When Paul Tudor Jones speaks, I listen.
That’s especially the case when he’s talking about a potential economic collapse…
For those who don’t know, Tudor Jones is widely regarded as one of the best hedge-fund managers to ever do it. And he became somewhat famous by tripling his money through several shorts during the 1987 Black Monday crash.
I’ve always had a soft spot for Paul Tudor Jones. Over the years, he made several contributions to athletics at the University of Virginia where we’re both alumni.
But it’s what he said recently to CNBC that caught my attention:
Clearly, I am not going to own any fixed income and I’m going to be short the backend of fixed income because it’s just completely the wrong price.
That’s a bold call. And it’s important to anybody abiding by the classic 60-40 allocation of stocks and bonds.
He continued:
We’ve gone in the space of twenty-five years to a debt-to-GDP of 40% to almost 100%.
[…]
The [Congressional Budget Office] says we go from 98% to 124%. That’s very conservative over the next ten years. If you extrapolate that over thirty years, you get to 200% debt-to-GDP.
[…]
Financial crises percolate for years, but they blow up in weeks.
He went on to lay out the numbers. At $35 trillion in debt and tax receipts in the ballpark of $5 trillion, the federal government owes seven times revenue. Throw in $2 trillion budget deficits “as far as the eye can see,” and Tudor Jones asks, “How long will the debt markets put up with this?”
Tudor Jones said that he used to love wrestling. And he used a little-known wrestling industry term to describe the economy.
He said, “We’re in an economic kayfabe right now.”
In case you’re not a wrestling fan, here’s the Merriam-Webster definition:
noun. kay·fabe ˈkā-ˌfāb. 1: the tacit agreement between professional wrestlers and their fans to pretend that overtly staged wrestling events, stories, characters, etc., are genuine.
I’d never heard that phrase before. But I think it’s an apt description.
What he meant was that investors are happily buying into a lot of bullish talk from dovish central banks and political candidates with supposed pro-growth policies. They’re picking and choosing financial and fundamental data that fit their cheery narrative instead of focusing on the cold hard facts that would otherwise be disturbing.
Put even more simply, he says it’s a bit of a show… and it can’t go on forever.
Debt Crisis
As Stephen pointed out in last Friday’s Wide Moat Daily, the U.S. is sitting on a record debt load. He called it a debt crisis, and I agree.
The federal government has run a budget deficit of $1 trillion-plus for the past four years, with 2020 and 2021 figures coming in at $3.1 trillion and $2.7 trillion, respectively.
This isn’t changing anytime soon.
Neither of the candidates running for president is proposing anything that will solve this.
Tudor Jones (who has donated a lot of money to politicians on both sides of the political aisle throughout his career) notes that Trump’s proposed policies would result in half a trillion dollars added to the deficit every year. Harris’ plans could potentially double that.
Regarding tax cuts offered by the two presidential candidates, he said they’re offering, “Tax cuts on everything from tips to toucans. It’s crazy what’s being promised.”
I get it; no one is going to win a presidential election by running on austerity. But, we have to be realistic.
That’s what Tudor Jones is trying to do.
On tax cuts, he said, “Those have zero chance of being enacted in my mind.”
What’s more, he’s concerned about a “Minsky moment” playing out in the U.S. after the election. Because while either side’s political base will be thrilled about proposed policies, the bond market isn’t going to tolerate the U.S.’ fiscal outlook getting much worse.
Turning to the Corporate Finance Institute, we see that the definition of a Minsky moment is:
A sudden collapse of the market following a long period of unsustainable speculative activity involving high debt amounts taken by investors.
A bold call, but Tudor Jones does have a history of nailing bold calls.
So, assuming that’s the case, what does it all mean?
All Roads Lead to Inflation
There are only a few ways to solve a debt crisis.
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Raise taxes (not happening)
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Reduce government spending (also not happening)
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Massive GDP boost (possible, if AI lives up to its promise)
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Inflate it away
For my money, I’m betting on number four.
Maybe that’s what Wall Street is holding out for as the S&P 500 Index continues to make new all-time highs. Historically, that’s the path that just about every other highly indebted nation has pursued. But, it doesn’t come without risks.
Either way, as Tudor Jones points out, “All roads lead to inflation.”
And in this scenario, he doesn’t want to own U.S. bonds.
Instead, he likes gold, bitcoin, commodities, and even the high-growth Nasdaq as inflation hedges.
Personally, I’ll likely continue to avoid gold and bitcoin because they don’t produce cash flows, they don’t pay dividends, and I don’t want to speculate on their prices which, in my opinion, are a product of The Greater Fool’s Theory as opposed to fundamental valuations.
Commodities can be tricky, but like Stephen said, I really like a lot of the blue-chip industrial stocks in the U.S. that benefit from increased demand/production.
And mostly, I like the Nasdaq. I love American innovation. And as I’ve said before, some of the biggest U.S. tech stocks are not only fast growers, but very generous companies when it comes to shareholder returns (both dividends and buybacks, due to their enormous cash flows and strong balance sheets).
There’s nothing you or I can do about the financial situation of the country, but we can do our best to protect our wealth by owning high-quality businesses that are shareholder friendly.
As for bonds…
It’s ultimately your decision what assets you own. But if Tudor Jones is right, I might think twice. Fixed income will be a tough trade in the Kayfabe Economy.
Regards,
Nick Ward
Analyst, Wide Moat Daily