wknd notes: If Mattis Leaves, Be Scared

“Find the enemy that wants to end this experiment in American democracy and kill every one of them until they’re so sick of the killing that they leave us and our freedoms intact,” ordered General Mattis, his Marines at attention. He led the boys into Baghdad back in 2003. “I come in peace. I didn’t bring artillery. But I’m pleading with you, with tears in my eyes: If you f**k with me, I’ll kill you all,” said the soft-spoken General to our adversaries. They surrendered. “I’m going to plead with you, do not cross us. Because if you do, the survivors will write about what we do here for 10,000 years,” he warned the vanquished. “Be polite. Be professional. Be prepared to kill everyone you meet,” Mattis advises his troops. The media nicknamed him “Mad Dog.” It stuck. But colleagues call him “Braveheart.” They marvel at his intelligence, his devotion to the study of military strategy, history, his library filled with thousands of dog-eared books stretching to Rome’s rise and fall. “Thanks to my reading, I’ve never been caught flat-footed by any situation, never at a loss...It doesn’t give me all the answers, but it lights what’s often a dark path ahead,” he explained. And by combining history’s lessons with extraordinary cunning and courage, he dominates America’s unending war games, besting peers with his unconventional maneuvers, often economic in nature. “Engage your brain before you engage your weapon,” counsels Mattis, our nation’s steady hand, “I spent 30 years getting ready for a decision that took 30 seconds.” Make no mistake, America’s aggressive (but so far peaceful) foreign policy, and the carefully coordinated fiscal stimulus that provides economic leverage in our growing Chinese conflict, is Mad Dog quietly at work. His departure from this administration would be the first and only to really matter. Mattis leaves, be scared. And speculation is rising he’ll be removed after mid-terms, as Trump has recently taken to calling him “Moderate Dog.”

Week-in-Review (expressed in YoY terms): Mon: China CPI +0.1 to +2.3% (PPI -0.5 to +4.1%), Japan Q2 GDP revised +1.1 to +3.0%, UN “global warming could lose $2trln in productivity,” Turkey Q2 GDP -2.1 to +5.3%, Sweden’s center-left holds slight lead in election (far right gains 62 seats), S&P +0.2%; Tue: Xi/Putin vow to fight protectionism, Korea unemployment rate +0.4 to +4.2% (8yr high), Italy gov’t minister says will comply with EU 3% deficit limit, German economic confidence jumps, Brazil’s Lula anoints Haddad (Bolsonaro and Haddad gain relative to the center in polls), US job openings record high, S&P +0.4%; Wed: Japan/Russia to sign peace treaty by year-end, Brent crude breaches $80, EU industrial production -0.1% (exp +1.0%), Dalio “Two-years out is when I’m worried -- it’ll be more of a dollar crisis than a debt crisis, and I think it’ll be more of a political and social crisis,” US PPI -0.5 to +2.8% (core -0.1 to +2.3%), Fed’s Brainard “government stimulus providing tailwinds to demand over the next two years -- expect the shorter-run neutral rate to rise somewhat higher than the longer-run neutral rate,” Macy’s to hire 80k holiday workers, 28mm American’s lack health insurance (8.8% of population), median household income +1.8% to $61,372, S&P flat; Thur: Japan core machine orders surge 11% (rebound from previous -8.8%), Millennials and Gen Z become largest buyers of diamonds, Turkey hikes rates 625bps to 24% (larger than expected), Draghi “uncertainty surrounding ECB inflation outlook is receding,” ECB holds inflation outlook for 2018-2020 unch at +1.7%, US CPI -0.2 to +2.7% (core CPI -0.2 to +2.2%), S&P +0.5%; Fri: Chinese fixed asset investment record low +5.3% (industrial output +6.1%, retail sales +9.0%), Russia hikes rates 25bps to 7.5% (1st hike since 2014), Erdogan suggests scaling back of large infrastructure projects, EU hrly labor costs +2.2% (fastest pace since 2012), European stock outflows 26 of past 27wks ($41bln YTD outflows), US consumer sentiment 6mth high, August retail sales slowest in 6mths, 10yr treasury yield hits 3%, Manafort to plead guilty, Trump orders additional $200bln in Chinese trade tariffs, Hurricane Florence hits Carolinas, S&P flat.

Weekly Close: S&P 500 +1.2% and VIX -2.81 at +12.07. Nikkei +3.5%, Shanghai -0.8%, Euro Stoxx +1.1%, Bovespa -1.3%, MSCI World +1.2%, and MSCI Emerging -0.5%. USD rose +2.9% vs Brazil, +1.0% vs Yen, +0.3% vs China, and +0.2% vs India. USD fell -3.7% vs Turkey, -2.5% vs Russia, -2.2% vs Mexico, -2.0% vs South Africa, -1.3% vs Bitcoin, -1.1% vs Sterling, -0.9% vs Canada, -0.6% vs Australia, -0.6% vs Euro, -0.5% vs Chile, -0.3% vs Ethereum, -0.1% vs Indonesia, and -0.1% vs Sweden. Gold -0.3%, Silver -0.9%, Oil +1.7%, Copper -0.2%, Iron Ore +1.7%, Corn -4.4%. 5y5y inflation swaps (EU flat at 1.69%, US flat at 2.40%, JP flat at 0.27%, and UK +2bps at 3.45%). 2yr Notes +8bps at 2.78% and 10yr Notes +6bps at 3.00%.

2018 YTD Equity Indexes: NASDAQ +16%, Norway +12.3% priced in US dollars (+13.2% priced in euros), UAE +12.2% in dollars (+12.2% in dirham), Russell +12.1%, S&P 500 +8.7%, Colombia +5.7% (+6.9%), Mexico +4.9% (+0.5%), Saudi Arabia +4.8% (+5%), Israel +4.4% (+7.4%), Finland +3.2% (+6.6%), Japan +2% (+1.4%), New Zealand +1.9% (+10.4%), Portugal +1.6% (+5%), Czech Republic -1.4% (+1.6%), Malaysia -1.5% (+0.4%), Taiwan -1.6% (+2.1%), Thailand -2.1% (-1.8%), France -2.5% (+0.8%), India -3% (+9.3%), Switzerland -3.7% (-4.4%), Netherlands -3.9% (-0.7%), Canada -5.1% (-1.2%), Russia -5.4% (+11.9%), Austria -5.8% (-2.7%), Sweden -6.2% (+3.7%), Australia -6.8% (+1.7%), Denmark -7.2% (-3.9%), Italy -7.5% (-4.4%), Euro Stoxx 50 -7.6% (-4.5%), UK -8.2% (-5%), Ireland -8.7% (-5.7%), Germany -9.1% (-6.1%), HK -9.2% (-8.8%), Singapore -9.6% (-7.1%), Belgium -9.7% (-6.7%), Spain -9.7% (-6.8%), Korea -10.3% (-6%), Chile -13.7% (-3.8%), Indonesia -14.3% (-6.7%), Hungary -14.8% (-7.9%), Poland -15.2% (-9.6%), Greece -17.8% (-15%), Philippines -19.9% (-13.4%), South Africa -20.4% (-4%), Brazil -21.9% (-1.3%), China -23.2% (-18.9%), Turkey -49.5% (-17.8%), and Argentina -53% (+0.4%).

Made in China: Beijing identified 10 industries to become globally competitive in by 2025, and globally dominant during this century. Robotics, new-energy vehicles, biotechnology, aerospace, high-end shipping, advanced rail equipment, electric power equipment, new materials (exp. screens and solar cells), new generation information technology and software (integrated circuits and telecommunications devices), and agricultural machinery. In 2017 China published a development strategy for Artificial Intelligence, with a stated goal to lead the world by 2030.

Global Tech Exports: High-tech exports include all products which require significant resources and research to develop and produce, including the aerospace, computer, pharmaceutical, scientific instruments, and electrical machinery industries. China shipped $560bln in high-tech exports in 2017, Germany exported $193bln, US $148bln, Singapore $135bln, Korea $130bln, France $133bln, Japan $105bln, Netherlands $67bln, Malaysia $60bln, Switzerland $53bln, Mexico $45bln, Thailand $33bln, Italy and Canada $29bln.

Entangled: Einstein published a 1935 paper on a paradox. Certain quantum particles appeared to be entangled, such that if the spin of one could be reversed its twin’s rotation would also reverse, instantaneously, even if separated by a substantial distance. That such particles could communicate, and at speeds faster than light, was impossible. Albert concluded that the accepted understanding of quantum mechanics was therefore incomplete. He called the phenomenon “spooky action at a distance” and died without understanding it. It remains a mystery.

Entangled II: Chinese physicists broke their own record, yet again. This time they entangled 18 quantum particles (18-quibit). If you change the spin of one, you change the spin of all, instantaneously, even if separated by substantial distance. And the Chinese have now separated entangled particles by 1,200km (from space to earth). They still don’t know how or why entangled particles can communicate. They just know that the masters of entanglement will pioneer quantum computing and secure, instantaneous communications.

Made in America: “The Wall Street Journal has it wrong, we are under no pressure to make a deal with China, they are under pressure to make a deal with us. Our markets are surging, theirs are collapsing. We will soon be taking in Billions in Tariffs & making products at home. If we meet, we meet?” tweeted Trump, as the world remained focused on the tariffs themselves, when this conflict is not about steel and soybeans. This is about the technological race, economic and military dominance, and ultimately how America can slow our only true rival’s advance. 

Anecdote: “I’m fortunate to live in a time where the political system allows my kind of work,” said the Physicist. “Historically, it’s not always so.” Below us particles raced around CERN’s 27km subterranean track, held in precise formation, accelerating toward collision, obliteration, observation. We discussed magic, mysteries, the sublime wonder all around. “It’s incredible that we’ve been able to learn so much about nature, and that the language of mathematics turns out to be so effective in describing it,” he said. I smiled, having never quite considered that fact. “We’re now trying to produce a substance found throughout the universe that interacts with gravity but not light,” he explained. “But so far, no success.” The existence of Dark Matter was first hypothesized in the 1930s, we’ve searched ever since. It accounts for 95% of the Universe’s mass. The Physicist asked me about markets, intrigued by their movements, mechanics. There are parallels with quantum theory. Investor perceptions impact markets, which in turn changes investor perceptions in a reflexive loop that grows highly unpredictable in the extreme. The greatest opportunities in markets often reveal themselves first as mysterious phenomena. When markets move in opposition to general principles, it often means that something fundamental is changing. Reality is always changing. Our job as investors is to identify shifts early and adjust our frameworks accordingly. I asked the Physicist to explain the mystery that confounded Einstein and every physicist since: Quantum Entanglement. “I can understand the equations that describe it. But I’m intuitively mystified by the phenomenon,” he admitted. “In my field of work, I’m astonished often. And each time, I’m reminded that what we know about reality fits within perhaps 5% of all there is. And when you know so little about something so vast, it’s impossible to be certain whether what you believe you know is even reality.”

Good luck out there,

Eric Peters

Chief Investment Officer

One River Asset Management

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, drink 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.