Update - February 23, 2021

Why the Pundits Are Wrong…

What happens when the free market wants one thing… and the puppeteers in charge want something else?

We’re about to find out.

Interest rates are at the heart of our modern asset portfolio (MAP) theory. That’s because they are at the heart of our economy. Like the valves on a submarine, they dictate what goes up and what goes down.

And, as any naval architects among our readers would know, if one valve is opened, another must be closed.

If not, the whole thing will go out of balance.

If a captain fires a torpedo, he must immediately replace the weight the ship lost with an equal amount of water… in the exact part of the ship. If not, the ship could roll or, not good, rise to the surface at the worst possible time.

The economy is no different.

Push money here… and we’ll have a void over there. Take it from there… and we’ll have a gap back over here.

It’s what we’re seeing right now with interest rates and the trillions of dollars that are being printed and spent across the globe.

Central banks like the Federal Reserve want interest rates to remain at record lows. Record-low rates are what have kept the economy expanding and stocks climbing.

The free market is on the other side of those interest rates. Lenders want to be paid for their risk… and they want to be paid more than the rate of inflation.

With all that free money circulating through the economy, lenders are worried (just as we are) about inflation. They’re demanding a higher return on their money.

But are they going to get it?

The Puppeteers Fight Back

The benchmark 10-year Treasury has seen its rate nearly triple from the lows it hit last August. It’s risen from a record-shattering low of 0.51% to 1.37% this morning.

With rates merely returning to where they were this time last year, it’s no time to believe a sustained rally is on its way… but many market watchers are thinking that way.

They’re wrong.

The headlines prove the point.

Across the pond, the European Central Bank (ECB) is already planning its next move. Its leader, Christine Lagarde, got on the horn yesterday to tell markets that her group is “closely monitoring” the situation. It was her way of saying that if rates climb (because demand is slipping), the ECB will simply print more money and artificially increase demand by purchasing bonds.

It’s a bit of quirky situation… like a dog chasing its tail.

Rates are climbing because the ECB – like the Fed – is printing money… and the ECB is printing money because rates are rising.

Clearly, it’s not sustainable.

Janet Yellen knows that. As a former Fed chief who is now in charge of Uncle Sam’s wallet, she knows a thing or two about money printing – and what happens to stocks when it stops.

That’s why at nearly the same time as Lagarde was using her words to lower rates (it worked, by the way), Yellen used hers to tell us she’s working on a solution to the dog-versus-tail conundrum.

It has to do with something we’ve been talking about for years… the death of cash.

Yellen Changes Course

In an unsurprising turn of events, the new Treasury secretary is now eagerly talking up a digital dollar. She said yesterday that it makes sense for central banks to be looking at issuing digital money.

Knowing her audience – in this case, The New York Times – she never mentioned the fact that it’s rarely pleasurable for a dog to eat its tail. Instead, she played up the inequalities of the current system.

“Too many Americans don’t have access to easy payments systems and banking accounts, and I think this is something that a digital dollar, a central bank digital currency, could help with,” she said. “It could result in faster, safer and cheaper payments, which I think are important goals.”

Digital money, of course, allows her pals at the Fed to do something they’ve never done before… take interest rates negative.

In our current system, we’re free to stockpile cash that would lose value sitting in the bank. With a digital currency, on the other hand, there’d be no cash to stockpile.

It’s coming…

Almost every month, another country announces its new digital money trial. China is leading the pack, but it’s not alone in the race.

Sweden is in the race. So are Switzerland, Japan and Turkey.

Just last week, the Bahamas teamed up with Mastercard to link the island’s new digital cash to the realm of plastic. At nearly the same time, Bermuda went live with its own digital dollar, which can be used to buy rum. (Perhaps it’s time to schedule our next Manward retreat?)

The trend is clear…

And the reason I’m telling you about it today is to show why fears of rising rates are overblown. The long-term trend for the past 40 years has been downward.

If the free market had its way, that would certainly not be the case. But at nearly the same time as rates started their long, slow journey lower, the free markets were booted out of the interest rate game.

It’s why I am confident the free market will not get its way here.

Rates will not rise. Central banks across the globe have watched the free market do its work over the last two months. They’re gearing up to fight it.

Real interest rates (that’s the nominal rate minus inflation) will remain negative.

The Fed won’t have it any other way.

To change our investing strategy now, assuming rates will continue to rise, is dangerous.

We’ll stick to what has worked so well for us over the past 12 months – buybacks, tech and cryptocurrencies.