Criptomonedas

Puntos destacados El crecimiento de EE. UU. probablemente ha alcanzado su punto máximo. El impulso económico se desacelerará en los próximos trimestres a medida que el viento a favor del estímulo fiscal se desvanezca y la campaña de vacunación disminuya. Históricamente, una desaceleración del crecimiento de EE. UU., representada por una caída en el índice manufacturero ISM, se ha asociado con menores rendimientos totales de las acciones, el mejor desempeño de las acciones defensivas frente a las cíclicas, las compañías de gran capitalización frente a las de pequeña capitalización, y las acciones estadounidenses frente a sus pares extranjeros. Una caída del ISM también se ha asociado con un fortalecimiento del dólar, rendimientos del Tesoro más bajos, diferenciales de crédito más amplios, una reducción en los diferenciales entre los bonos del Tesoro de EE. UU. y los bunds alemanes, precios del petróleo a la baja y un aumento en la relación de precios oro-cobre. En comparación con episodios pasados, hay tres razones para esperar que la próxima desaceleración en EE. UU. sea relativamente benigna: primero, el crecimiento se está desacelerando desde niveles excepcionalmente fuertes; segundo, el crecimiento en muchas otras partes del mundo todavía está acelerando; y tercero, la política monetaria seguirá siendo muy acomodaticia ante lo que probablemente sea un aumento transitorio de la inflación. Mantenemos una visión positiva a 12 meses sobre las acciones globales. No obstante, con la probabilidad de que el impulso del crecimiento global se desacelere más adelante este año, los inversores con máxima sobreexposición al riesgo deberían reducir la exposición cíclica. Actualización cripto: Advertimos que “Bitcoin está en curso de colisión con el ESG” hace dos semanas. El cambio de postura de Elon Musk respecto a permitir que los clientes paguen Teslas en Bitcoin es otra prueba de que las preocupaciones ESG prevalecerán. Con eso en mente, nos posicionamos a la baja en Bitcoin. Cuidado con la segunda derivada El crecimiento de EE. UU. probablemente ha alcanzado su punto máximo. El impulso económico se desacelerará en los próximos trimestres a medida que el impulso del estímulo fiscal se desvanezca y la campaña de vacunación disminuya. Según la Brookings Institution, el relajamiento fiscal contribuyó con cerca de siete puntos porcentuales al crecimiento de EE. UU. en el primer trimestre (Gráfico 1). Sin embargo, se espera que la política fiscal reste crecimiento en el resto del año, reflejando la naturaleza puntual de algunas de las medidas de estímulo. Gráfico 1 Tras un fuerte impulso, el empuje fiscal se vuelve negativo Pico de crecimiento y un indicio de estanflación Pico de crecimiento y un indicio de estanflación En materia pandémica, el número de nuevos casos continúa tendiendo a la baja en EE. UU., gracias principalmente a una campaña de vacunación exitosa. Una tasa de infección en descenso ha permitido que los estados levanten medidas de confinamiento. Conceptualmente, es el cambio en las medidas de distanciamiento social lo que se correlaciona con el crecimiento económico. Aunque algunas restricciones siguen vigentes (especialmente en el sector educativo), ya estamos muy por pasado del punto de máxima relajación. ¿Cómo se han comportado los mercados financieros durante episodios de desaceleración del crecimiento económico de EE. UU.? Para responder a esta pregunta, analizamos el desempeño de varios activos durante periodos en los que el índice manufacturero ISM estaba cayendo y cuando estaba subiendo. Para añadir un poco más de granularidad al análisis, también examinamos casos en los que el ISM tendía al alza y estaba por encima de 50, tendía a la baja y estaba por encima de 50, tendía a la baja y estaba por debajo de 50, y tendía al alza y estaba por debajo de 50. Como se resume en la Tabla 1 y los Gráficos del Apéndice, los resultados clave son los siguientes: Las acciones tienden a comportarse mejor cuando el ISM está subiendo. Desde 1950, el S&P 500 ha subido en promedio un 1.51% durante los meses en que el ISM tendía al alza, frente a un 0.49% durante los meses en que el ISM tendía a la baja. Los resultados fueron prácticamente iguales si se restringe la muestra al periodo posterior a 1995. Si bien el cambio en el ISM generalmente importa más para el S&P 500, los niveles absolutos también cuentan. Desde 1995, el mejor periodo para el S&P 500 fue cuando el ISM estaba por debajo de 50 pero tendía al alza (S&P 500 subió 2.07%), mientras que el peor periodo fue cuando el ISM estaba por debajo de 50 y tendía a la baja (S&P 500 subió 0.03%). Esto sugiere que las oscilaciones del ISM tienen un mayor efecto en el mercado de acciones durante periodos de contracción económica. Durante periodos en los que el ISM caía pero aún estaba por encima de 50, el S&P 500 ha entregado un retorno mensual positivo, aunque lejos de ser espectacular, de 0.69%. Las acciones estadounidenses con sesgo defensivo superaron a las cíclicas cuando el ISM tendía a la baja. Durante periodos en los que el ISM caía pero aún estaba por encima de 50, las defensivas superaron a las cíclicas por 0.45%. Las defensivas superaron a las cíclicas por 0.84% durante periodos en los que el ISM estaba por debajo de 50 y tendía a la baja. Las small caps estadounidenses tuvieron un rendimiento inferior al de las large caps durante los periodos en los que el ISM caía. Las acciones no estadounidenses también tuvieron un rendimiento inferior al de sus contrapartes estadounidenses en un entorno de ISM en caída. La relación entre el ISM y el desempeño de value/growth es más ambigua. En la medida en que exista una relación, el value generalmente supera al growth cuando el ISM está por debajo de 50. Los rendimientos del Tesoro tienden a aumentar, mientras que la curva de rendimientos tiende a empinarse cuando el ISM está tendiendo al alza. Reflejando la mayor beta que los bonos del Tesoro tienen respecto al ciclo económico global, los rendimientos del Tesoro generalmente suben más que los rendimientos del bund alemán cuando el ISM está en alza. Los diferenciales de crédito corporativo tienden a ensancharse cuando el ISM está cayendo. Los diferenciales se estrechan más cuando el ISM está por debajo de 50 pero subiendo. Como moneda contracíclica, el dólar tiende a debilitarse cuando el ISM está subiendo y a fortalecerse cuando el ISM está bajando. Los precios de las materias primas sensibles al ciclo, como el petróleo y el cobre, normalmente disminuyen cuando el ISM tiende a la baja, aunque, en general, la mayor parte de la caída en los precios de las materias primas suele ocurrir solo cuando el ISM ha caído por debajo de 50. No existe una gran relación entre los precios del oro y el ISM. Tabla 1 El ciclo económico y los activos financieros Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación Implicaciones para hoy Suponiendo que el ISM ha alcanzado su punto máximo pero permanece por encima de 50, el análisis anterior sugiere que el S&P 500 subirá modestamente en los próximos meses; las acciones estadounidenses superarán ligeramente a las no estadounidenses; las defensivas rendirán mejor que las cíclicas; y las compañías de gran capitalización se desempeñarán algo mejor que las de pequeña capitalización. El análisis también sugiere que los rendimientos del Tesoro se moverán a la baja; el diferencial Tesoro-bund se reducirá; los diferenciales de crédito corporativo estarán planos o más amplios; el dólar se fortalecerá modestamente; y las materias primas se moverán en términos generales de forma lateral. Nuestra propia visión a 12 meses es más favorable al riesgo de lo que implica el análisis del ISM. Hay tres razones para esto: primero, el crecimiento de EE. UU. se está desacelerando desde niveles excepcionalmente altos; segundo, el crecimiento en muchas otras partes del mundo todavía está acelerando; y tercero, la política monetaria sigue siendo muy acomodaticia. Examinemos cada supuesto a su turno. Razón n.º 1: El crecimiento de EE. UU. se está desacelerando desde niveles excepcionalmente altos Aunque el crecimiento de nóminas sorprendió fuertemente a la baja en abril, sospechamos que esto se debió principalmente a distorsiones inducidas por la pandemia en el mecanismo de ajuste estacional utilizado por la Oficina de Estadísticas Laborales. Las nóminas sin ajustar estacionalmente aumentaron en 1.1 millones en abril, lo cual es coherente con el fuerte ritmo de las estimaciones de seguimiento del crecimiento del PIB. El modelo GDPNow de la Fed de Atlanta apunta a un crecimiento del 11% en el segundo trimestre. Las estimaciones de consenso de Bloomberg sitúan el crecimiento real del PIB de EE. UU. en 8.1% en el segundo trimestre. El crecimiento disminuirá al 7% en el tercer trimestre y al 4.7% en el cuarto, pero aún promediará 4% en 2022 (Tabla 2). Tabla 2 El crecimiento está alcanzando su punto máximo, pero en un nivel muy alto Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación Gráfico 2 Las empresas necesitarán reconstruir inventarios Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación Los hogares estadounidenses tenían 2.2 billones de dólares en ahorros excedentes a fines de abril. Este es dinero que no habrían tenido de no ser por la pandemia. Algo menos de la mitad de ese colchón puede atribuirse a pagos por transferencia, principalmente en forma de cheques de estímulo y prestaciones por desempleo. El resto proviene de la disminución del gasto durante la pandemia. No todo este dinero se gastará de inmediato. Sin embargo, dadas las enormes sumas en juego —2.2 billones equivalen al 15% del consumo personal anual— incluso un agotamiento parcial de estos ahorros excedentes será suficiente para impulsar el consumo en el futuro previsible. Mientras tanto, las empresas tendrán que aumentar la producción para restaurar inventarios agotados. La ratio inventario-ventas se encuentra en niveles históricamente bajos (Gráfico 2). La caída de los inventarios elevó la ratio pedidos nuevos/inventario del ISM en abril, incluso cuando el índice ISM general cayó de 64.7 en marzo a 60.7. La ratio pedidos nuevos/inventario tiende a liderar el índice ISM, lo que sugiere que cualquier disminución en el índice ISM en los próximos meses será gradual.    Una relajación de las restricciones del lado de la oferta también debería respaldar el crecimiento. Aunque el empleo total todavía estaba un 5.2% por debajo de los niveles previos a la pandemia en abril, una proporción récord de pequeñas empresas encuestadas por la NFIB informó dificultad para cubrir puestos vacantes (Gráfico 3). Las prestaciones por desempleo mejoradas han erosionado el incentivo para encontrar trabajo. Además, muchas escuelas siguen parcialmente cerradas. Gráfico 4 muestra que las madres con niños pequeños han experimentado una caída mucho mayor en la participación laboral que otros grupos. Gráfico 3 A las empresas les cuesta encontrar trabajadores Las empresas tienen dificultades para encontrar trabajadores Las empresas tienen dificultades para encontrar trabajadores Gráfico 4 Las madres con hijos tuvieron que salir de la fuerza laboral Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación Las prestaciones por desempleo mejoradas vencerán en septiembre. A medida que las escuelas retomen operaciones normales, más trabajadores volverán al mercado laboral. Al mismo tiempo, algunos de los cuellos de botella que actualmente afectan a la cadena de suministro global deberían disminuir, lo que permitirá un aumento de la producción.   Razón n.º 2: El crecimiento en muchas otras partes del mundo todavía está acelerando Gráfico 5 Más del 40% de los ingresos del S&P 500 provienen del extranjero Crecimiento Máximo Y Un Atisbo De Estanflación Crecimiento Máximo Y Un Atisbo De Estanflación Gráfico 6 Los datos de la zona del euro han sorprendido al alza Los datos de la zona del euro han sorprendido al alza Los datos de la zona del euro han sorprendido al alza Las empresas que componen el S&P 500 obtienen el 43% de sus ingresos en el extranjero (Gráfico 5). Mientras que las estimaciones de Bloomberg sugieren que el crecimiento de EE. UU. alcanzará su pico en el segundo trimestre, no se espera que el crecimiento en la zona del euro alcance su máximo hasta el tercer trimestre. Mathieu Savary, que dirige el servicio European Investment Strategy de BCA, ve riesgos al alza para las estimaciones de crecimiento de Europa en la segunda mitad de este año. Consistente con las observaciones de Mathieu, los datos económicos recientes han sorprendido al alza en la zona del euro (Gráfico 6). Justo esta semana, las expectativas económicas tanto para Alemania como para la zona euro en general se dispararon a su nivel más alto en más de 20 años, según el instituto de investigación económica ZEW. El crecimiento en Japón también debería repuntar en el resto del año. La campaña de vacunación de Japón ha comenzado muy lentamente, con menos del 3% de la población inoculada hasta la fecha. El gobierno impuso su tercer estado de emergencia el 25 de abril en respuesta al aumento de casos virales. Posteriormente amplió esas restricciones el 11 de mayo. Las autoridades pretenden vacunar a las 36 millones de personas mayores del país para julio, cuando están programados los Juegos Olímpicos. Esto debería permitir cierto alivio en las medidas de confinamiento. Los inversores están preocupados de que la economía china se desacelere este año. Los PMIs chinos alcanzaron su pico en noviembre de 2020, aproximadamente al mismo tiempo que el impulso combinado de crédito/fiscal alcanzó un ápice (Gráfico 7). Jing Sima, estratega jefe para China de BCA, espera que el déficit presupuestario del gobierno general se mantenga en un todavía amplio 8% del PIB este año, similar a donde estuvo el año pasado. Ella espera que el crecimiento del crédito se desacelere entre 2% y 3%, convergiendo hacia el ritmo de crecimiento del PIB nominal. Tenga en cuenta que la relación crédito/PIB de China se sitúa en 270%. Por lo tanto, si el crédito crece en línea con el crecimiento del PIB nominal de alrededor del 10%, esto aún dejaría el stock de crédito aproximadamente un 27% del PIB por encima al final de 2021 en comparación con finales de 2020. Esto difícilmente constituye una “desapalancamiento”. Una economía china resiliente debería sostener a otros mercados emergentes. Los avances en la lucha contra la pandemia también ayudarán. La ONU estima que podrían producirse hasta 15 000 millones de dosis de vacunas en la segunda mitad de 2021, suficientes para inocular a la mayor parte de la población mundial (Gráfico 8). La escasez de vacunas en los mercados emergentes podría convertirse en un excedente a fines de este año, algo que los participantes del mercado no parecen apreciar totalmente. Gráfico 7 China: estímulo máximo y crecimiento máximo China: Pico del Estímulo y Pico del Crecimiento China: Pico del Estímulo y Pico del Crecimiento La rotación del impulso de crecimiento desde EE. UU. hacia el resto del mundo debería presionar a la baja el dólar estadounidense. Una moneda más débil, a su vez, suele coincidir con el mejor desempeño de los mercados bursátiles fuera de EE. UU. (Gráfico 9). Gráfico 8 La producción de vacunas está lista para aumentar aún más Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación Gráfico 9 Un dólar más débil ha coincidido con el mejor desempeño de los mercados bursátiles fuera de EE. UU. Un dólar más débil ha coincidido con el mejor desempeño de los mercados bursátiles fuera de Estados Unidos. Un dólar más débil ha coincidido con el mejor desempeño de los mercados bursátiles fuera de Estados Unidos.   Razón n.º 3: La política monetaria sigue siendo muy acomodaticia La desaceleración del crecimiento de EE. UU. llega en un momento en que la inflación está aumentando. El IPC subyacente aumentó 0.9% mes a mes en abril. Fue el mayor salto mensual desde agosto de 1981. La tasa interanual subió a 3.0%, la más alta en 25 años. El “tufo de estanflación” ayudó a empujar al S&P 500 a la baja esta semana. Como discutimos la semana pasada, estamos firmemente en el campo que espera que la inflación aumente significativamente a largo plazo. Sin embargo, en el próximo año o dos, nosotros restaríamos importancia a los temores inflacionarios. Como ilustra el ejemplo de los años 60, a menudo es necesario un largo periodo de sobrecalentamiento para impulsar la inflación de manera sostenida. La tasa de desempleo de EE. UU. alcanzó su nivel de pleno empleo en 1962. Sin embargo, no fue hasta 1966 —cuando la tasa de desempleo estaba dos puntos porcentuales por debajo del equilibrio— que la inflación finalmente despegó (Gráfico 10). El IPC subyacente oficial probablemente sobrestime las presiones inflacionarias subyacentes. La pandemia desajustó todo tipo de precios. Eliminar los precios volátiles de alimentos y energía de la inflación no es suficiente. Se necesitan medidas más refinadas de la inflación. Por suerte, existen. Gráfico 11 muestra que la mediana del IPC, el IPC de medias recortadas y el IPC de precios rígidos permanecen bien contenidos. De manera similar, medidas relativamente limpias del crecimiento salarial, como el Atlanta Fed Wage Tracker, no apuntan a una inminente espiral salarios-precios (Gráfico 12). Gráfico 10 La inflación empezó a acelerarse rápidamente solo cuando el desempleo alcanzó niveles muy bajos en los años 60 La Inflación Comenzó A Acelerarse Rápidamente Solo Cuando El Desempleo Alcanzó Niveles Muy Bajos En La Década De 1960 La Inflación Comenzó A Acelerarse Rápidamente Solo Cuando El Desempleo Alcanzó Niveles Muy Bajos En La Década De 1960 La Inflación Comenzó A Acelerarse Rápidamente Solo Cuando El Desempleo Alcanzó Niveles Muy Bajos En La Década De 1960 La Inflación Comenzó A Acelerarse Rápidamente Solo Cuando El Desempleo Alcanzó Niveles Muy Bajos En La Década De 1960 Gráfico 11 Medidas más limpias de la inflación cuentan otra historia Las medidas depuradas de la inflación cuentan otra historia Las medidas depuradas de la inflación cuentan otra historia Gráfico 12 El crecimiento salarial sigue siendo flojo El crecimiento salarial sigue siendo débil El crecimiento salarial sigue siendo débil Todo esto significa que la Fed puede permitirse mantener una política monetaria excepcionalmente laxa. Eso debería mantener el crecimiento por encima de la tendencia y continuar sosteniendo las valoraciones de las acciones.   Conclusiones de inversión Mi “regla de oro” para invertir es mantenerse optimista con las acciones salvo que uno piense que hay una recesión a la vuelta de la esquina (Gráfico 13). Ver alrededor de la esquina no es fácil, por supuesto, pero tampoco imposible. Gráfico 13 Las recesiones y los mercados bajistas tienden a superponerse Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación La recesión del año pasado fue causada por un verdadero shock exógeno: la pandemia. Sin embargo, la mayoría de las recesiones son de naturaleza endógena. Resultan de desequilibrios crecientes que suelen quedar al descubierto por una política monetaria más restrictiva. Se puede debatir hasta qué punto la economía global está aquejada por desequilibrios de una forma u otra. Pero una cosa está clara: es poco probable que la política monetaria se vuelva contractiva en el corto plazo. En este entorno, se debe mantener una postura positiva sobre las acciones y otros activos de riesgo en un horizonte de 12 meses. No obstante, con la probabilidad de que el impulso del crecimiento global se desacelere más adelante este año, los inversores con máxima sobreexposición al riesgo deberían reducir la exposición cíclica. Posición en corto en Bitcoin Advertimos que “Bitcoin está en curso de colisión con el ESG” hace dos semanas en un informe titulado “Cómo ponerse corto en Bitcoin, o en cualquier otra cosa, sin perder los cortos.” El cambio de postura de Elon Musk respecto a permitir que los clientes de Tesla paguen por sus autos en Bitcoin es otra prueba de que las preocupaciones ESG prevalecerán. La noticia de que Colonial Pipeline pagó a los hackers 75 bitcoin (casi 5 millones de dólares) en rescate refuerza aún más el estatus de Bitcoin como la moneda elegida por criminales de todo el mundo. Con todo esto en mente, nos posicionamos a la baja en Bitcoin a partir de la medianoche, hora del este (EDT), utilizando la técnica de cortos descrita en ese informe. La técnica invierte la relación habitual riesgo-recompensa al vender en corto. Normalmente, cuando vendes una acción en corto, tu ganancia está limitada al 100% de la posición inicial mientras que tu pérdida potencial es ilimitada. Con nuestra técnica de cortos, tu pérdida potencial está limitada al 100% mientras que tu ganancia potencial es ilimitada. Esto hace que el acortamiento como estrategia de inversión sea mucho más seguro. APÉNDICE El ciclo económico y los activos financieros GRÁFICO DEL APÉNDICE 1A Crecimiento máximo y un atisbo de estanflación Crecimiento máximo y un atisbo de estanflación GRÁFICO DEL APÉNDICE 1B Pico del crecimiento y un atisbo de estanflación Pico del crecimiento y un atisbo de estanflación Gráfico del Apéndice 1C Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación Gráfico del Apéndice 1D Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación Peter Berezin Jefe de Estrategia Global pberezin@bcaresearch.com Matriz de Perspectivas de la Estrategia de Inversión Global Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación Recomendaciones de operaciones especiales Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación Puntuaciones actuales del modelo MacroQuant   Pico de crecimiento y un atisbo de estanflación Pico de crecimiento y un atisbo de estanflación

Dear Client, In addition to our regular report, this week we are sending a Special Report written by my colleague Lucas Laskey from BCA Research’s Equity Analyzer service titled “Is The Reopening Trade Closed?”. The report discusses the state of the reopening trade through the lens of Equity Analyzer's factor model. I hope you find the report insightful. Additionally, please join us next week on Friday, May 7, 2021 at 10am EDT as I moderate a debate between my colleagues Arthur Budaghyan, BCA Research’s Chief Emerging Market Strategist, and Robert Ryan, Chief Commodity & Energy Strategist. Titled “A Debate On Commodities,” Arthur and Bob will discuss the outlook for commodities, touching on the trajectory both DM and China/EM growth will follow, the path for the US dollar, and other cyclical and structural forces currently shaping commodity markets. During the webcast, Arthur and Bob will highlight the areas they disagree on and the reasons behind their differing views. Best regards, Peter Berezin Chief Global Strategist Highlights Bitcoin is on a collision course with ESG. ESG interests will win out. Widespread adoption of cryptocurrencies, if it were to happen, would erode the purchasing power of traditional money, while robbing governments of billions of dollars in seigniorage revenue. Governments have already begun to take steps to thwart such an outcome. Restrictions on the use of cryptocurrencies will only increase over the coming years. The rollout of Central Bank Digital Currencies (CBDCs) represents an existential threat not only to cryptos, but potentially to credit card companies and online payment processors such as PayPal, Square, Venmo, WeChat Pay, and Alipay. Shorting cryptocurrencies, meme stocks, or any other high-flying asset is risky business. Fortunately, there is a way to flip the usual risk-reward from going short on its head. Rather than facing unlimited losses and a maximum gain of only 100% of the initial position, we outline a shorting strategy that caps the loss at 100% but allows for unlimited gains. Bitcoin’s Questionable ESG Record Crypto critics have often blamed cryptocurrencies for facilitating illicit transactions and enlarging the world’s carbon footprint. There is some truth to both claims. Motivated to avoid detection, online scammers, smugglers, and terrorists have been drawn to cryptocurrencies. Cryptos have also been used to evade capital controls and conceal wealth from the tax authorities. On the environmental side, Bitcoin mining now consumes more energy than entire countries such as Sweden, Argentina, and Pakistan (Chart 1). Moreover, about 70% of Bitcoin mining currently takes place in China, mainly using electricity generated by burning coal. A lot of the remaining mining occurs in countries such as Russia and Iran with questionable governance records. Chart 1How Dare You, Bitcoin Cryptos And Inequality One criticism of Bitcoin that is less frequently mentioned is its role in exacerbating wealth inequality. We are not just talking about the small number of “whales” who amassed huge fortunes by buying or mining Bitcoin shortly after it was created. If these whales sell their coins at today’s prices and the price of  Bitcoin eventually crashes, those early investors will have ended up profiting at the expense of smaller investors who bought at the top. While such a transfer of income may be unsavory, it is not much different from what happens when someone sells a high-flying stock to the proverbial bagholder just as the stock is peaking. The more interesting question is what happens if Bitcoin prices do not crash. It might be tempting to think that in such a scenario, no one would be worse off. But that is incorrect. There would still be losers, and importantly, these losers would consist of people who never bought or sold Bitcoin in their lives. To see why, ask yourself who suffers from counterfeit currency. One possibility is shopkeepers who inadvertently accept counterfeit cash and find themselves stuck with worthless money. But even if the counterfeit money is never detected, there would still be losers: Fake money dilutes the value of genuine money, making everyone who holds the genuine money worse off. Crypto evangelists like to argue that cryptocurrencies offer protection against the “debasement of fiat money.” Ironically, the widespread adoption of cryptocurrencies could produce a self-fulfilling cycle that leads to just such an inflationary outcome. If enough people decide to swap fiat currencies for cryptos, the dollar and other fiat monies could become “hot potatoes.” The price of cryptos would rise in relation to dollars. Feeling more wealthy, crypto holders would spend some of their wealth on goods and services. As long as the economy is operating below potential, this would not be such a bad thing since increased spending would generate more output and employment. However, once the output gap disappears, more spending would result in higher inflation. The purchasing power of fiat currencies would decline. The Empire Strikes Back Will governments allow such a massive transfer of wealth from holders of fiat currencies to holders of crypto currencies to occur? It seems highly unlikely. In order to entice people to hold on to their fiat currency bank deposits, central banks would have to raise interest rates. Debt-strapped governments would not like that. Governments also generate significant revenue from their ability to print currency and then exchange it for goods and services. For the US, this “seigniorage revenue” is around $100 billion per year (Chart 2). No government will want to part with this revenue. A financial system where loans and deposits are denominated in cryptocurrencies would be highly unstable. Even if the supply of each individual cryptocurrency were capped, the rise and fall of competing cryptocurrencies could still result in large shifts in the aggregate cryptocurrency money supply. Moreover, wild swings in cryptocurrency prices, both versus fiat currencies and one another, could destroy any semblance of price stability. The value of bank loans made in Bitcoin or other cryptos would experience great fluctuations. Powerless to issue cryptocurrencies themselves, central banks would not be able to provide unlimited liquidity support to commercial banks as they do now. The situation would resemble the US in the late 19th century when myriad currencies competed with one another and the financial system veered from one crisis to another (Chart 3). Chart 2Governments Will Not Part With Seigniorage Revenue Chart 3An Inelastic Money Supply Historically Led To More Banking Crises   What Is It Good For? One might argue that the ultimate aim of cryptocurrencies is not to displace fiat money. Okay, but if Bitcoin can never truly function as a medium of exchange or a unit of account, what exactly underpins its utility as a store of value? At least with gold, you get an extremely rare metal, forged in the collision of neutron stars billions of years ago, that has great aesthetic value. With cryptos, you get fairy dust. In past reports, we referred to Bitcoin as a “solution in search of a problem.” In retrospect, that characterization was much too charitable. Bitcoin is a problem in search of a problem. Whereas the Visa network can process over 20,000 transactions per second, the Bitcoin network can barely process five (Chart 4). Bitcoin transactions take 10 minutes-to-an hour to complete compared to just a few seconds for most debit or credit card transactions. The average fee for a Bitcoin transaction is around $30. This fee has been rising, not falling, over the past few years (Chart 5). Chart 4Bitcoin: The Speed Of Transactions, Or Lack Of It Chart 5Bitcoin: The Cost Per Transaction Is Rising     Look Out Below Table 1A Growing List Of Cryptocurrency Bans Cryptos are heading for a world of pain. ESG concerns will force companies to step back from their newfound infatuation with these magic beans. Meanwhile, governments will tighten the screws on cryptocurrencies while rolling out their own digital monies. As my colleague Chester Ntonifor pointed out last week, a growing list of countries have already moved to ban Bitcoin transactions (Table 1). In addition, most G10 central banks have outlined their own digital currency plans (Map 1). Not only will Central Bank Digital Currencies (CBDCs) squeeze out decentralised cryptocurrencies, they will also pose an existential risk to credit card companies and online payment processors such as PayPal, Square, Venmo, WeChat Pay, and Alipay. Map 1Many Central Banks Are Planning A Digital Currency The Risk Of Shorting Bitcoin These days, there is no shortage of ways to short Bitcoin. Many cryptocurrency platforms permit short selling. In addition, one can bet against Bitcoin through the futures market. To the extent that the fortunes of companies such as Coinbase are tied to the crypto market, one can also express a short view on cryptos through listed equities. Yet, shorting cryptos is a risky strategy. Cryptocurrencies do not have any intrinsic value. What you think a Bitcoin is worth depends on what others think it is worth and vice versa. At present, the value of all Bitcoins that have ever been issued is about $1 trillion. Eighteen cryptocurrencies have valuations exceeding $10 billion (Table 2). The market capitalization of all cryptocurrencies in circulation stands at $2 trillion. In contrast, the value of all the gold that has ever been mined is around $10 trillion (Chart 6). It is certainly possible that euphoric investors will push up the value of cryptocurrencies to the point that they are collectively worth more than all the gold in the world. Table 2Close To 20 Cryptos Have A Market Cap In Excess Of US$10bn Chart 6Gold Versus Cryptocurrencies     To guard against this risk, one needs a prudent strategy for shorting not just high-flying cryptocurrencies, but any security whose price can rise significantly. Luckily, such a strategy exists. How To Short Without Losing Your Shorts Clients sometimes ask me what I invest my money in. The answer is that most of my liquid wealth is held in publicly traded US small cap stocks. I have been investing in this space for over two decades (prior to joining Goldman, I even wrote a blog about it). I used my knowledge of stock picking to develop an early version of BCA’s Equity Analyzer. David Boucher and his team have since transformed it into a powerful, state-of-the-art stock selection service. Table 3Don’t Be Like Melvin Shorting small cap stocks is risky business. To limit the risk, I have employed a strategy that flips the usual risk-reward from shorting on its head. Normally, when you short a stock, your gain is capped at 100% of the initial position whereas your potential loss is unlimited. With my shorting technique, your potential loss is capped at 100% while your potential gain is unlimited. To illustrate how the strategy works, let us consider shorting one particular overpriced “meme” stock that has been in the news a lot this year. I won’t single out the name of the company, other than to note that it begins with “G” and ends with “stop.” At the time of writing, this mystery stock was trading at $180 per share. Suppose you shorted 1,000 shares at that price. The basic idea is to then short 2% more shares if the price falls by 1% and cover 2% of your shares if the price rises by 1%. So, in this case, you would increase your short position to 1020 shares if the price were to fall to around $178 but cover 20 shares (leaving you with 980 shares short) if the price were to rise to $182. Table 3 shows the number of shares you would need to be short for any given price between $5 and $360. If the price of the shares were to fall to $10 (double what it was last August), the strategy would generate roughly $3,060,000 in profits.1 In contrast, if the price were to rise to $360 per share, the strategy would incur a loss of $90,000. Even if the price went to infinity, the most you would lose is $180,000. There are a number of challenges to implementing this strategy: 1) It requires frequent trading; 2) gap downs and gap ups in the price could meaningfully hurt the results; 3) it is not always possible to short a stock and even when it is, the borrowing costs could be high, etc. Nevertheless, as a “rule of thumb,” I have found this strategy to be extremely effective in mitigating risk.   Peter Berezin Chief Global Strategist pberezin@bcaresearch.com   Footnotes 1    Notice that the profit of $3,060,000 from going short 1,000 shares in the case where the price of the stock falls from $180 to $10 is equal to 17 times the initial short position of $180,000 (i.e., $3,060,000 divided by 180,000 is 17). This is exactly the same return that one would earn if one went long the stock and the price rose from $10 to $180. In this case, the profit would also be equal to 17 times the initial investment (i.e., $1,800,000-$100,000 divided by $100,000 is 17). 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Highlights Cryptocurrencies have a long march ahead to be able to displace fiat currencies. While cryptocurrencies are improving tremendously as a medium of exchange, they lag fiat as a store of value and a unit of account. Contrary to popular belief, fiat money has outperformed anti-fiat assets over time as a store of value. Many central banks will replicate the advantages and success of bitcoin through the issuance of central bank digital currencies (CBDCs). Cryptocurrencies are unlikely to disappear anytime soon and can be wonderful speculative investments. However, conservative investors should stick with gold and silver. Feature Chart I-1Spectacular Returns From Cryptocurrencies The rise in the prices of various cryptocurrencies1 has taken many investors by surprise. $1000 invested in bitcoin at the start of 2012 is worth around $10 million today. If you were lucky enough to get in on the first day of trading, when it was worth a fraction of a cent, your initial $1000 investment will be worth around $60 billion today. Meanwhile, many other cryptocurrencies are also sporting legendary returns, not even replicable in the most obscure corners of the options market (Chart I-1). There is some merit to cryptocurrencies, or more specifically, blockchain technology that is the bedrock of their invention. In this decentralized, peer-to-peer system, the need for an intermediary to validate transactions and arbitrate disputes is eliminated. This can greatly reduce transaction costs, especially when compared to banking/legal fees. The autonomy and anonymity that comes with their use is also a desirable feature. For example, anti-fiat enthusiasts welcome the fact that the creation, distribution, and use of cryptocurrencies is outside the purview of central banks. As this asset class continues to garner popularity and capture the imagination of investors, the implications run the gamut from potential future returns (or losses) to the impact on other asset classes. For currency investors, the key question is whether any of these seemingly attractive features have a sizeable impact on the value and use of other developed market currencies. In short, will cryptocurrencies displace fiat? To answer this question, we have to start from the very basic definition of what money is.  Is Bitcoin Money? The three basic functions of money are a store of value, unit of account and a medium of exchange. On at least two of these three basic functions, bitcoin fails. Bitcoin has been improving as a medium of exchange. The ability to swap fiat currency into bitcoins and back is fairly easy. More importantly, more and more merchants are accepting bitcoin as a form of payment. Globally, the turnover of cryptocurrencies is about $200 billion or roughly 3% of overall foreign exchange turnover. This is higher than daily trading in the Mexican peso, the New Zealand dollar, and the Swedish krona, an impressive feat (Chart I-2). This is also evidenced by the rise in the market capitalization of cryptocurrencies, to around $2 trillion today (Chart I-3). Chart I-2An Improving Medium Of Exchange Chart I-3Gold Versus Cryptocurrencies However, as Peter Berezin, our Chief Global Strategist has pointed out, this does not necessarily trump the use of fiat money.2  The Visa network, for example, handles over 5,000 times more transactions a second than the bitcoin mempool (the pool of unconfirmed transactions). Meanwhile, if one were to take a vacation in exotic places like Manila or Mumbai, what medium of exchange will one hold? Cryptocurrency, gold or the US dollar? Experience tells us you will be much better off holding greenbacks or even gold. Bitcoin is certainly not a store of value. The drawdown in cryptocurrency prices has been around 80% a year or 40%-50% over three months. This is much more volatile than currencies such as the Turkish lira or Argentinian peso, from countries fraught with political instability and economic fragility (Chart I-4). It appears that the lack of central bank oversight is a vice and not a virtue. Stability in a currency allows for confidence in savings, future purchases, and investment decisions. A monetary system based on cryptocurrencies deprives citizens of this basic tenet.   Chart I-4Bitcoin Is A Poor Store Of Value Bitcoin’s inherent volatility also makes it unsuitable as a unit of account. Prices quoted in bitcoin units will need to be revised daily. Although not a parallel comparison, this is reminiscent of hyperinflationary Zimbabwe, where retail store prices were adjusted several times a day to reflect the rapid depreciation in the currency. This is hardly a monetary regime suitable for the developed world, or any other economy for that matter. In a nutshell, cryptocurrencies do not yet satisfy the basic functions of money. Yes, they are portable, divisible, fungible and in limited supply. However, they have yet to gain wider acceptance, and are not a store of value nor a unit of account. As such, they remain speculative investments rather than money. The Demise Of Fiat Is Exaggerated Even if bitcoin is not money, the question remains whether it should be held in currency portfolios as insurance against fiat money debasement. After all, central bank quantitative easing since the global financial crisis has benefited other monetary assets such as gold and silver. Should investors also accumulate cryptocurrencies? The answer will depend on the type of investor. Dedicated currency investors need not worry about bitcoin. As a starting point, the US dollar very much remains the reserve currency today. About 60% of global reserve allocation is in USD. This position has often been challenged over the last few decades but has never been threatened (Chart I-5). This puts cryptocurrencies a long way from the starting line. Chart I-5The US Dollar Remains King It is worth noting that over time, fiat assets have done much better than anti-fiat alternatives. Using Bank of England data from the 19th century, we can see that over time, government bonds did much better than gold, or even stocks and real estate (Chart I-6). The reason is that most currencies provide a yield, while cryptocurrencies and gold do not. Chart I-6Fiat Versus Anti-Fiat Assets Chart I-7The DXY Has Faced Strong Resistance At 100 If one is worried about the path of the US dollar (like us), there are many other established fiat currencies to choose from. Since 2015, global allocation of FX Reserves to US dollars has fallen from almost 66% to around 60% today. The rotation has favored other currencies such as the Japanese yen, Chinese yuan and even gold (Chart I-7). From a longer-term perspective, this will place a durable floor under developed market currencies. Cryptocurrencies Versus Gold The degree to which cryptocurrencies can benefit from a shift away from dollars will depend on whether private investors or central banks drive the outflows. Central banks have a natural imperative to defend fiat currencies, since these are the very tools they use to implement monetary policy. As such, when diversifying out of dollars, their choice is other fiat currencies or gold, the latter having been a monetary standard for centuries. Private investors, some wanting to cut the cord to a centralized monetary system, may chose cryptocurrencies. Since the peak in the DXY index in 2020, both gold and US Treasuries are down significantly, while bitcoin has catapulted to new highs (Chart I-8). This has occurred because of a change in leadership, where the biggest sellers of US Treasuries have not been official concerns, but private investors (Chart I-9). Foreign central banks still dominate the holding of US Treasuries, to the tune of 60% versus 40% for private investors (bottom panel). But the bulk of outflows has been coming from private investors. Chart I-8Bitcoin Thrives When Mainstream Havens Are Rolling Over Chart I-9A Treasury Liquidation From ##br##Private Investors Central banks (the biggest holders of US Treasuries) tend to have stronger hands. This is because central banks are ideological while private investors can be swayed by momentum. For example, China and Russia have a geopolitical imperative to diversify out of dollars. As a result, Russia now has almost 25% of its foreign exchange reserves in gold and China almost 4%. A conservative investor looking to diversify out of fiat currency should naturally choose gold, which is backed by strong buyers. For more speculative investors, a simple rule of thumb could work: Buy cryptocurrencies when they drop 50% and sell when they overtake their previous highs. As we showed in Chart I-3, cryptocurrencies drop at least 40%-50% every year or so, providing ample opportunity to accumulate long positions. It is worth noting that my colleagues have a different approach. Dhaval Joshi, who heads our Counterpoint product, suggests holding cryptocurrencies in inverse proportion to their relative volatility to gold. In other words, given that bitcoin is three times more volatile than gold, your anti-fiat portfolio should have a 25% allocation to cryptocurrencies.3 Peter Berezin, our Chief Global Strategist, will not touch bitcoin. We tend to agree that cryptocurrencies could be a playable mania but would not recommend this asset class for the longer term. Central Bank Digital Currencies   One argument for why cryptocurrencies may not survive over the longer term is that there is a natural limit to how much widespread acceptance they will achieve before central banks start clamping down on them. The first reason will be due to the loss in seigniorage revenue for central banks. Between 2009 and 2019, the US and China generated about $140bn a year in seigniorage revenue (Chart I-10). These are non-negligible sums, which the rapid proliferation of cryptocurrencies threaten. Moreover, as the turnover in cryptocurrencies overtakes global trading in various domestic currencies, many countries are moving to ban bitcoin transactions (Table I-1). Chart I-10Seigniorage Revenue Is Significant Table 1A Rising List Of Cryptocurrency Bans Second, the use of cryptocurrencies can encourage the proliferation of illegal activities. This is a well-known flaw, and something governments will push back against. Meanwhile, many central banks are moving to establish their own digital currencies. Some of these could be based off the same blockchain technology that underpins bitcoin. This will provide many of the advantages of using a cryptocurrency without some of the known pitfalls. Map I-1 highlights that most G10 central banks have a digital currency plan. Map I-1Many Central Banks Are Planning A Digital Currency Some advocates for bitcoin point to its limited supply (21 million coins) as evidence for monetary prudence. Even the gold standard had more flexibility, since gold mining expanded about 2% a year. Yet that still proved to be extremely deflationary. A monetary standard that includes both paper currency and CBDCs provides the flexibility that central bankers need to smooth out economic cycles. A bitcoin-based standard will take us back to the middle ages. Once CDBCs become mainstream, the need for alternative cryptocurrencies will not disappear but fall greatly. This will also happen as the number of cryptocurrencies being created will likely balloon, given the very impressive price rallies in recent years. The IPO of Coinbase, an exchange for trading cryptocurrencies, may have heralded the peak in sentiment. Investment Conclusions The dollar faces many headwinds over the next 12 months. A rebound in global growth that begins to favor non-US economies will benefit pro-cyclical currencies. The Federal Reserve’s liquidity injections have assuaged the dollar shortage that held markets hostage last year. Interest rates are now moving against the dollar. Meanwhile, the greenback is expensive (Chart I-11), with a negative balance of payments backdrop. Chart I-11The US Dollar Is Expensive Chart I-12Hold Precious Metals Our favorite vehicles to play against coming weakness in the dollar have been the Scandinavian currencies, precious metals and commodity currencies. Within the precious metals sphere, we like both gold and silver but are short the gold/silver ratio as a hedged trade with little downside and much upside (Chart I-12). In particular, precious metals benefit from reserve diversification out of US dollars. In this light, cryptocurrencies could have intermittent rallies. However, given the regulatory and structural issues they face, we will not be holders for the long term.   Chester Ntonifor Foreign Exchange Strategist chestern@bcaresearch.com Footnotes 1 We use bitcoin and cryptocurrencies interchangeably in this text. We do acknowledge that there are various other cryptocurrencies and these are shown in Chart 1. 2 Please see Global Investment Strategy Special Report, "Bitcoin: A Solution In Search Of A Problem," dated February 26, 2021. 3 Please see Counterpoint Strategy Special Report, "Why Cryptocurrencies Are Here To Stay And Bitcoin Is Worth $120,000," dated April 8, 2021. Currencies U.S. Dollar Chart II-1USD Technicals 1 Chart II-2USD Technicals 2 March housing starts came in at 1.7 million, versus expectations of 1.6 million. This was a 19.4% month-on-month rise. Building permits were equally strong at 1.8 million for the month of March. The University of Michigan sentiment indicator rose to 86.5 in April from 84.9. The jump in the current conditions component from 93 to 97.2 was noteworthy. Initial jobless claims continue to decline, coming in at 547K for the week of April 17. Existing home sales remained strong at 6 million, even though they fell 3.7% month-on-month. The DXY Index fell by 0.3% this week. Speculators pared back a bit of their bullish positioning on the dollar. The overhang of a risk-off event continues to anchor dollar bulls, but interest rate differentials are now moving against the greenback. Report Links: Arbitrating Between Dollar Bulls And Bears - March 19, 2021 The Dollar Bull Case Will Soon Fade - March 5, 2021 Are Rising Bond Yields Bullish For The Dollar? - February 19, 2021 The Euro Chart II-3EUR Technicals 1 Chart II-4EUR Technicals 2 Recent euro area data have been mixed. The trade balance came in at €18.4 billion in February, versus €24.2 billion the previous month. This supported a current account balance of €25.9 billion. Construction output fell 5.8% year-on-year in February. Consumer confidence came in at -8.1 in April, versus -10.8 in March. The euro rose by 0.3% this week. The ECB kept monetary policy on hold this week, leaving the deposit facility rate at -0.5% and the marginal lending facility at 0.25%. This garnered little market reaction. With a few euro area countries under lockdown, this was the correct stance. Covid-19 will continue to dictate the near-term path of policy and the euro, but we remain bullish longer term. Report Links: Relative Growth, The Euro, And The Loonie - April 16, 2021 Portfolio And Model Review - February 5, 2021 On Japanese Inflation And The Yen - January 29, 2021 Japanese Yen Chart II-5JPY Technicals 1 Chart II-6JPY Technicals 2 Recent data from Japan have been robust. Exports surged 16.1% year-on-year in March. Imports were also robust at +5.7% year-on-year. This boosted the trade balance to ¥298 billion. Tokyo condominiums for sale are rising 45% year-on-year. Supermarket sales rose 1.3% year-on-year in March. This is a tentative but positive sign of a consumption recovery. The Japanese yen rose 0.6% this week. The yen has been the best performing currency this week, a sign that sentiment was overly bearish and the currency was much oversold. Our intermediate-term indicator remains at bombed-out levels and speculators are still short the yen. This provides further upside for this defensive currency. As a portfolio hedge, we are short EUR/JPY. Report Links: The Dollar Bull Case Will Soon Fade - March 5, 2021 On Japanese Inflation And The Yen - January 29, 2021 The Dollar Conundrum And Protection - November 6, 2020 British Pound Chart II-7GBP Technicals 1 Chart II-8GBP Technicals 2 There was an avalanche of positive data from the UK this week. Rightmove house prices came in at 5.1% year on year in April. The labor report was mixed. While the UK lost 73 thousand jobs in February, this was below expectations of a 145 thousand loss. Core CPI came in at 1.1% in March. The RPI index came in at 1.5% year-on-year, in line with expectations. The CBI business optimism survey came in at 38 in April, versus -22 the previous month. Cable rose by 0.4% this week. The UK economy continues to benefit from its strong vaccination campaign. With the prospect of the rest of the world catching up, this trade is now long in the tooth. In short, we are neutral the pound in the short term, but remain bullish longer-term. Report Links: Portfolio And Model Review - February 5, 2021 The Dollar Conundrum And Protection - November 6, 2020 Revisiting Our High-Conviction Trades - September 11, 2020 Australian Dollar Chart II-9AUD Technicals 1 Chart II-10AUD Technicals 2 There was scant data out of Australia this week. The NAB business confidence index came in at 17 in Q1 versus 14 the prior quarter. The Australian dollar fell by 0.6% against the US dollar this week. The Aussie came out of the Covid-19 crisis as one of the best performing currencies, so some measure of consolidation is to be expected. Our intermediate-term indicator continues to blast downward, while sentiment towards the Aussie remains quite elevated. However, we believe that this will be a healthy consolidation in what could prove to be a multi-year bull market in the Australian dollar. Report Links: The Dollar Bull Case Will Soon Fade - March 5, 2021 Portfolio And Model Review - February 5, 2021 Australia: Regime Change For Bond Yields & The Currency? - January 20, 2021 New Zealand Dollar Chart II-11NZD Technicals 1 Chart II-12NZD Technicals 2 There was scant data out of New Zealand this week. CPI came in at 1.5% in Q1, in line with expectations. The Kiwi fell by 0.2% against the US dollar this week. Like Australia, New Zealand has managed the Covid-19 crisis quite well and the new travel bubble between the two countries will help lift economic activity. From a technical perspective however, room for further consolidation in the Kiwi remains. Our intermediate-term indicator continues to drift lower, while speculators are slightly long the cross. In our models, the Kiwi also appears overvalued. We were long AUD/NZD but were stopped out this week for modest profits. We will look to reestablish the trade. Report Links: Portfolio And Model Review - February 5, 2021 Currencies And The Value-Versus-Growth Debate - July 10, 2020 Updating Our Balance Of Payments Monitor - November 29, 2019 Canadian Dollar Chart II-13CAD Technicals 1 Chart II-14CAD Technicals 2 The recent data out of Canada has been quite strong. Foreigners continue to flock into Canadian capital markets, to the tune of C$8.5bn in February. Housing starts came in at 335 thousand in March, the highest since the 70s. The Teranet house price index rose 10.8% year-on-year in March. The CPI release for March was better than expected. Headline was at 2.2%, the core median was at 2.1% and the trimmed mean came in at 2.2%. The Canadian dollar rose by 0.3% this week. The Bank of Canada kept rates on hold, but trimmed asset purchases. This follows a very generous budget from the Liberal party earlier this week. The loonie loved the news and Canadian government bonds sold off. We remain bullish CAD/USD on valuation grounds, spillovers from US fiscal stimulus and a constructive oil backdrop.  Report Links: Relative Growth, The Euro, And The Loonie - April 16, 2021 Will The Canadian Recovery Lead Or Lag The Global Cycle? - February 12, 2021 Currencies And The Value-Versus-Growth Debate - July 10, 2020 Swiss Franc Chart II-15CHF Technicals 1 Chart II-16CHF Technicals 2 The recent data out of Switzerland has been quite strong. Producer and import prices fell by 0.2% year-on-year in March. This is a tremendous improvement from the previous 1.1% drop. M3 money supply continues to expand at a robust 5.6% clip. Exports rose 4.5% month-on-month in March. Watch exports surged 37% year-on-year. The Swiss franc rose 0.5% this week. The Swiss franc is the second best performing currency this week after the yen. With US interest rates stabilizing, the rationale for CHF carry trades is slowly fading. Our intermediate-term indicator shows the franc at bombed-out levels, and speculators are still short. This provides some margin for further upside. We are long EUR/CHF, but with very tight stops. Report Links: Portfolio And Model Review - February 5, 2021 The Dollar Conundrum And Protection - November 6, 2020 On The DXY Breakout, Euro, And Swiss Franc - February 21, 2020 Norwegian Krone Chart II-17NOK Technicals 1 Chart II-18NOK Technicals 2 There was scant data out of Norway this week. Industrial confidence came in at 8.2 in Q1, versus a prior reading of 3.1. The Norwegian krone was flat against the US dollar this week. Norway is setting the tone in terms of what monetary policy and sovereign wealth management could look like for many countries in the coming years. First, the Norges Bank announced they would be testing digital currency solutions over the coming two years. This is the way forward for central banks. Second, the sovereign wealth fund, the biggest in the world, is using its influence to effect policy changes towards the environment. Should the returns from its investments pay off in the years ahead, this could generate powerful repatriation flows for Norway. We are strategically bullish the NOK. Report Links: Portfolio And Model Review - February 5, 2021 Revisiting Our High-Conviction Trades - September 11, 2020 A New Paradigm For Petrocurrencies - April 10, 2020 Swedish Krona Chart II-19SEK Technicals 1 Chart II-20SEK Technicals 2 There was no data out of Sweden this week. The Swedish krona rose by 0.2% this week. Swedish 2-year real rates recently punched above US levels, suggesting downward pressure on the krona should soon be abating. Our intermediate-term indicator suggests weakness in the krona is mostly done, while the currency appears cheap in most of our models. The handicap for Sweden is successfully dealing with the pandemic, after having a model that stood apart from what other countries were following. Over the longer-term, we are bullish SEK, just like the NOK, against both the euro and the dollar. Report Links: Revisiting Our High-Conviction Trades - September 11, 2020 Updating Our Balance Of Payments Monitor - November 29, 2019 Where To Next For The US Dollar? - June 7, 2019 Trades & Forecasts Forecast Summary Core Portfolio Tactical Trades Limit Orders Closed Trades

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Highlights Cryptocurrencies are the ‘digital gold’. Long-term investors should hold cryptocurrencies and gold in inverse proportion to their volatilities. On this basis, cryptocurrencies should take around a quarter of the $15 trillion anti-fiat asset market, taking the bitcoin price to around $120,000. Own a diversified basket of cryptocurrencies, including an eco-friendlier ‘proof of stake’ cryptocurrency such as Ethereum. As cryptocurrencies take a larger share of the anti-fiat market, gold’s massive anti-fiat premium versus silver and platinum will collapse. Structural recommendation: overweight silver and platinum versus gold. Structurally underweight gold miners, both versus other miners and versus the market. Feature Feature ChartEach Time People Thought Bitcoin Was In A Bubble, They Were Wrong This Special Report presents the long-term investment case for cryptocurrencies. It is the transcript of twenty questions and answers that made up a recent conversation with a sceptical client. 1.     I am sceptical of cryptocurrencies. Specifically, I think that bitcoin is dirty, slow, volatile, and impractical. Are you going to convince me otherwise? Yes, I’m going to tell you that those criticisms are misunderstandings, or, at least, irrelevant to the long-term investment case. 2.     Ok, let me ask the $57,000 question. Is bitcoin in a bubble? No, bitcoin is not in a bubble. Though to be clear, its price could fall sharply from its current overbought position. Bitcoin’s price has collapsed by 80 percent on three separate occasions: in 2011, 2014, and 2018. Each time, people said the bitcoin bubble had burst, and each time they were wrong. Each time, bitcoin recouped its losses within a couple of years and went on to new highs. On a long-term horizon, I expect the same to happen again (Feature Chart). Cryptocurrencies Are The ‘Digital Gold’ 3.     So, what is the long-term investment case for owning bitcoin and other cryptocurrencies? Cryptocurrencies are the ‘digital gold’. So long as we have a fiat money system, there will be demand for an ‘anti-fiat’ asset that is a hedge against a debasement of the fiat money system. For decades, the dominant anti-fiat asset has been gold. But cryptocurrencies are the new kid on the block threatening gold’s dominance. So far, cryptocurrencies account for just 10 percent of the $15 trillion anti-fiat market. As this share doubles or trebles, it arithmetically requires a doubling or trebling of cryptocurrency prices. 4.     New cryptocurrencies seem to appear every day. How can the limitless number of cryptocurrencies be compared with gold, whose supply is limited? Although the number of cryptocurrencies is unlimited, the total cryptocurrency money supply is limited by the amount of energy expended to mine them. As a useful analogy, each cryptocurrency is like a separate gold miner. While there could be an unlimited number of gold miners, there could not be an unlimited supply of gold. 5.     But a cryptocurrency has no intrinsic value, right? Right, but a fifty pound note has no intrinsic value either. It’s just a bit of paper. The value of a fifty pound note – or any fiat money for that matter – is the trust that you place in the government and the central bank to maintain its value. Likewise, the value of a bitcoin is the trust that you place in the blockchain to maintain its long-term value – so it’s really like an alternative trust system to the trust you place in the fiat monetary system. In fact, the blockchain is often called ‘the trust machine’. 6.     Yet gold does have an intrinsic value. I can always melt it down and wear it as valuable jewellery, which makes it a superior anti-fiat asset, right? No, this is a misunderstanding. Gold does have an intrinsic value, but it is a small fraction of its $1700/oz price. Gold’s intrinsic value is a small fraction of its $1700/oz price. The proof comes from comparing the precious metal price ratios with their (inverse) mining ratios. For the other precious metals – silver and platinum – the price ratio lines up broadly with the mining ratio, as it should (Chart I-2). But gold is the outlier, trading at a massive premium to its mining ratio. For example, the gold/silver price ratio at 70 compares with a mining ratio of 7.5, a near tenfold premium (Chart I-3). So, most of gold’s value comes from its status as the dominant anti-fiat asset. Chart I-2Platinum To Silver Trades Broadly In Line With Its Mining Ratio Chart I-3Gold To Silver Trades At A Massive Premium To Its Mining Ratio 7.     Hasn’t the gold/silver price ratio always been this elevated? No, through the many centuries that gold and silver had equal monetary status, the gold/silver price ratio tracked its mining ratio of around 15. Gold’s massive premium arose only when it became the dominant anti-fiat asset – first, when the gold standard collapsed in 1931 and then, when the Bretton Woods ‘pseudo gold standard’ collapsed in 1971. Proving that most of the current value of gold is its value as the dominant anti-fiat asset (Chart I-4).  Chart I-4Gold’s Massive Premium Is Due To Its Status As The Dominant Anti-Fiat Asset 8.     But unlike gold, cryptocurrencies trade like extreme risk-assets, so are they suitable for a conservative investor, like me? Conservative investors like you have no qualms holding gold even though it can suffer significant drawdowns, such as a 30 percent loss in 2013 and a near 20 percent loss through the past six months (Chart I-5). Of course, cryptocurrencies can suffer even bigger drawdowns, but this can be addressed by position sizing. Specifically, holding $1 of cryptocurrency for every $3 of gold will equalise the drawdown risks from the two anti-fiat assets. Chart I-5Gold Can Suffer Significant Drawdowns Countering The Counterarguments 9.     Now we come to the elephant in the room. Even if I accept that cryptocurrencies are the ‘digital gold’, mining these cryptocurrencies consumes as much energy as a small country. Isn’t this a huge problem? No, this is another misunderstanding. There is nothing wrong with using energy, and it is up to the market – rather than governments or self-proclaimed experts – to decide how to allocate our energy consumption. Remember that we are becoming less energy-intensive in other parts of our lives, so if the market deems that a certain proportion of energy consumption is well served to secure a superior anti-fiat asset, then that’s fine. Thinking more broadly, intermediation functions like banking and legal services account for around two percent of world GDP, while energy production accounts for five percent. So, if the blockchain could carry out that intermediation more efficiently and securely, then society could justify the blockchain consuming two fifths of the world’s energy. 10.   Ok, but what about the dirty energy that cryptocurrency mining consumes, and the damage it does to the environment? Yes, dirty energy is a problem but let’s address it by banning or taxing dirty energy! And let’s have a fair comparison. Gold mining might consume less energy than cryptocurrency mining, but it devastates the environment via the 99 percent of extracted ore that is dumped as waste, landscape destruction, acid mine drainage, and mercury production. Not to mention the tremendous energy needed to transport gold. None of these dirty issues apply to cryptocurrencies. Ultimately, the blockchain is a force for good because, unlike the internal combustion engine or mining, it can be a hundred percent environmentally friendly. Moreover, compared to the usual ‘proof of work’ protocol to secure a transaction, the emerging ‘proof of stake’ protocol removes the advantage to the most powerful computers, and thereby consumes much less energy. 11.    But the fiat currency system does just fine. And gold does just fine for those who want an anti-fiat currency asset. So, isn’t bitcoin just a ‘solution in search of a problem’? Almost every innovation is a ‘solution in search of a problem!’ Before aeroplanes, weren’t we doing just fine with ships and trains? And before the internet, weren’t we doing just fine with information disseminated by governments and major media and publishing companies? Then the internet decentralised and democratised information, and transformed every aspect of our lives. In the same way, the blockchain, which decentralises and democratises trust, can also transform every aspect of our lives. The same criticisms that are being thrown at the blockchain today were being thrown at the internet in the early 1990s. The same criticisms that are being thrown at the blockchain today were being thrown at the internet in the early 1990s. That the internet was slow, impractical, used mostly by criminals for nefarious purposes, that no reputable company would use it, that nobody would put their personal data or credit card details on it, and so on. I guess this shows that most people cannot comprehend an innovation until they experience its transformative impact. 12.   Ok, I’m all for innovation, but isn’t central bank digital currency a better alternative to cryptocurrency? Absolutely not! The whole point of an anti-fiat asset is that it must be completely immune to government and central bank manipulation. 13.   I still have some worries. First, can’t governments just ban cryptocurrencies? It would be something that I would expect in North Korea, but not in a liberal democracy like the UK or the US. Apart from anything else, it would be counterproductive – because the act of banning the anti-fiat asset would be the very act that would cause a surge in its demand! The better course for governments is to demonstrate, in fair competition, that fiat money is as trustworthy as anti-fiat money. 14.   Ok, what about governments taxing cryptocurrency transactions? Again, I think that the best course of action is for governments not to penalise anti-fiat money. But even if they did impose a transaction tax, it wouldn’t diminish cryptocurrencies’ anti-fiat status. After all, most people don’t own gold to carry out day-to-day transactions with it! 15.    One last worry: could quantum computing wipe out the blockchain and cryptocurrencies? The mathematical protocols would have to become orders of magnitude more difficult, but the over-arching concept of a decentralised peer-to-peer network to validate ownership and transactions would remain.  The Investment Conclusions 16.   Ok, let’s get to the investment conclusions. First, how should I value bitcoin and the cryptocurrency asset-class? The immediate question is, what share of the $15 trillion anti-fiat market should cryptocurrencies take? Our answer is that, in order to equalise drawdown risk, investors should hold cryptocurrencies and gold in inverse proportion to their drawdown magnitudes (or volatility). As cryptocurrency drawdowns tend to be three times as large as gold drawdowns, this means holding $1 of cryptocurrency for every $3 of gold (Chart I-6 and Chart I-7). Chart I-6Drawdowns Suffered ##br##By Bitcoin... Chart I-7...Tend To Be Three Times As Large As Drawdowns Suffered By Gold In other words, based on current volatilities, cryptocurrencies should take around a quarter of the anti-fiat market, or around double the current market share. Assuming a constant market size, and a uniform uplift to all cryptocurrencies, this would double all cryptocurrency prices, taking bitcoin to around $120,000. Cryptocurrencies should take around a quarter of the anti-fiat market, or around double the current market share. Of course, as cryptocurrencies become more established and their volatilities diminish, their share of the anti-fiat market can rise, taking their prices even higher.  17.   Will all cryptocurrencies succeed? No. Just as gold miners take market share from each other, cryptocurrencies will also take market share from one another. Hence, it is important to own a diversified basket of cryptocurrencies. At the very least, it is important to have some exposure to an eco-friendlier ‘proof of stake’ cryptocurrency such as Ethereum. Given its greener credentials, ‘proof of stake’ may take the dominant market share in the coming years.   18.   Will cryptocurrencies eventually replace fiat money? Not necessarily. As previously explained, fiat money and cryptocurrencies are just competing trust systems. So long as governments and central banks maintain our trust in fiat money, there is no reason to replace fiat money. 19.   Does this have any implications for inflation? Yes. With cryptocurrencies as a competing trust system, the only way for governments and central banks to maintain our trust in fiat money is not to debase its value. In other words, cryptocurrencies are the new vigilantes to prevent rampant inflation. 20.   What are the structural implications for gold and other precious metals? As cryptocurrencies take a larger share of the anti-fiat market, gold’s massive anti-fiat premium versus silver and platinum will collapse. Hence, a compelling long-term position is to overweight silver and platinum versus gold (Chart I-8). Chart I-8Structurally Overweight Silver And Platinum Versus Gold Long-term equity investors should underweight gold miners, both versus other miners and versus the market.   Dhaval Joshi Chief Strategist dhaval@bcaresearch.com​​​​​​​

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Highlights The price of Bitcoin has surged this year as the digital currency has gained increasing acceptance. Just as was the case with gold, a global financial system built around Bitcoin would be precariously unstable. Bitcoin transactions are expensive to make and slow to execute, making the currency unsuitable as a medium of exchange. Bitcoin miners consume more energy than many countries. ESG funds are likely to shun companies that associate themselves with the currency. Governments, which stand to lose billions of dollars in seigniorage revenue, will put up more obstacles to Bitcoin. As a result, Bitcoin will lose most of its value over time. Bitcoin And Bullion: Back To The Future? Modern banks grew out of the activity of goldsmith guilds during the Middle Ages. Not only did goldsmiths craft beautiful items from precious metals, but because they had to maintain adequate security, they also tended to offer safekeeping services. Chart 1An Inelastic Money Supply Historically Led To More Banking Crises A wealthy merchant who deposited some gold coins with a goldsmith would receive a receipt validating his claim on the coins. Rather than rushing back to the goldsmith to withdraw some coins in order to make a purchase, it became common practice to offer the receipt instead. To facilitate commerce, goldsmiths began to offer receipts for specific values, marking the creation of the first proto-banknotes. On a typical day, only a small fraction of the gold held on deposit would be withdrawn. As long as goldsmiths always had enough gold on hand to meet demand, they could issue notes in excess of the amount of gold that they held in their vaults. Sometimes the goldsmiths would use those additional notes to purchase goods for themselves. Other times, they would lend out the notes, with interest charged to the borrower. The fractional reserve banking system was born. As the fledgling banking system evolved, it became more sophisticated. Nevertheless, it continued to suffer from a fundamental flaw: It was highly vulnerable to self-fulfilling crises. If people began to fear that a bank would run out of gold reserves, they would rush to the bank to be the first to withdraw their funds. Chart 1 shows that bank runs were very common during the 19th century. What Is Bitcoin Good For? Not Much When Bitcoin enthusiasts talk about a world in which global finance is centred on cryptocurrencies, they see the future. Personally, I see the past. John Maynard Keynes famously called the gold standard a barbarous relic. He had a point. A world based on the “Bitcoin standard” would be just as chaotic as the one that was built on the gold standard. Bitcoin’s defenders would argue that the digital currency has advantages that gold, and more importantly, fiat money do not have. But what exactly are those advantages? It certainly is not ease of use. Whereas the Visa network processes nearly 25,000 transactions per second, the Bitcoin mempool, the pool of unconfirmed transactions, has trouble handling five (Chart 2). Bitcoin transactions take 10 minutes to an hour to complete compared to just a few seconds for most debit or credit cards. The average fee for a Bitcoin transaction is around $30 – a number that has been rising over the past year (Chart 3). Chart 2Bitcoin: The Speed Of Transactions, Or Lack Of It Chart 3Bitcoin: The Cost Per Transaction Is Rising Crypto-optimists insist that these impediments will recede over time. However, this is far from certain. Efforts to expedite Bitcoin transactions have run into “fundamental issues.” Markus Brunnermeier and Joseph Abadi have argued that no cryptocurrency can fully satisfy the three desirable properties of decentralization, correctness, and cost-efficiency. Unlike centralized institutions such as banks, blockchain technology works by generating a sort-of consensus among its participants about what constitutes a legitimate transaction. By its nature, the process tends to be very resource-intensive. Bitcoin’s Big Environmental Footprint Chart 4Bitcoin Is Not Your Eco-Currency (I) This raises another problem with Bitcoin: Its environmental impact. A single Bitcoin transaction consumes more than four times as much energy as 100,000 Visa transactions (Chart 4). Bitcoin’s annual electricity consumption now exceeds that of Pakistan and its 217 million inhabitants (Chart 5). The Bitcoin algorithm requires that “miners” solve computationally intensive problems to earn new coins. It should be stressed that the solutions to these problems have no social value. Miners are not solving protein-folding algorithms that are useful for the discovery of new drugs. They are basically wasting CPU cycles by competing with one another to guess extremely large numbers in the hopes of acquiring a shrinking volume of new coins (the total number of Bitcoins that can ever be produced is limited to 21 million). Chart 5Bitcoin Is Not Your Eco-Currency (II) To make matters worse, more than two-thirds of Bitcoin mining takes place in China, where electricity is primarily generated using coal. Companies that claim to be environmentally conscious have no business trafficking in Bitcoin. What Explains The Bitcoin Bubble? Given the seemingly intractable existential problems that Bitcoin faces, why has its price gone through the roof? To some extent, the euphoria over Bitcoin is part of a broader speculative mania that has swept over everything from shares of electric vehicle companies to dubious SPACs and highly shorted “meme stocks.” No commentary about Bitcoin on the internet is complete with an obligatory prediction that it is “going to da moon.” Chart 6Lower Spending And Higher Income Led To Mounting Excess Savings Occasionally funny late-night talk show host John Oliver has joked that Bitcoin is “everything you don’t understand about money combined with everything you don’t understand about computers.” When people don’t have a good basis for determining what something is worth, they can let their imaginations run wild, causing prices to become unhinged from reality. Bitcoin and other cryptocurrencies are especially susceptible to feedback loops because they rely on network effects: The more people that use Bitcoin, the more appealing it is for others to use it. PayPal’s decision to let its customers trade Bitcoin on its platform, as well as Tesla’s announcement that it will accept it as payment, have stoked hopes that the digital currency is about to go mainstream. A surfeit of savings has also helped propel Bitcoin. US households accumulated $1.5 trillion in excess savings in 2020, two-thirds of which came from spending less than they normally would (Chart 6). The counterpart to the savings glut is a dearth of high-yielding assets. Bitcoin does not generate any cash flow, but with real rates still in negative territory, the prospect of capital appreciation has been more than enough to compensate investors for that deficiency. Bitcoin: Risks Tilted To The Downside Of course, if the price of Bitcoin were to start trending lower, speculators could flee the currency en masse. And therein lies the problem: If people decide that Bitcoin is not worth much, then it will not be worth much. Chart 7The Uses Of Gold: A Breakdown One could argue that the same risk plagues gold. There is some truth to this argument, but it should be noted that gold does have alternative uses, most notably jewelry. According to the World Gold Council, jewelry comprised 46% of the above-ground stock of gold at the end of 2020. Private investors held 22% of the gold stock, while central banks held 17% (Chart 7). Bitcoin has absolutely no alternative use to fall back on. Whereas central banks have been willing to hold gold as part of their external reserves, the same courtesy is unlikely to be extended to Bitcoin. The existence of fiat currencies gives central banks the power to set interest rates and provide liquidity backstops to the financial sector. Bitcoin would deprive them of that power. Governments derive significant benefits from the ability of their central banks to create money out of thin air and use it to purchase goods and services. In the US, this “seigniorage revenue” amounts to over $100 billion per year. Bitcoin threatens this stream of revenue. Speaking to The New York Times DealBook conference on Monday, Treasury Secretary Janet Yellen panned Bitcoin: “To the extent it is used I fear it’s often for illicit finance” she said, adding “It’s an extremely inefficient way of conducting transactions, and the amount of energy that’s consumed in processing those transactions is staggering.” Many companies have cozied up to Bitcoin in order to associate themselves with the digital currency’s technological mystique. As ESG funds start to flee Bitcoin, its price will begin a downward spiral. Stay away.   Peter Berezin Chief Global Strategist pberezin@bcaresearch.com    

Highlights The (earnings) yield premium on tech stocks versus the 10-year bond yield is at its 2.5 percent lower threshold that has signalled four previous market fragilities. Additionally, the 65-day fractal structure of stocks versus bonds has collapsed, signalling a high probability of an exhaustion or correction over the next 65 days. Likewise, the 130-day fractal structure of bitcoin has also collapsed, signalling a high probability of an exhaustion or correction over the next 130 days. Bond yields are unlikely to go much higher; they are likely to go lower. Prefer utilities within the value segment, and prefer healthcare within the growth segment. Offices and bricks-and-mortar retail will never fully reopen. This will devastate the jobs market once the protection from government-funded furlough schemes winds down in 2021. Feature The pandemic will ease in 2021, and with it many of the restrictions on our lives. Yet when it comes to the economy and investment, the great reopening narrative for 2021 is misleading because the world economy has already largely reopened. We quickly learned that, with some adaptations, like working from home, and doing our shopping online, almost all economic activity can resume during a raging global pandemic. As a result, global profits have already rebounded very strongly (Chart of the Week). Chart of the WeekGlobal Profits Have Already Rebounded Very Strongly Manufacturing is fully open. Construction is fully open. Industrial production is fully open. Finance and most services are fully open. Looking at the world’s two largest economies, China is already beyond its pre-pandemic levels of output (Chart I-2), while the US is a mere 0.9 percent below (based on the Atlanta Fed Nowcast of 2.6 percent growth in the fourth quarter)1 (Chart I-3). Chart I-2The Chinese Economy Has Already Rebounded Chart I-3The US Economy Has Already ##br##Rebounded   Offices And Bricks-And-Mortar Retail Will Never Fully Reopen In the great reopening narrative, the end of the pandemic will allow the full reopening of offices, shops, restaurants, bars, travel and leisure. But will former office workers flock back to their offices full-time, or even majority-time? Will consumers flock back to bricks-and-mortar retailers? Will firms flock back to the same extent of business travel? Our high conviction answers are no, no, and no. The reason we will not go back to the pre-pandemic way of doing things is because we have found a better way of doing things. Obviously, we will relish our re-found ability to go on holiday and to meet our fellow humans in the flesh. But do we really need to meet our co-workers every day, or even most days? Do we really need to do our shopping in person every time, or even most times? Do we really need to visit the overseas office every quarter? In 2021 and beyond, we will continue to work, shop, and interact more remotely, not because a pandemic forces us to, but because it improves the quality of our personal and working lives. It improves our standard of living. In 2021 and beyond, we will continue to work, shop, and interact more remotely. Unfortunately, there will be collateral damage. As working from home becomes mainstream, the ecosystem of city centre bars, restaurants, and shops that rely on office workers will wither. This ecosystem’s large footprint can be illustrated by a remarkable fact: the pre-pandemic populations of both Manhattan and central London were 2 million people greater during the weekday daytime than during the night-time. Likewise, as online shopping becomes the default, bricks-and-mortar retailing will go into terminal decline. This is significant because retail employs 10 percent of all workers in the US and the UK, the majority in bricks-and-mortar retail outlets. In the same way, more online meetings and fewer business trips means less employment in the travel and accommodation sectors.  The common thread connecting retail and accommodation and food services is that they produce relatively little output, but account for a lot of jobs – in fact, just 8 percent of output but 20 percent of all jobs (Table I-1). Table I-1Retail Plus Accommodation And Food Services Account For 8 Percent Of Output But 20 Percent Of Jobs Hence, as these sectors wither, the good news is that the impact on economic output will be modest. The bad news is that the ultimate impact on the jobs market will be devastating. Crucially, this ultimate impact on the jobs market will only be felt once the protection from government-funded furlough schemes winds down in 2021. In time, a dynamic economy will redeploy the army of shop assistants, city centre bar and restaurant staff, and cabin crew into fast growing sectors such as healthcare and education. But a process that requires retraining and reskilling will take years not months. During this long adjustment, there is likely to be huge slack in developed economy labour markets. Given that central banks are now explicitly targeting labour market slack, these central banks will be forced to keep nominal bond yields at ultra-low levels for a very long time. The Near-Term Constraint On Bond Yields In the near term, there is an even greater force holding bond yields in check, and that force is something that central banks also explicitly target – financial stability. Higher bond yields would imperil financial stability. The global stock market is at an all-time high because valuations stand 25 percent higher than a year ago (Chart I-4). Valuations have surged because bond yields have collapsed (Chart I-5), but even relative to these ultra-low bond yields, technology sector valuations are now stretched. Chart I-4The Global Stock Market Is At An All-Time High Because Valuations Are 25 Percent Higher Chart I-5Valuations Are 25 Percent Higher Because Bond Yields Have Collapsed The (earnings) yield premium on tech stocks versus the 10-year bond yield is at its 2.5 percent lower threshold that has signalled four previous market fragilities. These previous market fragilities resulted in an exhaustion, or worse, a correction in the stock market in February 2018, October 2018, April 2019, and January 2020. Just as important, these points of fragility signalled that bond yields were approaching a major or minor peak (Chart I-6). Chart I-6Tech Stock Valuations Are Fragile Hence, in the early part of 2021 at least, steer towards investments that will benefit from a backing down of bond yields. This means avoiding value stocks as an aggregate, because value cannot outperform growth unless bond yields are rising (Chart I-7). However, it also means avoiding growth stocks in aggregate as the fragility lies in tech stock valuations. Chart I-7Value Cannot Outperform Growth Unless Bond Yields Are Rising A good strategy is to prefer utilities within the value segment, given that utilities benefit from lower bond yields (Chart I-8). And prefer healthcare within the growth segment, given the sector’s more reasonable valuation. Chart I-8Banks Cannot Outperform Utilities Unless Bond Yields Are Rising Stocks Are Vulnerable… And So Is Bitcoin Manias occur in markets when marginal buyers keep flooding in at a higher and higher price. (Likewise, panics occur when marginal sellers keep flooding in at a lower and lower price.) The supply of marginal buyers fuelling the strong uptrend tends to come from longer-term investors who are uncharacteristically behaving like short-term momentum traders for fear of missing out on the rally. For example, an investor with a 130-day investment horizon shouldn’t buy because of a one-day price increase. If he does, then his investment horizon has shrunk to 1-day. In this example, the strong uptrend will run out of fuel when the 130-day investors who are fuelling it are all in. This is defined by the 130-day fractal structure of the investment collapsing, meaning that its 130-day fractal dimension has reached its lower bound. If someone now puts on a sell order, there are no more 130-day horizon investors available to be the marginal buyer at the current price. Having sucked in all the 130-day investors, an investor with an even longer horizon, say 260 days, must step in as the marginal buyer. The likely outcome is a price correction because the longer-term investor is likely to buy only when a lower price satisfies his value compass. The other possibility is that the 260-day investor joins the uptrend, becoming a marginal buyer at the current price, adding more fuel to the mania. This is the less likely outcome because the longer that an investor’s horizon is, the more faithful he is likely to be to his valuation compass. Nevertheless, sometimes the valuation compass goes awry because of structural shifts or massive intervention by policymakers, allowing the trend to continue. The above describes the basis of our proprietary fractal trading system. In a nutshell, when the fractal structure of an investment collapses, the probability of a trend reversal increases sharply, and the probability of a trend continuation decreases sharply. Right now, the 65-day fractal structure of stocks versus bonds has collapsed, signalling a high probability of an exhaustion or correction over the next 65 days (see final section). Likewise, the 130-day fractal structure of bitcoin has also collapsed, signalling a high probability of an exhaustion or correction over the next 130 days (Chart I-9). Chart I-9The 130-Day Fractal Structure Of Bitcoin Has Collapsed To be clear, these rallies can continue uninterrupted if longer-term investors join the bandwagon. But this would require them to discard their valuation compasses. Hence, on balance, we think that this is the lower probability outcome. Also, to be clear, the long-term direction of both stocks versus bonds and bitcoin is up. The vulnerability we refer to is of a tactical pullback within a structural uptrend. An Excellent Year For The Fractal Trading System Among our most recent trades, overweight Portugal versus Italy achieved its 7 percent profit target, and underweight Australian construction materials (James Hardie, Lendlease, and Boral) achieved its 6 percent profit target. This takes the 2020 win ratio to a very pleasing 63 percent, comprising 18.4 winning trades versus 11 losing trades. Using a position size that delivers 2 percent for a win (and -2 percent for a loss), this equates to a 2020 return of 15 percent with a worst drawdown of -6 percent. By comparison, the MSCI All Country World index delivered a similar return of 17 percent but with a much more severe worst drawdown of -34 percent. 63 percent is a great win ratio. 63 percent is a great win ratio, but our aim is to reach 70 percent. To this end we are preparing several enhancements to the system which we will unveil in the coming weeks. Stay tuned. Fractal Trading System* As already discussed, we are targeting a tactical pullback in the MSCI All Country World Index versus the 30-year T-bond. The profit-target and symmetrical stop-loss are set at 5.8 percent. Chart I-10 The rolling 12-month win ratio now stands at 63 percent. When the fractal dimension approaches the lower limit after an investment has been in an established trend it is a potential trigger for a liquidity-triggered trend reversal. Therefore, open a countertrend position. The profit target is a one-third reversal of the preceding 13-week move. Apply a symmetrical stop-loss. Close the position at the profit target or stop-loss. Otherwise close the position after 13 weeks. * For more details please see the European Investment Strategy Special Report “Fractals, Liquidity & A Trading Model,” dated   December 11, 2014, available at eis.bcaresearch.com.   Dhaval Joshi Chief European Investment Strategist dhaval@bcaresearch.com Footnotes 1 The GDP rebound creates a dissonance. If GDP is indicating a largely recovered economy, but our lives feel far from normal, is GDP really a good measure or objective for our wellbeing? We will leave a deeper discussion of this to a later date. Fractal Trading System   Cyclical Recommendations Structural Recommendations Closed Fractal Trades Trades Closed Trades Asset Performance Currency & Bond Equity Sector Country Equity Indicators Bond Yields Chart II-1Indicators To Watch - Bond Yields Chart II-2Indicators To Watch - Bond Yields Chart II-3Indicators To Watch - Bond Yields Chart II-4Indicators To Watch - Bond Yields   Interest Rate Chart II-5Indicators To Watch - Interest Rate Expectations Chart II-6Indicators To Watch - Interest Rate Expectations Chart II-7Indicators To Watch - Interest Rate Expectations Chart II-8Indicators To Watch - Interest Rate Expectations  

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Highlights Bitcoin and other virtual currencies have sold off sharply in recent days. However, as the turn of the millennium dotcom boom and bust illustrates, wild swings in asset prices can sometimes mask important structural changes that new technologies have unleashed on the global economy. If the proliferation of virtual currencies continues, it will have real macroeconomic effects. Globally, the volume of currency in circulation - the largest component of base money - has grown by 5.5% year-over-year. However, the growth rate would be 7% if virtual currencies were included in the tally. The indirect increase in global liquidity coming from virtual currencies should provide a modest boost to spending. This is somewhat bearish for bonds but bullish for equities. The implications for gold and the dollar are mixed. Governments derive significant "seigniorage revenue" from their ability to issue fiat currency. This is likely to impede the widespread adoption of virtual currencies, ultimately capping their prices. Feature Bitcoin And Beyond The price of bitcoin has been extremely volatile lately, falling by more than 10% last week after the Chinese government announced a ban on so-called Initial Coin Offerings. The downdraft continued into this week, spurred on by JPMorgan CEO Jamie Dimon's description of bitcoin as a "fraud." The recent selloff followed a dizzying ascent which saw the price of the upstart currency surpass $5000 earlier this month (Chart 1). Despite the pullback, one thousand dollars of bitcoin purchased in July 2010 would still be worth $58 million today. Such mind-boggling returns have caught the public's attention. There were more Google searches for "bitcoin" in August and September than for "Donald Trump" (Chart 2). Public appetite is so high that the Bitcoin Investment Trust, though officially an open-ended vehicle, has traded as high as twice its net asset value in recent months. Chart 1Bitcoin Prices: It's Been A Wild Ride So Far Chart 2President Trump: Bitcoin Is More Popular Than You! Other virtual currencies have also seen staggering returns. Ethereum is still up more than 3000% year-to-date, giving it a market cap of $23 billion. Dogecoin, a currency that was started "as a joke" according to its founders, commands a market cap of $114 million. Wider Effects? The run-up in bitcoin prices bears a close resemblance to classic bubbles (Chart 3). Yet, as the turn of the millennium dotcom boom and bust illustrates, wild swings in asset prices can sometimes mask important structural changes that new technologies have unleashed on the global economy. This raises the question of whether the explosion in virtual currencies is relevant for the broader investment community, including those investors who would never consider buying bitcoin. We would answer yes, albeit in a limited form thus far. The market capitalization of all virtual currencies currently stands at $120 billion (Chart 4). Globally, there is about $6 trillion in currency outstanding, so the value of virtual currencies is now 2% that of traditional cash and currency. That's not huge, but it's no longer trivial either. Chart 3Bitcoin Bubble? Chart 4Virtual Currencies: Market Cap Is Now Non-Trivial The importance of virtual currencies increases if we look at rates of change. The global stock of currency in circulation has risen by 5.5% over the past 12 months. However, if we add virtual currencies to the mix, the rate of growth jumps to 7%. The contribution of virtual currencies to the rate of growth of the broad money supply - which includes such items as bank deposits - is still fairly small. However, economists focus on currency in circulation for a reason: It is the largest component of base money (also known as "high-powered" money). The stock of base money helps determine the total money supply through the magic of the money multiplier and fractional reserve banking. The Monetary Hot Potato For the time being, the macro impact of virtual currencies has been constrained by the fact that most people are buying them as a store of value, rather than as a medium of exchange. It is no coincidence that up until recently, a disproportionately large amount of demand for virtual currencies has come out of China, an economy that suffers from a plethora of savings and a dearth of safe investable assets (Chart 5). In addition to squirrelling away their wealth in overpriced condos, the Chinese are now snapping up bitcoins. Chart 5Bitcoin Trading Volume By Top Three Currencies Over time, the public may begin to regard virtual currencies as legitimate substitutes for dollars, euros, yen, and yuan. This could lead people to want to hold fewer of these traditional currencies, causing them in turn to either spend their excess cash holdings or deposit them in commercial banks. The first outcome would obviously be inflationary, but so would the second if rising deposit inflows caused banks to increase lending. What would happen if people began transacting more in virtual currencies? At that point, the Fed and other central banks would need to decide whether to take some traditional paper money out of circulation in order to make room for the growing share of private virtual currencies. The merits of doing so would depend on the state of the business cycle.1 When inflation is low, as it is today in most of the world, central banks would gladly welcome anything that boosts spending and liquidity. Indeed, in some ways, the issuance of private currencies could have similar effects to helicopter drops of money. However, if inflation were to accelerate too rapidly, central banks would have to begin withdrawing their own currencies from circulation, or push for the withdrawal of private currencies. Governments Want Their Cut Chart 6U.S. Seigniorage Revenue The former outcome would not please the fiscal authorities. When the U.S. Treasury issues a $100 bill, it gains the ability to buy $100 of goods and services with it. The government's cost is whatever it pays to print the bill, which is close to zero. This so-called "seigniorage revenue" is quite large, averaging close to $70 billion per year for the U.S. government alone over the past decade (Chart 6). Why would the U.S. or any other country that issues its own currency want to part with this revenue? The answer is that it wouldn't. Instead, governments are likely to introduce their own competitors to bitcoin. The blockchain technology on which bitcoin is built is ingenious but completely within the public domain. Central banks are already thinking about how to issue their own virtual currencies. The creation of such parallel electronic currencies would allow people to send funds to one another and purchase goods and services without the need for an intermediary, a potentially negative development for banks and other financial institutions. These government-sponsored virtual currencies are unlikely to offer the full anonymity of bitcoin, but for most people, that may not be such a bad thing. As our Technology Sector Strategy service has emphasized, private virtual currencies suffer from numerous deficiencies which expose their users to fraud.2 When thieves stole 6% of all outstanding bitcoins from the Mt. Gox exchange in 2014, the victims had nothing to fall back on. A government-sponsored virtual currency could at least offer some protection to its holders, thereby making it more valuable to use. It would also allow central banks to fulfill their responsibilities as lenders of last resort. The Free Banking Era in the U.S., which at one point saw 8000 different currencies in circulation, experienced multiple banking crises. A world with myriad private currencies all competing with one another would be similarly unstable. Bitcoin: A Solution In Search Of A Problem? Chart 7The Boom In Cryptocurrencies This gets to a more fundamental issue, which is that bitcoin often comes across as a solution in need of a problem. People can already transfer money fairly easily when it is legal to do so. If the main practical advantage of bitcoin is to overcome capital controls and empower tax cheats, junkies, and hackers, it is hard to see how this does not beget a government crackdown. Ironically, the "mining" of additional bitcoins requires significant investment in specialized computers and dollops of electricity. Virtual currencies may exist in bits and bytes, but real resources must be expended to create them. In contrast, governments can create money with simply the stroke of a pen. Granted, if governments used this power to devalue the value of money - as they have periodically done from time to time - the virtues of bitcoin as a store of value would become more evident. The algorithms that power bitcoin limit the total number of coins that can ever be created to 21 million. Bitcoin is not the only game in town, however. Dozens of competitors have sprung up (Chart 7). While each may cap the number of coins in circulation, collectively they represent a potentially significant (and possibly unlimited) addition to the monetary base. Thus, it is not clear how well virtual currencies would perform as inflation hedges compared to more traditional instruments such as gold and land, let alone modern hedges such as inflation-linked securities. Investment Conclusions The role that money plays in modern economies is one of those things that people tend to tie themselves into pretzels thinking about. It's actually not that complicated. For the most part, inflation occurs when the demand for goods and services outstrips the supply of goods and services. Outside of extreme situations, the choice of monetary regime does not affect the supply-side of the economy (that's determined by productivity and the size of the labor force, neither of which central banks have much control over). Thus, it really is just a question of how the monetary regime affects aggregate demand. As noted above, there are reasons to think that the proliferation of virtual currencies will boost the demand for goods and services, either through the wealth effect channel (people who acquired bitcoin in its early days feel richer today), or via the currency substitution channel (if people start transacting in bitcoin, they may try to dispose of their excess dollars, euros, yen, and yuan either by spending them or depositing them in banks, leading to higher loan growth). Neither of these effects is terribly significant right now, but both have the potential to increase in importance over time. At some point, governments will take steps to rein in virtual currencies. However, until then, their existence is likely to spur inflation in the fiat currencies in which most prices are measured. That's bad for high-quality government bonds, but potentially good for stocks. The implications for gold are mixed. On the one hand, if the growth of virtual currencies translates into an increase in the global money supply and rising inflation, that is good for bullion. On the other hand, if people see bitcoin as a competitor to gold as a store of value, they may wish to hold less of the yellow metal. The dollar could lose out from the proliferation of virtual currencies if central banks allocate some of their USD reserves into these new currencies. However, it is doubtful this will happen to any significant degree since most central banks are likely to see virtual currencies as unwanted competitors to their own monies. In the meantime, stronger global demand growth could put disproportionately more upward pressure on U.S. inflation, given that the U.S. is closer to full employment than most economies. This could cause the Fed to raise rates more aggressively than it otherwise would, leading to a firmer dollar. Peter Berezin, Chief Global Strategist Global Investment Strategy peterb@bcaresearch.com 1 To appreciate this point, ponder the question of who suffers when someone goes shopping with counterfeit currency. If the economy is operating at full potential, the answer is that everyone else suffers because they have to pay higher prices for the things that they buy. However, if there are plenty of idle workers, the additional spending is unlikely to raise prices. Rather, it will translate into higher output and income. 2 Please see Technology Sector Strategy, "Blockchain and Cryptocurrencies," dated May 5, 2017. Strategy & Market Trends Tactical Trades Strategic Recommendations Closed Trades