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To investors,
We don’t have to look far to realize that George Soros nailed the concept of reflexivity.
Let’s go back to March 2020. The Federal Reserve perceived a major issue, so they conducted two emergency interest rate cuts to arrive at 0%. As any student of reflexivity knows, I use the term “perceived” because it ultimately does not matter whether there was a true crisis on their hands or not. As long as the Fed believed a crisis was on their hands, they were going to act.
And act they did.
Those emergency rate cuts, coupled with a level of money printing we have not seen in my lifetime, created the perfect storm for an explosion in asset prices. It was a great example of reflexivity…asset prices had fallen from the sky in March 2020 as fear set in, but they came roaring back once everyone realized the world was not ending.
That period will likely not be the last example of the 2020s. Here is an interesting question—does the concept of reflexivity suggest the Fed will have to aggressively cut interest rates soon?
Maybe.
The Fed’s interest rate cuts back in 2020 were met with the reflexive response of the fastest interest rate hikes in history, which started almost exactly two years later in March 2022. Just as fast as rates went down, rates skyrocketed in an attempt to get inflation under control.
This boom-bust cycle is the perfect example of what happens when humans, who have been tasked with the impossible job of managing an economy, begin to make rash decisions based on perceived knowledge.
If rates went down aggressively, followed by an aggressive raising of rates, should we now expect another round of aggressive rate cuts?
I am not positive, but the odds of that scenario appear to be increasing.
The decision-making process of Fed officials is not going to change any time soon. These are humans who are forced to make decisions today based on backwards looking data, which is dependent on a perceived understanding of reality. There is a nearly 0% chance that the Fed, or almost any other market participant, could correctly articulate the current economic situation and what is going to transpire over the coming 6-12 months.
Ignore Soros’ politics for a second. As I mentioned at the start of today’s letter, he seems to have nailed this idea.
Add in the fact that the US national debt is accelerating to the tune of hundreds of billions of dollars per month at the moment, which is partially due to our decision to fund the war in Ukraine, and it is easy to see a scenario where the Fed has to conduct significant quantitative easing to be better positioned to monetize the debt. This analysis doesn’t even include potential future monetary support for Israel or Taiwan either.
Think that is not going to happen? President Joe Biden was on 60 Minutes last night confirming his intention to ask Congress for billions of dollars in support of Ukraine and Israel. And Treasury Secretary Janet Yellen said in an interview this weekend that “we can certainly afford two wars.”
Interestingly, Yellen did not mention in the interview that the US government almost shut down a few weeks ago because we couldn’t afford to operate domestically for a few days. Not sure what money she thinks we have, unless she is imaging all of the future dollars that the US will have to print out of thin air.
That means the debt will have no end in sight.
Ok, let’s get back to interest rates. These rates were reflexive from 2020 through 2023. If I was a betting man, I would be willing to bet the odds are over 50% that the Fed will have to reverse course and drop interest rates faster than expected as the government continues to spend like drunken sailors.
You can’t have a government engaged in multiple violent conflicts as a financial sponsor if said government is spending more money on national debt interest payments than their defense budget.
It is ridiculous that I even need to call that out, but here we are.
There are very few people talking about a scenario where rates continue to be reflexive and the Fed is forced to drop interest rates aggressively. The theory of reflexivity suggests more of us should be considering the possibility and the math behind the aggressive growth of the national debt is simultaneously smacking us in the face.
Hopefully this letter makes you think more deeply about what could transpire. I would love to hear what each of you believes is the likely path forward. As you know, I learn more from you all than you will ever learn from me.
Hope you have a great start to your week. I’ll talk to everyone tomorrow.
-Anthony Pompliano
Darius Dale is the founder & CEO of 42Macro.
In this conversation, we talk about their Weather Model, economy & financial market conditions, how US fiscal policy reacts to conflicts around the world, and how investors can think through various outcomes.
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How Markets Are Reacting To Global Conflict
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Will We See Interest Rates Cut Aggressively Soon?