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Walking Away From Omelas: US Dollar & Capital Flight (with poll) [1]
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Date: 2025-04-13
“Each alone, they go west or north, towards the mountains. They go on. They leave Omelas, they walk ahead into the darkness, and they do not come back. The place they go towards is a place even less imaginable to most of us than the city of happiness.” — Ursula Le Guin
The Triple Bear
The bear market in stocks did not surprise me. But, after the bond market freak out last week, Americans need to prepare themselves for a new ‘fresh hell’. Global confidence in the US has been shaken, and we’re now in a “highly unusual and scary situation”.
Noah Smith, aka noahpinion, explains what’s going on in easy words: “Capital Flight”. Read it and look at the charts. US stocks and bonds are dropping while the US dollar is also dropping, which is very unusual in a trade war when folks usually flock to safe investments like US bonds.
“[T]his doesn’t explain the fall in the dollar. Normally, when Treasuries get sold off, people park their money in cash, instead of moving it overseas. This time, a bunch of investors actually pulled their money out of America entirely. In other words, for the first time in many decades, the U.S. has experienced capital flight. And if it continues, the consequences for the U.S. economy could be absolutely dire.”
I believe we’re headed for something Americans are very unprepared.
Where I’m coming from
Frustrated with the US, I moved abroad in college, stayed for years, married and only moved back when my then wife wanted to move to the US. I worked for a US brokerage, got my MBA, and focused on domestic markets. After finally getting laid off years ago and thus divorced, I’m not rich. But I have been a lifelong investor, even when I could only afford a few dollars invested in bare-bones dividend reinvestment plans. My business degrees both emphasized International Finance, and I’ve always believed the US is extremely ethnocentric and should pay more attention to the rest of the world.
FAFO
The US economy is only ¼ of the global economy, but we act like we’re the be all and end all. Well, thanks to the maladministration, we have F’d around and are about to find out.
In international finance, we usually begin assessing where to invest by looking at the risk of investing in any particular country. Every country has some sort of problems—political, economic, social, risk of war, etc.—, so investors first need to assess risks relative to other countries. Here’s a checklist for the US, updated for the new maladministration.
Tariffs are a classic indicator of country risk.
The US population is aging and is higher than ever.
The party in control has had trouble funding the budget and raising the debt ceiling.
Rising interest rates, rising deficits and inaction to mitigate them risks bonds.
Economic inequality and social injustice (racism) are rising, increasing the risk of unrest.
The maladministration is chaotic and is trying to dictate markets.
Tramp has eroded confidence in the rule of law in the US.
Which Types of Assets Will Lose
When there is a major shift in markets, investors reevaluate which types of assets they prefer. Usually, this means stocks, bonds, cash and sometimes real estate. They’re all down. Reportedly, Tramp realized that his tariffs were going to raise interest rates, which hurts real estate in particular.
S&P 500: down 12.7% from February high.
US bond market: last week was the worst since 2001.
US dollar: down 10% year to date.
Real estate: US REITs are down 7% this month.
“The dollar index fell over 1% to 99.2 on Friday, its lowest level in nearly three years, as investors continued to pull out of US assets. Escalating trade tensions and growing concerns over the broader economic fallout - particularly for the US - have weighed heavily on sentiment. …. While the 90-day truce announced by President Trump briefly lifted hopes for renewed trade negotiations, fears of a recession are gaining momentum. The dollar weakened mostly against the euro and the yen, and dropped to a 14-year low against the Swiss franc. On the week, the dollar sank 2% so far, on track for its biggest weekly decline since November 2022.“ — Trading Economics
Which Types of Assets Will Gain
But, if the US is the epicenter of the trade wars, then the rest of the world can rejigger its trade to exclude us. I read an estimate that other countries can recover all their trading losses from this shock within a few years, while their economies continue to grow without tariffs among each other. European and Japanese stocks are still up year to date.
Gold: now at a record price over $3,200 / oz.
A very old way of judging valuations is to look at the ratio of how many ounces of gold are required to buy the Dow Jones. When the Fed funds interest rate peaked at 20% in 1980, it only took 1.3 ounces of gold to buy the Dow. In 2000, it took over 40 ounces. Now it’s 12.5 and falling rapidly.
Paradigm Shift
US treasuries are referred to as “risk-free” investments in finance. This is really just a convenience that makes the math easier to evaluate riskier investments, but many people wrongly believe it’s true. In international finance, we understand that all investments in the US are subject to currency risk. When the US dollar falls, as it is now, then all dollar-based investments lose, relative to other countries’ currencies.
Switzerland has an extremely well-regarded currency, currently up about 12% over the US$ year to date. Their debt to GDP ratio is less than 40%, compared to the US at over 120%. We may not be planning on touring the Alps anytime soon, so we might not care about foreign currencies. But the value of our currency is constantly being evaluated all over the globe.
Since Americans retire in America, and other countries believed that we were both convenient and safe, relatively, then we have been able to ignore currency and country risk. In fact, our economy under Democratic leadership has typically outpaced most other countries around the world. So, we’re complacent.
We assume our government will always pay our national debts.
We assume that other countries will buy our debt.
We assume that other countries will invest in our economy.
We assume that other countries will want to hold US dollars.
We assume that our economy will lead the world.
What if the maladministration breaks all those assumptions? 1/3 of US treasuries are owned by foreigners. The maladministration is making a lot of those foreign investors rethink how much they have invested in us.
What Are the Consequences for Americans?
Capital flight will raise US interest rates for homes, cars, business loans, and credit cards. Given the inflationary nature of tariffs, the Fed is unlikely to provide immediate relief.
Fewer imported goods will raise prices unevenly throughout the economy. ½ of the goods we buy have at least some imported components. Even entirely US manufactured goods will cost more, as they will have less competition and more buyers.
The percentage of our national budget that goes to servicing our debts (15%) will increase. This will put pressure on reducing services, raising taxes, or increasing the national debt.
Lost exports, fewer foreign tourists, falling markets, rising prices and rising interest rates will likely shrink the economy, causing job losses.
Many of these factors can combine into a negative feedback loop. If US assets lose value, that may increase capital flight, further shrinking the economy.
There is a popular view on the left that the rich are intentionally tanking the market to buy at the bottom—whenever that happens—, but even his billionaire backers turned on Trump recently over tariffs. Most hedge funds earn profits as a percentage of how much they make for their investors. When their investors lose money, they do too. Sure, there’s some insider trading under this maladministration, but making America poorer affects the rich too. Not that I’m sympathetic; I just want folks here to understand that many billionaires who supported Tramp are behind the curve in seeing the bigger, riskier picture.
What Can Investors Do?
Given how difficult it is to make predictions, especially about the future, I hesitate to give any advice. [Full disclosure, I bet that Harris was going to win]. But, since many investors are probably not used to hedging against a simultaneous drop in all US dollar-based assets, I will explain what I’ve been doing in my own portfolio.
Like Warren Buffett, I hate gold. But I put a small amount of my cash into a gold fund, as it’s such an old school way of avoiding risk and is popular around the world, especially in China. Probably was stupid to buy near an all time high, but I used to drink too much.
As an old fogey, my portfolio correctly contains bonds. But as an American, my bond ETFs are US$ bond funds. So I moved a significant portion of my bonds into international bond funds. If ½ my bonds are in US dollars and ½ are not, then I’m currency neutral.
Be aware that most international bond funds sold in the US are ‘dollar hedged’ meaning that the currency risk has been removed for US investors, assuming that they only want US$ returns. That obviously defeats the purpose of avoiding declines in the US$, so I looked for non-hedged funds, like BWX for governments, IBND for corporates and even EBND for emerging markets. Besides my own meager investments, I do not benefit from these funds or their issuer in any way. Other fund companies have similar funds.
Also be aware that these funds have not outperformed US investments historically, so many are considered higher risk and lower return investments. Investing is always a very risky activity, especially if you expect volatility and global economic problems, due to trade wars and other factors, and international investing adds currency risk to the equation. Don’t blame me when you lose money.
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