Myth of Money: How to Invest in a Rising Interest Rate Environment
Welcome to this week’s edition of Myth of Money, a weekly newsletter on the digital asset markets read by 12,000+ investors.
Disclaimer: The following is not intended as investment advice. Do your research.
As the news cycle continues to revolve around FTX and the potential collapse of crypto, the traditional markets continue to shift in a quiet and negative direction as a result of Fed’s rising interest rate policy.
The market pain has been intense across the board.
According to the Economist:
The S&P 500 index of leading American shares was down by almost a quarter at its lowest point this year, erasing more than $10trn in market value. Government bonds, usually a shelter from stocks, have been blasted: Treasuries are heading for their worst year since 1949. As of mid-October, a portfolio split 60/40 between American equities and Treasuries had fallen more than in any year since 1937. Meanwhile house prices are falling everywhere from Vancouver to Sydney. Bitcoin has crashed. Gold did not glitter. Commodities alone had a good year—and that was in part because of war.
The shock was all the worse because investors had become used to low inflation. After the global financial crisis of 2007-09, central banks cut interest rates in an attempt to revive the economy. As rates fell and stayed down, asset prices surged and a “bull market in everything” took hold. From its low in 2009 to its peak in 2021, the s&p 500 rose seven-fold. Venture capitalists wrote even bigger cheques for all manner of startups. Private markets around the world—private equity, as well as property, infrastructure, and private lending—quadrupled in size, to more than $10trn.
A Fundamental Economic Shift
We may be experiencing a fundamental shift in the way markets operate and the way we should invest.
A prolonged near-zero interest rate climate led to high inflation, which is something the Western “rich” world has not experienced since the 1980s. And let’s be honest, most American households are feeling approximately 30% inflation with rising food, fuel and housing costs, rather than the reported CPI of 7.7%. Elsewhere, the official “inflation” is 11.1% in Britain and 10% in the EU. The IMF forecasts a global inflation rate of 9.1% over the course of 2022.
In response, the Fed chose monetary tightening through continuous interest rate hikes. The current Federal fund’s target rate is 4%, the highest it has been in a decade, but by far not the highest it has been in recent history. This tells us that the Fed, should they deem it necessary, has a lot more room to raise rates if prices don’t sufficiently fall.
So what happens now?
Earlier this year, billionaire investor Stanley Druckenmiller warned that the stock market may stay flat for the next decade, as we may experience a similar economic period as between 1966 and 1982, where interest rate-yielding investments prevailed.
Protecting our portfolios from inflation has become our primary concern. Rising government-bond yields, make risk-on assets such as public equities and crypto less desirable. Gone are the days of dirt-cheap loans and as a result, ever-booming property markets.
In retrospect, we should have seen it coming.
Before this year, risk-on assets were the name of the game.
Private markets around the world—the lion’s share being private equity, but also including property, infrastructure and private lending—quadrupled in size, to more than $10trn. Big private-equity firms created listed funds of unlisted firms, to lure in retail investors. But it was institutional investors that were especially enthusiastic: private equity and property came to comprise almost a fifth of American public pension funds’ portfolios. (Source: Economist)
Where should we invest today?
Today nowhere seems safe.
Equities? Unclear if we have bottomed.
The breadth of losses is even more striking than the depth. In particular, the “60/40 portfolio”, comprising 60% stocks and 40% bonds, a popular choice for investors seeking a good return without running big risks, has performed appallingly. Evan Brown and Louis Finney of the asset-management arm of UBS, a Swiss bank, calculate that, as of mid-October, a 60/40 portfolio of American equities and Treasuries had had its worst year since 1937.
As the cost of borrowing continues to go up, leverage-buyout funds are getting hit the hardest.
Even gold, which is seen by most as a hedge against both financial markets and inflation has fallen by 3%.
It seems the winners over the last year have been well-timed bets on commodities supercharged by Russia’s invasion of Ukraine in February. Otherwise, oil has fallen 10% just this week.
Ray Dalio, the founder of Bridgewater, the world’s biggest hedge fund, believes that a much bigger paradigm shift is underway than a simple rise in interest rates and inflation. He cites the risks of huge debts, populism within Western democracies, and rising tensions between global powers. The first put pressure on central banks to tolerate inflation and even monetize debt rather than raise rates. The second and the third could spur conflict both within and between states. Mr. Dalio worries that the stage could be set for a period like that between 1910 and 1945, where in some regions “you have almost the complete destruction of wealth as we know it”.
What About Housing?
There is an interesting thing happening with fixed rates and it directly affects housing. While the federal funds target rate continues to rise, 30-year fixed-rate mortgage, which typically moves in tandem with Fed’s policies, dropped over the last month from 7.16% to 6.4%. This means the market expectation is that this interest rate increases will be short-lived and housing may not be suppressed for long.
What to Invest in Going Forward:
These are just a few ideas that I’m looking at personally. Not financial advice.
I Bonds - these are inflation-pegged U.S. 30-year bonds that currently yield a whopping 6.89%. U.S. investors are limited to $10,000 per year.
Property - I believe that real estate will continue to have a tumultuous 6 months, making it a perfect opportunity to get something at a discount, particularly on a lower variable rate. I am also being highly cautious, looking at assets that are almost guaranteed a return.
Businesses - I am only allocating to companies that already have a product or are very close to having a product that customers actually need and will use in the immediate future. This applies to my consumer and crypto investments. The bar has gotten a lot higher. Dreamers need not apply.
Bitcoin - I still believe the inflation narrative will win out in the future. I also believe we are heading for a period of de-globalization where the major global superpowers will all try to establish dominance over their trading sphere with their own currencies, making Bitcoin the only common store of value and unit of account.
This Week By the Numbers 📈
Top Stories 🗞️
Ledger one of the leading hardware wallet manufacturers has recognized market sentiments and released a new product called the Ledger Stax. The new wallet is a collaboration with Apple iPod creator Tony Fadell. The announcement by Ledger comes when the hardware wallet manufacturer is enjoying a boost in sales. The wallet is sleeker and better looking. In terms of size, it will fit in the palm of your hand like a credit card and retail for $279. “We wanted to do something that is more fun and fits with where culture is going,” said Ian Rogers, Ledger’s chief experience officer to CoinDesk. Stax also comes with embedded magnets, making it easier for devices to be stacked. The outside is an E Ink touchscreen display that can show transaction details and be personalized with any NFT or picture. It also has Bluetooth connectivity for live connection to a mobile device and wireless charging. The new wallet will be available in Q1 of 2023, and pre-ordering is now live on their website.
Former FTX CEO Sam Bankman-Fried has indicated that he’s willing to testify at a United States House hearing into the collapse of cryptocurrency exchange FTX. Bankman-Fried controversially missed the deadline to respond to a Senate Banking Committee request to appear and testify during a hearing focused on FTX’s bankruptcy earlier this week. While the possibility of a congressional subpoena was on the table, the beleaguered former CEO has offered himself up in a series of tweets published Dec. 9. Bankman-Fried was replying to a thread of tweets from congresswoman Maxine Waters, chairwoman of the Financial Services Committee, who contended that his recent interviews with a number of media houses provided evidence that he had enough information “sufficient for testimony.” Bankman-Fried’s belated response on Twitter came four days after Waters’ request. The former head of FTX and Alameda Research said he would be limited in his ability to provide answers, citing a lack of access to professional and personal data.
United States Senator Ted Cruz wants to make the American state of Texas an oasis for Bitcoin and other cryptocurrencies. Speaking at the Texas Blockchain Summit 2022 in late November, the politician empathized with how the crypto industry can be strategic for the U.S. energy supply and technological development. Cruz argued that Bitcoin mining could be used to monetize energy created by oil and gas extraction, emphasizing that mining activity can be used as an energy storage and supply alternative. The senator highlighted that Texas has abundant and relatively low-cost energy and embraces free enterprise, making the Lone Star State an attractive place for the U.S. crypto industry. Cruz also explained why he describes himself as an enthusiastic fan of Bitcoin.
Crypto media site The Block was secretly funded over the last two years by Sam Bankman-Fried’s Alameda Research, The Block confirmed on Friday. The Block’s CEO, Michael McCaffrey, immediately resigned after the loans came to light, and will also step down from The Block's board. The company said no one at the company had any knowledge of the loans except for McCaffrey. According to The Block, McCaffrey received three loans for a total of $43 million from 2021 through this year. The first loan was for $12 million in 2021 to buy out other investors in the media company, at which time McCaffrey took over as CEO. The second was for $15 million in January to fund day-to-day operations, and the third was for $16 million earlier this year for McCaffrey to purchase personal real estate in the Bahamas, according to The Block. In a tweet thread on Friday, McCaffrey said that in early 2021, the company was in dire straits, and “the only option that materialized” was to secure a $12 million loan for his holding company from SBF. He said he didn’t disclose that loan, nor a subsequent $15 million loan, to anyone since he didn’t want knowledge of the loan to be seen as compromising the objectivity of the coverage of Bankman-Fried and his companies.
The most talked about crypto lawsuit involving the United States Securities and Exchange Commission (SEC) and Ripple is approaching its conclusion after a two-year-long battle. On Dec. 2, the SEC and Ripple both filed redacted replies to each other’s opposition to motions for summary judgment. Ripple argued in its motion document that the SEC has failed to prove that its offering of XRP between 2013 and 2020 was an offer or sale of an “investment contract” and therefore a security under federal security laws. Ripple concluded the document by stating that “the court should grant Defendant’s Motion and should deny the SEC’s Motion.” Stuart Alderoty, general counsel of Ripple, stated on Twitter on Dec. 3 that this is Ripple’s “final submission,” asking the court to “grant” judgment in its favor. He also stated that Ripple is proud of the defense it has mounted on “behalf of the entire crypto industry,” noting that Ripple has “always played it straight with the court,” taking a subtle swing at the SEC saying he “can’t say the same for our adversary.” In another Twitter post, Alderoty continued to slam the SEC on Dec. 5 and referred to it as a “bouncing regulator,” quoting two statements that he suggests are at ends with each other.
Thank you for reading this week’s edition of the Myth of Money.🚀
Until next week,
By Tatiana Koffman
Hi there and thanks for reading. If you stumble upon my newsletter, you will notice that I write about money, economics, and technology. I hold a JD/MBA and spent my career in Capital Markets working across Mergers & Acquisitions, Derivatives, Venture Capital, and Cryptocurrencies. I believe in empowerment closing the financial education gap and creating equal opportunity for the next generation. I have invested in 20+ companies and funds. Check out my portfolio here.
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