Wall Street's Not-So-Golden Rule

Scary how much this note rings true. Earlier in the month when I had some diminishing hope of a face-saving reversal from Trump I still thought we might be in a worse spot than most Americans realize because of just how much of our wealth was built on our leveraged position as the trustworthy, stable center of the global economic order. Even if there was an about-face from Trump some damage would have already been done, and it would require a re-assertion from Congress of their authority to build back our credibility.

Clearly we are even further from that now. Hard to imagine what the best path forward looks like from here.

A great article. I by coincidence rewatched Margin Call last Friday. My reason was slightly different. I was at an Alternative Investments conference in Toronto a couple of weeks ago. Most of the focus was on Secondaries, Evergreen Structures and Private credit. Secondaries are the resale of illiquid locked up funds, like PE funds with x number of customers. Seemed to be Family Office oriented activity which struck me as a bit of a red flag. Family offices dropping millions into PE funds wanted liquidity all of a sudden. Enough of the for this to be an industry now. Interesting. Evergreen is the packaging of different secondaries into tranches of a fund which is then sold, also to Family Offices. There is a balancing required between the anticipated exit dates for companies in the various tranches and generating consistent cash flow instead of a locked up investments out of the fund. This was also accompanied by Private credit suppliers, people who loan money in place of the banks to companies and people. In a totally unsupervised environment. Private credit was discussing the use of AI to create models more efficiently and maintain the Ever part of the Evergreen fund. It struck me at the time it was just like 2007. I was running a software company that was doing a CRM deal that year with JPM wealth management and was very familiar with the hedge fund world you described. I determined to rewatch Margin Call just to refresh myself on what people said, to compare to the Evergreen private credit pitches I had just heard. It was astonishing how similar the products and the pitches were then and are now. My reason for this response is to point out that there are a lot of things, some we did before and are doing again, which are going to put the chaos today into hyperdrive when they break. And break they will. When I heard what private credit was doing on Main Streets in small towns USA and how it was being packaged…

Thanks for sharing, this is great. The only thing I would add as someone who works on the fundraising side is the concept of the ‘denominator effect.’ As public equities go down, allocations to private equity can become overweight, which then creates a need (requirement) to offload some private holdings. The secondaries market has already existed for a while, but I think the liquidity it provided has been a ‘nice to have’ sort of thing while it could soon become a ‘must have.’ Everything has been humming along fine for the last 15 years while ‘number go up,’ but I wonder if the music is about to stop playing.

Yes, I understand that this capital flight originated with tariff policy and tariff policy can be reversed, but the ‘virus’ that causes a bank run against an entire country and its currency isn’t a single policy! It’s a lack of credibility in the entire government.

This is the whole ballgame here.

At the beginning of the year I had one major goal for my clients, it was to diversify away from US equities. This was not because I had some brilliant foresight into what the future held, rather it was a visceral reaction to a long post by Cliff Asness. Here is the excerpt:

Of course, after being left for dead by so many U.S. investors, the global stock market did better with non-U.S. stocks actually turning in historically healthy real returns (like 5-6% per annum over cash). It turned out that, just as we thought, the U.S. really did have the best companies (most profitable, most innovative, fastest growing) and this indeed continued in this last decade. But it also turned out that paying an epic multiple for the U.S. compared to the rest of the world mattered somewhat more than we thought, and international diversification, as we knew it would one day, did eventually work. It turns out there was indeed a price at which European stocks made sense. That was news to us.

The whole piece is great and it really caused me to interrogate my own priors. So while I laughed at most parts I also found myself having to contend with the reality that I was guilty of one of the crimes he was laying out. So I set out to rectify that.

And how have clients responded to my pitch that maybe they should hold more non-US equities? Did they refuse to listen, swear at me, and yell This is MAGA country as I cowered in fear? Of course not. They followed my advice, as they almost always do, because their goal isn’t some nebulous theory of patriotic investing, their goal is to adequately fund their retirement and maybe have enough left over to help their kids or grandkids get ahead in life. They go where they think the returns are best. If normal mom and pop investors are thinking that way then the tides are going in one direction. My asset allocation is agnostic towards borders, and I consider myself a pretty loyal and patriotic guy. Now imagine what happens when the assets in question are 100x my meager AUM and the patriotism and loyalty dials are turned much lower.

The line out the door is orderly and single file, but only for so long. Tick tock.

What would happen after capital controls to stop capital flight? It’s looking like the next step.

I think one thing old Don has is leverage via the military- it’s all good that Germany asked for their gold back, what happens if Don says no-?

If we also see bankruptcy as a certainty at this point, it is useful to consider Don’s prior bankruptcies and how he managed to stay a relatively wealthy American oligarch for most of his careers regardless of failure or success. I’ve known a particular adage attached has been attached to his banking relationship, “if you owe the bank 1 million, it’s your problem, if you owe the bank 1 billion, it’s the banks problem.”

I also seem to recall his biggest loans originated from Deutsche bank. Maybe that is why he also thinks he can lean on Europeans harder?

So if you think about it from that lens, it actually makes a lot of sense about his strategies- Japan and China own the most government bonds, and Japan has relatively good relationship with US. So he first targets China as the country he wants to isolate and renege his debts unto, while pushing all their allies to either give up their land and float the American debt and subsidize reckless spending by being the 51st states. Why? Because he speaks the language of power, the softer spoken people are treated like fools and the hardliners as enemies.

Now maybe a variant of Ben’s not-so-golden-rule kicks in here, even if the world isolated China and decided to work with the US, since you know that US is going to take advantage of you once they are finished with China- what incentives do you have to follow along?

This strategy could genuinely have worked for him in his business. Just as Elon’s government subsidized pathway to wealth worked for him. But I wonder if there was a few people who knew this strategy wasn’t going to work and made Trump believe he was smart for thinking of it and brave for implementing it when no one else had the courage to do so? Seems like catnip to a man like Trump… Though that could be extrapolating too far.

I paid $20 for this emotional hyperbole after being intrigued by the first half of the post.

“a rush to the exits by every currency counterparty to the United States…”

Get a grip… this post and the comments have me less bearish USD.

Hi Alex, you seem to be saying that something is completely unbelievable.
Have you some info or more thoughts that are missing from the conversation?

Welcome, stranger. I would encourage you to read a bit more here and see if you haven’t perhaps missed a major plot point or two. This place is not like most others, and for good reason.

Alex admire your skepticism! How do you think the US administration will stabilise the situation? I’ll admit I can’t see a path at the moment. Wouldn’t mind your counter view to shore up my blindspots.

That’s it exactly. Great post, DY … thank you!