Shifting Realities


Incredible shifts continue to happen in the world. In 2016 we passed the tipping point. From the lens of just a few years ago, most would have thought many recent events unthinkable: the UK has just announced a general election after voters decided to leave the EU, the French political system is in meltdown with no major party represented in their election,  geopolitical tensions are rising and some think tanks suggest that the threat of nuclear war is the highest since the fall of the Berlin Wall and – ah yes – financial markets in the US keep going up, helped by the biggest experiment in financial history.

Our planetary journey keeps accelerating.

Korean Peninsula

As I sit here in South Korea, I almost cannot bare to look at the global geopolitical situation! Things seem to be heating up again. My view was that Trump was upping the ante in line with Kissinger’s advice that an effective diplomat should be unpredictable and at times behave irrationally. I think that there has been a bit of that in some of these games. The good news is that the Chinese appear to be playing ball and putting pressure on North Korea. The Japanese media called me a week ago asking whether the US would really pre-emptively bomb North Korea as their business people are getting worried. I said that it was unlikely, that the Chinese might act first. But if the Americans did something perhaps they will do a surgical strike, and possibly test a new weapon that hasn’t been used before, where retaliation on Seoul was unlikely. Or they might just use cyber terrorism or severely ratchet up economic sanctions. There are a whole range of measures that the Americans could use. I sincerely hope that bloodshed is avoided.

The Western public is tired of wars. And in fact many that voted for Trump voted against the military industrial complex. But once in office he announced a 10% increase in military spending and appears to have done u-turns against his policy of no more pointless interventions.

But its not just the Korean peninsula that is becoming more daunting. There are other potential flash points and possibilities of terrorism in Europe and the US.

However, today I want to focus on the economy and political events in Europe

UK and Brexit

Last week, whilst all eyes in Europe were on the French election, British Prime Minister Theresa May, suddenly announced an early election for the UK.

Some think this she is merely being tactical and leveraging off the fact that with the confusion in the Labour Party and the Conservatives ahead in the polls, she just wants to add to the number of seats in PArliament.

Others think that she is concerned that with the current slim majority, the Conservative anti EU faction has too much power. So she wants to drown out these hardliners by adding to the majority.  This might well give her an ability to negotiate for a ‘softer’ Brexit – which is what she probably wanted all along. Of course, the outlier case is that the opposition wins on an anti Brexit mandate. So either way, the FX markets might be pricing in a slightly higher chance of a soft Brexit.

Some research by Capital and Conflict seems to agree with me:

“May is positioning herself for a compromise with the EU. And when it comes to politics, compromise means a load of political obfuscation and complication. We could end up with some weird hybrid partnership worse than being inside the EU. This is good news for big business and their lobbyists who will have plenty of opportunities to cut out loopholes and prevent competition. It puts at risk the bright future Britain could have outside the EU.

It’s not just the stockmarket that is signalling there’s something iffy about the election. The business leaders who campaigned for Remain are happy with the election date, despite the higher probability of Brexit.

Sir Mike Rake, chairman of Worldpay and former CBI president, said, “If the election empowers the Prime Minister to negotiate a pragmatic Brexit with appropriate transitional arrangements it will be worthwhile.” Pragmatic? Isn’t the lack of pragmatism why we’re leaving the EU in the first place?

A bigger Conservative majority means a weaker Brexit because May will have more moderate Brexit backers in Parliament. She won’t have to rely on the controversial hard-Brexit advocates who kept her honest to the referendum.”

The exchange rates certainly reacted. And with the pound slicing through the 200 moving day average, some think that we have now seen the bottom of the pound.

France – A Sigh of Relief?

The mainstream media is in ecstasy over the result of the first round of the French election. Janan Ganesh in the Financial Times – a bastion of globalism – wrote an article entitled:

“Macron shows how political talent can trump the zeitgeist: For liberals the way back to power can happen in a flash with a class act”

He goes on to write excitedly that a good politician can buck the major trends. Its interesting that there is no analysis of how the also-called liberal politicians let down their electors, or that they should reflect and modify their behaviours.

Now the new thinking that will emerge – and we wrote about this possibility before – is that a Macron (France) – Schultz (Germany) combination will be able to save the EU project.

What this could do is just enoucrage the same old thinking in the EU and ensure its demise. Macron is a former Rothschild banker, who has been touted as kind of hip. But clearly he is the mainstream pick. Personally I also wonder about his psychological health – he was a child when he met his then 40 year old wife. The 24 year age gap doesn’t matter so matter as the fact that he was a minor when they basically started some form of relationship. What kind of power does she yield over him? I don’t have time to research this, but its merely a question.

Ambrose Pritchard Evans, in the Telegraph, thinks this could all work out quite well for the UK as he thinks that Macron will not be able to unite France.

 “The tables have since turned. Britain will enter the Brexit talks led by an ancient and disciplined party of great governing credibility – solid on NATO, free trade, climate accords, and liberal principles – with UKIP and the ephemeral forces of populism scattered to the four winds.

Discord lies on the other side of the Channel. Let us suppose that the ardent Europeanist Emmanuel Macron makes it through to the presidential run-off in the French elections on Sunday – far from certain – and therefore captures the Elysee two weeks later. How is he going to govern and reform France?

His manifesto is studiously vague. The French parliament will be split five ways and Balkanized. Anti-EU candidates from hard-Left to hard-Right have garnered half the support in this extraordinary campaign, united on core complaints that the EU has eviscerated French sovereignty and that the euro has become a cloak for German interests.

There is much hope in French progressive circles that Mr Macron will be able to rebuild the eurozone on better foundations with a putative Chancellor Martin Schulz in Germany. Even if Mr Schulz were to beat Angela Merkel in October, this would be wishful thinking.

There is scant difference between the German Social Democrats and Christian Democrats on euro ideology. Both are captive to mercantilist thinking. Both think Germany’s current account surplus of 8.5pc of GDP is a virtue. Both are opposed to fiscal union and pooling of debts. Both are wedded to creditor interests. There is only a German view.”


A number of high frequency data points have recently show China’s economy cyclically improving.


And also the Li Keqiang measure is really starting to pick up as well

However, I am still skeptical as I think the economy is still based on far too much credit creation.  A friend of mine, Andrew Brown, who is working for a macro fund wrote this in the South China Morning Post recently:

“A credit-to-GDP gap above 10 per cent of GDP is considered risky and requires the maximum additional 2.5 per cent of tier one capital as a countercyclical buffer under Basel III. A credit-to-GDP gap above 10 per cent of GDP is increasingly problematic as any new credit extended above that level produces progressively less GDP and is a source of future NPLs.

Out of the 43 countries currently measured by the BIS, China has the largest credit-to-GDP gap (by orders of magnitude) at 30 per cent of GDP. This is equivalent to US$3.1 trillion in excess credit.

Finally, to show that the pace of credit creation will necessarily slow, thereby exposing misallocated credit and driving the emergence of new NPL formation, we turn to the deterioration in China’s incremental capital output ratio.

This ratio is the measure of the number of units of input required to produce one unit of GDP.

For the 15 years prior to the credit impulse in 2009-14, China’s incremental capital output ratio has been consistently between two and four. Meaning that two to four yuan in fixed asset investment created one yuan in GDP.

But as a result of the credit-driven economic growth model, and the excessive credit that has been created (and the subsequent excess capacity in the industrial economy), China’s investment efficiency has deteriorated to the point that its incremental capital output ratio is now over 13.”

USA – Economic Data

A number of things are worrying me as markets hit new highs. First, the economic surprise indices continue to roll over:


Then there is the debt bubbles in auto loans and student loans.

In the Financial Times in this last week:

“Rapid run-ups in debt are the single biggest predictor of market trouble. So it is worth noting that over the past 10 years the amount of student loan debt in the US has grown by 170 percent, to a whopping $1.4tn — more than car loans, or credit card debt. Indeed, as an expert at the Consumer Financial Protection Bureau recently pointed out to me, since 2008 we have basically swapped a housing debt bubble for a student loan bubble. No wonder NY Federal Reserve president Bill Dudley fretted last week that high levels of student debt and default are a “headwind to economic activity.”

In America, 44m people have student debt. Eight million of those borrowers are in default. That’s a default rate which is still higher than pre-crisis levels — unlike the default rate for mortgages, credit cards or even car loans.

Rising college education costs will not help shrink those numbers.”

And here is a great debate on the auto loan situation between Danielle Di Martino Booth and another analyst. I know who’s argument I find more compelling!

Thoughts on Markets

This is not all to suggest I am forecasting the imminent top in financial markets around the world. Other forces are at work.

What could happen is that the spark that causes the bigger sell off, is an eventual rise in interest rates. Perhaps markets have a rest, then trump manages to implement some of his ‘reflation’ plan and then things start to unravel.

Certainly at the moment, Wall St is trying to persuade that its ‘different this time,’  – quite literally – in an article just published. They suggest looking at inflation-adjusted NASDAQ and also the PE multiples – both show that the market could go a lot higher if equities go to the Dotcom highs. Its a very simplistic argument. Perhaps the bubble this time isn’t in equities? But it could also be true. If the central banking facade continues, whats to stop us going o ‘money heaven’ as my old business partner used to say!

Missing the Point?

However, by looking at traditional financial markets is one missing the point? There are indications everywhere that decision-makers and investors on the margin are opting out of the system. Whether its those that are buying farmland or in growing numbers, purchasing cryptocurrency.

A few weeks ago I mentioned that the ICO might be in the process of replacing the IPO. One of our advisors is the co-founder of Humaniq Bank (Dmitry Kaminsky) and its ICO raised over $4 million in a short space of time. Then I noticed an even quicker fund raise – Gnosis raised $12 million in an even shorter space of time!

Bitcoin is nearly back up at the highs as the SEC discusses whether to allow an ETF. And Ethereum has in fact soared to the highs:


In a way, this all – even is only subconsciously – fulfils that great quote by Buckminster Fuller:

“You never change things by fighting the existing reality.
To change something, build a new model that makes the existing model obsolete.”

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