The Symbiotic Relationship Between Money Supply Growth and Speculative Asset Prices

In the era of unprecedented monetary expansion, it has become increasingly clear that the growth of the money supply has a direct and outsized influence on the performance of risk assets. Generally speaking, the faster the money supply expands, the more these speculative assets tend to benefit. Conversely, when money supply growth slows or contracts, these same assets often face headwinds. This dynamic is emblematic of the "ponzinomics" that has come to define our current financial landscape. As the money supply balloons, investors are incentivized to pour their capital into ever riskier, more speculative investments in search of outsized returns. This creates self-reinforcing feedback loops that can propel asset prices higher, at least for a time. To illustrate this phenomenon, let's examine a few key examples:

Cryptocurrencies and the Crypto Boom

The meteoric rise of cryptocurrencies over the past decade provides a prime case study. During periods of rapid money supply expansion, such as the era of quantitative easing following the Global Financial Crisis, cryptocurrency prices have soared. Bitcoin, for instance, surged from under $1,000 in 2017 to nearly $70,000 by late 2021 - a mind-boggling 7,000% increase. This was no coincidence. The flood of cheap, easy money incentivized investors to seek out high-risk, high-return opportunities, and cryptocurrencies fit that bill perfectly. As more capital poured into the crypto ecosystem, prices were driven ever higher, attracting even more speculative capital in a self-perpetuating cycle.

Venture Capital and the Tech Boom

A similar dynamic has played out in the venture capital and technology sectors. During periods of rapid money supply growth, investors have eagerly funneled trillions of dollars into high-risk, high-growth tech startups. This has fueled eye-watering valuations for companies with little to no profits, such as WeWork's infamous $47 billion valuation at the height of the mania. Again, the easy money sloshing through the system has provided the fuel for this speculative fire. Investors, flush with cash and hungry for returns, have piled into these risky bets, driving prices higher and higher. And as the money supply growth has slowed in recent years, we've seen a painful unwind of these inflated valuations.

The Correlation Between Money Supply and the Major Indices

The influence of money supply growth extends beyond just the most speculative asset classes. Research has shown a strong positive correlation between the growth of the money supply and the performance of major stock indices like the S&P 500. As the money supply expands, this newly created liquidity often finds its way into the broader equity markets, boosting stock prices across the board. Conversely, when the money supply growth slows or contracts, as we've seen in 2022, these same indices tend to face significant headwinds. This underscores how the consolidation of asset ownership into the hands of large institutional investors has contributed to this dynamic. As more and more of the market is controlled by deep-pocketed funds and asset managers, the movements of the major indices become increasingly correlated with the ebbs and flows of the money supply.

Implications for Investors

The clear takeaway for investors is that understanding the trajectory of the money supply is crucial for navigating today's markets. When money supply growth is accelerating, investors may want to tilt their portfolios toward riskier, more speculative assets in search of outsized returns. But when that growth slows, a more cautious, defensive approach may be warranted. The fortunes of risk assets are inextricably linked to the whims of central bank policy and the expansion of the money supply. Those who can stay ahead of these trends will be best positioned to weather the market's ups and downs.