat Phase ticks forward. There’s a good chance these plays will make our bottom line this year…

Your subscription also comes with a 60-day money-back guarantee. That means there’s zero risk for you to give the MIR a try. If you feel it’s not right for you, we’ll return your money immediately.

Click Here To Learn More About The MIR!



China Won’t Roll Over Until Liquidity Tightens

China Won’t Roll Over Until Liquidity Tightens

This year on October 18th The Communist Party of China will kick off their 19th National Congress and set the leadership for the next five years.

It’s an extremely fragile time for incumbents. During this Congress a group of party representatives will review a report from President Xi on what has been achieved in the past five years as well as what he believes the party should work on going forward.

If they like what they see, Xi and his administration will stay. If not, then it’s onto the next guy…

President Xi has done well for the Chinese people, at least on the surface. (Nevermind the megaton debt bomb that’s bound to explode at some point.)

He’s been able to somehow navigate the country through the Mundell-Fleming Trilemma without setting off a full blown banking crisis. And he has the positive growth numbers to point to as evidence.

GDP growth has been humming along in the 6-7% range with uncanny consistency.

Chinese GDP Growth

President Xi absolutely loves power and the last thing that he wants is an economic meltdown before this important Congress.

So what can a power hungry politician do to guarantee his seat for the next five years?

Well he can turn on the liquidity taps.

If you’ve been reading Macro Ops for awhile you know that the single most important fundamental to markets is liquidity. Nothing else comes close, which is why the investing legends like Soros, Druck and PTJ kept a close watch on how central bankers and government officials used the liquidity spigot.

In China’s case, Xi has made sure that spigot has been running at full bore going into the end of the year. Year over year loan growth to non-financial companies has been cranked up to near 16% — the highest levels seen in nearly 5 years.

China Y-Y Loan Growth to Non-Fin

All of this extra credit creates a huge wall of demand that creates a bunch of economic activity and elevated prices.

This liquidity injection is the reason why China A-shares have caught a nice rally over the last three-months.

We’ve been on for the ride during the entire breakout because we watch liquidity like a hawk. One of our own Chinese liquidity indicators has been signaling looser liquidity conditions since mid-2016. And right now it’s actually hitting new all time highs!

Liquidity AS

Yes, China has a bunch of long-term debt problems that will inevitably lead to a blow up. But with liquidity conditions this strong it’s suicide to play for the implosion. We need to wait until liquidity tightens up before we see any real financial stress.

And our guess is that won’t be happening until President Xi has secured his presidency for the next 5-years.

If you aren’t monitoring liquidity conditions around the world you’re really missing out on an extremely effective market timing tool.

We check liquidity conditions on a monthly basis in every major market.

Click here if you want to see how we monitor U.S. liquidity.



The Gold Bugs Were Wrong

Operator Tyler here.

The Gold Bugs were way too early on their inflation call.

Ever since the start of QE, countless Austrian economic gold bugs have been warning about a tidal wave of inflation that will debase our hard earned savings. Their fear mongering is what sent gold up to nearly $2,000 an ounce.

Gold Futures

But the inflation never came. The gold bugs were wrong. And anyone who bought into their narrative has had to suffer through a 5-year bear market in gold.

What did the gold bugs overlook that made their prediction so far off the mark?

The labor market.

Economic stimulus can only create inflation if the labor market is tight.

When policy makers try to rev up the economic engine they do so by influencing demand. Tax cuts, QE, rate cuts and government spending are all trying to do the same thing — increase buying power. The more money people have, the more goods and services they can buy.

Now just because there’s more buying power doesn’t mean prices automatically go up. If the economy is recovering from a recession (like it has been since 2008), producers can keep up with this new demand by hiring on a ton of cheap workers. People are willing to work for cheap because they’ll take anything they can get. They just want to be employed. In econo-speak this is what we call a “loose” labor market.

As long as labor remains cheap, inflation stays subdued.

When the economy finally reaches capacity, producers can no longer hire for cheap. Everyone who wants a job already has one. In order for a company to poach an employee from another company they have to offer a ton of money. This is what’s called a “tight” labor market.

Tight labor markets create wage or cost push inflation. Since producers have to pay more for workers they hike their prices to offset the increased costs. These higher prices get passed down to the end buyer creating inflation.

For the last 4-5 years slack in the labor market has counteracted loose Fed policy.

Ever since 2013 all of the potential inflationary impacts of loose Fed policy have been absorbed by the loose labor market. That’s why inflation hasn’t shown up. Instead we got a goldilocks economic environment – modest growth and low inflation.

We’re still in this same modest growth, low inflation environment but with one key difference — the labor market has tightened significantly.

In a tight labor market, the amount of job openings are high, while the unemployment rate is low. This is exactly what we’re seeing now. Total nonfarm job openings are hitting a fresh high.

While unemployment is flirting with its lows.

Unemployment Rate

Companies want employees more than people want jobs. That means employers are going to have to fork over a ton of cash to fill their open slots. Wage hikes means higher prices are right around the corner.

Now’s the time to watch out for the inflation that the gold bugs have been looking for all along.

With a tight labor market, the economy has a much higher chance of overheating and sparking inflation. Serious inflation hasn’t happened for a long time in the U.S. so we have to go all the way back to the 1960’s to see a similar situation.

Back in the early 1960’s JFK took the reins of a sluggish U.S. economy and injected it with a fresh wave of stimulus. These policies worked and the unemployment rate began a nice downtrend — the economy improved.

In 1963 after Kennedy was assassinated LBJ took over. He inherited a true goldilocks economy similar to the one today. Unemployment was in the 4-5% range and inflation never got above 2%.

But instead of letting off the stimulus pedal he stepped on it even harder by pouring money into the Vietnam War effort.

Since the economy was already at full capacity with a tight labor market, all of this extra stimulus began to push prices up dramatically. The inflation rate skyrocketed and remained high for nearly 30 years.

The unemployment and inflation charts from the 1960’s look eerily similar to present day data.

Unemployment is right around that 4-5% level, exactly how it was when LBJ took office.

US Unemployment Rate

And the inflation chart looks similar too.

US Inflation Rate

If the 1960’s data is any useful guide, that means we have soaring inflation right around the corner…

What gives us even more confidence in this analog is that President Trump will have no reservations about keeping his foot firmly on the gas pedal.

Trump ran on job creation. He’s even alluded to the fact that if things do get overheated he’s still going pedal to the metal. He repeatedly talked about getting “tired of winning” while on the campaign trail. Actual quote below:

We’re going to win so much. You’re going to get tired of winning. you’re going to say, ‘Please Mr. President, I have a headache. Please, don’t win so much. This is getting terrible.’ And I’m going to say, ‘No, we have to make America great again.’ You’re gonna say, ‘Please.’ I said, ‘Nope, nope. We’re gonna keep winning.

With that attitude, the last thing he’s going to do is “tighten the fiscal belt”, nominate a bunch of Hawks into the Fed, and risk an economic slowdown.

He’s going to fill the FOMC with doves, cut taxes, and try to push through large government funded infrastructure projects.

All of these will tighten up any remaining slack in the labor market and send unemployment down into the 3s just like in the 60’s.

Trump won’t care about the potential impact of runaway inflation. By the time it really starts to become a problem, he’ll have ended his first term and it will be the next guy’s problem.

Investing in this type of economy requires special attention.

A lot of investors will be caught offsides once inflation starts to rear it’s ugly head. Almost all professional money managers today have little to no experience in managing assets through an inflationary environment. We don’t have much real life experience either. But what we do have is a solid framework for how to invest in inflationary environments.

This framework is called the Investment Clock.

The Four Phases of the Investment Clock

Using the investment clock framework we can see that we are exiting the Recovery phase. The economy has improved, unemployment is low, and life is pretty good for most Americans (or at least much better than what it was in 2009).

But now the macro tide has changed and we’re about to sail directly into the Overheating phase of the economic cycle.

Navigating this cycle isn’t difficult if you have the right tools and you know where to look. In fact, it can be one of the most profitable environments for global macro traders like ourselves.

In last month’s Macro Intelligent Report, sent to our premium subscribers, we laid out in detail where our investment dollars are going. Right now we think oil and gas stocks are primed to pop higher as commodities benefit from the impending inflationary tail wind.

And in next month’s MIR we’ll be discussing in more detail how rising inflation will affect fixed income and agricultural stocks. (Hint: Bonds are the last place you’ll want to be.)

The plan is to initiate some brand new positions at the start of October to take advantage of our view.

To learn more about how inflation affects markets, check out our Trading Handbook here.


  • The gold bugs were wrong in 2012.  
  • Economic stimulus only creates inflation if the labor market is tight.
  • Now that the labor market is tight, there is a high probability of rising inflation in the future.
  • Commodities tend to perform best in this environment.



Archimede's Dollar Smile

Archimede’s Dollar Smile

Give me a place to stand,
and a dollar that’s trending,
and I can move the world
~ Archimedes

Archimedes, the Greek tinkerer, knew of the US dollar’s importance to global macro well over 2200 years ago, decades before Fed Chair Yellen was born. A man ahead of his time.  

If you’re one of the very few who read my work then you know that I refer to the dollar as the world’s fulcrum.

This is no exaggeration. The US dollar is that important to global markets.

The deeper you get into the global macro game the more you realize nearly every trade is a derivative of a long or short dollar position.

Long Brazilian equities? You’re short the dollar.

Long airliners? You’re making a macro call on oil and thus the dollar.

Long volatility? You’ve got an embedded dollar call there.

Short inflation through duration? Then you’re long the dollar.

The dollar is important.

Why is this?

Short answer is the dollar is the world’s reserve currency. It’s what commodities and goods are priced in for global trade, and it’s the dominant global funding currency. The dollar is pervasive and it’s everywhere which is why the Fed swings the biggest stick of them all.

If you can figure out the path of the dollar then you’re starting from an advantaged point in assessing where the other major macro trades are headed.

It’s always my starting point when analyzing any market.

That’s what I’m going to spell out quickly here today. We’re going to run through some basic models for thinking about the dollar and then we’ll jump into the bearish thesis, the bullish thesis, and conclude with where in the argument I sit.

And just to make clear my current biases. Our team at Macro Ops has been short the dollar against AUD, CAD, since June 27th, until this last week when I closed out for profit.

I took these trades with the belief that they were countertrend moves. I was in the cyclical dollar bull camp but was bearish over the intermediate term, with the expectations of a 10% pullback due to technical, sentiment, and macro reasons.

Now that the move has played out, I need to update my view.

Some dollar models.

I’ve shared a more in depth piece on the way I think about FX that you can find here. In it, I hash out Soros’ arrows and the core/periphery model.

Today we’re going to talk about the “dollar smile” concept put forth by Stephen Jen of Morgan Stanley because it’s relevant to our conversation.

The theory is simple. It states that the dollar tends to outperform when the US economy is very strong (on the left side of the smile) or very weak (right side). And it does poorly when the US economy is just muddling through (middle of the smile).

Dollar Model

Why is this?

Well the logic is straightforward.

The US trades at a  “safety premium” relative to other countries.

Some might snarl at that and there’s a lot of gold bugs who think the US government’s debt blowup is imminent. But the reality is that relative to the rest of the world, the US has one of the most dynamic economies, highly liquid markets, (relatively) stable governments, decent rule of law, and again, we’re the world’s reserve currency.

When the US economy is performing well, investing in the US is a no brainer. And since well over 80% of the moves in the FX markets are due to speculative flows, this fact matters.

And when the US economy is very weak, the dollar performs well because it gets a safety bid. Money gets pulled back from overseas to within safer borders.

Most international funding is done in USD dollars. And when volatility increases and markets are perceived as more risky, these dollar loans are called back and Brazilian Reals or whichever, get converted into USD to cover the dollar debt thus putting upward pressure on the dollar.

But when the economy is in the middle of the “smile” and just muddling through, the dollar tends to perform poorly… why?

Well, the primary reason is that mediocre growth and low inflation is bullish for risk assets because it keeps the Fed steady and prevents them from raising rates too quickly.

So a steady Fed keeps interest rates low. These low interest rates suppress volatility and pushes investors further out the risk curve in search of returns. They go overseas to high growth emerging markets to play in their fertile fields.

Low growth and low rates lead to speculative outflows from the US which drive the dollar down relative to where the capital is flowing to.

There’s a reflexive relationship in these FX flows that starts to dominate.

This is because currencies make up the largest pie of the total return picture when investors put money into foreign markets.

So when speculative capital leaves the US because of low rates and slow growth, and then flows into, say, Latin America. It depreciates the dollar while appreciating the Latin American currencies. This drives up the total return of those investments in these EMs which then attracts more speculative flows (ie, reflexivity).

Here’s a short snippet from Soros on the mechanism.

To the extent that exchange rates are dominated by speculative capital transfers, they are purely reflexive: expectations relate to expectations and the prevailing bias can validate itself almost indefinitely… Reflexive processes tend to follow a certain pattern. In the early stages, the trend has to be self-reinforcing, otherwise the process aborts. As the trend extends, it becomes increasingly vulnerable because the fundamentals such as trade and interest payments move against the trend, in accordance with the precepts of classical analysis, and the trend becomes increasingly dependent on the prevailing bias. Eventually a turning point is reached and, in a full-fledged sequence, a self-reinforcing process starts operating in the opposite direction.

This is why currencies tend to trend for long periods of time once they get going. See the seven year USD cycle below.

Dollar History 7-Year Cycles

Strong US growth = outperforming dollar. A very weak US economy = strong US dollar. And a muddling US economy = weak dollar.

I should point out an important point that I’m not sure Stephen Jen mentioned when he introduced this concept. But all of this is relative. We don’t care about the US’s economic growth on an absolute basis. We care about its economic picture relative to that of the rest of the world’s (ROW).

If the US is muddling at sub 2% growth but emerging markets are a dumpster fire, like they were following the GFC just up until this last year, then that’s still dollar bullish.

The idea is that investors have to perceive risk to be low and the reward to be well above the US’s premium, in order for capital to leave our beautiful shores and invest in a Chilean poultry producer.

The chart below shows this dollar smile relationship at work. Blue line shows the US’s growth relative to the rest of the worlds (ROW) and orange line is the USD.

US Growth and the Dollar

It works because if growth in the US is strong relative to the ROW’s then it means that the Fed is likely leading developed markets in raising interest rates. This makes the US real interest rate spread more attractive. And vice versa when the US is performing well below the ROW.

And as Soros said, the “expectations relate to expectations” that drive FX trends far from their “fundamental equilibriums”. This is why we always need to be trying to understand the markets expectations around future relative growth and rates.

Once we understand the embedded expectations we can compare them to the likely outcomes and see if there’s a divergence between the two.

If there is, then we can identify potential catalysts that would reprice these expectations to be more inline with reality. And then we have a trade.

The dollar bull market that began in 2011 was driven by strong relative US growth (seen in the chart above) and the Fed signaling tighter monetary policy relative to its developed market peers.

This created a reflexive loop which kicked off in 2014. Stronger growth and signaling of tighter policy drove the dollar higher along with US equities. This brought in further speculative flows and kicked that reflexive process into gear.

US Vs ROW Relative Equity Momentum

But by 2016 market expectations for US outperformance and tighter relative monetary policy began to exceed likely outcomes.

Long dollar positioning had become crowded and the trend extended.

Europe and emerging markets on the other hand were recovering from very low bases and horrible sentiment, as well as benefitting from improving global economic growth.

This set up a reversion in expectations.

The market began repricing the Fed’s rate path lower while pricing in tighter monetary policies for other DM central banks.

This  caused the huge unwind in the dollar, which is currently the greenback’s worst year on record (chart via Bespoke).

The market is now overweight the eurozone and emerging markets while underweight the US.

And expectations are high for Europe and EMs, while neutral for the US.

Most Favourable Profit Outlook

There have also been signs that DM central banks have been coordinating policy and using forward guidance to move exchange rates, letting FX markets do the heavy lifting for them in their monetary policy goals.

Learning from 14’-15,’ where diverging monetary policy drove the dollar higher and risked pushing the global economy over the edge. Central bankers started managing expectations in order to subdue the dollar while the Fed moves to become the first to begin reducing its balance sheet.

I wrote about this signalling by the Game Masters (the central banks) in a Brief that went out July 24th. For reference, I’ve included the excerpt below.

Basically, Brainard stated how a country with a large existing trade deficit (ie, the US) should choose to tighten its monetary policy in a way that puts the least amount of pressure on its currency (the USD) and its exporting sector.

The opposite is true for a central bank of a large surplus region (ie, Germany/ECB), which should tighten in a way that helps bring its economy into better external balance.

Lael argues that tightening by increasing the policy rate has a bigger impact on the exchange rate than tightening through balance sheet reduction. Therefore, the US should tighten through balance sheet reduction while the ECB should tighten through interest rates. And if the two coordinate, they can reduce the potential for instability (ie, large china yuan deval or a blowout in Italian yields).

Now what’s currently happening in the land of central banks?

The Fed has recently come out as dovish on hiking but signalled it intends to start letting its balance sheet runoff. And other major central banks, like the ECB, have come out surprisingly hawkish, indicating that the beginning of rate normalization is upon us.

I believe this is a large reason the dollar has sold off. Most countries are better off with a slightly weaker USD and tighter local interest rates, than they are with ever diverging rate paths and a strengthening dollar leading to tighter global liquidity.

Everybody is focusing on interest rate spreads and dollar debt — which do matter, just less so at this time —  while failing to factor in the new intentions of central bank coordinated policy. The CBs don’t want a repeat of what a stronger USD did to global markets in 2015. They’ve wised up (a little bit at least).

The price action of DXY definitely seems to be confirming this, finishing near its lows for the week and breaking through a significant line of support. The chart of DXY below is on a weekly basis and I think it falls down to at least its 200-week moving average (the blue line) and likely even a bit further before finding a significant bid.

The last nine months we’ve been in the middle of the dollar smile curve. The US economy has been muddling through while the ROW has rebounded off its lows and DM central banks have played catch up to the Fed.

This is what the bear case for the US dollar is based on, that we’ll continue to stay in the middle of this curve.

Here’s a summation of the thesis from Nomura.

And Mark Dow also summed up the case well, writing:

On balance, a weaker USD. The US shifting to the balance sheet from rates as the front-burner tool, and global CBs ‘catching up’ to the Fed are the major drivers. EUR, AUD, EM all good. The positioning/psychology in the USD doesn’t strike me as too extreme, so USD weakness doesn’t have to be dramatic.

The question that I’m most interested in when looking at the dollar now is: How long is this ROW outperformance and DM central bank catch up likely to last relative to what is already priced into markets?

EM Sovereign Rally

And it’s here’s where I have trouble buying fully into the continuation of the dollar bear thesis.

When looking at credit spreads and EM debt, you can see that risk is increasingly priced out.

That means that the embedded expectations are high.

This tells me there’s an exceedingly narrow path of outcomes that the future needs to meet for this trade to continue to work.

Secondly, and maybe even more importantly, it appears the low growth, low inflation narrative has been fully adopted, not just by the market but also by the Game Masters themselves.

Fed President, Bill Dudley, said this in a speech recently:

While some of this year’s shortfall can be explained by one-off factors, such as the sharp fall in prices for cellular phone service, its persistence suggests that more fundamental structural changes may also be playing a role.  These include the increased ability of prospective buyers to compare prices across different sellers quickly and easily, the shift in retail sales to online channels of distribution from traditional brick-and-mortar stores, and the consequences of these changes on brand loyalty and business pricing power.

A finance friend of mine recently attended an investors conference where the main subject was inflation. And he mentioned that this was the first time, in the many years he’s attended, where the crowd wasn’t expecting higher inflation.

The Low Level Of Inflation

Instead, everyone was talking about how the phillips curve is dead and how technology has brought on a new secular trend of permanent low inflation, with much thanks to Amazon.

This popular narrative is priced into all areas of the market. And it has been somewhat true up until recently.

But I chuckled when I heard this because for the first time in a long time I’m seeing data that says inflationary pressures are building and higher prices are right around the corner. I covered this in our most recent MIR.

The market is pricing in a much lower hiking schedule than the Fed’s already shallow projected path (see chart below). Fed fund futures aren’t pricing another rate hike until June of next year.

Expectations For Fed Tightening

With inflationary pressures building, it seems to me that there’s a large possibility that the market is on the wrong side of the inflation trade. And therefore, is on the wrong side of the dollar and EM trade, as well.

And if we do enter an inflationary environment, do you think Europe will be able to stomach a repricing of rates higher, better than the US?

Count me as skeptical.

Interest Rate Spread and EUR USD

However, there are a few outcomes where the dollar bear case becomes more likely and they’re centered around the Fed.

With the recent and unexpected departure of Fed vice chairman Stanley Fischer, the Trump administration now has five Fed seats it can fill should it choose to replace Janet Yellen.

There’s a lot of speculation that Trump will install loyal puppets and we’ll return to a dollar crushing era similar to that of the Nixon-Burns partnership of the 70’s.

This is possible and I don’t have an edge in predicting who the President will choose, so I’ll have to react to that when the time comes.

But I do have a hunch that we’ve hit bottom in the Trump Presidency and that things are likely to improve from here (at least somewhat).

With the divisive influencers out of his cabinet and former Marine General Kelly now effectively steering the ship, it seems to me that we’re seeing and hearing less from the Commander in Chief, especially on Twitter, which is a good thing.

And with all likelihood of positive economic policies such as tax cuts and infrastructure spending priced out of the market, it seems like an opportune time for some positive surprises to the upside in the US.

Plus, the recent devastation from hurricanes Harvey and Irma are likely to quell infighting within Congress, at least for a little while…

The US appears ripe for a period of positive expectation revisions.

US Dollar and Citi Economic Surprise Index

The way I see things currently, is that for the dollar bear case to continue to play out, a large number of things have to unfold to match the expectations that are priced into markets.

  • Volatility needs to remain low
  • Investors need to remain in risk-on mode
  • Inflation needs to remain low
  • The Fed’s hike path needs to come down to meet the market’s expectations
  • DM central banks need to continue to signal tighter policy ahead
  • The US needs to continue to muddle through while the ROW goes on a tear

All the dollar bull case needs is just for anyone of these things to not happen.

The dollar bear case needs to walk a shaky tightrope to continue to play out while the dollar bullish case can spawn from any number of outcomes.

In addition, when you throw in the Fed’s likely coming balance sheet reduction (likely to start this month) and the Treasury’s cash normalization — which due to the debt ceiling debate being moved to December, now won’t be happening until early next year — you have some large liquidity drains that will begin to open in the coming quarters.

Draining liquidity leads to the repricing of risk. And with risk priced out of current markets (especially credit markets) there’s the likelihood that this repricing will become jet fuel for the dollar.

The good folks at Nordea Markets have covered this more in depth, and you can read about it here.

The longer dated EURUSD basis swaps are beginning to price this in, while the near market is not.

EURUSD Basis Swaps

As of right now, I put the odds in favor of the dollar bull thesis.

I don’t know when this dollar selloff will end. Though positioning and bearish sentiment are reaching extreme levels.

US$ Valuation and Trade Weighted Index

I’ll be patient and wait for higher inflation numbers. Then see how the Fed responds.

I’d also like to see sentiment become more negative on the dollar than it is, but I’m not sure we’ll get that.

I continue to use the late 90’s analog for the macro environment and have found it extremely helpful to understanding the possible outcomes for today. It’s far from perfect but helpful, nonetheless.

So, of course… strong convictions, weakly held.

The trading game is not about forecasting, being right, or showing everybody how smart you are… It’s about making money.

I’ll be quick to rerate my probabilities if new disconfirming evidence comes in, such as inflation falling further or Trump replacing Yellen with Alex Jones.

Until then, pay attention to the dollar smile and look for comparative growth relative to expectations.