Paradoxically, this intolerance to inflation generates inflation volatility and policy reactions which ensure an inflationary endgame. The more Volcker-like the appetite of the Federal Reserve (Fed) to crush inflation now, the more likely it breaks something in the financial system and the economy. That then forces a monetary and fiscal response which validates the new underlying inflationary system dynamic.
This will mean a bumpy journey, with inflation volatility. In 2022, we felt the force of a heavyweight inflation punch. Now, we’re starting to experience the recoil.
SINGING, “THIS’LL BE THE DAY THAT I DIE”
The frailty of the 60:40 portfolio (60% equities, 40% bonds) was finally exposed, as Figure 1 shows. Rather than offsetting one another, bonds and equities fell in tandem as the Fed raised rates aggressively.
US bonds failed comprehensively to protect US equity investors. It turns out that bonds protect unless they cause the equity bear market. Then 60:40 is doomed.
But mainstream equities and bonds weren’t the epicentre of the pain. Last year, our thematic suggestion was to be ‘short narcissism’, with narcissism proxied by ‘profitless tech’ companies. Figure 2 shows an index for profitless tech. The music definitely died for these stocks in 2022.
A GENERATION LOST IN SPACE
It was even worse in crypto land.
By the end of 2021, it had become a space where a younger generation, disadvantaged by low interest rates and high asset prices, were speculating to accumulate wealth.
“In 2022, we felt the force of a heavyweight inflation punch. Now, we’re starting to experience the recoil”
In 2022, cryptocurrencies collapsed, with the market cap of all coins in circulation plunging from $3 trillion to $850 billion (Figure 3).
The fireworks ignited in May when the Terra-Luna token crashed into terra firma, precipitating the failure of various leveraged players. 3 Arrows Capital got shot, Voyager never returned, and Celsius network discovered the meaning of absolute zero. Crowning all of these was the extraordinary bankruptcy of FTX. CEO Bankman-Fried: did what it said on his tin.