Gold flat. Dow flat.
What’s not flat?
Our friend Hugh Hendry. He’s either up or down. No flatness for Hugh.
Hugh – who runs London-based hedge fund Eclectica Asset Management – has been among the most bearish of bears. But now he’s become the most bullish of bulls. Eclectica is losing money. Reluctantly, Hugh has capitulated in dramatic fashion.
Speaking at the Harrington Cooper investment conference last week, Hendry had this to say:
I have been prepared to underperform for the fun of being proved right when markets crash. But that could be in three-and-a-half-years’ time.
I cannot look at myself in the mirror; everything I have believed in I have had to reject. This environment only makes sense through the prism of trends.
Is he doing us all a favor? Is he the “last one to throw in the towel”… the last holdout… a clear signal of the end of the bull market in US stocks?
Maybe…
Hugh says he “can’t look at himself in the mirror.” He also can’t sit out a great bull market.
We recently rewatched Hugh debate another friend, Liam Halligan, on CNBC’s Squawkbox back at the start of global QE in 2009. You can watch it here.) Liam writes a column on the markets and the economy in British newspaper The Telegraph.
Hugh’s style includes mockery, condescension and insults. Very entertaining.
Liam seems reasonable in contrast. Sensible. Well-intentioned. But no pushover for Hendry.
The subject on the table was the effect of QE.
Liam said it would lead to inflation.
Hugh said it wouldn’t work… that it wasn’t leading to inflation at all, but to lower prices. Except for investment assets.
“Buy bonds!” said Hugh.
“Sell bonds!” said Liam.
Who will be right? Who knows?
Most likely, they’re both right. In sequence. Hugh. Then Liam. Or as we put it years ago: We’ll have Tokyo… then Buenos Aires.
The Tokyo Effect
An Australian colleague, Vern Gowdie, is visiting us in Baltimore. We had almost the same conversation with Vern as Hugh had with Liam. It’s probably the most crucial conversation for dear readers, too, because it affects your most important financial decisions.
“It looks like we could be in Tokyo for a long time,” Vern concluded.
Tokyo has been in an off-again, on-again deflation for 23 years. It has tried bailouts. Boondoggles. QE. And ZIRP.
What has it gotten for all that?
A “stag-nation.” It has tried to raise inflation rates – without success. Instead, its zombie banks keep their money to themselves. Few new businesses are started. People get older and spend less. The birthrate plummets… and the whole nation totters on… and on… and on.
We predicted the same thing for the US. But we thought it would happen faster.
Deleveraging would take seven years, we estimated. We are already in year six.
Will it end next year? Doesn’t look like it. Debt levels are now higher – if you include federal debt.
And since QE does not directly cause inflation, it could go on for years more – as it has in Japan – with no real result… other than a bubble in stocks and bonds.
Does QE Work?
“QE,” Hugh sneers, “doesn’t work. And it won’t work in the future. And it won’t cause inflation.”
Want to see QE not working? Take a look at the chart below of the velocity of M2 money stock. The velocity of money measures the rate at which each unit of currency is used in a given period. A faster velocity should bring with it higher inflation.
But the Fed buys bonds via QE… it adds excess reserves to the banking system… and the velocity of money falls off a cliff.
That’s why Hugh may be able to sit happily with his government bond position for many years.
But not forever…
Eventually, lending against the future output of a slack economy will prove disastrous.
That is what happens when you finally get to Buenos Aires.
That’s when the government moves to “QE Plus”: a strategy designed to bypass the banking system and get more money into more hands – faster.
It will happen. But it could be years away.
Regards,
Bill
