With the bonds comment above @rocketpj - do you have a link to data on this? I've been trying to find some - I did find something a while back that showed the decline in Chinese holdings but I'm keen to keep an eye on the bonds situation as we're pretty limited in what we can get bonds funds wise here (NZ) and many seem to invest in US debt but don't specify to what %
This isn't bond data specifically, but check out this currency chart of the British pound versus the US dollar. Imagine how anyone who bought a pound-denominated bond in the early 1970s watched their purchasing power be utterly decimated over the next decade by the 50% loss in the value of the pound versus the dollar. Whatever the interest rate, it wasn't enough.
Or consider this older chart and imagine all the people holding British pound bonds from the 1940s and 1950s. Again, no plausible interest rate would have been enough to escape a purchasing power loss.
This is the worry for people buying US treasuries or earning US dollars today.
Yup those charts highlight it very well thanks :( I think the era of US dominance is over for sure, I just didn't expect the US to be self-detonating so rapidly. The more I read, the more I worry that the traditional advice to move to a higher percentage of bonds if you want more stability is no longer valid. I'm more concerned about not losing lots than big gains at this stage but how to achieve that? Shares are extra volatile because of all the tariff and other US policy changes, US bonds are definitely a worry but even local bonds may be at risk as I'm assuming the US issues will contaminate the entire world.
On that note, does anyone know of any good free/low cost resources for stress testing portfolios please? (maybe I should start a new thread for that sorry)
Not to mention the leadership and political culture of post-WW2 Britain makes the contemporary U.S. quality of governance look like Hati or Somalia! The Brits at least managed to spread their debt-driven economic decline across about a 35 year period. Of course, maybe we're already in such a decline in the U.S. I doubt it was obvious at the time to mid-century Brits that their overall economic trajectory had turned, and that by the 21st century they'd be a minor economic power.
I don't know if any stress testing tool based on historical data would tell a person how to avoid U.S. dollar devaluation on the scale of the British pound, because USD devaluation has never happened before. And because people think in a US-centric way, we don't tend to build historical backtesting models based on other countries' experiences. The assumption was always that the 21st century would resemble the 20th for US investors. A comforting thought, in its time.
Regarding your "how to" question, it's complicated because a US decline could "contaminate the the entire world" as you note. When the U.S. printed helicopter money during the pandemic and triggered a period of high inflation, it also somehow triggered high inflation and rising rates in countries around the globe that
didn't print excess money. Similarly, had an investor in mid-2007 foreseen the US-centered real estate debt crisis, and moved their money into, say, Greek, Italian, and Portuguese euro-denominated bonds to get as far away from it as possible, they'd be in a world of hurt shortly thereafter.
My base case is that the U.S. remains a capitalist country uniquely and utterly devoted to pumping up investment returns, at any price to quality of life, principles, or social cohesion. However, like ALL one-party states, the investment returns eventually dry up as corruption takes a bigger and bigger cut. Also, mismanagement and cronyism eventually stifle innovation and reduce the incentives for entrepreneurs and investors. If the U.S. is still capable of self-correction, the desire of capitalists and investors to make money will purge the disease. If not, the disease process will proceed to its natural conclusions, as seen in one-party countries like Hungary, Belarus, Russia, Turkyie', Venezuela, etc. So far, U.S. capitalists and investors cannot see beyond the tax breaks offered by the ruling party, but eventually, as their returns suffer, they will become the regime's opponents.
My base case is we see continued strong returns in the U.S. for the next 2-3 years, as the shareholder-prioritizing economic system is not yet overwhelmed by the corruption. Then we might watch these returns dwindle over time, if the "immune response" from the capitalists/investors is insufficient. The currency could continue falling for this entire period though, so my strategy involves staying invested in US equities while simultaneously hedging the US dollar.
Let me think through some ideas for how to hedge the dollar:
1) Precious Metals and Commodities: After years of opposition, I must begrudgingly admit the goldbugs were right. Gold (using the ETF IAU as a proxy) has outperformed the price performance of SPY over the past 10 years, amid a relatively quick loss of purchasing power for the US dollar. Silver (SLV) is catching up fast, and has outperformed small caps (IWM) and mid-caps (VO) over the past ten years. Perhaps the bugs are also right about the rise of precious metals being a proxy for currency devaluation, now that real estate has also risen so much around the world in both USD and local currency terms. I'm putting my spare change into IAU and also thinking about a broader commodities fund like BCI. However, it's hard to allocate much to an asset class that produces no economic output on its own, and expect to retire on the price swings. 100% precious metals may have worked well enough in the past, but (a) prices are not actually counter-correlated with inflation or currency swings, and (b) there is no theoretical rationale to bet the next 30 years of returns can come from people being willing to pay increasingly more for PMs and commodities. If events in the U.S. cause a global depression, these asset prices could fall along with all the other assets.
2) Short the US Dollar with Funds or Options on Funds: The fund UDN could be used as a proxy for short dollar bets, with limited downside. The problem is you don't get much leverage this way, so perhaps buying calls or doing bullish spreads on UDN would be the way to insure a larger portfolio against dollar devaluation. Or, you could buy puts or do bearish spreads on UUP, a dollar-bullish ETF. Time decay would be a problem unless you did something like a bull put spread on UDN or a bear call spread on UUP, in which case time decay would generally work in your favor. The bigger problems are that options plays are only available on these funds with timeframes less than a year, so one's outcomes might not offset a decade-long dollar decline with lots of choppiness. Also, the price of options could become prohibitive if expectations for the dollar's slide became entrenched.
3) Forex Futures: This is the most straightforward way to diversify out of the USD. The downside is that futures have unlimited liability, so you could lose big and face a margin call if the USD unexpectedly swings up. The play would be to buy a bunch of USD denominated assets (stocks, bonds) and then enter into a futures contract to offset the expected fall of an equal amount of dollars over some long period of time. This would allow one to remain invested in productive assets, rather than merely price gambles, while simultaneously hedging against currency decline. I've always considered futures to be too dangerous to play with, and I have an MBA plus 25 years of investing experience plus a hobby of watching economic indicators. But I suppose it's time to self-educate and get more comfortable with them as a risk hedging tool. There is no more efficient or direct method.
4) Foreign Currency Denominated Brokerage Account with Foreign Assets: Interactive Brokers, for example, is one of the few US-based brokerages that allow you to switch the currency in your account to something else, and to use that currency to trade in international markets. I'm slowly experimenting with these capabilities to learn more. The main downside is tax complexity. Also, if you are concerned about the collapse of rule of law, or the government seizing assets, you might prefer a brokerage and funds not domiciled in the US.
5) Foreign Stock/Bond ETFs: One benefit of operating inside the US markets is that one has access to lots of handy financial products, such as ex-US funds and country-specific funds. VXUS offers a one-click way to gain exposure to everything except the U.S. at an expense ratio of only 0.05%! The downside is, of course, that a lot of the companies in such a portfolio exist in countries that are already beyond our worst fears about what the U.S. could become, like China, Turkyie', Egypt, etc. One could still flee to such markets to escape high valuations, but I wouldn't expect long-term returns on the level of what we're used to with US equities. France, Mexico, South Africa, or the UK are simply not going to produce the next Google, Netflix, Nvidia, or Amazon because of how their laws and markets are structured, which is itself a reflection of longstanding cultural values and unlikely to change. Plus, many ex-US countries, particularly Canada and Mexico, are economically linked to the U.S. and arguably not at all economically separate. On the bright side, nations with heavy US dollar denominated debt burdens will benefit from devaluation, just as mortgage holders benefit from inflation. I have so far preferred to invest in single-country ETFs to avoid debt-dumpsters like Italy, Japan, and Greece, or authoritarian nightmares like Turkyie' and China. In particular, I've done well with EWZ and EWU. India is also appealing, but valuations are high and it may be further along the single-party / corruption disease process than the U.S. I've been watching Australia (EWA) for a long time, and the only downside seems to be a housing bubble. In terms of bonds, I'm looking at VWOB and WIP. It's worth keeping in mind that if the disease process ultimately wins in the U.S, one might eventually need to move assets and one's whole account outside the U.S. E.g. how would you feel with a Russian-based or Hungarian-based brokerage, or with funds based in those countries?
6) Cash Accounts in Foreign Currencies and Banks: I.e. the ole, Swiss Bank Account. As with a foreign brokerage account, the downside is legal and tax complexity. With this strategy, one accepts a lower rate of return - basically the risk-free nominal rate in whatever country - and in return receives currency diversification and insulation from the market's gyrations. It's a risk-off decision based on the rationale that if the US declines, asset prices other countries will follow suit. However, it's hard to justify a 4% withdraw rate when one's assets are in a non-inflation-protected savings account yielding, what? 2-3%? Also, I can imagine a scenario where US dollar devaluation triggers events and policy changes that lead to competitive devaluation of currencies around the world, or a 2021-style inflation that infects even the best-run economies. In that event, your cash in the foreign bank would still lose purchasing power, though perhaps less than stocks/bonds would have lost. Yet this play wins in the scenario where the US hits its
Minsky Moment, drags down the world economy, and institutes capital controls, so it might be worth allocating some FU money here just in case you might need to disembark empty-handed from an airplane in Vienna or Rio someday.
7) Real Estate: This is not my favorite way to survive the volatile decades ahead for two reasons. First, it pins you or your assets down in a physical location, reducing your flexibility, with high costs to exit - not ideal if the worry is national economic decline and the end of democracy. Second, prices for real estate are currently so high that the expected return on investment is poor, and the only thing that could change this dynamic is if renters suddenly started earning sufficiently massive amounts that rents could be increased dramatically - a scenario not consistent with our worries,
and in which equities would likely do even better. Investors from around the globe have been stuffing their money into real estate in stable democracies like
Greece, Portugal, Spain, and Canada, sometimes in exchange for residency or citizenship, and this has had the effect of bidding up the assets' prices and creating instability with the disgruntled population. If the U.S. flopped and created some collateral damage, this sort of real estate frenzy could accelerate, leading to a backlash, which would lead to countries closing their doors for visa applicants or new foreign property owners. In that specific scenario, real estate investments might boom. However, there is a certain feeling of running with the lemmings and jumping into a late bubble with such a strategy, and in any case, the assets' cash returns are poor. Like PM's/commodities, this is greater fool theory investing. If we see another bout of worldwide inflation, with mortgage rates in many countries exceeding 10%,
8) i-Bonds and short-duration TIPS: These represent a bet that (1) the US government will keep paying its obligations, just with money-printer cash, and that (2) the government will accurately calculate the inflation rate and pay its inflation-adjusted creditors per the agreement, and that (3) the reduction in the purchasing power of the USD will roughly approximate the inflation rate. Of these assumptions, I think #1 is likely. #2 forces us to assess the possibility that the single-party U.S. government with politically influenced BEA or BLS could report false inflation rates, as we've seen in Russia, Turkyie', and Venezuela. #3 is a concern because a fall in real wages and margins in the US could reduce the effect of currency devaluation on inflation. I.e. if everyone works for less, prices might fall less than they would if real wages stayed the same. Aside from these downsides, iBonds have a $10,000 annual purchase limit and penalties for early withdraw. We all learned in 2022 that TIPS can lose value in exactly the sort of inflationary scenario where they were supposed to gain value, so I'd suggest keeping the duration of these bonds very short. STIP is a good ETF for doing this, but you can also buy shorter duration TIPS on treasurydirect.
9) Carry trade: This method involves borrowing US dollars (via mortgage, margin, or a
short box spread strategy), trading those dollars for another currency, and investing the other currency in nearly risk-free and liquid assets. If the USD declines in value relative to the other currency, you reverse the trade to close out your debt and earn a profit. The simplest form of this would be to apply the mortgage on your home to buying short-duration sovereign foreign bonds or holding a savings account in another currency. The more complex form would be the box spread and forex futures/options.
10) Foreign Currency Funds: Like foreign stock/bond funds, these let you hire a helper to manage the futures, options, and swaps contracts for a modest fee. But they simply invest in foreign currencies at the local currencies' risk-free rate. This is an appealing alternative to setting up a foreign domiciled account or doing tricks with Interactive Brokers, because it's so dead simple. FXE, FXA, FXU, FXY, and so forth can simply be purchased in lieu of a foreign savings account. The downsides include paying an expense ratio, and being US-domiciled. Benefits include tax simplicity. But the worst thing about this strategy is the lack of available leverage. The ones with options markets are thinly traded.
