Odd Lots - Hugh Hendry on the "Terrifying" Yen Move, and Risk of "Mad Max" Deflation

Episode Date: May 9, 2024

Hugh Hendry says the world is brimming with risks right now, from Chinese deflation, to the strength of the US dollar, to unrealized losses in US Treasuries held by the bank. In the new episode of the podcast, we speak with the former manager of the Eclectica hedge fund, who now writes and operates under the Acid Capitalist branding. Hendry, who now resides in St. Bart's, says that the most important story in the world, and for as long as he's been in markets, has been the rise of China, which he sees as inflating asset values all around the world. Specifically, he sees a broken model, in which the country's GDP grows rapidly, but domestic investments and household income don't keep up. He warns of a risk of a yuan devaluation, as the country seeks to maintain its export drive which, he warns would create "Mad Max" deflation. He also talks about the "terrifying" drop in the Japanese yen, and the unusual situation by which the US is one of the world's growth leaders. See omnystudio.com/listener for privacy information.

Bloomberg Audio Studios. Podcasts Radio News. Hello and welcome to another episode of the Oddlot podcast. I'm Joe Wisenthall. And I'm Tracy Allaway. Tracy, you know what's sort of giving me a little bit of anxiety these days? I feel like that's a dangerous question to ask your coworker, but go on. I mean, it does seem, right, it could be anything.

It's not personal. It does seem like across many industries, EV, etc. Like Chinese firms, either because they're doing very well organizationally, technologically, or whatever,

or cost competitively, are like really killing it in a lot of industries. And as an American who, you know, wants a thriving U.S. economy, watching, say, like on the same day,

like the day after Boeing is experiencing some new investigation, and then the next day, seeing some headline about, like, Comac is, like, expanding its factories. It's like, oh, like, what's going on here?

Yeah, I know what you mean. I feel like EVs are sort of a microcosm for, I guess, a lot of anxiety over the Chinese economy. So first of all, the idea that China is sort of going to leapfrog America in one way or another in terms of technology, renewable technology, as we've sort of seen in solar panels, but also the idea that to some extent China has a lot of policy levers to pull in a way that the U.S. sometimes struggles with. So President Xi Jinping can go out and say, we want China to be. make massive investments in things like EVs or in things like semiconductors.

And to some extent, the entire economy sort of turns that way and starts doing it. And just to be clear, like, I think it's good that more countries around the world are getting richer and more competitive and able to, like, so I don't see the world as some sort of zero-sum type thing. But if the U.S. is embarking on this sort of renewed industrialization push, if we think it's valuable. If we think it's important that certain types of batteries and cars, etc., are manufactured here, which we seem to have prioritized, also chips, then the question is like, well, will any of this be competitive, globally cost competitive, effective, similar technology to what competitors

overseas are doing? But also, just to ease your anxiety a little bit, because that's what I'm here for, there are a lot of question marks around the direction of the Chinese economy at the moment. There's speculation over a UN devaluation. Interest rates are already pretty low. They're struggling to boost economic growth. So you have these sort of twin things happening at the same time. No, China unambiguously has its host of issues. That being said, you know, I do think that for as long as I've been paying attention

to markets, economic, stuff like that, one of the overriding questions is like, well, when is the crash? When is the financial crisis? And it hasn't really happened. Like there's been some issues now. and obviously they sort of on purpose to some extent pricked the real estate bubble, but by and large, some sort of like big Chinese disaster, the likes of which many people have been expecting for a long time have not materialized. I think this goes back to the command economy policy lever idea. And if you have

those types of levers, you can kind of pull them and buy yourself time. And that's what we've seen over and over again. You do have these disasters that happen in the Chinese economy, like the three red lines proposition for real estate that led to a housing craft. But on the other hand, you have sort of measures that can offset some of that and, I guess, extend and pretend for a while. Totally. Well, I am really excited about our guest. We've had him on the show once and before, although now he's in studio with us, which is always a lot more fun. Someone who has been covering this story for years, I first discovered him probably in 2008 or 2009, watching his YouTube videos where he was in China,

looking at these gigantic, I think the term at the time was called ghost cities where there are tons of skyscrapers. and apartments. And at the time, no one was ever living in them. And it sort of raised all these questions about misallocation, all these questions. Anyway, we are speaking to the acid capitalist himself, former hedge fund manager, now all around cool guy who lives in St. Barts, but he graced us with his presence here in New York City. Hugh Hendry, thank you so much for coming back on Odlots. It is an absolute pleasure. And for the folks at home, if you want to see the future, you've got to get high. Why is that?

Let's just leave it there. No, no, let's not leave it there. Why do you need to get high to see the future? Well, what does high mean? So what that means is so I'm on a mission to try and give the indication that the science of finance should be left alone. And we should actually embrace the art of the future. That is a creative flow. And you're not going to get there just by clocking up hours, wearing a suit and staring

at a spreadsheet. You've got to get a little bit kind of creative with it. And so I'm kind of trying to put out my career. I've got my book coming out later this summer. And it's a different path. There are many paths, yeah. We only get presented the path with the guy, you know, they're always guys, whereas they're always guys, you know, and they got the ties. And they don't see the future, but they get a lot of airtime. For listeners who can't see Hugh right now, I can confirm that he is not, in fact, wearing a tie. But Hugh, here's something I want to ask. I feel like you might have the answer to this.

Have you ever stared at an Excel spreadsheet while on acid? What happens? You certainly don't stare at spreadsheet. I've stared at walls. I mean, it's Saturday night there was a wall that really came alive. So I'll get about you on that. I'm going to try that. You should try it.

See if like new patterns emerge. Or like when you, do you realize something the next time you go, back and look at that spreadsheet, you see something there that wasn't there before? I just don't look at the spreadsheet. Have someone else look. Someone has to look at the spreadsheet. Actually, what I did was, I mean, the wonderful Bloomberg and the graphics package. There is a function for giving me. I can't remember the name now, but I would load like the S&P 500 and I'd have my designated kind of

the images in terms of the moving averages and what have you. And I'd assign maybe 10 seconds to each torque because it was like 500. and I'd watch and I'd see patterns. And for me, I was becoming like a paranoid schizophrenic because the charles would create voices in my head. And with those voices and the pattern recognition, and they were spread and concentrated on particular industries. Did you ever see the movie Pie?

Yeah. That's one of my... Have you seen that, Tracy? I haven't. I've always wanted to do an episode on that, which is basically like, an old like Darreninovsky movie or this guy, like, is convinced... He kind of has like a psychic breakdown,

but he's sort of convinced that he sees the entire... higher pattern of the stock market and can predict it second to second through like numerology and Kabbalah and Jewish mysticism and all this stuff. It's a great movie. When I have mental breakdowns, I just eat ice cream and can't get out of bed in the morning, but other people unlock the secrets of financial markets. Much more productive. Well, I got paranoid because I was, I was risking other people's precious capital using these voices in my head. But the paranoia is a good thing. And that's when I had to call for the spreadsheet. So don't get me wrong. I listened to music and I was kind of separate from my team. But there was a fusion where I had like the CIA. I had an intelligence

operation. And I said, I'm crazy. Challenge me. Let's see if we can find a synthesis. And so I take a position. I take a small risk position. But when we got or if we could get confirmation, then we would build and we'd lean into it. So I don't mean just to be a circus freak. You know, there's more to. So speaking of challenging yourself, one of the things you're doing. doing right now on your substack is you are publishing all the old letters from your hedge fund eclectica. And I'm curious, what was, what's the goal of doing that? Is it sort of self-reflection? Is it seeing how your investment VCs have stacked up, you know, two decades or whatever it is later? Yeah, I mean, it is the diary of a long period of my life. And for, I guess, you know, I take

a different step, perhaps from the rest of the community. And I gave everything. I mean, it became like a mouse trap. Like people liked it because it was a little bit zany. And then the challenges each month, you've got to redesign the mouse trap. And so I was always late. I had to be the very last day before I could actually get the thing ridden. But there's a lot happened over that period.

We're talking about the period from October 2002 to October 2017. And, you know, at leisure, it comes out, you know, at my, on my substack. And you get to see it. it resonates and I'm playing with language. And you can then, it's nice. It's like a game where you can actually, I'm trying to predict the future. And you can actually determine with your coffee if I got it right what my hit ratio is. And it becomes kind of fun, I hope.

What have you learned about yourself? I mean, when you go back and read those 2002, some of the over 20 years now, are there things that you look back at your own thinking? You're like, oh, this was, these ideas weren't fully formed or things that you later changed your mind about or had new perspectives? Like, what have you learned rereading your old hedge fund letters? Heavens, yeah. What did I learn?

I mean, I tell you what I'm most proud about. It was a form of deduction, which I had right at the beginning. Because right at the beginning, this is before the Zuckenbergs and, you know, the Amazon's where you have a platform, it goes global and like you're the richest person on the earth, like Elon, etc. And back then, the highest return on intellectual capital was to be a hedge fund manager, you know, like two and 20, if not more. And so by logical deduction, you've got to think you're up against the smartest minds on the planet.

And of course, when you meet some of these guys and girls are like, oh, maybe not, but, you know, but it kind of stands up, yeah. And I kind of concluded that it actually didn't make any sense to try and outsmart the smartest people. you're going to fail okay and so I reverse engineered and I said why is it in this musical chair game that we call the markets why is it that

it's not enough to be super super smart because let's face it everyone out there and listening to this everyone's got like a really high threshold level of intelligence and so that's why we come back into my acid capitalist brand it sounds like cute and stuff it actually had to function

you know and when people would throw up their arms so if we were to fast forward into horror story of late 2008, and Lehman goes bankrupt, etc. And we've all seen the movie, you know, the big short. I mean, I knew all those guys. I was the London operation of that. But, you know, when the suit guys are throwing their hands up and they're saying, who would have guessed that?

Well, little old me. You know, I made 50% in the month of October. So one thing we wanted to talk to you about is obviously China. And I feel like going back and reading over some of your old notes, directionally, you got the China call right, but timing has sort of been an issue here. And maybe it goes back to those policy levers that we were talking about in the intro. But walk us through the China thesis in sort of the early mid-2000s and how it panned up. Yeah, I mean, I am the pig on the Chinese calendar. And China has been the formative energy and force for my career and the career of all. speculators in really over the last 40 years. The rise and rise of China has actually, I think, being responsible for what is now the preposterous rise and rise in asset prices. I'm trying to explain that. But back at the beginning, when I was listening to the,

I was seeing the sheet music on my Bloomberg terminal, I was seeing the chart formations, what was I seeing? I was seeing the most ugly old industrial businesses that no one had wanted to own, for 20 years. Everyone was in services and drug stocks, etc. I was seeing the worst businesses and they were coming alive. I traipsy through. What's example of that when you say one of the worst businesses in there coming? Oh, they would be like smelters. Oh, you know, like, I mean, just insanely ugly businesses, yeah, they had not earned an appropriate return on capital for the longest time. And they were coming alive. And so I used a lot of, like, you know, like people on Twitter and stuff in Bloomberg, they throw around charts and they look at a three-month chart. I mean, what is a three-month chart?

I'm greedy. Show me everything. So I'm looking at 40 years and I'm seeing things which stop falling. And one of the other key determinants that I was using was things go right, stocks and risk positions, they go right relative to their peer group before they actually go right in absolute terms. And so you've got to lean in there. And so I was beginning to see this immense relative performance. I mean, let me give you an example with regard. So, like, another, like, really dumb thing, which is gold.

I know that inflames people, but, you know, gold had had, what, 25 horrid years. It peaked at $810 bucks in 1980. And it was like $270 bucks by the time the British Treasury got through, selling it at the very, very bottom in 2002. Who were they selling it to? I was buying it. My first, I got 15 years of this blessed thing we call speculation because my first calendar year I made 50%. I'm not glory.

What I'm meaning by that is the failure rate in hedge funds, it's like a restaurant. Most restaurants fail. And the return to the survivors really high. And I got, happens, it was times why I didn't think I was going to make it. But I was absurdly long gold. And again, if you're like a wannabe new hedge fund manager, like I got to tell you, it's like, you ain't going to make it in your first year if you're not making money and you ain't

going to make it if you're like making 6 or 7% and trying to tell people your sharp ratio is really good. You're going to make it if you find, and you concentrate and you take leverage in a rising asset class and it's volatile and you chase the dragon. And that was gold back

then. And I'd got gold because gold did nothing, okay? But we'd had the NASDAQ crash. Stock markets had collapsed. Gold had done nothing. And so when you look at the relative performance of the two. Gold was saying, baby, I'm coming back. And that, so that, and that was, why, why was all this happening? It was happening because back then China was the size today of the Turkish economy. Today is the size of the European economy. And the markets and my

prices were, were telling me that this long journey was beginning to pick up base and their desire, you know, like they, they lay down more concrete. They, they, they used. use more steel, et cetera, in like 10 years than the U.S. economy did in the 20th century. You know, it was big. And that's what I was seeing. And I was long in. I understand like, okay, you can point to specific commodities, like obviously copper. And some of these old industrial, you mentioned the smelters coming alive with the industrialization and rise of the Chinese economy. Zoom out a little bit further. Because what you said is that China has been the biggest story in asset markets period and that the incredible rise in

valuations and boom and asset prices, it all, in your view, sort of comebacks to China. How does that work? Because it's a cheat charter. I'm sorry to say it. So, you know, there's this thing, the tripping dilemma. Yeah. You know, they don't have an independent management policy. They've kind of caught onto the coattails of the mighty US dollar, right?

They have a dirty float. They have a closed capital account. Now, so economics, which is a dire, die, dire subject. But economics at its heart is really the investigation. in the study of how something in chaos kind of tries to return and find equilibrium and clear, yeah? And it can be the opposite. It's an equilibrium and it's going to pull apart.

You know, and that's like what people like me were kind of watching that. And the rise, the magnitude, they've done amazing things. Yeah, they've industrialized, yeah. And the reward in economics is you get richer for doing so, the benefits. And they've not done that. they've not now and it's it's kind of like the frog in like boiling the frog you like we've warmed up the chinese citizens we brought them into these conurbations we've given them amazing factories the rise in productivity from taking someone off a field and putting them in a semiconductor fab is insane yeah and so they're getting paid like 10x what their grandparents got paid and they're like hey you know this feels good the thing is they should be getting paid more and and really where it should be represented is in the exchange rate, the Rambi. Forgive me, I call it the red cabbage. Who wants to eat red cabbage? So back when we had the NAFTA agreement with Mexico and Canada, they devalued their

currency to 6.3. And where's the currency today versus the dollar? So you needed 6.3 red cabbage. And today you need like 7.3, which is to say you need more red cabbage. So they've got poorer. Now that doesn't make sense. Right. And then you were talking about your anxiety. I'm here. I've got a pill. I've got a chill pill for you. Okay. Because again, right, so we, what we're seeing in EV, right? We saw it initially, at the turn of this century, again, back to my letters and stuff, biggest company in the world for a moment was Nokia.

I mean, those kids, like, listening to saying Nokia was Nokia, right? Nokia used to make televisions, and then he pivoted into mobile phones, right? And then Apple, of course, came. But at the turn of the century, biggest company on Earth. And you had Erickson. And these guys control your jeez. your network, your 5G, etc. Chinese came in and said,

wow, that's kind of dope, we want that, okay? And now they own it, and that's why you had all that. Yeah. How'd you pronounce it? I thought you're going to give me a chill pill. It's coming. It's coming. Okay.

And if you look at Erickson and Nokia today, those prices fell 95% and just they've stayed in the graveyard, okay? Then the Chinese came in, they said the same thing with solar. And now they've come in, and they've said the same thing with EV. What are they doing?

They're saying, we don't need to make money. Like, we allocate capital in America in the free world with the sharp-jgged knife of, you got to make it if you want to stay in the game. China doesn't. That's one of the implicit subsidies. Now, so where do we see that? Where do we get? I mean, maybe that's just cured, okay?

But what China does is very good at creating GDP, but not wealth. So look at the stock market, right? The stock market's flat, flat for 25 years. and the currencies is weakening. And that's the problem. And so what happens with their savings model, all of it, all of it. And again, to maintain those advantages,

they have to push all of their capital into risk-free US treasuries. And unfortunately, only until the last two, three years, the US, we were fiscally conservative. We should have been running huge deficits. I was like, oh, no, you can't do that. We should have been running huge deficits. And the Chinese would have funded the rollout

of the best, like fast trains, the best education, the best healthcare, the best cities, you know, ships that don't crash into bridges and bring it all tumbling down. And instead, whenever we did something, we did a stupid tax cut. And right at the very end of this process, you know, the great inflation reduction act, which is, hey, listen, we're going to pay you money to bring great technology and make it in the United States. That's working. And so what's happening today, the fascination. and the drama of today is the fiscal policy is working

and the US has been transformed into the economic locomotive for the rest of the world. Now, this dollar standard, the mighty dollar, it was not conceived on the basis that the US would be the chief. It wasn't conceived that the US would be at five and a half percent. And the ramifications of that are coming through. The Japanese yen, incredibly, has lost 40%. This is exactly what I wanted to ask.

you about, which is just to add to Joe's anxiety, but should we be panicking about a currency crisis right now? Absolutely. So, again, heavens, we've got to go back to 1997-98, and we had the Asian sovereign tiger crisis. Countries like Thailand, they had too many debts denominated in dollars, and they had to default. I mean, their currency fell 40%. Like the yen, I mean, why no one's talking about the move in the yen is terrifying. And through this, period, the really, what I wanted, like, what you to concentrate on is, at the end, it was like an 18-month period. And at the end, Taiwan, right? Now, Taiwan had no dollar borrowings, really tightly, like Singapore, really well-managed economy. And right at the end, Taiwan devalued. And everyone's

like, what? What? What are you doing? And it's the esopian fable of the scorpion on the frog. Like, he get, the frog's like, I ain't taking. You're like, no, no, no, you're cool, you're cool. And they get halfway over. And the scorpion like, zap, somebody's like, whoa. What year are we talking about here? We're talking about 1998 in Taiwan, right? So the point is, why did Taiwan devalue?

It's in its nature. That's what they do. They weren't going to leave a legacy of their neighbors having devoured by 40%. So the big elephant in the room, and you touched upon it in your intro, is, what if the Chinese come around and go, boom and they devalue right that would be I would call that mad max deflation now one of the incentives for them to do it is

the quantitative easing in the United States I actually think it was sabotage for the Chinese because the very polite request was listen you got to reval your currency should be rising and why is that a good thing because 1.4 billion Chinese people will be richer vis-a-vis the rest of the world and they'll buy our things. I mean, the dreamliners may have some problems just now, but they'll buy more, you know, and we'll work it out. And the Chinese stubbornly refused to do that. And so if you can't

revalue the external price, I think actually quantitative easing coming out of the states and elsewhere, revalued the asset prices domestically in China. And so now, did they prick the bubble? They've got the biggest down bubble of all time, $60 trillion valuation. And what do you do with that? It's a lot easier if you devalue in dollars as opposed to the local currencies. So all the, all the people feel like there's still the frogs in the jacuzzi. Joe, I remember this from, do you remember Dick Beauvais? Oh, yeah. The banking analyst, but he used to write about QE as a currency war. Yeah, yeah. It's like an underappreciated currency war. And this would have been in like 2010, 2011. I still remember that. So let's take it to today. And I guess there is still this anxiety out there

of a Chinese devaluation, we have seen them basically purposefully prick their own real estate bubble, and there's been a lot less speculation. That seems like it's done. They're trying to, the bet is that they can sort of make up for that with a lot of exports in advanced technologies, vehicles being the one we talk a lot about these days, but that basically it can be an industrial exporting powerhouse. And of course, you know, people always talk, have talked about Chinese exports. But I think, you know, the real growth driver was domestic investment.

Now it feels like selling to the rest of the world. What happens here? Can it work? Can they make this pivot from a sort of inward investment, real estate, focused economy to one where exports really lift everyone up? No. No. And it's back to your anxiety, right?

The biggest industry in Europe is automobiles. Yeah. And I mean, listen to Elon's like the Chinese, where they are, they wipe you out. You're gone. Okay. Right. So like you think Europe's going to sit there and go, hey, we're open, we're friendly. Come and wipe us out, right?

That avenue is over. The proportion of exports to the Chinese economy, the proportion of exports to the global GDP, we're at levels where it's intolerable for the rest of the world to accept it. The bigger issue is, so here we are. I mean, I've been invested for like 35 years and I'm saying to you, China going from the size of Turkey to Europe and the avalanche of money and liquidity. is why every asset price in America is high. And I think we're now at the,

I call it the Obayashi Maru moment, if you remember from Star Trek, when it's a no-win scenario. There's just no win, because we've got 5.5% rates in the US. We've got a currency which is rising. And the rest of the world's like, I'm out of here, I'm checking out.

And so the floor that is coming more and more into the US. Now, the Fed's sitting there and it's listening to, it's like the Bank of England in 1927 when they were like overvalued on the gold standard like we're at four and like we're going to be overthrown by the communist unless we can bring interest rates down as we went to the Fed and he said

the only way we can bring rates down is if you cut, remember Benjamin Strong the cooped whiskey and he takes a cut and what happened? The US stock market like went to the moon. It bred instability. So the big drama this year is the Koreans, the Japanese

and I think the Chinese are saying you've actually got to subjugate the domestic strength of the US economy and you've got to bail us out. Now, that's a no win. If the Fed does that, like, by 10,000 call strikes on the S&B, it's not going to be there in two months. But that's where it's going to head really rapidly because that's what happened. I get back again to 1990, 1998, remember LTCM? So we had sovereign crisis. The US economy in the third quarter of 2019, 1998,

grew at 5.6%. What did the Fed do? They cut rates. People are like, you guys are clowns. Okay, I'm buying stocks. And stocks again went to the moon. We're at a point where if the Fed, so I think the Fed actually, Fed only ever cuts when something breaks.

And the rest of the ball is saying, we're kind of at that point, okay? So if something breaks, the Fed's cutting is going to subjugate the strength of the United States economy, like the interests of it, and asset prices will become intoxicatingly at levels. You've got to remember, trees grow tall, but they don't grow to the sky.

And we're getting close to the sky. Why doesn't China try to boost domestic consumption? If the rest of the world is closed off to it, why is it still so focused, it seems, on manufacturing, even though it's moving from, you know, manufacturing TVs or whatever to semiconductors? Yeah, I mean, you know, I, wish to remain polite, but it's not a democracy. You know, the civil liberties are, I mean, you know, I don't think that's a contentious thing.

You don't really have much in the way of civil liberties. Again, the quid pro quo is, look at your life, you're so much richer than your grandparents, and we just ask for a bit of tolerance. It's like, hmm. So you were saying, again, your anxiety about the Chinese and they're going to overtake us. They took the wrong bet, right? Because I was talking to someone like, but what about the Chinese? thousands upon thousands of PhDs.

I'm like, yeah, like, I'm sorry, again, forgive me, but if you just completed a PhD, my God, you just chose the wrong moment in history. Why? Because we got AI. We got the AI. And the PhD thing, by and large, is the left hemisphere of your brain.

If you're listening to this now, the future, and if you want to be rewarded, again, you've got to be kind of like an asset capitalist, it's right-hand side of the brain. All that PhD thing has been made redundant. But they had to, the AI companies all have to hire PhDs. So some of them get jobs. No, no, they just, they invest in more AI's become circular.

Like PhDs are not the future. I talked to a founder this week, Tracy, by the way, who says that all code will be written by AI. Let's talk more about this idea. Okay, the Fed is not going to cut until something breaks. You think the thing that will break will not be like a domestic thing, but will be like on the international front. walk us through like where we're at risk of. Yeah, because a year ago, the thing that was breaking was banks. That was the fear.

I mean, it ain't gone away. Extend and pretend and all that thing. So, I mean, you know, not wishing to name and shame, but, you know, an organization like Bank of America, you know, has, and like its peer group, has an enormous treasury portfolio, which it doesn't mark to market. And that is an inducement by the U.S. Treasury to ensure that people are there to buy the Treasury. And so they've got unmarked losses, right, which are the same magnitude as their equity. Okay. Now, and where we are just now is that we started this year and we were going to get four, five, six interest rate cuts. And when you get that, the bonds normally kind of come off their ass and kind of rise in value.

And like their viability gets better, okay? But that ain't happened. If anything, you're the domestic economy saying we need higher interest rates. where's the 10 year today? Like it was four and a half. We were heading close to five before the weaker GDP. So that's still there. There's a fragility there.

4.42. And look, when we get bank countings, I mean, if we've got any banking analysts listen to us, can you do your job? Rather than blowing smoke up the CEO, can you say, hey, listen, can you tell me, what is the size of your unmarked treasury portfolio? What is the loss of it? What are you doing? Have you shifted the duration?

Can you just talk to the street about it? No one asks. No one. Like bad news comes out, you really, really, it comes out you really, really slow and then it stings you. Let's ask the question. So that's there. That's out there. But, okay, just on the banks. So when we say that, okay, if you marked the bonds to market, it would just blow a massive hole in banks' equity, that is terrifying on the one hand. But on the other hand, part of me is like, I find it hard to believe that the banking system is going to be ruined by investing in too many U.S. Treasuries. Okay. I mean, what? Is that blind faith? I mean, the numbers are like really big.

I guess it's blind relativism. It's like U.S. treasuries are the safest asset out there. Until they're not. This is true. So I tell you, so what we're doing is we're flying high without a safety now. Okay. So we've been there. We had the, again, I can't believe this is happening.

The entire global banking universe went bankrupt in 2008. They were gone. gone, right? But the US Treasury was it like 60% debt to GDP and they stood in and they're like, you know what, we got it. We've got these fund tokens.

We're going to issue lots of these fund tokens and you're going to come back. What happens? And that was your safety net. Where's the safety net now? Like if they tried that maneuver again, people like me, we're like, get out of here.

We're getting out of, like we're not owning these silly securities. Because you're tapped out. So the US Treasury now is not the safety net if there is folly and if there's an incident in the financial sector. It's tapped out. It doesn't have the resource. So we're on our own. And that's scary.

And so again, that's why the next move for people is to consider, well, what if they cut? And you know, they have to. I actually think it could get so bad that we will go back to the notion of zero interest rates. And I think that treasuries, I mean, I've been so hideously bad. I've been owning leaps on the TLT, the long duration. Now, leaps, options. Like, you know, if I got a million dollar portfolio, I've been spending like $50,000 and then topping it up as I lose money on them and just keeping a lot of time on it.

So I've probably spent a tenth of my portfolio, you know, I'm underwater. But I own that because I think we're at the end of the most incredible bill market and treasuries, which again absolutely coincided with China and who came in to preserve their currency and believe it undervalued, they had to put money into risk-free US treasuries and they bid it higher, okay? But the bill market and treasuries,

it was a double bottom in price terms between 1982 and 1984. If we put it into yield perspectives, the 10-year peaked at 16%. But in 1984, as the economy came back and found vigor, people went, you know the notion of recency biases, biases. So the recentcy biases was strong economy inflation

and people sold the bonds again. So in 1984 yields peaked at 14 and then that was it, you know? And of course they went to where they went to like 40 basis points during the COVID. I think the end of this bill market is in the next 18 months and I think

the treasuries, I don't think they'll yield 40 basis points but I think they could get down to like 1.2, 1.5 yields. And that and then that's like and then sell them and out because we'll have to redraw and we'll have to examine and try and create a new monetary order. Exciting. I'm sure we'll have plenty of good episodes about that redrawing of the monetary order. Back to China, didn't all those ghost cities that you toured and showed on YouTube end up getting filled? Because I feel like now there's 100, what are they called, Tier 2 and Tier 3 cities that none of us know

the names of that have like 10 million people and with glistening subway systems and whatever else. Like, in your view, what happened to those cities? Thank you for that, because I was dead wrong. Okay. Dead wrong, dead wrong, dead wrong. But can I tell you why? So I, like, you get value investors, growth investors. I'm a time investor, would you believe, okay?

And I, it was only really very recently, I came to understand the Chinese, like, what do you call it? Like your horoscope and like the pursuit and the investigation of heavenly bodies around the sun, right? You eat like Pisces and all that kind of stuff. We use the rotation of the earth's rotation around the sun, yeah? Yeah. And I believe that takes a year. Oh, right.

Oh, and there's a 12 years. There you go. That's a very, I hadn't heard. That's a very good, like, metaphor. No, you have heard that before because we talked about this exact thing with Hugh the last time. But no, that's a good one. It is. And then, like, so when I was peak, peak, bearish, I was 12 years out.

Literally, it was 2011. I launched a credit fund. I had made a billion bucks, a billion bucks, if I had been 12 years in the future. So I was wrong, but I want to tell you my timepiece was 12 years out. Okay. And the time is now. When was the last time you were in China?

I ain't rushing to go back to China. Yeah. Well, I was kind of curious if you've been back recently and seen some of the changes. I've been invited by some funky people to go to Mongolia in August. I would go. August, but I think I'd rather be an Ibiza, but, you know. Ibiza will always be there. So my last, I tell you, in terms of, again, formative with the investment letters.

Not the last time, but March 2008, I took a slow train from Wuhan to Beijing. It was quite grim. Not the high-speed train? No, it was really quite. I like struggling slow. It was really grim. I should have been buying the S&P. The S&P had fallen 65% in March 2009.

And instead, I was, in Wuhan, where was I in Wuhan? I was in the wet market where the whole COVID thing. I should have been buying the S&P. Just in general, I mean, I am struck by this fact that like we hear all these different people and it's like diversification and international stocks and all this stuff and exotic things. In the end, we should have just all been buying the S&P and like gone and lived our last. right absolutely and like they're still peddling emerging markets like how many how many why doesn't it work i am curious because there's been a ton of growth overseas and this is always the

thing it's like there's a lot of growth everywhere what has been the fatal flaw of the international diversification slash em thesis that has been very popular people are always repackaging and reselling again i think it's my accent you're not you're not hearing me they are they are magnificent These countries are magnificent at creating GDP growth. They're incredible, right? But it's GDP growth at the expense of wealth, right? So let's say we've got a bridge. It's going to cost us a billion dollars.

We're going to link two communities. And let's say it's in America and it's in the Bay Area. And the average per capita income of the two cities is $150,000, right? And so you're going to cut like 15, 20 minutes in the daily commute of all those people. people with that level of wealth cutting time is good, it's productive, it's going to add utility to their lives, okay, and it's got it,

it's an NPV positive, it has net present value, okay? So the value of the billion that you spend, maybe it's two billion, okay? Now, if you join up to Chinese communities and the average per capita consumption is $8,000, if you're on $8,000, you ain't in a hurry. You ain't in a hurry, right?

But you spend a billion, and what happens is you've not, created wealth. So the if you were, if you actually had, if you were a corporation, you'd have to market, because like say you're taking a, you're taking a token. It's a toll bridge, okay? And you do the DCF. You're going to

quickly work out that your MPV is like half a billion. So you're in, you're in a half a billion deficit. That, the half a billion deficit doesn't get measured in GDP. You measure the billion. And so this is why the strategy doesn't work because sure you get GDP,

but where's the stock market? And where's the stock market in America? Because what do we do? We actually go, hey, return on capital, positive MPV. We're in it to win it, right? And so we get less GDP, but we get the best stocks and the best stock market. That's the fundamental flaw. So one of the reasons we enjoy talking to you is because we get to live vicariously and pretend that we're talking macro on a beach in St. Barts instead of talking macro in an office in Midtown. And you've been in St. Barts for many, many years. now. And I'm curious, what changes have you seen over the years? And one of the reasons I ask is because I went to the Seychelles, which is on the other side of the world, but I guess it is a beach. And I went to the Seychelles last year. I was kind of surprised by like the number of Russians that I saw there, just so much Russian money. And coming from the U.S. economy at a time when, you know, it was all about sanctions, all about European energy crisis, things like that. It was kind of

surprising to me to see that level of wealth externally. Well, I mean, you know that Paul McCartney, the wings is banned on the run. I mean, it's the Russians on the run. Yeah. I mean, they're fleeing. Go to Dubai and it's the same thing. I tell from the beginning when I was writing those letters, it's like, you want to solve Russia? Because that's the time of the emergence of the oligarchs. I was like, you want to solve Russia? You want to bring freedom? I mean, it's not for us to solve Russia. It's for them to solve it, right? But if we want to stop them impinging and being annoying, being noisy neighbors. The number one thing you do is you say to all the rich

oligarchs, no visas. You can't come to St. Bars. You can't go to St. Bars. You can't go skiing in the Swiss Alps or in America. Enjoy, enjoy the motherland. Okay. Talk to the boss when you sort it out. You know what? We'll look at your visa again. And that's, so they can't come to, they can't come. I'm going to say they can't come to St. Boss, but actually, I'm thinking my Christmas client actually is Russian, so

some of them can get in. But Abramovich, he came in and he He laid down $80 million in February 2008 and didn't put St. Bart's on the map. But, you know, that was like a huge investment. And property prices are absurd. You know, really absurd. I just got divorced and I had to do evaluation on the portfolio. I mean, it's just insane. St.

Boris is kind of like Bobby Digital. Forgive me, I call Bitcoin Bobby Digital. It's Gold's Bobby Brother or something. What is, you know, one of the things, and we've talked about it a little bit, on the show is like the extreme concentration of ultra wealth in places like Dubai, Miami, et cetera. Like what is driving? I mean, I sort of get it from the Russian perspective wanting to get money out of the country

being on the run as you put it. What do you think? Like what is the sorts of anxiety among the ultra wealthy that they're, you know, that they congregate in cities like Dubai or elsewhere to sort of get away from messy countries, whether it's messy democratic countries or messy autocratic countries? I mean, the Miami thing is the same thing. It's South America. You know, it's taking all of your, all of your wealth and really they're kind of robber barons. It's the confiscation of other, of the good folks money and getting it out of places like Venezuela. And it resides, that's Miami. I'm an L.A. person because I was going to say L.A. is a real place, which kind of is. I like L.A. You know, but I mean, it's real in the sense that you're not got capital on the run. You've not got robber barons. Like, they're, the Dubai and the Seychelles, it only exists because the U.S. Treasury and the administration are looking the other way.

I don't know why they look the other way. I really don't because it's against the rule. It's like, look, you know, there's a war where like we're kind of funding the Ukrainians against it. And we should be really tight and there should be no slippage. And yet we let them, you know, we let them slip into Turkey, into Dubai and into the Seychelles. I would like, again, you're staying. You're staying in Russia. Call me when you're more polite.

to your neighbors. Hugh Hendry, always great to catch up, live vicariously a life that's much more colorful, perhaps, than ours here in a Midtown office. But thank you so much for coming back on a lot. That was a lot of fun, Tracy. It's always fun talking to Hugh. One thing I was thinking, do you think Bloomberg would let us expense the $25,000 that it costs for like a VIP package to the acid capitalist summer camp in St. Bartz? Yeah, for sure. For sure. I think so. I think it's worth it. Yeah, let's go. I don't necessarily feel chilled or relaxed. I mean, the idea that like something is going to happen in the treasury market yields are going to go back down to one, two percent doesn't make me relax. No. Also, the time to panic about the currency war line isn't exactly reassuring. The other thing I was thinking, I think the thing that will stand out to me is the idea about a lot of emerging markets being good at generating GDP growth, but not wealth. I feel like that encapsulates certainly. A lot of the story around China right now and the question over, why not boost domestic consumption

versus manufacturing and sort of repeating the same thing you've been doing for decades now. No, I mean, I think that is just true, right? Like, there's been incredible growth of some of these companies. I mean, even if you look, like, I was looking at the chart of, like, BYD the other day, which is like everyone knows now is like this, like global behemoth, you know, arguably by some measures bigger than Tesla. Like, that stock is the. same it was where it was in 2020. But if you actually, if you go back to even like 2010,

or if you go back to like 2009, it's only up like threefold since its peak in 2009. I mean, this is a company that was literally nothing and now at the forefront of like probably one of the biggest industries in the world. Like it's not amazing. You don't get paid very much to own these companies. Less than Domino's Pizza, I suppose. Yeah, exactly. But this is the other thing I was thinking about. So there are pros and cons to the command economy model, right? And the idea that you can pull all these policy levers because on the one hand, like, yes, China can direct huge amounts of capital to whatever project it deems strategically important at any one period of time. But on the other hand, you get misallocation of capital. And then you get the uncertainty

that's sort of hanging over investors where they can't predict what China is going to care about next. So going back to, you know, the real estate crash, the three red lines program, and then the crackdown on consumer internet companies. Like, those are real expressions of the uncertainty of that particular aspect of the economy. Shall we leave it there? Let's leave it there. All right. This has been another episode of the All Thoughts podcast.

I'm Tracy Allaway. You can follow me at Tracy Allaway. And I'm Joe Wisenthall. Follow me at the stalwart. Follow Hugh Hendry. He's on Twitter at Hendry Hugh. Follow him on Instagram. Be very jealous of his life.

Check out his substack at his book and all that. Again, make him very jealous. Follow our producers, Carmen Rodriguez at Kermann, Dashel Bennett at Dashbot, and Kel Brooks at Kel Brooks. Thank you to our producer, Moses. And for more Oddlots content, go to Bloomberg.com slash oddlots. We have transcript, a blog and newsletter, and chat about all of these topics 24-7 in the Discord.

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