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wknd
notes

Wknd Notes
White Papers
Innovation & Optimism

wknd notes: Defying Physics

wknd notes: Defying Physics
August 07, 2022
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We're All FX Traders Now
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Can't Happen

Can't Happen
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wknd
notes

Each Sunday morning for over a decade, One River’s CIO, Eric Peters, has published “Wknd Notes.” It is an unorthodox take on markets, politics, and policy that’s widely read across our industry and within global policy/political circles. Eric has written for as long as he has traded and the discipline is part of his investment process. Drawing on wide-ranging, multi-disciplinary research, historical study, and discussions with interesting characters throughout the world, Eric collects those things he finds most thought-provoking each week and distills them into a concise letter. At times the ideas and views are consistent with his own, but just as often, they challenge his positions and it is this openness to opposing views that helps him maintain a flexible mind in the search for emerging opportunities and risks. His writing is a reflection of how he thinks, and as such it is as focused on identifying the right questions to ask as it is on seeking answers. The publication of this work is Eric’s way of exchanging ideas/information and developing dialogue with a network grown over his thirty-one-year career.

Innovation & Optimism

July 24, 2022

Marcel Kasumovich, our Head of Research, takes the pen on wknd notes, the last one before One River takes our August break from writing. Scientist James Lovelock inspires a theme of innovation and optimism.

 

Overall: “Jay Powell said things that, to be blunt, were analytically indefensible,” former Treasury Secretary Summers lamented. “There is no conceivable way that a 2.5% interest rate, in an economy inflating like this, is anywhere near neutral,” he continued. Summers was more optimistic on fiscal, arguing that “less demand, more supply and direct better bargaining for lower prices - those are the things that are involved in reducing inflation” in his support of the Inflation Reduction Act. The Act was welcomed by the oil and gas sector. “We’re pleased with the broader recognition that a more comprehensive set of solutions is needed to go through the energy transition,” Exxon’s CEO commented. He added: “This policy could include regular and predictable lease sales, as well as streamlined regulatory approvals and support for infrastructure such as pipelines.” Oil and gas output is planned to rise. “We more than doubled investment compared to last year to grow both traditional and new energy business lines,” Chevron’s CEO said after reporting record profits. Apple also enjoyed surprisingly strong earnings. “This quarter’s record results are a testament to Apple’s relentless focus on innovation and our ability to create the best products and services in the world,” said Apple’s CEO Tim Cook. The performance reviews were a bit more mixed than Apple’s optimism. Intel’s CEO observed that “as a result of macro weaknesses, we now expect the PC TAM to decline roughly 10% in calendar year 2022, characterized by broadening consumer weakness.” And the politics of growth are trumping inflation. Senator Warren penned: “If Messrs. Powell and Summers have their way, the resulting recession will be brutal. As in past downturns, Republicans in Congress will press for austerity.” Combating Summers’ argument on the need for higher unemployment to tame inflation, Warren countered “this is the comment of someone who has never worried about where his next paycheck will come from.”

 

Our Research Team is taking a writing break in August. They offer a ‘top ten’ list of summer reading to help get through the digital asset winter [click here].

 

Week-in-Review (expressed in YoY terms): Mon: ECB’s Kazaks says big interest rate hikes may not be over, ECB’s Visco says will take gradual approach to hiking rates, China rumored to establish fund to support property developers, Russia attacked Odesa’s sea port over the weekend despite agreeing to allow grain exports to resume, NS1 capacity to drop to 20% (from 40%) as another turbine requires maintenance, Walmart cuts profit outlook for 2Q and 2023, Coinbase faces SEC probe over cryptocurrency listings, China says getting “seriously prepared” for Pelosi visit, BoJ’s Takata says economy still needs support and YCC is sustainable, US Chicago Fed -0.19 (0e), US Dallas Fed -22.6 (-18.5e), S&P +0.1%; Tue: EU countries agree to reduce gas use for next winter, Biden set to speak with Xi on Thursday, Hungary CB hikes 100bps as exp, IMF cuts 2022 world GDP growth from 3.6% to 3.2%, Shopify plans to cut 10% of staff, Italy outlook lowered to stable by S&P, DOJ investigating Trump’s actions in Jan 6 probe, US reports China is trying to infiltrate the Fed, Google ad rev better than feared, MSFT earnings solid, S. Korea 2Q GDP 2.9% (2.6%e), Japan serv PPI 2% as exp, Turkey house price index 145.5% (126.9%p), Brazil IPCA infl 11.39% (11.41%e), US Case Shiller House Prices 20.5% (20.6%e), US Richmond Fed 0 (-14e), US consumer conf 95.7 (97e), US new home sales -8.1% MoM (-5.9%e), S&P -1.1%; Wed: Fed hikes 75bp as exp / acknowledges growth slowdown but reiterates strong labor market / Powell says close to neutral – data dependent on future rate moves, Meta misses rev forecast, Manchin/Schumer announce $370b tax and spending package, Nasdaq has biggest 1d gain since Nov 2020, Australia CPI 6.1% (6.3%e) / Trimmed Mean CPI 4.9% (4.7%e), German cons conf -30.6 (-28.9e), France cons conf 80 as exp, EU M3 5.7% (5.4%e), Italy cons conf 94.8 (96.6e), US wholesale inv 1.9% MoM (1.5%e) / ret inv 2% MoM (1%e), US durable goods orders 1.9% MoM (-0.4%e), US Pending home sales -19.8% (-13.4%e), Russia IP -1.8% (-2.4%e) / retail sales -9.6% (-9.4%e) / unemp 3.9% (4%e), S&P +2.6%; Thu: US 2Q GDP -0.9% (0.4%e) / Core PCE 4.4% QoQ as exp / second consecutive negative print, Turkey raises year-end infl estimate to 60.4% (42.8%p), China’s Politburo calls for stabilizing property market / rumors of developer bailout package increased to ~$150b, Jack Ma to cede control of Ant, Biden / Xi call ends in planning of in person meeting / Biden reiterates no change to Taiwan policy amid possible Pelosi trip, strong earnings from Apple and Amazon, US plans to offer updated booster shots in Sept, ECB’s Visco says there is a risk of recession in Europe, Germany CPI 8.5% (8.1%e), US init jobless claims 256k (250k exp), US KC Fed 13 (4e), S&P +1.2%; Fri: Russia is transferring $20b to Turkey for nuclear plant, Exxon and Chevron shatter profit records, Pelosi leaves for Asia – Taiwan visit not yet confirmed, Fed’s Bostic says US not in recession / more rate hikes to go, Japan Tokyo CPI 2.5% (2.4%e) / jobless rate 2.6% (2.5%e) / ret sales 1.5% (2.9%e) / IP -3.1% (-7%e), Australia PPI 5.6% (4.9%p) / private credit 9.1% (9%e), France 2Q GDP 4.2% (3.7%e), Germany impt prices 29.9% as exp, S. France CPI 6.8% (6.7%e), Hungary PPI 35% (32.3%p), Spain 2Q GDP 6.3% (5.5%e) / CPI 10.8% (10.5%e), Germany unemp 5.4% as exp / 2Q GDP 1.4% (1.7%e), Poland 2Q GDP 6.9% (7.4%e) / CPI 9.4% (9%p), EU CPI 8.9% (8.7%e) / Core CPI 4% (3.9%e), Italy CPI 8.4% (8.8%e), EU 2Q GDP 4% (3.4%e), US emp cost index 1.3% QoQ (1.2%e) / US personal inc 0.6% MoM (0.5%e) / personal spending 1.1% (1%e) / US PCE 6.8% as exp / Core PCE 4.8% (4.7%e), US Chicago PMI 52.1 (55e), US UofM final 51.5 (51.1e) / 1y infl exp 5.2% as exp / 5-10y infl exp 2.9% (2.8%e), S&P +1.4%.

 

Weekly Close: S&P 500 +4.3% and VIX -1.70 at +21.33. Nikkei -0.4%, Shanghai -0.5%, Euro Stoxx +3.0%, Bovespa +4.3%, MSCI World +3.6%, and MSCI Emerging +0.3%. USD rose +6.8% vs Russia, and +1.1% vs Turkey. USD fell -7.4% vs Ethereum, -5.9% vs Brazil, -5.8% vs Chile, -2.4% vs Bitcoin, -2.1% vs Yen, -1.4% vs Sterling, -1.2% vs Indonesia, -1.2% vs South Africa, -0.9% vs Canada, -0.8% vs Australia, -0.8% vs Mexico, -0.7% vs India, -0.7% vs Sweden, -0.1% vs China, and -0.1% vs Euro. Gold +2.1%, Silver +8.5%, Oil +4.1%, Copper +6.7%, Iron Ore +15.9%, Corn +9.9%. 5y5y inflation swaps (EU +5bps at 2.08%, US +22bps at 2.63%, JP +6bps at 0.78%, and UK +19bps at 3.67%). 2yr Notes -9bps at 2.89% and 10yr Notes -10bps at 2.65%.

 

YTD Equity Indexes (high-to-low): Chile +15.5% priced in US dollars (+22.1% priced in pesos), Argentina +14.9% priced in US dollars (+46.7% in pesos), UAE +13.8% in dollars (+13.8% in dirham), Saudi Arabia +7.7% (+7.7%), Brazil +5.5% (-1.6%), Turkey +3% (+39.6%), Portugal +2.2% (+14.2%), Indonesia +1.4% (+5.6%), Singapore +0.2% (+2.8%), Venezuela -0.5% (+24.7%), Norway -2.9% (+6.8%), India -7.2% (-1.1%), Canada -8.4% (-7.2%), Mexico -9.2% (-9.6%), UK -9.6% (+0.5%), Australia -10.5% (-6.7%), South Africa -10.8% (-6.8%), Malaysia -11.1% (-4.8%), Israel -12.1% (-3.5%), Denmark -12.4% (-2.6%), Colombia -13% (-8.2%), S&P 500 -13.3%, Thailand -14% (-4.9%), HK -14.4% (-13.9%), Greece -14.7% (-4.7%), MSCI World -15%, Spain -15.6% (-6.4%), China -15.8% (-10.6%), Russell -16%, Japan -16.6% (-3.4%), Switzerland -16.9% (-13.4%), Netherlands -18.1% (-8.6%), Philippines -18.7% (-11.3%), France -19.3% (-9.8%), New Zealand -19.3% (-11.8%), NASDAQ -20.8%, Belgium -21.1% (-11.9%), Czech Republic -21.3% (-13.5%), Euro Stoxx 50 -22.7% (-13.7%), Finland -23.1% (-14.7%), Germany -23.5% (-15.1%), Taiwan -23.8% (-17.7%), Korea -24.9% (-17.7%), Sweden -25.3% (-16%), Italy -26.2% (-18.1%), Ireland -27.8% (-19.4%), Austria -29.3% (-21.6%), Russia -30% (-41.5%), Poland -30.7% (-20.6%), Hungary -32.3% (-17.6%).

 

Innovation: “If some want to move away from the dollar…they would have to create an economic ecosystem where another currency becomes a better one to use,” Fed Chair Powell posed to a concerned Congress. The US dollar’s dominance has been on a quiet descent, dipping below a 60% share for the first time in twenty years. Most shifts are portfolio-related – countries diversifying. Some are geopolitical, like one-third of Chinese renminbi asset reserves being held by Russia. Congress gets it – China’s ambitions are great. And their ability to innovate a new economic ecosystem will be key.

 

Innovation II: China cannot contemplate such ambitions without the US dollar. Today, China's limited status as a reserve currency rests on the offshore renminbi market because of its rigid capital account. US dollar reserves are the liquidity backstop. The offshore market is the venue for the internationalization of the renminbi. And US dollar reserves are its constraint. But China is doing things on its own terms, growing its reserve status alongside its rising influence on global trade and invoicing.

 

Innovation III: Think of China’s new ecosystem as a fork of existing global infrastructure – seemingly innocuous, hardly innovative. Built with offshore clearing banks for renminbi, the cross-border interbank payments system is a SWIFT alternate, bilateral currency swaps for friends, multilateral currency swaps across 13 Asian countries to keep the IMF away, and an international renminbi liquidity pool held at the BIS. But it would be a mistake to assume that China is settling for its current 2% share of global reserves.

 

Innovation IV: Leadership sees digital as the future. Xi Jinping compelled that “the development of the digital economy is of great significance, and a strategy to grasp new opportunities in technological revolution and industrial transformation.” The digital Belt and Road Initiative covers fiber optic cable, telecommunications, smart city projects, and data centers all with the ambition of building global champions in technology. Of course, digital payments and data collection are the critical tools to be employed on that infrastructure.

 

Innovation V: And the future is now. China’s PEACE cable is the shortest length and latency route connecting China with Africa and Europe. Its assets in Africa will be directly connected to China. There will also be connectivity to the People's Liberation Army naval base in Djibouti. Several of these sophisticated initiatives are led by the Hengtong Group – aiming to be a global champion – that operates in everything from sub marine optic cables to green energy. The world is in a technology race – global finance is just one lane.

 

Innovation VI: China’s digital financial path is one of centralization. America is dependent on private innovation where the pathway to rapid growth is bottlenecked by the capacity of regulators to settle on clear rules for digital adoption. There are good reasons for Western optimism. Progress will be boosted as US states and countries compete to set the standards for new digital technologies. It also helps that digital asset markets have self-selected US dollar stablecoin as the reserve asset of choice.

 

Innovation VII: Innovation in finance doesn’t capture the imagination of the masses. The space-race to Mars certainly does. “Our pathway to the stars runs through the atom,” declared the IAEA. Nuclear fusion is the great hope for space propulsion. Its value is highly relevant more broadly. Principles that support innovation are most enduring – the same principles that encouraged SpaceX to dominate space payloads. It is a golden age for innovation, and great visions will require greater sacrifice. Enjoy the ride – even if a bit bumpy for a decade or two.

 

Anecdote: “One pound of uranium is worth about three million pounds of coal or oil,” James Lovelock shoveled to his audience in support of nuclear. It isn’t a conventional stance for an environmentalist. The interest of innovators is never in convention, but in truth. And the truth can hurt, often ridiculed before accepted. Working with NASA on a Mars mission in 1961, Lovelock was disappointed in his biology colleagues looking for life. “They didn’t have any understanding of what they should be looking for.” He was given two days to build something better. “It suddenly came to me: all you have to do is analyze the atmosphere of Mars,” he recalled 42 years later. That’s all – obvious, except to the brilliant professionals who were trying to solve the problem. These insights led to his most enduring contribution – the Gaia Theory. Gaia claimed that evolution depends on the “tightly coupled dance” of living things and stuff. Stuff like rocks and dirt. Things we do to stuff matters too. The theory was dismantled, flying in the face of natural selection. The establishment would not have it. So, Lovelock built a model – named Daisyworld – to prove the point. And it stuck. His study extended to environmentalism. Ethical living is a joke. Humans are not intelligent stewards of the Earth. Nuclear power is the only green solution. Even in darkness, Lovelock saw light. “If there were a nuclear war, and humanity were wiped out, the Earth would breathe a sigh of relief.” Anyone can be an innovator. It does not require privilege, education, or genius. It demands unbridled optimism. Optimism fosters confidence that the outcomes, even when unexpected, will be worth the effort. Optimistic innovation is not happiness or satisfaction. If anything, it is a burden. “I think the chemical-physical type of humanity has had its time. The biological won’t necessarily vanish, but it will be of less fundamental importance. [The future species] capacity for thinking will be 10,000 times, at least, faster than ours. I don’t have doubts about survival.” Lovelock’s last big prediction, observed at the age of 100.

 

Good luck out there,

Marcel Kasumovich

Head of Research

One River Asset Management

Toronto, Canada

 

 

Disclaimer: All characters and events contained herein are entirely fictional. Even those things that appear based on real people and actual events are products of the author’s imagination. Any similarity is merely coincidental. The numbers are unreliable. The statistics too. Consequently, this message does not contain any investment recommendation, advice, or solicitation of any sort for any product, fund or service. The views expressed are strictly those of the author, even if often times they are not actually views held by the author, or directly contradict those views genuinely held by the author. And the views may certainly differ from those of any firm or person that the author may advise, converse with, or otherwise be associated with. Lastly, any inappropriate language, innuendo or dark humor contained herein is not specifically intended to offend the reader. And besides, nothing could possibly be more offensive than the real-life actions of the inept policy makers, corrupt elected leaders and short, paranoid dictators who infest our little planet. Yet we suffer their indignities every day. Oh yeah, past performance is not indicative of future returns.

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