wknd notes: Leaning Against The Crowd

US District Judge Analisa Torres granted summary judgment to Ripple on claims by the Securities and Exchange Commission that it sold unregistered securities through sales to retail investors on digital asset exchanges. Torres reasoned that such investors did not know that Ripple was on the other side of the trade, so they could not have known or expected that Ripple would use the money to boost the value of its token (XRP). It was phenomenal news for Ripple, many other tokens, and for digital asset exchanges. The judge, however, also ruled that sales of XRP to institutional investors were unregistered securities. This second ruling was not in Ripple’s favor, but it had no bearing on digital asset exchanges. So, for Ripple, the news was mixed, but XRP nevertheless rocketed 75%. There is no greater gravitational force in financial markets than uncertainty, and after a 3yr legal battle with the SEC, it had largely lifted. Coinbase shares surged 25%, its largest one-day gain as a public company. Judge Torres’s ruling weakened the SEC’s case against Coinbase in dramatic fashion. Like all things in crypto, the moves are big, the cycles compressed. With no buyer of last resort, no central bank to bail you out, hostile regulators, frightened incumbent banks, and politicians with agendas that are difficult to comprehend, crypto markets are where the rawest lessons in investing can be learnt. On Nov 9th last year when Binance withdrew its bid to acquire FTX, Sequoia wrote down its $210mm investment to $0, and the SEC/DOJ opened investigations, the NYT ran this headline: “Is this Crypto’s Lehman Moment?” Markets plunged. Bitcoin fell to around $15,800. Ethereum hit $1,100. They’re now up 92% and 76% respectively. And on June 6th when the SEC sued Coinbase, its stock traded around $40 pre-market. It is up 133% from those lows and +200% from the Nov 9th panic lows. Such drama should remind us to do those things we find least comfortable. To lean against the crowd, its panic. To reflect on our own emotions so that we can deny them. In the pursuit of profit.??

Marcel Kasumovich spent the week in Hong Kong, enroute to U.A.E. He published an interesting piece on Hong Kong’s path toward greater crypto innovation and adoption [here ].

Week-in-Review: Mon: Manheim used car index weaker than exp, Israel CB unch as exp, Fed’s vice chair for supervision Barr proposes enhanced capital requirements for banks with >$100b, Nasdaq announces special rebalance to address overconcentration of the index, Riksbank meeting minutes show concern of SEK weakness, Turkey agrees to advance Sweden’s NATO bid, Yellen says too early to rule out the threat of a US recession, ECB’s Centeno is confident inflation has peaked, EU/ NZ sign free trade agreement, China CPI 0% (0.2%e) / PPI -5.4% (-5.0%e), Turkey unemp 9.5% (10%p), US wholesale inv 0% MoM (-0.1%e), US cons credit $7.24b ($20b exp), S&P +0.2%; Tue: China signaled add’l stimulus coming for the property market – banks to roll loans to end of 2024, Fed’s Williams says he doesn’t have a recession in his forecast but expects tight monetary policy ot weigh on growth, Nato offers Ukraine a fast path to membership, MSFT wins court decision to approve purchase of Activision in defeat for FTC, ECB’s Villeroy believes rates are near the peak but will need to stay elevated for long time, China credit data comes in better than exp, Australia cons conf 81.3 (79.2p), Japan machine tool orders -21.7% (-22.1%p), UK emp change -9k (23k exp) / unemp 4% (3.8%e), Germany final CPI 6.8% as exp, Italy IP -3.7% (-4.5%e), Germany ZEW exp -14.7 (-10.6e), EU ZEW exp -12.2 (-10p), China aggregate financing 4.22T (3.1T exp) / M2 11.3% (11.2%e), US NFIB 91 (89.9e), S. Africa mfg prod 2.5% as exp, Brazil IPCA infl 3.16% (3.14%e), S&P +0.7%; Wed: US CPI 3% (3.1%e) / Core CPI 4.8% (5%e) / Real AHE 1.2% (0.2%p), RBNZ unch as exp / overall tone was dovish, BOC hikes 25 bps as exp / bit more hawkish than exp, RBA’s Lowe says board to meet 8x (rather than 11x) starting next year, Chinese press suggest more credit growth to come in 2H 2023, significant USD weakness following soft CPI data, Fed’s Beige Book notes normalizing labor market, S. Korea unemp 2.6% as exp, Japan PPI 4.1% (4.4%e), Japan core machine orders -8.7% (0.1%e), Turkey IP -0.2% (0.8%e), Mexico IP 3.9% (1.6%e), India IP 5.2% (5%e), India CPI 4.81% (4.6%e), S&P +0.7%; Thu: BoK unch as exp, St. Louis Fed President Bullard (hawk) resigns unexpectedly, Fed’s Daly says too early to declare victory, UK agrees on 6-7% pay increases for public sector, ECB minutes hsow divergent views on rate path and impact on the economy, Judge finds in favor of Ripple after SEC’s law suit, UK RICS house prices -46% (-35%e), China expts -12.4% (-10%e) / impts -6.8% (-4.1%e), UK GDP -0.1% MoM (-0.3%e) / IP -2.3% as exp, EU IP -2.2% (-1.2%e), S. Africa mining prod -0.8% (2.0%e), US PPI 0.1% (0.4%e) / Core PPI 2.4% (2.6%e), S&P +0.9%; Fri: GPIF boosted treasury holdings to a 3y high, Fed’s Waller says 2 more hikes is base case but softer data could eliminate need for 2nd hike, Former BOJ Hayakawa expects BOJ to adjust YCC this month / Yomiuri news says BOJ likely to raise it’s 2023 infl forecast, RBA’s Lowe is out in Sept / replaced by dep gov Bullock – seen as slightly more dovish than Lowe, JPM and Citi kick off earning season with strong beats, Argentina CPI 115.6% (118%e), India wholesale prices -4.12% (-3.3%e), Turkey expected infl 33.21% (30.65%p), India expts -22% (-10.3%p) / impts -17.5% (-6.6%p), Brazil ret sales -1% (1.3%e), US impt prices -6.1% as exp, US UofM sentiment 72.6 (65.5e) / 1y infl exp 3.4% (3.1%e) / 5-10y infl exp 3.1% (3%e), S&P -0.1%.

Weekly Close: S&P 500 +2.4% and VIX -1.49 at +13.34. Nikkei +0.0%, Shanghai +1.3%, Euro Stoxx +2.9%, Bovespa -1.0%, MSCI World +3.2%, and MSCI Emerging +4.9%. USD rose +0.8% vs Chile, and +0.4% vs Turkey. USD fell -6.3% vs Ethereum, -5.4% vs Sweden, -4.0% vs South Africa, -2.9% vs Bitcoin, -2.4% vs Yen, -2.3% vs Euro, -2.3% vs Mexico, -2.2% vs Australia, -1.9% vs Sterling, -1.8% vs Russia, -1.7% vs Brazil, -1.2% vs Indonesia, -1.2% vs China, -0.7% vs India, and -0.4% vs Canada. Gold +1.7%, Silver +8.2%, Oil +2.1%, Copper +4.0%, Iron Ore +0.6%, Corn +3.9%. 10yr Inflation Breakevens (EU -10bps at 2.25%, US -4bps at 2.24%, JP +6bps at 1.17%, and UK -13bps at 3.72%). 2yr Notes -18bps at 4.77% and 10yr Notes -23bps at 3.83%.

Year-to-Date Equities (high to low): Greece +49.6% priced in US dollars (+42.6% priced in euros), Argentina +46.5% priced in US dollars (+119.4% priced in pesos), NASDAQ +34.8% in dollars, Poland +34.7% in dollars (+22.2% in zloty), Hungary +32.4% (+18.4%), Ireland +31.2% (+25.1%), Mexico +28.9% (+11%), Italy +26.9% (+20.9%), Taiwan +21.8% (+22.3%), Euro Stoxx 50 +21.7% (+16%), Chile +21.4% (+16.5%), Germany +21.4% (+15.7%), Spain +20.3% (+14.7%), France +19.5% (+13.9%), Netherlands +18.6% (+13.1%), Brazil +17.9% (+7.3%), S&P 500 +17.3%, Japan +17.3% (+24.1%), Korea +17% (+17.5%), Czech Republic +16.2% (+9.1%), MSCI World +16% in dollars, Denmark +14.5% (+9.3%), Saudi Arabia +12% (+11.7%), Sweden +12% (+10%), Switzerland +10.8% (+3.5%), Russell +9.6%, Russia +9.2% (+34.8%), India +8.9% (+8.1%), UK +8.1% (-0.2%), Portugal +7.5% (+2.5%), Colombia +7.5% (-9.5%), Canada +7% (+4.5%), Austria +6.1% (+1.1%), New Zealand +5.2% (+4.7%), Australia +4.2% (+3.8%), Indonesia +3.9% (+0.3%), Philippines +3.4% (+0.9%), Venezuela +2% (+70.8%), South Africa +1.9% (+8.3%), China +1.3% (+4.8%), Singapore +1.3% (-0.1%), Belgium +1% (-3.7%), Norway -0.7% (+1.3%), Israel -1.4% (+1.4%), HK -2% (-1.9%), Finland -3.6% (-8.1%), UAE -5.3% (-5.3%), Malaysia -8.1% (-5.6%), Thailand -9% (-9%), Turkey -16.5% (+16.9%).

Lean: Blindly positioning against the consensus is not a great strategy to pursue all the time. But when investor sentiment reaches extremes, the risk-reward shifts in interesting ways. There is no better extreme to trade than one where the crowd is wildly one way just when the fundamentals are reversing, so that not only are investors overextended, but they are also wrong about their thesis. Such opportunities are naturally quite rare. But because they are so important, we should always be on the lookout to ensure we get ourselves on the right side (and exit the wrong side).

Lean II: The collapse in global bond markets last year could not have happened without a wildly bullish bond mania that collided with fundamentals that shifted bearish. That trade took a decade or more to set itself up. There are more frequent examples of course, and having taken less time to build, they tend to run less far. The wildly bearish sentiment around big tech stocks early this year collided with AI. The bullish case for oil demand collided with a Chinese economy that reopened but failed to reignite. These things hurt investors but tend to last just a few quarters.

Lean III: Investors got insanely bearish on crypto late last year for obvious reasons that made for fantastic headlines. Most people write off the subsequent 100% rally as meaningless. But fundamentals are changing. Incumbent financial institutions have begun the long process of integrating blockchain into their operations. As they do, more and more assets will be tokenized.?This will create great efficiencies and open opportunities for firms with deep expertise in the space. Certain crypto assets should appreciate substantially. And institutions own almost nothing.?

Lean IV: There are always new situations where the crowd is positioned in one way and the fundamentals are starting to move in the opposite direction. One way to hunt for them is to think about the most widely held beliefs in the market and imagine ways they could be wrong. Imagine is the operative word. You should be willing to explore things that you may at first think are preposterous, because of course, we are all usually nestled warmly in the heart of the crowd. So, before you can realistically think about leaning against the crowd, you must step outside of it.

Lean V: One thing virtually everyone believes is unambiguously true is that higher interest rates cause lower inflation. But imagine that this isn’t necessarily the case. What if higher rates lift government interest payments, and if this leads to expanded budget deficits (as opposed to fiscal austerity) then more money is pumped into the economy and inflation rises. Imagine that the recent softening of inflation has been driven mostly by supply chain easing, and the surprising stickiness in core CPI is caused by higher interest rates. It isn’t that hard to picture the crowd being wrong. And US 10yr inflation is priced at just 2.24%.

Lean VI: What are some other widely held beliefs that may be wrong? Here are a few: Pretty much everyone still believes this will be China’s century and that Beijing can control its economy. Ageing populations and shrinking workforces across every major economy (except the US) will lead to subdued inflation because that’s what appeared to have happened in Japan. Low union membership relative to the 1970s will prevent a wage-price spiral. Europe’s political union and deeply flawed monetary union will remain intact because Russia’s threat ensures cohesion.?

Anecdote: “If the fresh skin of an animal, cleaned and divested of all hair, fat, and other extraneous matter, be immersed in a dilute solution of tannic acid, a chemical combination ensues,” said Liv, the two of us walking, her first year done. Cadets are required to commit all sorts of passages to memory. They must be able to recite them at any moment and are inevitably called to do so when standing at attention, heart racing, eyes ahead, with a Cadre screaming commands in their faces. There is hell to pay if a single word is out of place. It is one of the many ways the Military Academies teach. One of the more profound lessons is that for us to successfully lead, we must first learn to follow. And the challenge, of course, is that the people who show real leadership potential tend to arrive at West Point with an overabundance of confidence, cockiness. In fact, such attributes are in part a requirement for admission. The first year of training is about many things, but best I can tell, the principal intention is to tear the Cadets down to the bone. The institution then spends the next three years building them back up, slowly, deliberately, holistically, so that after four years, they each have the tools necessary to lead others. “The gelatinous tissue of the skin is converted into a non-putrescible substance, impervious to and insoluble in water,” said my girl, continuing the memorized passage. This story of transformation is a metaphor; such tools have a powerful effect on us as we internalize lessons. It had been a hard year, everything worthwhile is. The changes in her were evident, the process begun. But her light had not dimmed. “This, sir, is leather,” she said, completing the passage. “And I am leather Dad.”

Good luck out there,

Eric Peters

Chief Investment Officer

One River Asset Management

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Disclaimer: All characters and events contained herein are entirely fictional. Even those things that appear based on real people and actual events are products of the author’s imagination. Any similarity is merely coincidental. The numbers are unreliable. The statistics too. Consequently, this message does not contain any investment recommendation, advice, or solicitation of any sort for any product, fund or service. The views expressed are strictly those of the author, even if often times they are not actually views held by the author, or directly contradict those views genuinely held by the author. And the views may certainly differ from those of any firm or person that the author may advise, converse with, or otherwise be associated with. Lastly, any inappropriate language, innuendo or dark humor contained herein is not specifically intended to offend the reader. And besides, nothing could possibly be more offensive than the real-life actions of the inept policy makers, corrupt elected leaders and short, paranoid dictators who infest our little planet. Yet we suffer their indignities every day. Oh yeah, past performance is not indicative of future returns.

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