Last week, we drew a comparison between the state of the bond market and Apocalypse Now. I’m not the only one here at Southbank Investment Research to have made the comparison. Tim Price over at The Price Report has his own take on the situation – though with a twist.
In today’s letter, I’ll let him lay out his strategy for surviving this financial Vietnam war into which we as investors have been drafted. Just as then you’ll need to go abroad, and dodge the bullets of an advancing red army…
Little by little, we went insane
Tim Price
Editor, The Price Report
We were in the jungle. We had too much money. We had too much equipment. And little by little, we went insane.
Not the words of Mario Draghi – yet. Nor of Jerome Powell, Mark Carney or Haruhiko Kuroda – yet.
They are the words of film director Francis Ford Coppola in relation to his magnum opus Apocalypse Now, a film that so outrageously exploded beyond its budget and beyond any reasonable compass that during its making it started being referred to as Apocalypse Later.
Coppola’s unique vision came at a price. What was expected to be a 14-week shoot in the Philippines ended up taking more than a year. Coppola fired his leading man, Harvey Keitel, after just two weeks. His replacement, Martin Sheen, turned out to be fighting alcohol addiction and suffered a heart attack on set.
Numerous members of the crew went down with tropical diseases. At key points, helicopters hired for pivotal action sequences were suddenly redirected to quell a revolt in the southern Philippines. Then a typhoon hit, the set was destroyed and the production was shut down.
Throughout all of it, Coppola was dealing with increasingly worried money men back in Hollywood as the film’s budget ran dry. As the film’s scriptwriter, John Milius, pointed out:
“Studio executives, you know, are not noted for their social courage.”
And then Marlon Brando arrived on set, so hugely overweight as to be almost unrecognisable. He didn’t have the barest knowledge of the script. Then he shaved all his hair off and insisted on improvising all of his scenes.
And there were actual dead bodies on the set, bought to add some “atmosphere” from a local who turned out to be a grave-robber.
Coppola had sunk his own life savings into the film. He faced financial ruin if he couldn’t finish it. He suffered a nervous breakdown and on at least three separate occasions allegedly threatened to commit suicide.
“My movie is not about Vietnam,” he once explained, “my movie is Vietnam.”
Central bank monetary policy, 2008-..?
Francis Coppola on set
The markets are not about Vietnam. They are Vietnam. There’s a difference, of course. When a film studio runs out of capital, the production gets shut down.
Corporate resources can only ever be finite. But when a government runs out of capital, it simply borrows more. Or taxes more. Or both. At least for as long as it has access to credit by way of maintaining the confidence of the bond market.
Practically every Western government has got its finances into a desperate mess. In the words of US fund manager Paul Singer of Elliott Management,
America is deeply insolvent, and for that matter, so are most of continental Europe, the UK and Japan.
For as long as governments can perpetuate the illusion of solvency, they can continue to borrow, and therefore also to spend. But once the illusion is broken…
We all know that Japan is drowning in debt, which makes Japanese Government Bonds about the most dangerous asset in the world right now – alongside, that is, almost everybody else’s government bonds.
But the vulnerability of the UK’s creditworthiness is less widely appreciated. Any Jeremy Corbyn/John McDonnell government, allied with income tax rises and the imposition of “one-off” wealth taxes, will test the stability of gilts, and the pound sterling, to destruction. Hence the recent Sunday Times front page splash, “Rich List 2019: wealthy prepare to flee Corbyn’s Britain”.
How to mitigate the risks of a potential Corbyn/McDonnell government? There are far cheaper stockmarkets abroad than here with far less visible political risk. In its drift to meaningless centrism, the Conservative Party has abandoned its traditional commitment to fiscal prudence, whilst simultaneously being sidetracked by botching Brexit.
But the UK is hardly alone in already running its national treasury on empty, on “extend and pretend” and can-kicking. Little by little, even more incredible monetary policy adventuring, like Modern Monetary Theory (MMT), creeps into the policy debate like an early stage cancer.
Not one single major Western government possesses a stable balance sheet. Everybody has thrown caution to the winds, in the illusory hope that ultimately somebody will pay. If you hold Western government bonds, that somebody is likely to be you.
Actions have consequences. Governments are no different from individuals or corporations or film studios in this respect – they can merely perpetuate the myth of solvency for longer, given the credulity of global capital markets and of agency investors with no real skin in the game in their bond portfolios.
But at some point, the piper must be paid. Which is why every major Western government is determined to inflate, and pay the piper (bondholders) in ever more worthless paper money.
And this is why the eurozone now has interest rates at below zero. The natural corollary to universal currency debasement is to own a currency and durable store of value that cannot be printed on demand. If only we could find one (hint: it’s yellow and heavy).
The tragedy of the Vietnam War was a tragedy of many things, not least as an increasingly painful human reflection of the sunk cost fallacy and of the dangers of executive groupthink.
Thank goodness our monetary policy authorities and politicians aren’t vulnerable to those same pressures today.
All the best,
Boaz Shoshan
Editor, Capital & Conflict
Category: Market updates