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    Gavekal Research

    Bitcoin And Money

    Philosophically, I have often argued that an asset’s value can derive from just two sources. It can be scarce like a jewel, or useful like a tool. It is customary to measure these values using “money”, which offers a unit of account, a medium of exchange and a store of value. When “national money” forms the backbone of a banking system, it is usually guaranteed by a central authority. Yet, the real question about money has always been whether it...

    6
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    The (Austrian) Empire Strikes Back

    The weekend’s news hardly bolsters confidence that Europe’s technocrats are in competent command of the continent’s political situation. In Spain, hundreds of thousands took to the street to protest central government rule over Catalonia. Meanwhile in unofficial referendums, millions of citizens in two of Italy’s wealthiest regions voted overwhelmingly in favor of greater political and fiscal autonomy from Rome.

    6
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    MV=PQ And Fed Policy

    It’s probably not advisable for the chairman of a macroeconomic research firm to admit this, but the Federal Reserve has me thoroughly confused. My analysis of the likely outcome from a particular central bank policy is often wrong, but I generally have a fairly clear idea of the objective. In the case of Janet Yellen’s Fed, which is preparing to exit its quantitative easing program, I don’t really understand its ultimate aim.

    0
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    How To Play A Vertiginous Europe

    Led by Germany, the latest hard European economic data yesterday came in strong pretty much across the board. And with Catalonia’s regional government seemingly stepping back from the brink in its stand-off with Madrid, the euro managed to move higher. So how best to play the European economic recovery—from the inside or the outside?

    1
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    Audio & Transcript — Gavekal Research October Call

    In yesterday's monthly call Charles Gave outlined his bullish view on Japan. He argued that Japan has exited its long debt trap and is about to start a new cycle that will be substantially driven by capital spending. The fact that corporate Japan is sitting on US$4trn of domestic savings means this expansion can be funded without borrowing and so the risk of an interest rate shock is negligible. He also argued that the Bank of Japan is on...

    0
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    Buying The British Bluff

    You have to admire the British for the hand they are playing with Brussels over Brexit negotiations. Press attention may be focused on infighting within the governing Conservative Party, but the key losers in this game of bluff are European Union negotiators, who face the technocratic horror of not knowing who is calling the shots back in London. Far from leaving the British team emasculated, this stance allows it to effectively duck out of...

    10
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    Gavekal Research

    Strategy Monthly: Japan Is Back!

    For a quarter of a century, Japan has been stuck in a structural malaise, and the only assets you wanted to own were Japanese government bonds. Charles believes this era is over. Corporate profits are at a record high relative to GDP and seemingly headed higher; the yen is the cheapest it has been, on a purchasing-power basis, since 1985. The yen could well be the best performing currency over the next few years, but is so undervalued that even...

    0
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    May’s Misguided Brexit Speech

    Listening to Theresa May’s speech last week in Florence, Charles thought the British prime minister sounded like an unfaithful wife attempting to achieve an amicable separation from the husband she cuckolded. Her approach is mistaken. May’s interlocutors in Brussels cannot be mollified with promises of continued affection. They are ideologues, and they are out to punish the UK for daring to challenge their ideology.

    10
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    Reviewing My Calls

    Over the years my research has focused on broad concepts which have been applied in many situations and lots of reports. These include ideas such as the disruptive power of platform companies, assets whose value comes from scarcity rather than efficiency, or the effect of firms running on Schumpeterian, Malthusian or Ricardian principles. Once in a while, however, I do get specific and make investment calls. Having had a little time this week, I...

    6
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    Gavekal Research

    Italy: The Bear Case

    No chain is stronger than its weakest link, and the eurozone’s weakest link is Italy. Growth has picked up over the last two years, but as Charles demonstrates in this paper, the Italian economy is uncompetitive both within the eurozone and on the global stage. With the rise in the euro exacerbating the problem, and the prospect of ECB tapering threatening to push up Rome’s funding costs, Italy risks falling once again into a debt trap.

    1
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    Gavekal Research

    Time For A Eurozone Reality Check

    A new wave of optimism is sweeping across the eurozone. Disconcerted by the single currency area’s new-found economic buoyancy, confirmed euroskeptic Charles reviews the structural trends at work in the eurozone to determine whether it is finally time to throw in the towel on his longstanding euro-pessimism.

    7
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    Gavekal Research

    Algo Trading: A Great Opportunity For The Human Brain

    The rise and rise in money management of computerized trading systems which seek out and exploit correlations among assets and markets can have some curious side effects. One of them is that the rise of the machines, far from rendering the human brain obsolete, can throw up some wonderful investment opportunities for those surviving managers who prefer to rely on solid economic principles and good old fashioned common sense.

    4
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    Gavekal Research

    A Better Tool Required

    Having long advocated that equity managers hedge their portfolios with a US long-bond, I mostly run at a 50:50 weighting. Still, the aim must be to adopt a rules-based mechanism for sliding the bond-equity mix (say between 60:40 and 40:60) and also the average duration of the fixed income piece. I can satisfy this aim by combining market-based measures with my recent valuation work.

    0
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    Gavekal Research

    Irving Fisher And Japan

    Few papers written by defunct economists have had as much influence on my way of looking at markets as Irving Fisher’s seminal 1933 article The Debt-Deflation Theory Of Great Depressions. In it, Fisher hypothesized the patterns that great depressions go through. In a nutshell, great depressions go through four phases.

    3
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    From A Newly-Minted Gold Bug

    Gold, as we know, is and always has been a hedge against the silliness of central bankers and governments. So when from 2012 onwards the world’s central banks decided to throw all caution to the winds, logically one would have expected gold and gold miners to rise strongly.But instead of going up, both gold and gold miners went down big time, while the price of most other assets went up.

    1
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    Gavekal Research

    The Strangulation Of Enterprise

    Zero interest rates have made a great many people a great deal richer. But paradoxically they have strangled wealth creation. The reason for this is that enterprise is overwhelmingly a phenomenon found among smaller companies. Among big companies it is a rare and ailing quality. Quite simply, the overriding goal of every big company is to transform itself into a monopoly, so it can move away from having to earn its profits towards collecting...

    4
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    Carthago Delenda Est

    Global geopolitics is characterized by the “land-based” empire of China challenging the dominant “maritime” empire of the United States according to Louis and Charles. What they cannot figure out is the seemingly contradictory responses of Washington to this well telegraphed challenge. In this piece they examine pressing challenges to American power and explore the investment consequences, which may come home to roost far quicker than most...

    5
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    Gavekal Research

    The Resurgence Of Walmart Man

    In July 2014, I wrote a piece looking at the fallout from poorer Americans getting poorer (see Poverty Matters For Capitalists). My basic point was that the consumer price index understated the loss of real income being suffered by non-supervisory workers. I showed this using my Walmart index, which is weighted 50% food, 30% shelter and 20% rent to reflect this group’s true consumption basket. Three years ago this population cohort faced a...

    3
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    Love The Economy, Hate Economists

    Charles is proud of his data-driven approach to economic analysis and is not impressed with the methods applied by much of the modern economics profession. More to the point, he thinks that most modern economic remedies have negatively impacted the growth outlook and dulled investment performance.

    14
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    Gavekal Research

    The Brexit Talks Don’t Matter

    The details of the Brexit talks between the British government and Brussels are far less important, argues Charles in this paper, than the blow Britain’s referendum vote has dealt to the technocratic principles which underpin the European Union’s power structure. The pillars of the temple are crumbling, and sooner or later the edifice must fall.

    14
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    Gavekal Research

    Building A Bond Valuation Tool

    The “golden rule” of French Nobel laureate Maurice Allais states that over the long run, long term government bond yields always converge with the nominal structural growth rate of the economy. In this paper Charles sets out to build a government bond market valuation tool based on the Allais postulate.

    0
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    Gavekal Research

    An Interesting Configuration

    When the market is suffering from doubts, it pays to start with the facts. And clearly the market is having a few doubts right now. After setting the latest in a series of record highs in intraday trading yesterday, US equities succumbed to the jitters. In the space of an hour, the S&P500 fell -1% and the Nasdaq -2%, as investors questioned the underpinnings of the current run-up in stocks. So, let’s begin with some facts:

    0
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    Gavekal Research

    Value Creation In A Capitalist World

    In a capitalist economy there are three different kinds of value creation: the Schumpeterian, the Ricardian, and the Malthusian. And the companies in each of these value creation segments swing through very different cycles. In this short paper, Charles outlines how each segment works, explains where they are in their cycles, and suggests how investors can build appropriately hedged portfolios.

    1
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    On The Demise Of Populism

    Anyone who bought European equities in the wake of Emmanuel Macron’s impressive win in the French presidential election is down a few percent in euro terms and underperforming global equities by about 1%. Charles are Louis are not convinced that this can be explained away by the markets taking a “breather” after a big run up. They smell darker forces at work.

    5
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    Gavekal Research

    Sweden’s Secret Sauce

    Sweden is a high-growth economy with competitive firms in everything from retailing to metal bashing to software. Yet, there is a time to be in Sweden—or at least overweight—and there are times to be out. Sweden and the US had two of the 20th century’s best performing equity markets and I will simplify this decision by measuring their relative attractiveness. Spoiler alert: this report has a positive recommendation.

    1
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    Gavekal Research

    When Central Bankers Attempt To Change Direction

    In recent days , central bankers in the US and Europe have been signaling how much they want to end unconventional monetary policies and revert to a more normal monetary model that does not put asset prices at the heart of the system. It is a laudable aim. But, warns Charles in this piece, central bankers have seldom managed to transition from one monetary regime to another without causing convulsions in the financial markets. This time, the...

    1
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    Gavekal Research

    So We Are In Secular Stagnation...

    Hand-wringing has reached new levels among economists over the somewhat nebulous concept of “secular stagnation”. Charles is not convinced by explanations which range from policymakers hitting practical limits of control, through to a technological dark age being encountered. He thinks there is a simpler answer for why some developed economies such as Germany and Canada have maintained a steady expansion, and others like France and the US have...

    6
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    Small Caps, Big Caps And US Corporate Spreads

    The performance of large-capitalization US stocks relative to small caps is sending an important signal about US corporate yield spreads. In this short piece, Charles decodes the message, and advises corporate bond investors to begin seeking safety in treasuries.

    0
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    Gavekal Research

    Back To Sanity In Japan

    I know, or I believe I know, that over thelong term equity returns follow one thing only: corporate earnings. As an example, look at Japan. If I rebase both the Topix price index and corporate earnings to 100 in 1978, I find that today the market is at at 385, and earnings are at... 385. Spot on!

    4
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    Gavekal Research

    My Whole Career In One Chart

    My career in financial markets started in January 1971, half a year before Richard Nixon changed the basis of the post-WWII financial order by ending gold convertibility for US dollars. Hence, I thought that readers may be interested in a chart below that tells a simple story of those years, while also offering an asset allocation tool that for me has proven invaluable. In short, it is the story of running a balanced portfolio.

    1
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    Gavekal Research

    New York Seminar — May 2017

    Louis Gave, Charles Gave, Tom Miller and Arthur Kroeber presented at Gavekal's New York seminar last week.

    0
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    Gavekal Research

    German Ordo-liberalism vs French Keynesianism

    So I hear that happy days have returned to Europe’s single currency area as shown by improved purchasing manager readings. With German firms especially upbeat and a reassuring new fellow occupying the Élysée Palace, I understand that Berlin will soon roll over and allow a juicy fiscal expansion in return for France making its job market less rigid. I tend to be skeptical about such road-to-Damascus conversions.

    1
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    Gavekal Research

    Back To The Future

    Back in 1947, war was over but a ruined European economy needed full-scale reconstruction: the Marshall Plan. As I look at the way China is wooing its neighbors through its Belt and Road strategy and other economic and financial linkages, the approach looks like a remarkably effective “copy-and-paste” operation.

    2
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    So It’s Macron. What Next?

    The French presidential election did not play out as Charles had expected. With Emmanuel Macron having achieved a decisive victory, he concedes that the En Marche! Party is likely to carry the momentum into next month’s parliamentary elections. What this means for investors is that France is likely to be politically stable in the coming few years and will not be the focal point of eurozone ructions.

    0
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    Gavekal Research

    An Alternative Explanation For The French Split

    One of the more interesting thinkers about the current political scene in France is Christophe Guilluy, an urban geographer and author of The Twilight of Elite France. His basic insight about French cities and by extension the structure of the French economy starts with the observation that most urban areas are divided into three concentric circles which contain very different social classes. Charles likes the argument which clearly illuminates...

    1
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    Audio & Transcript — Gavekal Research Call On The French And UK Elections

    In a special Gavekal Research Conference Call following the results of the first round of the French presidential election, Charles Gave and Cedric Gemehl presented their analysis of Marine Le Pen and Emmanuel Macron’s prospects in the second round in two weeks. Anatole Kaletsky presented his view of British politics and the future of the Brexit process following Theresa May calling for a snap election in June.

    0
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    Gavekal Research

    French Political Trouble Just Started

    Investors cheer the win of centrist Emmanuel Macron in the first round of the French presidential election, presuming a victory in the second round would mark the end of Euroskeptic populism. Charles is not so sure about this benign interpretation and argues that France may in fact be on the cusp of a new era of political instability.

    3
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    Whether Or Not To Underweight The US

    Charles has been shifting his asset allocation recommendations in recent weeks away from US assets in favor of foreign alternatives. This was squarely valuation-based as his models show the US dollar, corporate bonds and equities to be overvalued. Here, he road tests this view by incorporating non-valuation-based macroeconomic factors into the analysis.

    2
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    Gavekal Research

    Who The French Will Not Vote For

    All the media commentary on the opinion polls ahead of the French presidential election concentrates on which candidates the electorate intends to vote for. This is the wrong way to analyze the current political situation in France. With just 10 days to go before the April 23 first round, readers should pay no attention whatsoever to the opinion polls. They are almost entirely meaningless: 40% of respondents say that they do not know who they...

    10
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    Video: How To Play A Le Pen Victory

    In this follow-up to yesterday’s interview Charles outlines how investors can position themselves to hedge against a European Union breakup scenario that would likely follow from a Le Pen victory in the French presidential election.

    0
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    Video: The French Election

    In this interview Charles assesses the political situation ahead of France’s two-round presidential election, which kicks off later this month. Topping everyone’s list of questions is whether National Front leader Marine Le Pen will defy the opinion polls to win a surprise victory, and what a Le Pen presidency would mean for France and the European Union.

    0
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    E Pur Si Muove

    Back in early 2011, I argued that the adoption of abnormally low short-term interest rates (in real terms) always leads to a collapse in productivity, followed by a decline in the economy’s structural growth rate. Since late 2010 marked the transition from the acute phase of the financial crisis to something approaching normality, at least in the United States, it is worth examining the US experience in the ensuing period.

    5
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    London Seminar — March 2017

    In Gavekal’s seminar in London last week Will Denyer, Charles Gave, Tom Miller and Anatole Kaletsky presented their macroeconomic outlooks and offered investors asset allocation advice.

    0
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    Gavekal Research

    Regulating Complex Systems

    Everyone will surely agree that today’s financial system is sufficiently complicated and interconnected to qualify as a complex system.And regulating a complex system is by definition almost impossible, because it is in complex systems that Frédéric Bastiat’s observation that there is “what is seen and what is not seen” really comes into its own.

    3
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    Where The French Center May Fail

    Just five weeks after the deciding second round of France’s presidential election, French voters go to the polls yet again. In another two-round ballot, to be held on successive Sundays in June, the French electorate will vote in a new lower house of parliament. The overwhelming consensus is that voters will choose a centrist in the presidential election. But if they do, their choice may well not allay France’s heightened political risk.

    2
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    The UK Nine Months After The Brexit Vote

    With Theresa May’s government set to begin the formal exit process from the European Union, Charles reckons now is the right time to step back and see just how the UK economy has fared in the nine months since that fateful referendum. In this concise chartbook, he tours Britain’s economic and market landscape and finds that value is to be had across multiple asset classes.

    0
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    Time To Exit US Equities

    Over the last few months Charles has argued that the US stock market rally was running on fumes. In the intervening period, US equities have, of course, powered to new highs. He now says that for the first time since 2007 his valuation model definitively points to US equities being overvalued.

    2
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    A Structural Turn In Japan

    For more than a quarter of a century Japan has been a reliable source of disappointment for investors. After a nice little run-up late last year, a familiar pattern has emerged in 2017 as equities edge nervously sideways. Despite some evidence of Asia’s trading economy spluttering into life, Japan yesterday released surprisingly soft industrial production data for January. To top things off, the Wall Street Journal on the same day ran a...

    2
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    Gavekal Research

    The Battle To Command The Logos

    The “Logos” encompasses a society’s language, its way of looking at the world, and its dominant political narrative—he who commands it has his hands on all the levers of political power. Every so often, however, a new communication technology emerges that allows the rise of a new Logos to challenge the old.

    6
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    A Methodology For Playing The Eurozone Bond Markets

    In yesterday’s Daily, I argued that a long position in the French CAC 40 stock index, locally funded, versus a short position in Germany’s Dax offers investors a neat “heads I win, tails I don’t lose” hedge against a possible break-up of the euro driven by French politics (see It’s Time To Buy French Equities).

    1
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    Gavekal Research

    It’s Time To Buy French Equities

    As regular Gavekal readers may remember, I have always maintained that over the long run the returns delivered by two different stock markets— adjusted for exchange rate fluctuations and differences in pay-outs—must be the same. This is just another way of saying that in an open economy the returns on invested capital generated by well diversified stock markets have to be the same.

    6
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    In Dutch With The Electorate

    There is a tendency to divide Europe into the “serious” beer drinkers of the north and the not so serious wine tipplers of the south. Using such a dichotomy reinforces a common assumption that trouble in modern day Europe always arrives from the Mediterranean regions. It explains why there is a cottage industry of politicos watching developments in Italy, Spain, France and Portugal, while precious little energy is expended on political goings on...

    1
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    Choosing Between Disadvantages

    It was a record that Germany would rather not have announced, at least not this week. Yesterday official data showed that Europe’s über exporter racked up a current account surplus in 2016 of US$281bn versus a mere US$210bn for China. With the US running by far the largest offsetting deficit, such data means that the temperature between Washington and Berlin is likely to get hotter.

    4
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    The End Of The European Dream

    Back in 2002 I wrote a book, Lions Led By Donkeys, whose main point was that the euro’s adoption would kill the competitive and heterogeneous Europe that I so loved. It was prefaced by Milton Friedman who predicted that Europe was set to enter a period of rigor mortis. Fifteen years on and it is clear that Europe as a unitary concept is indeed dying.

    4
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    Golden Rule Says Extend Duration

    Great economists are seldom top flight mathematicians. One exception was Maurice Allais, who won the Nobel Prize in 1988 for his “rigorous mathematical formulations of market equilibrium and the efficiency properties of markets”. Among his findings was his so-called “golden rule”, which states that over the long run, long term government bond yields always converge with the structural growth rate of the economy.

    2
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    The Real Political Risk In France

    There are many areas where Anatole and I agree to disagree. But one in which the two of us see eye to eye is the heightened influence political risk may have on markets this year. Consider France, where the political situation threatens to get complicated. The problem is not so much the presidential election, due to be held in two rounds in April and May, but the legislative elections set to be held a month later.

    2
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    The Dow 20,000 Conundrum

    The Trump trade continues. Yesterday the Dow Jones Industrial Average passed the magical 20,000 mark for the first time, with the S&P 500 closing at a record high just a whisker short of 2,300. I hate to be the one to douse the market’s high spirits with a bucket of cold water (well, I don’t really hate it), but sober analysis suggests that the current Trump-propelled rally is a fad that may soon fade.

    0
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    On Being Wrong

    For much of the second half of 2015, Charles was concerned that the US economy was softening, and that it would tip into recession sometime in mid-2016. The feared recession never materialized. In this paper, Charles asks “why not?”, re-examining normally reliable indicators to work out where and why they went wrong.

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    Audio & Transcript — Gavekal Research January Call

    Charles Gave argued that Donald Trump’s protectionist policy could lead to a breakdown of the post-1971 fiat money system that is based on a US dollar standard. Will Denyer deconstructed the likely workings of a new trade taxation regime in the US and explained what that means for currencies. Arthur Kroeber outlined the likely Chinese response to a US trade broadside and argued that Beijing was decently well placed to weather the attack.

    0
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    Political Fiction

    European economic indicators have turned up in recent months, causing many investors to conclude that the eurozone’s banishment in the desert of economic stagnation is over, and the promised land of a normal recovery beckons. I am not convinced and judging by recent moves in the bond market, I’m wondering if the next eurozone crisis is already upon us.

    2
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    Deconstructing Dollar Strength

    The trajectory of the US dollar is likely to be the single most important determinant of investors’ returns in 2017. Either the US currency will weaken, leading to a bull market in much of the rest of the world. Or it will strengthen, which will make markets life more difficult to navigate. Charles warns that we are approaching a tipping point.

    1
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    The End Of The Dollar Standard

    Charles is encouraged by the broad thrust of Donald Trump’s economic program, but deeply worried that the US’s emerging protectionist agenda could wreck the dollar-based credit system that underpins global financial markets. The dollar-standard was always more vulnerable to a US action than foreigners losing confidence in it as a store of value.

    6
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    Long Rates & The Velocity Of Money

    As Gavekal’s readers will be aware, much of my research is driven by a handful of powerful obsessions. Lately these have included my fixation with the euro as a weapon of mass destruction, and my determination to elucidate how the theories of the great 19th century economist Knut Wicksell apply to today’s economies and markets. In recent years these have, to some extent, displaced other pre-occupations, and I have done very little work on one of...

    0
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    Is The US Equity Market Overvalued?

    After the S&P 500 index set a new record closing high last Wednesday, up some 6% since the US presidential election, I am left once again scratching my head over the age-old question: is the US equity market expensive or cheap?

    4
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    Call Me An Old Curmudgeon

    Call me an old curmudgeon, but financial markets are currently experiencing an outbreak of optimism that could well prove to be dangerous. At the moment we have a situation where both the US stock market and long rates are rising on expectations of faster nominal growth. Readers who have followed my Wicksellian research are no doubt scratching their heads over this concurrent move, because they will appreciate that there is no prospect of...

    2
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    Putting The Boot Into Italy

    Matteo Renzi has joined a long line of Italian prime ministers who failed to “reform” their country. This is another way of saying that he could not wave a magic wand and make Italy competitive with Germany. The grim reality is that no Italian leader stood a chance of changing their country once the fateful decision was made to peg its currency to Germany’s. At the time of the euro’s launch in 1999, I argued that the risk profile of Italy would...

    5
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    The Italian Domino Teeters

    My thesis has for a while been that we are living in an era characterized by the “little man” revolting against the global elite. I explained this idea in May using the perhaps apocryphal tale of a South Pacific island made up of home-loving tree dwellers and more adventurous boat travellers (see Trump And The Tree People). The point was that the normally laid back people of the trees were stirring from their torpor as shown by the Brexit vote...

    8
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    Video: European Political Dominos

    In the aftermath of the Brexit vote and Donald Trump’s win in the US presidential election, attention has shifted to the eurozone with the assumption that more dominos must topple under the gathering populist political wave. In this video interview Nick considers the good, the bad and the ugly of the European political scene and offers pointers for navigating these risks.

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    Stagnation or Bust? A Wicksellian Chart Dashboard

    For users’ convenience, we provide below the complete set of charts published in Charles Gave’s November 2016 book Stagnation or Bust? A Wicksellian View of the Natural Interest Rate, the Market Rate and Asset Allocation, with interactive graphics available for Macrobond subscribers.

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    Investing By The (Wicksellian) Book

    As regular readers will know, I have spent much of the last 10 years studying, and attempting to enlarge upon, the work of the great 19th century Swedish economist Knut Wicksell. My mission has been two-fold: firstly to understand how Wicksell’s writings explain what we see happening in the global economy today, and secondly to translate his theories into practical tools to help investors make asset allocation decisions in the real world.

    3
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    Trouble With Monopsonies

    What happens when a company is so successful that it becomes the dominant buyer of labor in its market? It then has an incentive to hold down workers’ incomes, even at the expense of reduced output. As Charles argues, such “monopsonies” are increasingly acting as a drag on economic growth. Yet in an environment of free trade, there is little national governments can do.

    15
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    When You Sleep With An Elephant

    It is always comforting to be back in familiar territory. In a long career in investment—45 years and counting—I have seen a few Mexican crises. All these years on, I have fond memories of the 1976 peso devaluation, and of the subsequent 1980 devaluation. I remember the 1982 debt crisis well, and the “década perdida”—the lost decade—which followed. Then came the hyperinflation of the early 1990s which led to the introduction in 1993 of the new...

    2
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    Prospects For The US Bond Market

    Back in July, I wrote a paper on the US bond market which came to the conclusion that things were getting complicated. My thesis at the time was that there was no value left in the US long bond—the 30-year treasury—and that it could no longer be used as a hedge against a potential deflationary bust. At the time the long bond yield was around 2.3%. Since then the election of Donald Trump as president of the US has had a severe impact on bond...

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    President Trump And The Fall Of Davos Man

    For decades, all around the world but especially in Europe, the notion of the sovereign nation has been under fierce attack. Leading the assault have been the international bureaucrats and a clique of economists in league with those I have dubbed the men of Davos, all of them resolute proponents of crony capitalism (see Dissolving The People).

    8
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    Sterling Sellers Look Flushed Out

    Here is a simple question: “Why has the pound fallen so far, so fast?”. My simple answer is that the City of London is the world’s dominant financial center, and so pretty much anyone who deals in global markets has a significant exposure to sterling. As a result, the near term movements of sterling are being dictated less by every twist and turn of the Brexit process, but rather by more prosaic financial transactions.

    9
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    When The Keynesian Multiplier Goes Negative

    Last week I published a paper whose main point was that Keynesian policies lead to an inevitable decline in an economy’s structural growth rate (see Is The Second Shoe About To Drop?). My immediate concern is that developed economies seem set to head off on another public spending binge as they try to slay “secular stagnation”. That piece stirred a number of questions from readers, so I am following up with an addendum that extends the argument...

    6
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    The Milton Friedman I Knew

    In the late 1970s, when beavering away at my own little research firm, I received a letter from a “senior research analyst” at the Hoover Institution, named Milton Friedman. In the letter Friedman wrote that he agreed with some of what I had written in a recent report, but other sections had problems. He had gotten the paper from one of my clients, and I’ll admit it sent me just a bit over the moon.

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    Is The Second Shoe About To Drop?

    Keynesian beliefs are based on two key ideas. Firstly, recessions are caused by an excess of savings among nasty types known as rentiers. Secondly, if there is a shortage of demand, the government should conjure it up out of thin air by borrowing money to spend as needed. In the last few years we’ve seen what happens when the first of these two ideas is put into practice. Policymakers around the world have attempted to euthanize the rentier, and...

    14
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    The British Pound: A Two Year View

    The British pound has been on a roller coaster ride to the point that on a purchasing power parity basis it is undervalued by about 10% against the euro and 17.5% versus the US dollar. As a result, sterling has been left 2% below its lower bound against the euro (in average standard deviation terms) and 9% versus the dollar on the same measure. Put another way, the pound is undervalued by more than one standard deviation against the euro and by...

    13
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    Debate: A Trump Win And The Dollar

    As the world seriously tunes into the US presidential election, four Gavekal partners debate the outlook for the US dollar should Donald Trump emerge victorious and set about his promised remaking of the international security order and global trading system.

    25
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    The Collapse Of The Left

    Since the onset of the first industrial revolution, human institutions have typically had a lifespan of around 70 years. In the first generation, the elite build the institutional structures needed to meet the economic challenges of their time. The second generation maintain them as best as they can. And the third generation of the elite, which more often than not is corrupt to the bone, merely aims to live as well as it can off the existing...

    11
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    Watch Real Yields On Corporates

    There are increases in real rates, and there are increases in real rates. And by no means are they all equal in impact. In Tuesday’s Daily, Joyce and KX noted that global equity markets have been supported this year primarily by the world-wide decline in real bond yields. After bond markets approached over-bought territory over the summer, the sharp increase in real yields we have seen over the last couple of weeks naturally hit stock prices. If...

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    The New Ineptocracy

    In times past, capitalist systems were organized on a simple premise. At the centre sat “money” as the medium to express all values. The primary operating dynamic of this system was that surplus money (savings) got channelled into economic activity, with a secondary effect that “unused”, or “left over”, money ended up in financial assets, usually equities, such that at times of great optimism a bull market resulted. After running for a year or...

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    I Must Admit That I’m Confused

    Friday saw the release of US jobs market data for August which had investors convinced of a continued “not too hot, not too cold” outlook for the world’s largest economy. This is at odds with the view that I have held for a while; namely, that the US has been on the brink of recession or may have even entered one. This prognosis was based on a hopefully not insubstantial analytical foundation, which may be worth reviewing.

    3
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    The Falling Natural Rate Is No Mystery

    As the high priests of global central banking congregate in Jackson Hole, much of the chatter ahead of the meeting has concentrated on the “mystifying” fall over recent years in the natural rate of interest, and possible reasons why it should have declined to such an extent. Having spent the last ten years attempting to apply the economic theories of the great 19th century Swedish economist Knut Wicksell, I have to say I am delighted with the...

    6
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    The Dollar And The Next Crisis

    For a third straight month in June, foreigners unloaded US bonds, with “official institutions” leading the way on net sales of US$33.5bn versus a small rise in buying by offshore private investors. The interesting thing is that foreign central banks have been lightening their US dollar reserves for a while, but the contraction has now intensified to -5.6% year-on-year. Previously, such a decline in foreign holdings of the global reserve currency...

    7
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    The Euro And Mean Reversion

    Among my long-standing decision rules is one that generally proved reliable in the past. If two developed and open market economies trade freely with each other, then over the long run the return on invested capital in each economy will tend to be the same. In turn, this implies that over the long run, the ratio of total returns from each stock market will exhibit no trend in common currency terms. This makes intuitive sense—if one market...

    7
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    Irving Fisher, Debt-Deflation And The Bifurcated US Economy

    Many of our readers will be familiar with Irving Fisher’s great 1933 paper The Debt-Deflation Theory Of Great Depressions. The main point of this fascinating work is that if an economy suffers simultaneously from over-indebtedness and falling prices, then strange things start to happen. These include a fall in the velocity of money and a collapse in capital spending. And when it comes to interest rates, Fisher explained that things get really...

    3
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    Toynbee’s Europe

    In A Study of History the great Arnold Toynbee explained that the role of “elites” in any society is to handle challenges that allow the group to survive and move on to the next phase of their shared journey. If bad solutions are offered up then problems will intensify and pressure will arise for a change in the elite. This can happen in various ways: through elections in a best case scenario, a change of regime as with France’s forth Republic...

    3
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    Recession Or Stagnation?

    On Friday US GDP data for 2Q16 was released showing an expansion that looks ever more anemic and unconvincing. Is this just the new normal in an era of stagnant global growth or is the US more perilously poised? To answer that question, imagine the US economy having two parts in the shape of “consumer GDP”, which represents about three quarters of activity, and the remainder being the non-consumer “production” portion.

    3
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    Trump And The Prisoner’s Dilemma

    Let us assume that Mervyn King is right and the week-to-week strategy of major central banks has become to stop equity markets within their jurisdiction from going down. And let us further assume that markets are fully convinced of central bankers’ resolve to achieve this end. In the case of US equities, which sit at the center of the global system, such a proposition logically means that their price has two components: (i) the “intrinsic value...

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    Tools, Jewels And P/E Ratios

    There are two basic reasons why an asset has value and this understanding should be foundational knowledge for anyone running a portfolio. They can be prized for their efficiency (a tool) or desired because of their scarcity (a jewel). Investors preferences for jewels versus tools will shift through time, but what does not change is the fact that scarcity cannot lead to economic growth.

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    A Fundamental Assault On Freedom

    Of all basic freedoms, one of the most fundamental of all is the freedom of the individual to organize his or her relationship with time. The way we order our affairs with respect to the all too brief time allocated to us on this earth is a profound right that we all should be allowed to exercise unhindered. In short, everyone should be free to choose whether to be an ant or a grasshopper.

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    US Bonds As A Hedge: It’s Complicated

    F. Scott Fitzgerald noted that the test of a first rate intellect was being able to hold two opposing ideas, yet still function. The same could be said of any investor who aspires to follow a rules-based portfolio management strategy. Inevitably, such rigor occasionally requires messy compromises with reality as is now the case in the US bond market. Such is my dilemma as I try to broadly follow three rules:

    2
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    The Italian Problem

    The British were recently asked if they wanted to leave the European Union and to the establishment’s horror, they chose to do just that. Italy will host Europe’s next big referendum in November with Prime Minister Matteo Renzi threatening to resign if his package of constitutional reforms isnot passed. Such a dénouement in Europe’s most indebted big economy would trigger a political crisis and require fresh elections. The issue with referendums...

    3
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    The Gavekal Monthly: Life After The Brexit Vote

    The world is now a considerably more uncertain place than a month ago. Following the UK’s referendum vote in favor of Brexit, a near-term recession in the UK is more likely than not, the European Union faces the possibility of a renewed economic slowdown, and investors find themselves forced to reassess the probability that Donald Trump will win November’s US presidential election. In this edition of the Gavekal Monthly, our analysts set out to...

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    History Moves Again, Again

    Back in September 1989 as it became clear that big forces were shaking up the Cold War status quo, I wrote a research piece that aimed to place these convulsions in a broader context. It borrowed from a core idea of the great historian Arnold J. Toynbee that a driving force of history is what he dubbed “missionary ideas”, which tend to find their inspiration in religion (see History Moves Again). In the post-enlightenment era there have been...

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    Tax Receipts And US Recessions

    When kicking-off two days of Congressional testimony yesterday, Janet Yellen acted to sooth market nerves by declaring the US economy to be in reasonable health, while sounding sufficiently concerned about apparent labor market weakness to hose down worries of an imminent rate raise. To my mind, this is all noise for the simple reason that the question is no longer whether the US faces a recession in the future but more precisely if such a...

    4
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    Fear Not Brexit

    The UK political class is all in a flutter as the latest European Union referendum polls show an apparent rising tide of support for “Leave”. Having orchestrated the great and good into warning of catastrophe should a Brexit materialize, it would seem that “project fear” is not cutting through. I tend to have strong political convictions and perhaps for this reason I have a lousy record of guesstimating election outcomes. Since the UK referendum...

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    The Outlook For The US$ Vs The Euro

    When coming to investment decisions in the financial markets, I always try to be as “rules-based” as I possibly can. By that, I mean that I look as closely as I can at the available evidence to determine what has worked in the past—and what has not. This is difficult enough when analyzing the US bond market or the French stock market, but when it comes to exchange rates, the task reaches a whole new level of complexity. It is necessary to look...

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