Mankind Cannot Manage Nature From the Top Down
Still trusting my 'spidey sense'... Macro framework in plain English... Forest fires and the Fed... Spoon-fed a bunch of baloney... Where these massive systemic risks began... A key sign of macro-awareness... Mankind cannot manage nature from the top down... The continued acceptance of 'MMT'... How you can prepare today...
We'll start today's Digest by checking in on my 'spidey sense'...
Last Friday, I (Dan Ferris) explained that my "spidey sense" was tingling about the recent negative sentiment on the U.S. dollar – similar to what happened in 2011, when I made one of the best macro calls of my life. And I shared one simple way for you to profit...
With the dollar due for a short-term bounce, I suggested buying the iShares 20+ Year Treasury Bond Fund (TLT). I said the trade could start working any day... And I suspected it would take anywhere from a couple of weeks to a couple of months to fully play out.
So how do things look after the first week? Well, let's just say that my spidey sense might be a little rusty. The trade is performing OK, but we haven't seen anything spectacular yet...
The U.S. dollar is up roughly 0.8% since last week, as measured by the U.S. Dollar Index (which tracks the dollar's value against a basket of currencies, including the euro, yen, pound sterling, and Canadian dollar). But over the same span, TLT is down about 0.8%.
With that said, I'm still recommending this short-term trade for two reasons...
First, with the dollar up over the past week, my reading of the currency is right so far. It has been beaten down for the past eight months... and now it's due for at least a brief rally.
Second, although TLT is down slightly this week, the momentum could be shifting... The fund's share price fell Monday and Tuesday, but it's now up about 2% since then.
If I'm ultimately right, it appears that perhaps I was just a couple of days early. And if I'm wrong, perhaps I've underestimated the potential for inflation to take hold... or for capital to flee hypervalued U.S. markets for much cheaper emerging markets.
For now, I'm sticking with this short-term, countertrend, long dollar trade. We'll see how it plays out in the days and weeks ahead... I'll keep you posted here in the Digest. And remember, as I said last week, never bet more than you can afford to lose.
Last week, I also discussed why I've been in the macro mindset a lot lately...
A few things have driven my recent macro-based investing approach...
- Several guests on the Stansberry Investor Hour podcast are experts in this arena
- My own studies of the Great Depression era, when modern macro principles were born
- My own successes in both recent and not-so-recent macro calls
This week, I want to take this topic a step further by sharing some of my macro framework with you. And I promise to do it in plain English...
The two basic pillars of macroeconomics are central bank monetary policy and government fiscal policy. Add to that, we're constantly experiencing cycles – economic cycles, generational cycles, debt cycles, valuation cycles – that ebb and flow naturally (if not always obviously).
For example, my outlook for the next five to 10 years is partially influenced by generational cycles...
In previous Digests, we've occasionally referred to Neil Howe and the late William Strauss's book, The Fourth Turning... The title refers to a period of great social upheaval that occurs about every four generations (with each generation lasting roughly two decades).
The previous Fourth Turning – simply defined by Howe and Strauss as "The Crisis" – occurred during the period that encompassed the Great Depression and World War II.
And according to Howe, a new Fourth Turning started in 2009, with the last financial crisis... Turnings last about 20 years or so – putting us about halfway through this crisis period.
I'll let you explore the book yourself, but the authors' basic timeline suggests it's prudent to prepare for a tumultuous decade. I can't predict the future... But as an investor, I can't afford not to be prepared for a variety of future potential outcomes.
(By the way, Howe currently works for a macro investment firm. See, I told you I've been in this mindset a lot.)
I did a quick radio interview this week on WNTK in New Hampshire...
I pointed out to the host that a Biden presidency isn't necessarily bad for the stock market... But I also admitted that I have four "go bags" in my garage – plus guns, gold, and extra groceries – if I need to get out of here in a hurry.
Now, I'm not a fringe lunatic – far from it... I have a 401(k) invested in stocks, and I own equities in other accounts, too. I own a home near a large city (where protests erupted into riots most nights for five straight months). Coronavirus-induced inconveniences notwithstanding, I live my life assuming a certain amount of economic and political stability from day to day.
I don't want to have to "bug out" with guns and ammo strapped to my body. I want peace and harmony. I want everyone to be a good, responsible citizen who is more interested in getting along with his neighbors than voting himself a bigger share of their paychecks.
But just as I can't predict whether bugging out is a possible course of action for me, I likewise can't afford to ignore the highly destructive macroeconomic "forest fires" that have ignited frequently over the past couple of decades.
Yes, I know I've cited the forest fire metaphor before...
But if I don't repeat it now and then, I'm afraid you'll forget it...
My greatest fear as a Stansberry Research analyst who serves you is that I might not do enough to warn you about just how fragile the financial system really is... and that you should definitely prepare for it to break down (and of course, at the same time, pray that it never does). As Porter always says, it's what I'd want someone to do for me if our roles were reversed.
So forgive me if you already know where I'm going with this idea today...
The large, destructive forest fires that have ravaged the western part of the U.S. this year were not truly an accidental occurrence. Nor were they the result of global warming.
They were the result of poor management. The problem is childishly simple – and the direct result of the top-down management of our nation's beautiful forests by human beings.
The forests grew lush with no human involvement, but mankind thought it knew better...
For decades, the U.S. Forest Service ("USFS") has suppressed fires in a vain attempt to "protect the environment." The September 2015 issue of Science magazine states the case plainly...
After noting that wildfires are getting bigger, more frequent, and more costly, the article points out that 98% of U.S. forest fires are suppressed while they're still relatively small. However, it then mentions that the other 2% "often burn under extreme weather conditions in fuel-loaded forests and account for 97% of fire-fighting costs and total area burned."
The forests are loaded with fuel precisely because so many fires are put out quickly.
In other words, by trying to save the forest from fire, the USFS has loaded its floor with more fuel... making larger, more destructive fires more likely. The actions by which it purported to keep the forests safer actually made them far more dangerous.
Then, when that fuel dries out and starts burning, it only needs a strong wind to set a major catastrophe in motion... Fires can jump across freeways, and burning embers can travel up to a mile in high winds. The USFS knows this, and it still suppresses too many fires.
The Federal Reserve – aided by the U.S. government at every turn – does the exact same thing...
The Fed purports to manage the economy from the top down. And it suppresses economic "fires" instead of letting them burn out the fuel.
For example, instead of letting Wall Street firms go bankrupt, the Fed declares them "too big to fail," and bails them out. Nobody goes to jail. The bankers still get their bonuses.
The Fed's fire-suppression techniques invite the worst moral hazard into the financial markets. The bankers knew they'd be bailed out during the last financial crisis... So they engaged in what author Nassim Taleb calls the "Bob Rubin" trade, described in a footnote in his book, The Black Swan...
Rubin had pocketed more than $100 million from Citigroup's earning of profits from hidden risks that blow up only occasionally. After he blew up, he had an excuse – "it never happened before." He kept his money; we the taxpayers, who include schoolteachers and hairdressers, had to bail the company out and pay for the losses. This is what I call the moral hazard element in paying bonuses to people who are not robust to Black Swans, and who we knew beforehand were not robust to the Black Swan. This beforehand is what makes me angry.
In other words, the Fed and all the bailed-out Wall Street bankers knew before a crisis occurred that their firms weren't prepared to handle one. But they didn't care at all...
They kept using massive leverage and selling toxic financial products because it was making them rich (and continues to make many of those same people rich today)... and because they either knew or at least strongly suspected that the Fed – ultimately, the taxpayers – would bail them out.
Of course, we're all just spoon-fed a bunch of baloney instead of hearing the truth...
The story we're told is that it would have been too horrendous to let those big banks fail. I don't believe it for a minute – and neither should you.
The Fed simply suppressed another fire... adding more fuel for the next big catastrophe. And one day soon, it won't be able to suppress any more...
And the fire will burn out of control.
These people aren't idiots. They're just immoral. The Fed knows that it's creating massive systemic risks... and that everything will end badly at some point. And the Wall Street bankers know they're engaging in massively risky strategies destined to blow up one day.
But they get away with it because – like those destructive U.S. forest fires (which only happen 2% of the time) – the big disasters happen seldom enough that they can pretend they never saw it coming... They can be just like Bob Rubin and all the other Wall Streeters.
The pundits blame the forest fires on climate change and global warming, and all the news-addled ignoramuses nod along like good little sheep. In the same way, when Warren Buffett says the Fed needed to bail out his Wall Street friends or else, we believe it and somehow fail to see how they all benefit from the rise in asset prices that always seems to follow.
I promise you... The Fed governors and every CEO on Wall Street all saw it coming before the last financial crisis... They all know it's coming again soon... And of course, they know you and I – the hardworking, tax-paying little people – will get stuck with the bill.
Again.
Let me also remind you that these massive systemic risks mostly didn't exist before the creation of the Fed...
The U.S. dollar's value – backed by gold – fluctuated somewhat from the late 18th century until the early 20th century... But a dollar earned in 1789 was worth roughly the same 125 years later, in 1914.
However, once the Fed took over that year, the fluctuations were history... and the dollar's value fell consistently as the years rolled by. As of today, it has lost roughly 96% of its 1914 value.
In the decades before the New York Fed opened for business in the fall of 1914, several bank "panics" happened – most notably in 1873, 1893, and 1907. Most of these panics were relatively small events, resulting in the failure of perhaps a few dozen mostly smaller institutions.
Then, the Fed came into existence, systematizing the U.S. banking system... aggregating all the risks in the banks into one giant source of systemic risk affecting the entire country. (By the way, the topic of Fed-induced systemic risk is discussed in detail in the book, Banking and the Business Cycle: A Study of the Great Depression in the United States, if you're looking to dive deeper.)
And as we've discussed before in these pages, we all know what happened next...
Starting in 1929, just 15 years after the Fed opened for business, the amount of goods and services produced in the U.S. fell by one-third... 25% of the labor force became unemployed... and roughly 7,000 banks failed during the Great Depression through 1933.
Since then, we've had the "Great Inflation" of the 1970s and the "Great Financial Crisis" of 2008 and 2009 (as well as numerous smaller boom-and-bust cycles along the way). Things really seem "great" under the Fed, don't they?
Look at how the benchmark federal funds rate – which is, of course, manipulated by the Fed – rises and falls, playing a central role in the huge booms and busts of the past 20 years...
You can plainly see that the rate bottoms as the Fed suppresses the effects of crises and recessions. And it rises as the central bank tries in vain to keep the next fire from burning out of control.
Today, the fed funds rate sits at 0.0% to 0.25% – where it dropped in March in response to the COVID-19 panic...
The Fed's target range is effectively zero, just like it was after the last financial crisis. And the Fed is once again employing another tool that it used back then...
It's engaging in a massive scheme of money-printing and bond-buying – so-called "quantitative easing" – in a vain attempt to suppress the government-created COVID-19 lockdown recession... the deepest U.S. economic contraction since the Great Depression.
As we've pointed out before, on the face of it, using a newly created dollar to remove income-producing securities from the system is inherently deflationary. Some folks don't get this concept... They mistakenly believe that money-printing automatically causes inflation.
But the money won't cause prices to rise until it's lent and spent. The market knows this.
However, the market is a big, ultra-complex entity... And it also knows that you can't ignore macroeconomic forces forever. It knows that the Fed has printed more than $3 trillion this year, nearly as much as during all of its quantitative easing efforts from 2008 to 2014.
There's a reason gold is up sevenfold over the past 20 years...
That's more than three times the benchmark S&P 500 Index's performance over that span.
Enough investors know a reckoning always comes, and they don't want to be caught flat-footed when it arrives. So they buy gold to prepare and protect their wealth.
Knowledge of those inevitable reckonings is macro-awareness. If you've consistently held gold, that means this macro mindset is already part of your investment toolkit.
Gold is a store of value. These stores of value are the ultimate macro investments. They're long-term, buy-and-hold assets designed to preserve your wealth across decades and generations by helping you to diversify your wealth out of financial assets like stocks.
(If you took my advice in last Friday's Digest to put on the TLT bond trade, that's slightly different... That's a macro speculation. Like I said... don't bet big, and prepare to exit soon.)
Gold, silver, and now bitcoin are the ultimate macro investments... All three assets are part of the deep core of a sound long-term wealth-preservation strategy for investors.
While we can't know the details yet, I can promise you that another, bigger crisis is coming...
Maybe the trigger will be a massive wave of defaults as "zombie companies" go bust (which my colleague Mike DiBiase warned about again on Wednesday in the free DailyWealth e-letter).
Maybe the Fed will finally print too much money, and the U.S. government will finally borrow too much for the liking of investors, both foreign and domestic... causing a stampede out of the dollar and into gold, bitcoin, and other currencies and equity markets. Maybe the Fed or the government will begin to guarantee corporate debt the way Fannie Mae guarantees mortgage debt. I bet that would heat inflation right up!
I don't know what will set off the panic... But I do know that the Fed is in the business of creating massive systemic risks, so I know another crisis is a 100% absolute certainty.
It's as if someone sat down and tried to design a system that would result in the largest possible booms and busts and the greatest possible inequity between asset holders and wage-earners.
The next crisis will be the culmination of the current era of massive central-bank intervention...
The era of the infallible central bank began roughly two decades ago, during the dot-com bust. The Fed's easing, combined with Fannie Mae and Freddie Mac guaranteeing mortgages for investors, created huge incentives that set off the housing boom and led straight to the financial crisis...
When the government guarantees a financial asset, the only thing that's really guaranteed is that that asset will cause a crisis one day.
It's just like when the USFS tries to keep you and the forests safe by putting out 98% of the fires. But it really only makes massively destructive fires more likely with each passing year.
Mankind cannot manage nature from the top down – including the economies and societies that emerge within it. It's the height of hubris for anyone to believe they can control a $20 trillion economy by printing money every time a new problem arises.
Due in large part to the top-down interference in the economy by the U.S. government and the financial system by the Federal Reserve right now to a greater degree than any time in history, financial assets are exposed to massive systemic risks – just like the forests.
And it's about to get a lot worse, in my opinion...
That's because the so-called 'Modern Monetary Theory' is becoming more accepted each day...
Modern Monetary Theory – "MMT," for short – is an alternative to mainstream macro theory. It's the idea that central banks and governments can maintain the health of the U.S. economy and make us all rich by pulling two simple levers – money-printing and taxes.
MMT proponents say it's silly to worry about government debts and deficits... They say the government is nothing like a household, because a government can print its own money... They say the government can print all it wants, as long as it keeps an eye on inflation... And if inflation starts to occur, they say the government can magically keep it in check just by raising taxes.
The idea that such a system is jerking the rest of us all around is nowhere on the radar screens of these MMT proponents. Printing money and raising our taxes based on some bureaucrat's reading of the economic tea leaves will makeit nearly impossible for entrepreneurs and businesses to plan anything beyond what's for lunch tomorrow.
And if you're paying attention to what I'm saying, you may have noticed that MMT is not modern at all... It's the same trick every fading republic has used to try to save itself.
Sooner or later, the only tool left is larceny... Whether it's through inflation or taxes hardly makes a difference.
Like I said, nothing about MMT is new... John Maynard Keynes suggested a similar scheme of deficit spending in the 1930s. Today, economist Stephanie Kelton's book, The Deficit Myth: Modern Monetary Theory and the Birth of the People's Economy, rhymes well with Keynes' belief that a cadre of bureaucrats with zero skin in the game can magically save us all from the business cycles they create by effectively using government and central bank largesse to suppress economic fires.
It would be comical if it weren't so tragically stupid.
By printing trillions of new dollars and buying U.S. Treasury bonds and other assets, the Fed is halfway to embracing MMT.
And perhaps we'll also see the other half of full-blown MMT – higher taxes – sooner rather than later...
President-elect Joe Biden made it clear during his campaign that he intended to raise taxes.
At first, they always say, "Oh, it's only for the wealthy" – just like when the income tax was introduced in 1913. But how do you feel after April 15 each year nowadays?
I guarantee plenty of "not wealthy" people will wind up poorer as the apparatchiks and their cronies grow richer and more powerful.
With the Fed trying to run the show, we must always be in the macro mindset today...
My understanding of the Fed's purported purpose (control inflation and unemployment) and the real outcome of its activities (creation of massive systemic risks) tells me that I can't afford not to be a macro-aware investor.
No, it's not all doom and gloom... I never have believed in that idea, and I don't to this day.
More folks have a higher standard of living today than ever before... The forces of innovation and the desire of entrepreneurs, business executives, and an army of hardworking employees to seek greater means for themselves and their families are substantial.
They've fought hard against the Fed and U.S. government's large and growing top-down interference. That's why I include stocks and bonds in my truly diversified, core portfolio.
But eventually, economic dislocations will accumulate and become large enough to turn into political and societal dislocations...
If that sort of thing gets bad enough, the markets will hate it... maybe for a long time.
(I've caught a nearby glimpse of this in recent months... I live 20 minutes from downtown Portland, Oregon, where supporters of "the party of love and compassion" protested every night for five months, often resorting to violence, then magically stopped when Biden was elected.)
With the Fourth Turning as my guide, I see it as prudent to prepare for the possibility of a financial crisis that makes 2008 look rather tame by comparison. That's how it works...
A bad crisis is met with massive Fed and government intervention. Then, things sort of return to normal until the next, even worse crisis. Remember, 98% of the time, the USFS gets to crow about how it put out a forest fire. Then, the other 2% of the time, its ill-conceived fire suppression is revealed for the massive mistake it truly was the whole time.
Amid a troubling long-term macro backdrop, I can't help but notice that bitcoin is surging higher...
My colleague Corey McLaughlin hit on this topic earlier this week, too...
The world's leading cryptocurrency is valued at more than $16,000 today. It's up about 127% year to date. That's more than three and a half times the performance of silver and roughly five and a half times the performance of gold during the same time frame...
Buying bitcoin was one of my election-related trade ideas in the October 23 Digest. I've also recommended it as a long-term store of value in my Extreme Value newsletter. It's up about 15% since the election... and roughly 60% since my April recommendation in Extreme Value.
With such a great performance, you might be thinking about selling. But before you pull the trigger, think about this...
The world's supplies of gold and bitcoin are both tiny compared to the tens of trillions in fiat currencies floating around the world. Just a little more interest from folks in getting out of fiat currency will treat both gold and bitcoin very well in the coming years.
It's far more likely that different alternative currencies will go into a more widespread use than it is that the U.S. dollar will be completely replaced by a single substitute.
So keep your gold... keep your silver... and buy some bitcoin if you haven't already.
And most important... Never, ever forget that mankind cannot manage nature from the top down, including the societies and economies that emerge within it.
If you can remember that, you'll be ready to fight the next fire whenever it comes.
New 52-week highs (as of 11/12/20): Comcast (CMCSA), Cresco Labs (CRLBF), GrowGeneration (GRWG), Intellia Therapeutics (NTLA), Trulieve Cannabis (TCNNF), T-Mobile (TMUS), and Vestas Wind Systems (VWDRY).
In today's mailbag, feedback on yesterday's Digest that touched on golf and replies to our "food for thought" idea. Do you have a comment or question? As always, send them to us at feedback@stansberryresearch.com.
"I loved today's article and 'food for thought' recs such as Top Golf and ELY. Keep them coming!" – Paid-up subscriber Sean M.
"Thank you for the discussion about Top Golf and Callaway. Yes, I would enjoy seeing similar discussions in the future." – Paid-up subscriber Michael M.
"Not all important and interesting ideas need be investment recommendations. There are plenty of other trends and changes worth commenting on even before an investment angle develops." – Paid-up subscriber Mark L.
Corey McLaughlin comment: Thanks to all of you who wrote in... I'll look to keep the "food for thought" coming.
In the meantime, if you have any companies, sectors, themes, or whatever that you'd like us to talk about more, drop us a line at any time at feedback@stansberryresearch.com.
Good investing,
Dan Ferris
Vancouver, Washington
November 13, 2020