By Matein Khalid: Chief Investment Officer and Partner at Asas Capital
Planet Forex is agog with the cognoscenti’s latest rumour that the US dollar has lost its role as a global safe haven, as the latest Uncle Sam spat with Iran suggests. Poppycock, bull merde, nonsense! I believe no other currency on earth can remotely dislodge the US dollar as the world’s preeminent reserves, transactions and capital markets issuance currency now or ever, though I concede that forever is a very long time and, as Lord Keynes concluded, “in the long run we are all dead” as he unfortunately is. The US dollar is the currency of our lifetimes. Why?
One, the United States is the world’s sole military superpower, a $22 trillion economic colossus, the pinnacle of global technological innovation and corporate financial firepower, the grand wizard of the Digital Age. The US trade deficit alone can satiate the world’s demand to hold US dollars via the deepest, best regulated, most diverse and most liquid capital markets in the world.
The World Bank and IMF give loans in US dollars. The syndicated lending, Eurobond, project finance and bank funding markets are primarily denominated in US dollars. The world’s central bank reserves are mainly invested in US dollar money markets. Emerging markets borrow and survive on a multi trillion dollar lifeline of US dollars. Hong Kong, Panama and the GCC states have pegged their currencies to the US dollar. Greenback, Buckeroo, King Dollar – the United States’s legal tender is the ultimate big enchilada in the $5 trillion a day global foreign exchange market.
Two, gold soared $85 an ounce after news of General Suleimani’s assassination broke while the US dollar barely budged as the Middle East braced for a catastrophic US-Iran military confrontation. Yet the US dollar index rose almost 0.6% last week as the financial markets scrambled to bid for the global safe haven currency once Iran fired ballistic missiles at US military bases in Iraq, a first in the history of international relations. Iran and the US are now publicly in a state of war.
So even if gold and crude oil plummeted after Trump boasted that Iran was “standing down”, the US dollar rose against the Euro, the yen and most emerging market currencies. The US dollar is the ultimate safe haven currency, not a risk asset, in times of high geopolitical stress. The world learnt this lesson the hard way when Russia invaded and annexed the Crimea, sent its air force to bomb the rebel enclaves of West Aleppo into the Stone Age and armed secessionist militias in the eastern Ukraine in 2014-15. The Russian rouble, strangled by US/EU sanctions, plunged from 30 to 85 to the dollar and is now still a modest 61, even though it was the best performing world currency against the greenback in 2019. Six years after the Crimea/Donbass, the Kremlin’s rouble is still in Planet Forex’s doghouse while capital flight from Putin’s Russia is the highest since the collapse of the Soviet Union in December 1991.
Several Wall Street/City of London economists and currency strategists I respect forecast King Dollar to sag in 2020 as the Powell Fed’s December FOMC signal a “don’t worry, be happy” nonchalance towards wage inflation and a determination to keep interest rates low to let macro good times roll (QE forever?). Yet my trading book neurological sensor does not interpret esoteric central banking philosophies, only the cross-asset price equations that hide behind the green phosphorescent flicker of my Bloomberg screen.
The fact remains that the US boasts the highest interest rates in the G-10 and Uncle Sam’s budget deficit will double to $1 trillion at the same time as inflation risk rises while Europe/Japan are still mired in a $12 trillion twilight zone of negative yield government debt and demographic decline. I envision the ten year US Treasury yield surge to 2.40% and trigger a global debt market bloodbath. This can only mean King Dollar is anointed King of Kings Dollar (sorry Shah!) in 2020, exactly as happened after Lehman’s death rattle in 2008 and Asian’s meltdown in 1998.
I expect not just banks but entire banking systems to fail (no names), the trigger for an international risk asset contagion reminiscent of Shanghai 2016, Greece/Cyprus 2012, Lehman Brothers 2008, the 9/11/Silicon Valley bubble bust in 2001, the Asian currency meltdown and Russian rouble default in 1998 and the Mexican Tesebonos/tequila crisis in 1994-95.
Since these traumatic spasms of financial/geopolitical risk cover my entire adult investing life in New York, London, San Fran and the Gulf, I am neurologically programmed to believe only in the US dollar as the currency of choice for my life savings and wealth creation. The Euro can face existential crises the moment Chancellor Merkel retires from the German political stage or the Kremlin cast a covetous gaze at Poland, and the Baltic states, provinces of the Romanov Tsarist empire (and later Stalin’s Soviet Union) for centuries.
Who in his right mind will trust the Euro long term, since both Germany and France have been invaded, fought over, fallen victim to state terror, dismembered, endured economic collapse and wealth expropriation, threatened by fascists and communists and Jacobins/ Nazis multiple times in European history? Who in his right mind would trust the Chinese yuan, the currency of the world’s last Marxist-Leninist totalitarian empire with a 350% debt/GDP ratio, worse than that of Lebanon or Argentina?
Who in his right mind would entrust his/her life savings to the Indian rupee, a currency that has lost 50% of its value since 2011, in a high economic growth decade and will probably lose 70% of its purchasing power in Modi’s post 2016 “lost decade” even as Yugoslavia style communal tensions threaten dismemberment risk. After all, the dissolution of centralized empires run by idiotic autocrat – elites has been a recurrent theme in Indian history – from the Maurya to the Kushans, from the Mughals to the Maratha Confederacy, from Carnatic kingdom of Vijayanagar to the Sikh empire of Maharaja Ranjit Singh, the lion the Punjab centuries before the birth of General Riyal Sharif and Im the Dim.
Who in his right mind would save in zero interest, periodically devalued (the Plaza/Louvre Accords), financially repressed, greying Japanese yen? The pound sterling was a global reserve currency when the sun never set on the British Empire circa 1900, but, alas, the sun (Anglican Apollo?) has gone into permanent eclipse and the empire now encompasses the sheep in the Falklands and the offshore “artful dodgers” in the British Virgin Islands, where the Union Jack still flutters as a paean to lost imperial glory. Sterling in 2020 means Boris and Brexit risk yet I am a buyer at cable 1.28 as I expect HM Treasury to announce a fiscal stimulus once Brexit happens.
I believe liquidity risk is chronically underpriced in the real world by investors. For instance, I laugh when friends and relatives in Dubai tell me they have a 20% profit on their villa, only to find that the bid and offer spread on local brick and mortar is a colossal 25% if they try to sell in a secular bear market, even if they can sell it at all in the first place. The same logic holds in currencies. The US dollar is the most liquid currency in world financial history, the only real successor to the Roman Empire’s gold dinari (until Marcus Aurelius), the Victorian pound sterling and the Bretton Woods US dollar – gold standard. Every other currency in the world is a de facto government sanctioned looting scam via debasement, inflation, default or outright wealth seizure. If you do not believe me, visit Beirut and Buenos Aires, Athens, Limassol and Karachi, five cities I know and love so very well.
When Lord Keynes’s “animal spirits” run amok, investors buy the US dollar, financed by low interest rate currencies like the Euro, the Japanese yen, Swiss franc and Taiwan dollar. So when General Suleimani was droned, the carry trade was unwound and the US dollar briefly wobbled. As soon as it became clear that neither Trump nor Khameini wanted to escalate (at least for now), the US dollar bounced back. It was “keep calm and carry on” time again in Planet Forex.
My top carry trades de jour? Long the Russian rouble financed by the Canadian dollar and long the Indonesian rupiah/Taiwan dollar cross. In emerging markets, I prefer to cross funny money with funny money to protect myself from risk aversion spasms that, like thunder in a Dubai rainstorm, inevitably scare me. True, Russia, China and some dodgy Third World regimes buy gold because they are nervous about White House sanctions risk. Yet when the world’s financial/geopolitical fault lines erupt, as they will in 2020, there is only one credible safe haven – King Dollar, which becomes King of Kings Dollar.