Episode #451: Hugh Hendry – The Acid Capitalist Unfiltered

Episode #451: Hugh Hendry – The Acid Capitalist Unfiltered


Guest: Hugh Hendry is an award winning hedge fund manager, market commentator, St Barts real estate investor & surfer.

Date Recorded: 10/5/2022     |     Run-Time: 49:15

Summary: In today’s episode, Hugh shares his thoughts on all the macro factors in the world today. He touches on inflation, energy markets, the dollar, the situation in China, and more. Be sure you stick around to hear why a dream about the Wizard of Oz led him to buy gold from the Bank of England.

Comments or suggestions? Interested in sponsoring an episode? Email us Feedback@TheMebFaberShow.com

Links from the Episode:

  • 1:34 – Intro
  • 2:08 – Welcome to our guest, Hugh Hendry
  • 3:28 – What the world looks like to Hugh today
  • 7:20 – The $5 breakfast burrito selling for $25 amidst inflation
  • 8:55 – His framework as a “time investor”
  • 12:38 – Whether or not it’s a good time to stay away from equities
  • 14:22 – Episode #448: Annie Duke; What does Hugh believe in that the vast majority of his professional peers don’t?
  • 19:04 – Hugh’s take on gold and crypto
  • 23:32 – Thoughts on the growing US dollar and China as an economic player
  • 30:14 – Is the Chinese stock market is investible?
  • 41:04 – Other things that are on Hugh’s mind
  • 44:58 – Learn more about Hugh; The Acid Capitalist; Twitter; Instagram



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Meb: What is up my friends? We got a wild show for you today. Our guest is the legendary Hugh Hendry, formally the CIO of Eclectica Asset Management and now a luxury hotelier and host of “The Acid Capitalist” podcast. Today’s episode, Hugh shares his thoughts on all the macro factors in the world today, touches on inflation, energy markets, the dollar, the situation in China, and more. Be sure you stick around to hear why a dream about the Wizard of Oz led him to buy gold from the Bank of England. Please enjoy this episode all the way from St. Barts with Hugh Hendry. Hugh, welcome to the show.


Hugh: At last, I thought you’d forgotten about me.


Meb: Longtime listener man, and I have to say I wish we’d done this about two weeks ago because you were local right down the road in California. Where do we find you today?


Hugh: In my beloved St. Barts in the Caribbean. I’m all alone. This is, I was going to say September, of course, it’s now October. The island takes about six weeks of downtime. There are no clients, there’s the fear of a hurricane and it’s time to maintain properties, etc. So, I’m camping.


Meb: Hugh, I’ve been reading you for a long time and now, more modern, listening to you. You have a fun new podcast too, which is interesting because in the early episodes, it was like a diary journal looking back on some time spent in markets and what a weird period of markets we’ve had the last three years. I keep saying, I’m ready for a nice quiet period post-pandemic, post-coronavirus. I feel like six months of just mellow markets, but markets have a way of not wanting to do that. So, here we are, in early October, 2022. I figured we’d start with what the hell is going on in the world today, but in particular, inflation in rates, in governments. Those three seem to be intertwined. There was some news today with OPEC seeming to take some sides. I’ll pass you the mic, you can start the engine going. What does the world look like to you today?


Hugh: Same old, same old. I mean, you say three weird years. I mean, where have you been? Twenty weird years, 22, maybe 25 weird years because each intervention worked by authorities were creating more and more of a volatility machine. This thing just latches from one extreme to the other. Call it a Bobby digital system, it’s either alive or is financing to go to zero in terms of asset prices. Are they really going to infinity, are they going to zero? This year, we talk about being in October, 2020, markets haven’t really tested the resolve of the Federal Reserve yet. We went down 25% and we got nothing, pretty sure in terms of response and in terms of any change to the preposterous blue dots of the Federal Reserve Committee and their interest rate expectations. I just reckon the market knows how this game works.


“It’ll try 35. Do you hear me?” If the Fed says, “No,” “I’ll try 45, 55. Do we have an intervention?” For sure one will come, but I think there is a bit of a policy trap, I think, per Jay Powell, I think it’s reminiscent of…what is the quote for Ayn Rand from the “Atlas”? A man who lies to the world is the world’s slave from then on. And per Jay, in that cauldron of confusion and fear in the summer of 2020 with the virus, he took off his tie…he looks a lot better with the tie, but he took off his tie and he went on American daytime television. And he said, “Hey, you know, I’m from the Fed, but I’m your friend. We got your back.” And they’re like, “Really?” He’s like, “Yeah, well, we’re printing money.” They’re like, “You’re printing money?” “Yeah, we’re printing money for the American people.” No, that was a lie.


The Federal Reserve law of, I don’t know, 1935 specifically prohibits such behavior. So, it was outlandish rhetoric, which I guess was deemed appropriate given the preposterously dangerous situation we found ourselves in. And I wouldn’t necessarily blame him. The Rubicon that got crossed, which takes us to this contentious word you said in flesh…I always cool back on that. For sure we have an elevation in the price of almost everything, but especially acute in non-discretionary items, such as energy, which we can’t skip on. And so, we had the economy, globally, closed down, our treasury friends sent everyone a check, “It’s on us, spend money.” Okay. Well, the problem there was the service economy, which is two-thirds of the U.S. economy was closed. So, you can go to the cinema, you can go for a meal and so we went on Amazon. The guy’s got the factory closed and like there’s wave of insane orders coming in for microwaves to televisions to whatever, home improvements via Home Depot.


And they’re like, “Gee, I’ve got open it again.” It’s like booming up, you know, dusting it down, plugging it back in. Which is to say, it took a while for supply to try and catch the tsunami of demand. We live in a market-based system where when demand and supply are out of sync, we use price to bring them back, which is to say that the government’s intervention led to quite a dramatic rise in prices, okay to bring supply and demand back together. The question now is, are we going to see a permanent acceleration in the rate of prices? That would be inflation. That’s a tricky one.


Meb: I’d love to put a pin or bookmark, particularly interesting L.A. examples. In this past week, I saw on the menu at Breakfast Burrito for $25. This wasn’t at a fancy hotel, Hugh, this was just at a normal cafe and I said, “My God, those things, it wasn’t that long ago that they were five bucks.” Meanwhile, I really wanted to order it because I love breakfast burritos, but I just could not come to spend 25 bucks on one.


Hugh: But that’s a great example, you didn’t buy it.


Meb: Once said, I got the $20 French toast or something, I don’t know.


Hugh: Your consumption was five bucks less owing to you exercising discretion. And it’s the discretionary spending which I believe…or the decline in the rate of growth, if not the outright contraction in discretionary spending, which is the mechanism which rolls back these price increases. If you look at mileage in the U.S. using your car, we are this summer at the same levels as 2020 when everyone was indoors, which is to say where you have a bit of discretion on your mileage, you’re using it to save a few bucks. Again, we opened the cinemas, we are so far below 2019, the last normal year. So, there’s a lot of evidence. If you look at the share prices of businesses which rely upon discretionary spending, they’re painting a really quite horrible suggestion of where we might have to tread.


Meb: But as you look at these three main factors at play, interest rates, inflation, energy, how does this resolve? I don’t know if resolve is the right word, I once heard you describe yourself as a time investor, which I’ve never heard anyone. So, I’d love to hear you talk about your framework a little bit. What’s the horizon look like to you?


Hugh: As an introduction to those perhaps hearing me for the first time, I set out to conceive of contentious narratives, contentious in the time period of zero, which I believed could go on to become accepted as a belief by the many. And with regard to time, I gave myself two years for that to happen. It doesn’t happen, you know what, unlucky kid, but move on. Which kept me alive, and so I ran my fund for 15, 15 years, which in hedge fund cat years or whatever, dog years, is a long time. So, the contentious posture that I have today is what I kind of alluded to, that inflation is a monetary phenomenon. Like you said, we’ve seen prints as high as 8% to 10% globally, I think even the UK may have hit something preposterous like 11 or 12. Unless the cash coming into your wallet is growing at 8% to 12%, then you’re going to be forced to push back. You’re not going to buy the burrito.


I don’t see the monetary phenomenon that would support permanently higher prices than I believe that the accepted belief system, which today is, “Oh, my God. This is the fourth-grade turning point. We told you QE was inflationary, we told you the Fed was reckless, it’s all coming home to roost.” I’m opposed to that for more than those reasons. So, again, may I say, I do not claim to be an expert. I claim to be someone who had a career spanning decades, whose success was not a function of taking the council of experts. I was on CNBC Asia the other night or morning. One of the hosts was saying, “Yeah, you know I was at the Milken Asia conference and they’re telling me the Fed’s got this. It’s okay, the market’s just a little bit elevated, it’s a bit antsy. That’s what markets do.”


No slur intended for Milken, but you don’t want to hang out in that crowd because that’s the status quo. That’s the 1% of the 1% who’ve done really well. If you’re a regular retail investor, you don’t get trades in this environment. You need an ISDA agreement to trade really complex things. Think of me as a Formula 1 car racer. I drive fast, I invest complex. The macro trade probably is the gap between, again the twos and the tens and you can put on nice structures. That gap has never been wider, which is almost the assurance of the market saying, “You’re wrong, Jay.” In the next three years you’re going to be slash-…the Fed slashes rates.” So, like I said, 2-year is above 10-year. As of Friday, 2-year was 40, 10-year was 4. If we get anything like the demise in the economy that I see, those 2-year rates, which is to say the Fed will be back below 1%, there’ll be a bit of stickiness in the 10-year, but you’ll come down to 2 or something and then you get the spread.


Meb: So, there’s an opportunity perhaps, the short end of the curve coming down in yields and maybe the whole complex. What else? Equities, close your eyes and grab your nose or is it say far, far away?


Hugh: I think it’s the latter. We could go through all the asset classes. If there is a seizure in markets, a seizure like March, 2020 and a seizure like we saw in October, 2008, there is no protection in a good narrative. There is no protection in the price point that you entered the trade. When you get liquidation, which is compelled upon you, prices have to fall to reflect that. Any steepening on those two stands really, you have to remember it’s like licking honey from the razor’s edge, which sounds like Def Leopard or something, but actually comes from “The Tibetan Book of Living and Dying.” Which is to say…so the precarious nature of that or the remedy for stocks actually is the realization that there’s a profound storm building speed coming into both asset markets and the real economy, and it’s going to shake things up and take things down to force a policy change. My adage is, we’re in a casino, why don’t you step outside? Anyone that’s not in California could take a cigarette, but you know, like take a pause. Keep saying the best way to…pros know this that just now the best way to double your money is to fold over those green packs and put it in your pocket. We’re up. There is no compulsion that you have to stay there every single day.


Meb: That’s a great analogy. We did a chat with Andy Duke today, it came out and she was talking the percentage of hands that a professional poker player folds is well over half. But if you look at the amateurs, they play 80 or 90% of the hands. And I think there’s a weird compulsion for investors to get drawn to whatever the topic of the day is. For the last couple years it was Tesla or the meme stocks or crypto or I don’t know what it would be today. They get drawn to whatever the story is. Hugh, you would probably like this, I would love to actually hear yours at some point, but I have a running list called “What is something you believe in that the vast majority of your professional peers don’t,” so 75% plus. And I’m up to like 18 or 19 I think that I just add on occasion when there’s something I come up with. I don’t feel like I have to have an opinion on every investment. The opportunity set is tens of thousands of investments and it’s weird that people always get so myopically focused on just whatever happens to be in the zeitgeist and interest of the day. The choice isn’t always buy or short, it’s buy, short or you don’t have to play, you don’t have to go in the casino.


Hugh: Of course, the system, the casino always wins. And so there’s recurring messages, “Hey, stay. Hey, have another drink, have a sandwich, have a burger, have a burrito for 25 bucks.” “Really, that’s so kind.” Yeah, boom. Down again, down again. Again being on financial TV they’re like, “But don’t you have a buy recommendation?” I’m like “Bye-bye.” I like the setup for uranium. It’s the whole profound idiocy that came out of, well, many places, but particularly Europe. Europe lost its sovereign virginity. What is sovereignty? What is sovereignty without an independent source of energy? The failure to secure sources of stable energy will take 30 years. If you commission a nuclear power plant, for instance, the lags going to be 25, 30 years before you’re hooking it into the grid. LNG comes from the states and there’s just not the capacity, and presently you’re stealing it from Asia. So, you’re just elevating prices and you’re doing nothing in terms of climate control because you’re just adding carbon to gas.


We like gas because I think it has…what, at least 30% less carbon content than other forms of heating. But when you put it into LNG, you lose all of that. So, 30 years I think is going to be the adjustment period, and one of the factors weighing on the euro as it trades below parity to the dollar. What’s the external price over an economic block that loses its sovereign virginity? Probably less than it was. With regard to Westphalia, I think it’s the doctrine of monetary sovereignty, we can touch upon that because my big tease is no one knows Jack all with regard to money. Central banks know Jack all about money. Hedge funds know Jack all about money. Investment banks and their research nodes, they know Jack all about money. When you read all of that assembled together in the financial times, it’s absurd. I want to say to you, they’re no more than five people on the planet who get money.


Probably find one of them surfing in Manhattan Beach if you look closely enough. I don’t…you certainly don’t find them in the Fed. The Fed which has what, last count 800 PhDs. My first calendar year as a hedge fund manager was 2003 and I made 50% trading gold, and trading it audaciously it has to be said. Yeah, a hedge fund back then, I didn’t know what it was. It was like being granted a Ferrari. And my boss said, “Have fun, drive fast.” And I did. Yeah, I made 50%. I was buying gold and my opponent or counterparty or trading representative on the other side was the Bank of England who had stored and accumulated gold for well over 200 years, had resisted famine, wars, poverty, you name it, never sold it. And then we had that profound 25-year devastating bear market, and at the bottom, they went, “Yeah.” The PhDs came up with probably a very reasoned argument. I call it the conceit of a well-reasoned argument and they went, “Sell it.” Me, I went to Milan, I saw AC versus Inter in the soccer derby, never seen it before. Took in a few VIP red velvet rope disco parties. That night I dreamt of the Wizard of Oz and I came home. My wife thought I was on shrooms and I was like, “I’ve just seen the future and I bought gold.” I bought, bought, bought from the Bank of England.


Meb: The funny thing about gold is, historically I feel like it often does exceedingly well in times like this where you may have negative rates or a negative yield curve, things are feeling like they’re a little unhinged in markets. Has crypto taken a little of the air out of the room or do you think gold is attractive today as it was almost 20 years ago now? What’s the wizard saying? Is he saying, “It’s a good time,” again?


Hugh: I was writing about gold in response to question on Twitter. I write the handle @hendry_hugh. And I was like, “Why would I buy…” Again, who am I? I am someone with an unquenchable thirst for the joy of life. Joy is my energy. I like life. And one of the things that’s kept my joy flowing is a very, very simple rule, that I buy things that are going up and I sell things that are going down. And in fact, let’s take that further. The role of a hedge fund or a professional speculator is actually to conceive of a warehouse full of good narrative but not to rush out immediately and invest in that narrative, to have the composure, to have that being in the moment to say, “You know what, it’s wonderful but just not now.” When is now? Now is when strangers, people you’ve never met are clearly buying the thing.


Bring me back the narrative number 49, you’ll find it on the top shelf towards the right-hand corner. Someone saying, “Well, surely you buy gold just now.” Gold has been trending lower like all other asset classes, which kind of forbids me. But in terms of its passage over the last 20 years, there’s a pretty reasonable scorecard, I was buying it at 300 bucks, and we are what, 1800. Correlation has typically been less than that of plain vanilla equities, which compares but kind of held. If your wealth is denominated anything but dollars, it really feels good. So, I’m not knocking the performance of gold. Gold itself is just a bonkers asset class, it’s a stupid asset class. And then you had crypto whose ambition was to be as stupid as that asset class. The reason on death row crypto is like, “Gold has a $9 trillion market cap. We think this is…”, again the conceit of modality, “We think our modern version of gold will replace the desire to hold gold, therefore no one will hold gold,” exaggerating somewhat for ease of comparison. “If everyone switches their gold to crypto, then you take $9 trillion, you divide it by 21 million tons and boom, we’re going to get rich.”


Now, gold and its performance and the factors behind that, let’s try and actually say sensible things. Real interest rates, that’s not using the 8% to 10% inflation prints, that’s backing out break-even inflation expectations and comparing it to long-end rates. There is a thesis that our system just hasn’t worked. What is our system? The American economy, Western economies last 20 years suck. If you look at up until 2007, the 30-year compound annual growth rate in GDP, that’s true prosperity, it was compounding I think about 2.6%, 2.7%. In the 15, 16 years since, ain’t seen it. We just have not compounded anywhere close to that growth rate. We’ve been subdued, we’ve been on our ass. And there is an argument that we can only operate under very low real interest rates.


Over the period, the variable has been zero, we’ve been close to zero real rates. In fact, we’ve been negative real rates where presently, given the turmoil in terms of inflation expectations, real rates are almost 2% real. I don’t think our modern economy works at such elevated real rates. The last spike that we saw was in the foreselling of everything with the denouement of Lehman Brothers in October. And gold I think…what was gold? I think it was 900 bucks and traded 550. It was, again, narrative didn’t protect it, capitulation and foreselling took it down in all … You spiked to 4.5% real rates, 4.5% real rates, the world is over.


Meb: One of the assets that is going up and seems to just be mowing down everything in its path is the U.S. dollar. And I’ve heard you comment, so I’d love to hear any updated thoughts on a very large planet that’s getting bigger, which is China. Over the past few decades, it has become a much bigger part of the global economy as well as the financial markets. What are you thinking about the dollar? What are you thinking about China as we talk about the world of positive, negative rates, everything going on today?


Hugh: I’ve got to sip a tequila for that one. Hold on. It’s all about China. It’s actually got nothing to do with the Fed and nothing to do with QE, and it’s complicated, and I’m nervous even to dive into it. China’s about to a point Z for the third term. Okay, let me think about this. With China, that 1990 to 2010, my God, an economic miracle, the likes of which we’ll never see again, astonishing. I doff my cap to them, an amazing operation, which relied upon the goodwill of the West because we volunteered for sections of our communities to take it in the ass, forgive me, but to be displaced, to have their incomes challenged, to have communities wiped out. But there was a global game of check and balance, which is you had a billion plus people going from living in the 17th century to living in 1980.


I keep saying the U.S. might be an empire, but I can think of no more benevolent empire. And then people say, “Get that guy off.” You know, they say what about the war in Vietnam and blah blah blah. Even empires make mistakes. I think that they grew at 10% compound in the first 10 years of this century up to 2010, and then they grew about 7.5%. They insisted that they would grow at 5% this year down from 8% last year, insisted. They just put stickers on these things. Another red flag, we tell in advance it’s going to be such and such. And they’ve had a malleable system where they could do that. But even with the malleability, it looks like they’re going to hold 2% for next year.


And again, I read another preposterous thing in the financial press today that, oh you know, China is only going to grow at two, it’s being left behind by the rest of Asia. The World Bank believes that the rest of Asia is going to grow at five next year. Can I ask you a question? Do you think Asia, its growth rate is going to accelerate year over year when every emerging market currency, again, is on its ass and falling deeper and deeper? Why is it falling deeper and deeper? Because there are collateral calls that the Eurodollar, this mysterious dark system that we never see but we feel its influence is panicking and pulling collateral, which is to say it’s destroying credit. And that’s the principal factor behind the rise in the dollar because previously they were willing to accept Indonesian Rupees. God forbid, they would accept things from the asset managers out of China, which would be property-backed. In a bull market, these guys get a little bit drunk, but in the slightest sense of danger, given they’re so leveraged, they call it all back.


That’s what’s going on. So, the rest of Asia ain’t going to grow up 5% next year. The World Bank better ignore it. I spent a career ignoring these people. Z you can generate any GDP print you want, sovereign nation with your own currency. The trick was to choose growth over wealth. Let me explain that, but one of the indications being stock market, an astonishing economic miracle, stock market flat, no wealth, no wealth created. What am I talking about? We know that 25% to 33% of the economy’s growth rate for the last 10 years has come from the craziest-ever construction property boom in residential property. Today it stands at $90 trillion. The Chinese economy is 15, U.S. economy is 21. I think U.S. residential real estate’s about 30, 35. So, it’s three times the mark in U.S. residential. And U.S. residential wasn’t especially cheap, it was 10, 15 years ago.


And then another huge chunk came from the capital formation through bridges, tunnels, railroads, airports, wonderful stuff, wonderful stuff. But today’s cash flow cost of that will never be recouped. I would say never in terms of the never which dominates the spreadsheet calculation of the net present value of the project. The utility benefit from having your citizens travelling in the elegance and speed and in comfort will never justify the initial outlay. Why? Because when you move someone with a per capita GDP of 6,000, a lot of these out-of-the-city provinces, you’re still down there at those levels, and you move it to one with 8,000, forget it. We make mistakes in the West because I don’t know what we put into our NPV calculations, but we underinvest. The U.S. is a disgrace, UK is a disgrace.


It’s the one thing that unites the political parties, they don’t invest in infrastructure. It is a disgrace, but it shows you how hard it is to get a positive NPV that even our politicians are weary of it. That’s where all the growth rate came from. When you are not generating wealth and when you’re committing to negative net present value capital expenditure projects, your stock market is flat and your debt to GDP accelerates and accelerates and accelerates. And that debt itself creates what we call fictional wealth, and the fictional wealth, of course, is captured in the 90 trillion mark of the residential property sector. The guy who’s responsible for this mess is getting another five years, it doesn’t fill me with joy. So, the problem is the GDP calculator, China’s communist parties GDP calculator no longer works. The last 10 years it’s generated 25% of global GDP. That’s a big problem. How do they fix the mark on residential property? You know this notion that the banks are really government-owned and the government’s got it? It’s baloney. Again, there’s five people who understand money in the world. It seems like there’s probably no more than five people who understand how economics actually works. It’s baloney.


Meb: As we’re looking at China, I think about their equity market, which is down in the most recent drawdown. It’s been cut in half and I don’t think their stock market has gone anywhere in a really long time. Outside the U.S., if you start to look at a lot of country stock markets and you start to count the years, and this is total return basis, we used to always talk about the Japanese lost decades, my goodness, you can start to say this about probably half the countries in the world where it’s getting to the point of lost decade on equities. They’re still going down, of course, but the valuations are at levels that are certainly a lot lower than they were. Is the Chinese stock market investible? Do you think it’s something that, at a certain valuation, it’s worth a punt or is it something you put in the category of just too opaque or not worth it?


Hugh: Well, that’s easy. It’s uninvestable. It’s uninvestable with Z and the broken calculator. It’s uninvestable. It becomes investible if they declare…they’d have to have a Volcker Moment, not with regard to interest rates, but with regard to honesty and say…but you need a new guy, you know. You’d have to say, “Hey, look. I’ve got some really bad news to tell you. You know all that GDP that we just told you was incredible? We made it up, we destroyed wealth getting there. It was useful, we executed them last night. The good news is I’m here, I’m a capitalist, we’re going to start doing things properly. And the first thing we’re going to do is we are going to take away all of these institutional forces which screw the common man. You all think because you’re earning 15X what your parents earn, you think you’ve done well. But truth be told, the productivity that you’ve brought to this game, you deserve to earn more. And more than that, your currency should be trading…your currency should be higher, which is to say that your wealth vis a vis the rest of the world, you should be richer. You should be able to go and buy a BMW made in…” Where do they make them? I don’t know. You know, Hamburg, Dusseldorf, let me list random German cities.


Meb: They make ’em in South Carolina now. They make ’em just about everywhere.


Hugh: But the ones made outside of China, the currency’s precariously trading 715 or so versus the U.S. dollar. With its economic dominance of international trade, it should be trading closer to four, but it’s managed and that’s one of the functions which suppresses wealth, keeps the little guy in his box. The Chinese model works on the basis of let the communist, “Let the jackboot guys actually be the principle variable of GDP growth because we don’t trust you. We don’t trust the little guy because you guys get excited. You’re like the Americans, you go down crazy, you have these booms, then you have busts. And we don’t do busts because we are all into the longevity of us. And if we have a bust, you would maybe kick us out.” That’s a problem in China, which becomes a problem for the rest of the world.


I kind of want to pivot two ways here. As everyone worries about inflation and in terms of creating a contentious, a real shockingly preposterous contentious statement that could be accepted I think within two years would be 10-year U.S. government yields below 1%, maybe back at COVID levels. That’s preposterous. In my defense, my modest defense, 10-year treasury yields hit 16% in summer 1982. I think Fed raise, some kind of weird Fed raise, maybe 20%.


Meb: Yeah, I think it was 20.


Hugh: That was bonkers. That was just insane. If anyone with a pulse would’ve been able to track the trend rate and inflation from 1980 to ’82, it was collapsing. Why was it collapsing? Because Fed raise were at 20%, we were in a down recession. There was not an inflation concern. It was absurd that the 10-year treasury wasn’t looking through it. You could say it was because you could say the 10-year traded four points below the 2-year, which would’ve been 20. It was a bit like today, but the stakes are that much bigger. But the nominal levels were absurd and that absurdity marked the beginning of the greatest bull market in financial history. I call it the greatest because of the duration of how long it’s lasted, but most importantly because the predominance of the price uptrend occurred in what deemed to be the lowest variance i.e., the least risky asset and therefore the asset class which lent itself to the greatest leverage. So, the Chinese currency was the strongest currency in the world for the two-year PD up until maybe six months ago. And everyone was like, “Yeah, because China’s amazing. It’s a revolution, it’s a miracle, da, da, da.” It’s because it’s trade surplus to GDP went back to the highs that we’d seen in that decade leading up to 2010. It’s trade surplus as a percentage of global GDP went to 1%.


One sounds nothing, but it’s a remarkably high figure, which is to say that FX market was commercial, it was hedging. Just trade and hedge funds didn’t want to get involved. And you’ll know now that six, nine months ago it’s been on the slide. Everyone over-ordered, Walmart over-ordered. Amazon over-ordered, was it 50 factories, 50 factories worth? And they’re like, “Stop sending us damn stuff.” The trade thing has become less and people are starting to edge in and the Chinese currency is actually here, to date, recording one of its weakest moments. What if it trades nine? And you could say what if to anything. Why do I say that? The 25% decline in the dollar again, Yen is just collapsing, collapsing to levels that we, again, it would’ve been no one’s prognostication. It’s a fellow member of the Mercantilist club. There are reports saying that it’s becoming as cheap, if not cheaper, to my manufacture in Japan than it is in China.


That takes my memory back to before the NASDAQ bubble to the Asian tiger crisis, ’97, ’99. There were countries like Thailand that had to devalue because they were out of equilibrium with the rest of the world in terms of their local currency and their commitments to U.S. dollars. At the very end of that cycle, Taiwan, which was in perfect symmetry, was like a BMW engine just purring, purring, purring, they devalued 20%. Didn’t see that coming. I wrote a paper in 2015 when this was last being discussed and we were last at these tantalizing levels. And I said, “You just can’t imagine the Mad Max post-nuclear appalling environment that that represents.” And why is that? Because supply and demand have to balance. Production and consumption, let’s say have to balance and they haven’t. The give has been the U.S. has run it a trade deficit as long as I’ve been on this planet, which is like kind of a long time. I think I look good for it, but it’s a long time.


When a country runs a trade deficit and that country does not have a scarcity of investment resources, which is to say that investment, domestic investment. You’re like, in the 19th century, America had investment ideas coming out of every office. You know, let’s do canals, let’s do railroads, in fact, let’s do parallel railroads, chemical plants, let’s invent the telephone, etc. The funding commitments were so great that they were reliant upon overseas creditors. That is not the case today. So, what I’m saying to you, a modern mature economy running a trade deficit where investment is not constrained by the domestic pool of savings is one where the trade deficit will lead to the demise of savings, and the brunt and the pain of the necessary correction will be invisibly if you will, felt by the common guy, the regular guy. What’s the most uncondescending term one can use…the regular Joe.


Why? Because three things happen. With the international competition, your employer is on your ass and is not allowing for price increases and, if anything, is asking you to work longer hours because he fears that they’re going to have to close the plant. And you fear it and you’re like, “Damn,” and you agree to it. Or the inevitable happens and they do close the plant down. And so you’re living off your savings, which is to say your savings are collapsing. On the other hand, in that scenario, corporate profits are high. You’re a smart guy and you know that if you look at a chart of global corporate profits to GDP, never been higher. This is the Chinese model. This is the Chinese virus, economic virus that is spreading. So, in Wall Street, you’ve got elevation of asset prices and if you’re associated with Wall Street, you’re the 1%, you’ve never been richer.


Another factor is the $7 trillion of sovereign government holdings of treasury bills, that’s there on purpose to keep their currencies below where they should trade. And that surplus because there’s not the same requisite availability of investment, it means that interest rates trend to zero or my world, my real rates have to be zero to negative to balance the damn thing. So, that’s where we are. If you then devalue the Chinese renminbi by 20%, take all the shitty things going on in our world and stir it 10 times and then multiply by 5 times, which is to say it is grotesque. The world would not work and they would have to be heads of state reorganization. Bretton Woods thing, they’d invite all the loonies at … or whatever he’s called, Larry Summers, all the people that get quoted in the front pages and spout nonsense. So, that’s how you could get to that environment.


The volatility structures are such, just now, that I think you actually would profit, not by spending a lot of money, but I would be in the illiquid, which is to say out of the money, out of time. I would be like 18 months away in Eurodollar options on futures predicting that that Fed rates go to 50 basis points if not less. The return on that could be upside. I would be creating volatility, being long volatility by having a short position in the renminbi because I don’t see what’s going to stop them do that. And if we do get treasury yields coming to those levels, I would then be telling you it’s the end of the great bull market in treasuries. And I would try and spend the next 40 years being a bear of such treasuries. That’s my world, it’s not an expert world, it’s dungeon and dragons.


Meb: What I think is really useful about your framework and some things we talked about, you had a key phrase earlier, which is, what if. It’s like the old comic book “Marvel” back in the ’70s and ’80s, maybe ’90s, where it’s like alternate realities. Even being a historian and looking at how weird markets have been for the past couple 100 years, you always realize that the future is going to be outside those bounds by definition. Working through some of the what-ifs you talk about already puts all the investors leagues ahead of everyone else. Not necessarily because they have to place the bets with the ISDA or the Eurodollar futures, but also simply from the standpoint of handling your emotional expectations when it does go totally wonky or crazy. Because most people, where the big fractures happen with their investing portfolio is they don’t anticipate that things can move in an extreme way, and then they behave totally crazy. Your casino analogy would be they go on tilt and then they lose all their money. Thinking about all these outcomes is supremely useful, which is one of the reasons I listened to you over the years. Hugh, as we start to wind down here and let you into the Caribbean evening, is there anything else that’s on your brain? I hear you might be writing a book, but anything else you’re excited about, worried about, confused, enthused, anything else on Hugh’s brain today?


Hugh: I’ve got that book, no one’s interested in it because I wanted to write a very snappy kind of rock and roll story to show people that…I’m on the show, I’m trying to be everywhere because I’m trying to take down people… Like, Peter Schiff, he got on Joe Rogan was just rude and boring. He just represents that white man in a grey suit who just drives me crazy. My book was to say there are other people that actually, this is a preposterous industry. We’re charged with seeing the future and we all run around, again, not to hit PhDs, but the concede of modality with all of our computing power that somehow that we are better than those who came before us. We’re not. Now, I’ve always liken myself to, some would say, a piss artist, but you know, to an artist. You start with a blank canvas and you try and conceive of a narrative that you can find wealthy patrons to sponsor and to promote. And so I see parallels.


And I think we have to try and open up finance because it’s more and more encroaching upon people’s lives. Why? Because asset prices are so much fictional wealth that it’s so much larger than our economies. And when it has a wiggle, we get slapped and we don’t know what’s happening. So, that’s why I’m out there. And heavens, face-saving or whatever, but I’m not your competition, I’m just a phantom. When I was engaged, I was like an assassin. I wasn’t charged with beating the S&P, I wasn’t a beta one dope. I was charged with, “Hey, what if,” because that was my thing. I set up a hedge fund against some of the smartest, best mentally remunerated people on the planet. And I said to myself, “It’s just dumb to try and outthink the smartest people on the planet.”


Instead. I said, “Why is it that smart people are not guaranteed success in speculation?” And so, my franchise was when people say, “Who would have thought that crazy stuff could happen?” I’d be kind of nervously going, “Well, look at my paper from X years ago.” People know, of course, and all of my data is on Wikipedia and they’ll look at, “Have you seen his compound annual growth rate?” I wasn’t a CAGR guy, I was making 50% in October, 2008. But anyway, it sounds like special pleading. I don’t care. I’m in St. Barts, I’m having fun. I don’t use Bloomberg. And for some reason, I think, for some weird island wifi over here, but I’m still hearing those voices and there’s probably a lot more I could tell you. I will save that up the next time.


Meb: Oh, good. We’ll definitely have you back on, Hugh. Love talking to you. Best places people to go. Listeners, check out his podcast, “The Acid Capitalist.” Also on Twitter we’ll add you to the show note links. Anywhere else they go to find some information on what you’re up to?


Hugh: They tell me that, actually you should look up my name for the podcast, I always make that mistake, pandering on the podcast. And we’re beginning to take off, silly fun, Hughhendryofficial on Instagram. I’m going to post a picture cutting down bananas from the garden, all that kind of stuff. If you need a pause from the daily grind of markets, join us in St. Barts.


Meb: I love it. Hugh, it has been a whirlwind tour. Thank you so much for joining us today.


Hugh: Thank you for the honour. Much appreciate it.


Meb: Podcast listeners, we’ll post show notes to today’s conversation at mebfaber.com/podcast. If you love the show, if you hate it, shoot us feedback at feedback@themebfabershow.com. We love to read the reviews. Please review us on iTunes and subscribe to the show, anywhere good podcasts are found. Thanks for listening, friends, and good investing.