Podcast Summary
Historical context of fixed income markets and Bitcoin's impact: Long-term trends in fixed income markets could be disrupted by the rising price of Bitcoin, as discussed by a 30-year fixed income veteran.
The current market setup, including the expanding Bitcoin price, could have significant implications for the fixed income market, as discussed in this episode of Bitcoin Fundamentals by The Investors Podcast Network with guest Greg Foss. With over 30 years of experience as a fixed income investor, Foss provides valuable insights into the long-term trend and the potential impact on traditional investors. He shares his early career experiences, including the high yields of the late 80s and the general feeling that rates would normalize. However, he also recounts the insolvency of the Royal Bank of Canada in 1988 and the surprising discovery that the system functioned due to a "too big to fail" implied put back to central banks. This historical context sets the stage for the discussion on the potential implications of the current market setup for fixed income markets as the price of Bitcoin continues to rise.
Interplay of currencies and fixed income, US Treasury as reserve asset-currency: During financial instability, govts restructure debt, reducing yield and extending duration. US market focuses on mark-to-market, offering profit opportunities, while conservative markets hold onto losses for par value return.
The interplay between currencies and fixed income is significant, with the US Treasury acting as the de facto reserve asset-currency of the world. During times of financial instability, governments have resorted to restructuring debt, often resulting in a reduction in yield and extension of duration. This was evident during the late 1980s when the US Treasury assumed the risk of troubled foreign debts, ultimately leading to a mathematical certainty of fiat currency debasement. The key lesson for investors is that their cost is not based on the initial investment, but rather the current market value. The US market, which tends to focus on mark-to-market, offers opportunities for profit, while more conservative markets, like Canada, may hold on to losses in the hope of a return to par value. This reflexivity between currencies and fixed income is crucial to understanding the dynamics of the global financial system.
Understanding market dynamics and being open to alternative investment opportunities: Market dynamics and cultural differences can impact investment decisions. Being open to new opportunities and acknowledging past mistakes are essential in capitalist economies.
In the world of finance, it's crucial to acknowledge past mistakes but also seize opportunities presented by the market, regardless of the cost base. This concept is fundamental to capitalism, which is determined by open market risk and return. However, cultural differences can influence this perspective. For instance, in Canada during the 1990s, there was a reluctance to invest in high yield bonds due to a lack of faith in the price. Contrastingly, in the US, investors believed there was always a price and were willing to pay a premium for the associated risk. This anecdote illustrates the importance of understanding market dynamics and being open to alternative investment opportunities.
Misinformation in Financial Reporting: Criticizing a company's creditworthiness can lead to threats, but it's crucial to look beyond headlines and do thorough research before making financial decisions. Math skills can be helpful in understanding complex financial concepts.
The media's focus on sensational headlines and quick clicks can lead to misinformation and misunderstanding of complex financial situations. This was highlighted in a story shared by Preston Pysh about his experience in the high yield market and his interactions with a salesman. The salesman threatened him for criticizing a company's creditworthiness, but in reality, the company's financial situation was more complex than the headline suggested. This issue is amplified in the current digital age where clickbait headlines and social media drive revenue, often leading to shallow reporting. Bitcoin and the capital structure of countries were used as examples of how this can result in misinformation. It's important for individuals to do their own research and not rely solely on headlines when making financial decisions. Additionally, Preston expressed admiration for individuals with a strong background in math, as they tend to have a better understanding of complex financial concepts.
Bond investors face substantial losses due to rising interest rates: In the current low-interest-rate environment, even small changes in interest rates can cause significant losses for bondholders, particularly for institutions like insurance companies and pension plans
The current low-interest-rate environment has pushed investors to take on increasingly riskier decisions due to the significant increase in bond prices over the past few decades. This means that even small changes in interest rates can result in substantial losses for bondholders. For instance, a 30-year bond with a 1.25% coupon in the US has lost approximately 26% of its value in just one year due to a rise in yields. This can be particularly challenging for institutions like insurance companies and pension plans that have matched their liabilities against these assets. The bond math involved in this situation is similar to physics, with duration and convexity serving as the first and second derivatives, respectively. While the math may be familiar, the current trend of rising interest rates means that bond investors are now facing the reality of capital losses instead of the previous era of capital gains.
Understanding the complex relationship between inflation, interest rates, and asset prices: Focus on credit concerns and money supply growth for a more accurate understanding of inflation's impact on asset prices. Traditional inflation measures may be manipulated or inaccurate.
The relationship between inflation, interest rates, and asset prices is a complex one, and there are different perspectives on how to interpret current market conditions. According to Preston Pysh, the inflation gauge (specifically, the Consumer Price Index or CPI) may not accurately reflect true inflation due to manipulation and debasement of currencies. Instead, he suggests focusing on credit concerns and the potential impact of increased interest rates on creditworthiness. At the same time, he acknowledges that house price growth in many countries, including the US and Canada, could be an indicator of inflation concerns. Despite these complexities, it's essential to understand that the unit of account (fiat currency) can significantly impact the perception of asset values. Ultimately, it's crucial for investors to be aware of the limitations of traditional inflation measures and consider alternative perspectives, such as focusing on credit and money supply growth, to gain a more accurate understanding of the current economic environment.
Argentina's bankruptcies as a cautionary tale for financial instability: Early warning signs of financial instability include disconnects between equity and credit markets, bank swap spreads, and repo markets. Ignoring these signs can lead to severe consequences.
The financial stability of countries, even developed ones like the United States, can be precarious. Argentina's repeated bankruptcies serve as a cautionary tale, and while the chance of the US defaulting is low, it's not zero. The plumbing of the financial system, including bank swap spreads and repo markets, can indicate early signs of instability. The disconnect between equity markets and credit markets can lead to a lack of understanding and inappropriate risk-taking. The consequences of financial instability can be severe, affecting various securities and markets, and it's crucial to pay attention to the early warning signs.
Credit markets driving equity volatility, size and leverage a concern: The credit market's impact on equity volatility, the vast size and leverage in fixed income, and the unsustainable debt to GDP ratio pose significant risks, making Bitcoin a potential hedge against potential crises.
The credit markets are currently driving the volatility in the equity market, and the size and leverage in the fixed income market compared to equities is a significant concern. With fixed income being over 100 trillion dollars and equities being half that size, and the banking system being leveraged 25 times, there is a potential for a significant crisis if confidence is lost. Bitcoin is seen as a potential hedge against such calamities, being equivalent to insurance on a basket of fiat credit. The debt to GDP ratio is also unsustainable, with debt growing at a rate that far outpaces global GDP, leading to a debt spiral that can only be solved by printing more money, leading to currency devaluation. It's important to understand these dynamics and consider appropriate hedges against potential market volatility.
Challenges for Institutions in Health and Finance: Institutions face pressure to generate higher equity returns due to bond losses and rising interest rates, making alternative asset classes worth considering.
The rapidly growing health and wellness business presents an opportunity, and the founders of The Joint Chiropractic encourage listeners to learn more. Meanwhile, in the financial world, Ray Dalio's prediction of potential pain in traditional 60-40 portfolios, particularly for those heavily invested in bonds, could lead to significant challenges for institutions like CalPERS. These challenges stem from the fact that these institutions need a higher return from their equity investments to meet their prescribed rates of return, which could be difficult given current market conditions. Additionally, the potential for capital losses in bonds as interest rates rise adds to the pressure for these institutions to explore alternative asset classes. It's essential for individuals and institutions to stay informed and adapt to these changing financial landscapes.
Institutions eyeing Bitcoin's growth potential: Institutions are increasingly investing in Bitcoin due to its large market size and potential for non-correlated returns, with some estimating its intrinsic value between $110,000 and $160,000 per coin.
Bitcoin's market size and potential for growth make it an attractive investment opportunity for institutions, even at its current market cap, which is larger than that of the Canadian banking system and almost equal to the US banking system. As more institutions enter the market, the size of the potential investments they can make increases, making Bitcoin a more viable option for them. The insurance industry, in particular, is starting to take notice, as they historically invest their float and have seen low returns on fixed income investments due to low interest rates. Bitcoin's potential for non-correlated returns and asymmetric trade opportunities make it an attractive investment for pension funds and other large institutions. Preston Pysh estimates Bitcoin's intrinsic value based on credit default swap spreads, which suggests a value between $110,000 and $160,000 per coin, highlighting the significant upside potential for the cryptocurrency.
CDS and their role in creating efficient credit curves: CDS prices reflect perceived credit risk, Turkey has higher insurance cost than US, speaker proposes method to calculate Bitcoin value based on G20 obligations and CDS rates, market cap and price point debate, value can change with shifts in credit risk
Credit default swaps (CDS), which are around 15 years old and act as a quasi bond or derivative, play a significant role in the credit markets by creating efficient credit curves for companies and governments. These swaps can be used to insure debt against default and their prices reflect the perceived credit risk of the issuer. For instance, Turkey, a G20 nation trading at 4.50 basis points in the 5-year term, has a much higher cost for insurance compared to the US, which trades at 10 basis points. However, the financial crisis of 2008-2009 showed that risk could transfer from the financial system to governments, making it crucial to evaluate the credit default swap rates of governments. The speaker proposed a method to calculate the potential value of Bitcoin based on the unfunded obligations of G20 countries and their corresponding CDS rates. This method provides a simple mathematical approach to determine the worth of each Bitcoin based on a fluid functioning market in risk. The speaker's approach adds a thoughtful perspective to the ongoing debate about Bitcoin's market cap and price point, which seems to align with the current bull run. It's important to remember that the value of Bitcoin and other assets can change significantly with shifts in credit risk, making it essential to stay informed about market developments.
Canada's Credit Risk Closer to Single A Despite Higher Rating: Market indicates Canada's credit risk is higher than S&P rating, conflicted nature of credit agencies contributes to disparity, gold may be overtaken by Bitcoin as safe-haven asset, market accurately pricing risk, importance of understanding credit ratings and market signals
Despite Canada having a higher credit rating than the United States according to Standard & Poor's (S&P), the market indicates that Canada's credit risk is much closer to single A. This disparity can be attributed to the conflicted nature of credit rating agencies, who are paid by the issuers for their ratings and set the investment guidelines for large pension funds. Meanwhile, the market, which is often a more accurate reflection of credit risk, is signaling that Canada's credit risk is higher than indicated by its rating. Furthermore, some experts believe that gold, which has long been considered a safe-haven asset and a store of value, may eventually be overtaken by Bitcoin due to its superior divisibility, transferability, and portability. The financial community is starting to recognize these trends, and some gold miners are exploring the possibility of mining Bitcoin to hedge their gold positions. However, these developments highlight the importance of understanding the limitations of credit ratings and the role of markets in accurately pricing risk.
Bitcoin as Global Reserve Asset: Bitcoin's massive market cap and potential to price energy and resources in it make it a strong contender for the global reserve asset. Awareness of market risks and potential shifts in dynamics is crucial.
Bitcoin is poised to become the global reserve asset due to its massive potential market cap and the increasing trend of pricing energy and resources in Bitcoin. The speaker believes that as energy is priced in Bitcoin, it will naturally become the go-to store of value, surpassing gold. He also discusses the potential for contagion in financial markets and the importance of hedging risks. The speaker references the high probability of default for certain countries and the potential consequences when sellers of insurance become buyers, leading to market instability. He uses historical examples like Long Term Capital Management to illustrate this point. In essence, the speaker is emphasizing the importance of being aware of market risks and the potential for significant shifts in market dynamics.
Understanding the complexities of finance and technology is crucial: Gain firsthand knowledge and experience, don't be misled by misinformation or short-term gains, and be aware of potential risks.
The value of being right or wrong in the world of finance and technology is relative, and the importance lies not only in having accurate information but also in the depth of understanding and experience behind it. David Collum emphasized the issue of individuals without proper research or experience misrepresenting facts and spreading FUD (Fear, Uncertainty, and Doubt). He encouraged people to gain firsthand knowledge and experience with technologies like blockchain and cryptocurrencies before forming opinions. Greg Foss added to the conversation by discussing the 40% recovery rate in bond markets and the importance of understanding credit and risk. He emphasized that people should not be misled by the idea of "fun" in the financial markets, as it is a complex and nuanced field. When it comes to yield curve control, Foss believes that more people will turn to credit default swaps for truth, and the prices for these contracts could potentially rise significantly. In essence, the key takeaway is that having a deep understanding of the underlying fundamentals and gaining firsthand experience is crucial in making informed decisions in the world of finance and technology. It's important to be aware of the potential risks and to not be swayed by misinformation or the allure of short-term gains.
10-year Treasury yield selling off at unprecedented rate: The 10-year US Treasury bond yield is expected to continue selling off, potentially leading to significant losses for bondholders and affecting the global economy
The trend in the yield on the 10-year US Treasury bond is expected to continue, potentially leading to significant losses for bondholders. The yield has been selling off at an unprecedented rate and is approaching the 2% mark. If this trend continues, the 10-year bond, with a duration of about 8, could lose another 10 points in value, while the 30-year bond, which has already lost 25 points, could lose even more. This trend could lead to a yield curve control scenario, where central banks attempt to fix interest rates to prevent further losses. However, this manipulation may not be effective, and investors may look to credit default swap markets for more accurate indications of risk. The potential losses are massive, with the global bond market totaling around $300 trillion. A 10% loss in this market would equal the entire US deficit. The 1.75-2% range is seen as a critical point where action may be necessary. Ultimately, the yield on the 10-year Treasury bond is a significant indicator of the health of the global economy, and its continued decline could have far-reaching consequences.
The yield curve's steepness as an economic indicator: The US Treasury's bond purchases to keep rates low may signal economic weakness and potential yield curve control could add to financial instability
The steepness of the yield curve, which reflects the difference between long-term and short-term interest rates, has been a significant indicator of economic health and potential crises. During the 2008-2009 financial crisis, the yield curve inversion was a warning sign. Currently, the US Treasury is purchasing large amounts of bonds to keep interest rates low, but they have not yet announced yield curve control. Insiders suggest it may come by mid-year, which could signal weakness rather than strength. The Fed's intervention in 2008 to buy high-yield bonds and prevent downgrades saved the day but resulted in historically low yields, and owning high-yield bonds now is likely to result in losses. The US Treasury's actions, while necessary, add to the financial instability and uncertainty, and the system's eventual failure is mathematically certain, although the timeline is uncertain. The lack of transparency and potential yield curve control could exacerbate the situation.
Bitcoin as a future global reserve asset and the current contango market: Bitcoin's potential as a future global reserve asset is promising, but the transition from traditional currencies won't be immediate. Current contango in Bitcoin market offers higher returns on non-regulated exchanges, but it's not an income instrument or fixed income investment. Consider risks and rewards carefully as Bitcoin's price can fluctuate greatly.
Bitcoin is a promising candidate for the global reserve asset in the future, but the transition from traditional fiat currencies will not be an overnight process. The current contango in the Bitcoin market, where the futures price is higher than the spot price, is a result of prime brokers limiting leverage due to recent losses in the industry. This contango exists in non-regulated exchanges like OKX, Binance, and Derabit, offering higher returns. However, it's essential to understand that Bitcoin is not an income instrument or a fixed income investment. Instead, it's a hedge and a long-term investment with significant potential for price appreciation. The risks and rewards of investing in Bitcoin should be carefully considered, as its price can fluctuate greatly. The real risk is not being long and missing out on potential price increases.
Staying informed and adaptable is crucial for successful investing in volatile markets like Bitcoin: Understanding market dynamics, central banks' actions, and unique features of trading platforms are essential for effective investment strategies in volatile markets like Bitcoin.
Having a strong understanding of market dynamics and being adaptable to changing conditions is crucial for successful investing, especially in volatile markets like Bitcoin. Central banks' actions and correlations between different asset classes can significantly impact investment strategies. Traditional portfolio management strategies, like risk parity, may need to be reevaluated and updated with new assets, such as Bitcoin, to remain effective. Additionally, understanding the unique features of different trading platforms and their risk profiles is essential. For instance, while newer exchanges like Binance offer more leverage, their immediate settlement system might mitigate some risks. Overall, staying informed and flexible in response to market shifts is key to maximizing investment opportunities.
Effective risk management during financial instability: Skilled risk management allowed Bill Ackman to mitigate losses during the COVID crisis using CDS, while Bitcoin can also serve as a risk management tool despite criticisms. Understanding historical spreads and making prudent financial decisions are key.
During times of financial instability, effective risk management is crucial. Bill Ackman's use of credit default swaps (CDS) during the COVID crisis allowed him to mitigate losses and maintain financial stability, demonstrating skill in managing risk. Bitcoin, like CDS, can serve as a risk management tool despite criticisms about its intrinsic value. Understanding historical spreads and the role of risk management in various financial instruments is essential. In the case of GameStop, focusing on reducing high yield debt before investing in Bitcoin would be a more prudent financial decision. Ultimately, admitting mistakes and making necessary adjustments are vital for successful risk management.
Effective debt management is crucial before investing in Bitcoin: Prioritize debt management, consider financial instruments like convertible bonds, and recognize Bitcoin's potential to positively impact economies and bring advanced technology manufacturing back to North America
Before diving into investing in Bitcoin, individuals should prioritize managing their debt maturity profile. Michael Saylor, a notable Bitcoin advocate, executed this effectively by using a convertible bond, an equity derivative, to fund his Bitcoin purchases. This approach showcases the importance of understanding financial instruments and their implications, especially for those with a strong background in mathematics and engineering. Additionally, the speakers expressed their shared belief in the potential of Bitcoin to positively impact countries and strengthen their economies, emphasizing the importance of this investment for the betterment of their respective nations. Furthermore, Greg Foss highlighted the potential of Bitcoin in bringing advanced technology manufacturing back to North America and serving as a potential national defense issue for countries like Canada. Overall, the conversation underscores the significance of both financial planning and the potential benefits of Bitcoin for individuals and countries alike.
Staying adaptable and managing risk: Learn from mistakes, stay informed, seek professional advice, and enjoy the ride in any situation, be it investing or sports.
Learning from this discussion between Preston Pysh and Greg Foss is the importance of being adaptable and managing risk in any situation, whether it's investing or watching a close NCAA basketball game. Greg emphasized the need to learn from mistakes and adjust accordingly, while Preston encouraged listeners to stay informed and seek professional advice before making decisions. The conversation also touched on the importance of staying engaged and involved in your interests, whether that's investing or sports. So, whether you're an investor or a sports fan, remember to stay informed, learn from mistakes, and enjoy the ride. And if you enjoyed today's conversation, be sure to subscribe to The Investor's Podcast, leave a review, and catch us next Wednesday for more insights and entertainment.
