My current thoughts

An interview conducted yesterday

Opening and framing the conversation

Welcome back to the Macroscopic Podcast. Today I have my friend, Hugh Hendry, the acid capitalist, straight from St. Barts. Today I hope that we’ll be able to unpack some wisdom, some epiphanies that you might have come across in the last months, reflecting on 2025, on the things that we’ve also discussed in our past interviews, I think the last was almost eight months ago, and unpack what 2026 might unfold into.

So I’m curious about your thoughts. First of all, I would like to know from you, how would you, let’s say, if you look back at 2025 through the lens of your own framework, what did you generally get right? And what surprised you enough that you’ll say you got it wrong?

HH:
We were talking off air. I betrayed a confidence, claimed I ain’t gonna make it. That I’ve got nothing. And I definitely feel that way. But I always feel that way. These talks are cathartic.

And prognostications, January forecast? I hate that shit. I mean, this is maybe one of the last YouTube videos I do. I’m done with finance people. You seen my Twitter? you were saying epiphanies. It’s more like profanities. I’ve discovered a new, edgier voice, which is vulgar. very vulgar.

But to your question, the standout surprise, through my lens would have been the sell-off in Bitcoin. The disassociation with the rest of the alternative asset universe, and of course especially the PGMs, with gold’s rise energizing that whole universe. where gold is the sun and silver and platinum and palladium and everything else are wizzy satellites rotating around the centrality of gold’s force.

So Bitcoin selling off in the fourth quarter was a head scratcher. Does it change anything? No. But that would have been it. That really would have been the only thing that caught me.

I mean, everything else is pretty much what you expect. Stocks have got a bid, tech’s got a bid, tech’s got a story, and it’s got earnings momentum, and it’s got fear. You’re climbing the proverbial bullshit wall of worry. So it has bubble dynamics.

When we were back in that sell-off from March, March into April, which was steep, I think we almost got to a 20% drawdown on the NASDAQ, the big question I was asking myself back then was, is it comparable to March 1998 or March 2000?

March 1998, stocks were highly valued. March 1999, stocks were very, very highly valued. I mean, do you still interview people who quote price earnings ratios and say, oh, you should be out of stocks because they’re overvalued? I think most of those people have been left behind by the market’s momentum. From a market-timing perspective it doesn’t work.

Anyway, here we are in a new year. And I think conclusively, we know that it was certainly not March 2000 and a peak. It was more like March 1998. And we’ve probably got another two years or so of equities being aggressively bid.

Inflation, treasuries, and why the surge cooled

Q:
So you’ve also argued, because inflation was also one of the core theses that you’ve been laying out, that it should actually go way down. You’ve argued that inflation failed to take off not because of central bank virtue, but because of the sheer size of the treasury market, acting as a sort of inflation fire break. Walk us through that mechanism.

HH:
Okay, so first and foremost, we’ve dropped from over 9% annual price inflation to, let’s call it three, kind of the underbelly of three percent. So there seems to be a mechanism, if you will, that has moderated price increases.

For 50 years since the dollar came off the peg with gold, all your metals community has been shouting, “inflation, inflation, hyperinflation, buy more inflation, fiat, fiat currencies are fraud”, et cetera. And in 50 years, we’ve had one tumultuous eight-year period in the 1970s where we had a lot of inflation. But by and large, 80% of the last 50 years could be described as a disinflationary environment.

The 9% inflation of 2022-23 dissipated because the Federal Reserve had the sharpest and largest incremental rate hike from 0 to 5.5%. The long end of the bond curve moved in lockstep and everything parallel shifted higher.

And the debt, the government debt, is one times GDP. So it’s a significant stock, it’s not something you can ignore, it’s one times GDP repriced at five and a half percent. And then of course I’d add a small business premium, and businesses looking for working capital financing and looking for real estate investing, etc, were confronted with a profound tightening in policy. They paid a risk premium to the Fed rate. And the banks did not offer generous terms. Mostly three to five year revolvers.

And, very much as a function of that, the appetite to borrow was not excessive. So again, one of the classic amateur investing things is to quote M2. I hope you don’t do that. It’s meaningless. M2 surged during the COVID pandemic. It stirred inflation fears. It shouldn’t have.

Why am I urging you to ignore M2? Because it’s a measure of deposits, when all the inflation juice is determined by loan growth. Now if you’re on the sharp side you’d say, hey listen, Acid, in a bank balance sheet deposits are matched typically with loans. So if deposits have gone up, then the expectation would be that loans have gone shooting up as well. The whole premise of M2 is the deposit figure can be determined, can be calculated by the Feds, and under normal circumstances, whatever normal is, but maybe using 150, 200 years of banking history, profit optimization means that banks seek to lend out their deposits. That the deposit number is a good steer for loan growth, the loan-to-deposit-ratio, and the inflation temperature.

The deposit is a liability, you have to pay a rate of return on that, and so you seek to have a commensurate or higher return from your loan book. We didn’t get the inflation because the ratio of loans to deposits fell. And partly that was a function of the cost of carry being greater than small businesses could sustain with their profitability and the surge in their expenses.

And also on the personal sector, there’s been no turnover in the housing stock. There was a profound, I mean, we throw these words around, “profound”, but there was a movement between 2021 and 2022 when the entire US personal sector fixed its mortgage rate. And it went 30-year long at somewhere probably about two and a half, three percent.

And so there are no housing transactions currently because if you were to buy a new property, you would need a new mortgage and you’d reset from two and a half to six and a half percent.

So for all those reasons, the treasury market was a profound handbrake, which prevented the monetary lubrication, which comes from loans, from taking off. And so in its absence, price changes have decelerated.

And you know, the Treasury market, the long end of the Treasury market, was dull, but it was positive last year. Treasuries are up about five or six percent in dollar terms. The long end of the US Treasury market remains intriguing.

The simple fact is that there are four cardinal points in the world of macro. One of them is the S&P, one of them is the 10-year Treasury, one of them is the US dollar, and the other one, we could say gold, but you could take anything from the alternative asset universe, so it could be gold, it could be prime real estate, it could be private equity returns, it could be Bitcoin, it could be silver. But let’s use gold.

And so in those four cardinal points which determine the economic and the financial weather for the entire planet, their price movements are governed by mean reversion. And so the fact that the long end of the US Treasury market has had a 50% drawdown is intriguing because, at some point, mean reversion will take it back to parity. The drawdown will disappear. It will double in price.

I don’t know when, but clearly the drawdown stopped widening last year.

Let’s recap 2025, inflation moderated. We started this time last year with many suits, gray hair, boring, believing in M2, believing in more inflation, inflation, inflation. That has not been a good call.