Capital Flows and Asset Markets

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It has been a busy month. Not only were markets volatile, I combined this with a trip to New York. While the performance was very good, more than anything it was a validation of the analysis. This gives me more clarity on where we are going, and how we are going to get there. As I now realise the importance of politics, the strategy should work as long as Donald Trump is in power - which in practical terms is two years until the mid-terms, but more likely four years. First things first, the core trade of GLD/TLT blasted to new highs this month.

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As part of my launch of Brumby Capital - I spent two days in NYC meeting a selection of subscribers and ex-investors. Now you would think that these trips would be all about raising capital. And they are - but I take a longer view on these things. If I tell people what I think is going to happen - and how I plan to make money from it - then when their own thinking comes to match mine - then I am the first person they call.

But there is something else about these trips… and why they have to be done face to face. Something ephemeral. And in homage to Donald Trump - something we can call the “Art of the Short” ( I watched the Donald Trump biopic - The Apprentice - on the flight over).

What is the Art of the Short? So when you have a bearish thesis (in this case we are moving to an era of capital scarcity) the ideal response from potential investors is for only a very select few to give you capital. When everyone gives you capital - then everyone has already accepted the thesis, and there is no more juice to squeeze from the trade. And so far so good I would say… some interest but not overwhelming (note when their is overwhelming interest - that will be a sign to return capital).

But a good part of going to meet people face to face is to get an idea of how people are doing on an emotional level. What truth they are struggling to accept - that market action will eventually have to force them to accept.

In my school days, the constant criticism I used to get was not showing my working - to which I would reply, but its so obvious why would anyone need to see that? I have learnt, that showing your working is a good way to avoid mistakes - so I do try and show my working these days. Below is my effort to explain my view of why we are moving to an era of capital scarcity.

There are three interconnected way that the flow of capital seems to be slowing or even reversing. First, the uniquely modern phenomenon of buying government bonds for foreign reserves is going into reverse. Second, share buy backs are slowing, and thirdly, the private equity conveyor belt is slowing rapidly.

One of the first parts of my thinking is that many of the features of modern finance that we take for granted are rather novel. For example, sovereign wealth funds, and foreign exchange reserves made of other countries bonds are new features of modern economies. Back in the day, when trust was short (and perhaps in the near future), gold was the only asset that governments trusted. The idea of buying another governments bonds would have seemed ludicrous. What if they defaulted, or refused to pay you? There was a time of course when the idea that US would default on bonds would seem laughable - but in essence the Trump administration wants foreigners to stop buying treasuries and let the US dollar depreciate. Could the US not pay coupons or even principal on treasuries held by China? Sure. Japan? Maybe. As JP Morgan was quoted as saying, in gold is money, everything else is credit.

Buying treasuries as foreign reserves was apparently the brain wave of Kissinger, who convinced the OPEC nations to recycles their export earnings back into treasuries (the Petrodollar). However the long bear market in oil from 1979 to 2000 led Saudi and other OPEC nations to have largely run down foreign reserves by 2000. The boom years that have followed saw these petrodollar build again, before running down in recent years.

Japan was truly the nation that invented the vast foreign exchange holdings that we see in the world today. Uniquely in the world, Japan has almost no gold holdings. That is Japan went all in on buying treasuries to keep the US spending tariffs low, and to finance its military umbrella.

In the “pro-capital” era that ran from 1980 to 2016 or so, governments would happily devalue to get their economies going again. And in the Japanese case, buy treasuries to try and keep Yen weak. In practice, labour costs and inflation was kept low, and this cause a substantial increase in the amount of capital available. If the world economy is growing, but most of these gains are going to capital owners and now workers, the available capital must be growing. Can we track this in any meaningful way? Total foreign reserves to world GDP peaked in 2012 and has declined substantially since. It should be pointed out, this measure excludes gold. This is not a perfect measure, but it is indicative.

The second sign of a change from abundance is the change in share buyback dynamics. In the era of capital abundance, companies could return huge amounts of capital to shareholders. Again a very novel feature has been the falling share count of the S&P 500. Companies focuses heavily on generating and returning capital. Recently, that share count has been rising again. For me, its a sign that corporates no long generate excess capital.

Finally, the private equity bubble seems to be slowly unwinding. 2024 was the first year we saw AUM of buyout firms not grow. In simple terms, they could not raise enough capital to offset distributions.

Exit values were substantially below funds raised. And last few years, distributions as a percentage of NAV has been low.

One of the more “red flag” trends in private equity has been sponsor to sponsor deals. That is where a private equity firm sells to another private equity firm. It raises the question of what is the strategic rationale, other than doing a transaction to generate fees. 2024 saw a 140% increase in such deals relative to 2023.

Above sponsor to sponsor deals, and falling distribution rates suggest the capital generation of private equity is becoming more difficult.

Bain analysis shows the industry is seeing cash flow becoming more negative in recent funds.

In a era of rising tariffs, and more government intervention in supply chains, as well as a militarisation of Europe and Asia, money has to come from somewhere, and increasing it looks like corporates are bearing the brunt. With higher interest rates and higher costs, private equity capital generation looks constrained.

Of all of these are interrelated - as government seek to keep real wages higher, cash flow to corporates drops. As government run down reserves to defend exchange rates, or stop intervening to keep exchange rats low, the amount of capital available falls. This means interest rates have to rise. Japanese 10 year yields continue to rise, making investment in risk private equity less attractive.

All of these are driven by the populist bent that politics has taken. The new Trump administration is forcing change, and the end of the natural accumulation of capital by corporates, and its recycling back in to the US. The end of capital abundance and an era of capital scarcity beckons.

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I have written a series of post on how “Short Selling Sucks” and generally speaking, I make fun of short sellers as the biggest bunch of losers in financial history. So you may be wondering, why do people make a big song and dance about short selling? Well, when it works it is like magic.

Back when I first started writing this substack, one of my first questions I was asking myself, was why had JGB yield stopped falling? During the Covid crisis - a huge potential deflationary bust - JGB yields starting rising very early on and have kept going. My view remains Japanese investors are very clued on on inflation vs deflation trends. I wondered what they saw.

One of the first things I found was surging pork prices in China due to the spread of African swine flue.

The funny thing about African Swine Flu is reduced demand for grain initially, as the herd was wiped out, but it would definitely lead to surging grain demand once the herd was rebuilt. Various other problems with Chinese agriculture (polluted land, lack of land, labour and water) maybe me think we would see an era of elevated grain prices - and the war in Ukraine convinced me of this even more. Corn prices doubled from 2020 to 2022 - but rather than stay elevated, they fell all the way back again.

I pretty much gave up on the food inflation trade - but a funny thing has happened. Food inflation has continued to soar. Japanese Fresh Food CPI, definitely has a strong 1970s vibe to it.

Most of Japanese food inflation is coming form vegetables, which Japan imports from China. The stand out is cabbage - up nearly 200% from a year ago.

We may wish to dismiss Japan and its cabbage problems as a one off ( I love okonomiyaki - so Japanese cabbage problems feel very personal to me), the US seems to have a food inflation problem as well. US Food At Home CPI is moving higher again.

While eggs prices are higher due to avian flu - very quietly beef prices have been moving higher.

In part when pork became expensive, China became big beef importers, on par with Japan and South Korea. But they have maintained their imports, even as pork prices have fallen back. This seems to be putting pressure on the beef complex.

Despite this growth in Chinese exports, the US has turned into a net beef importer. While this seems weird, the US exports high quality beef - but imports huge amounts of low quality beef for hamburgers. The recent surge has been from Brazil.

What I am trying to say, in a very roundabout way, was that China not devaluing, and focusing on maintain real wages, has had an inflationary effect on the rest of the world. But not quite in the shock of soaring grain prices that I expected, but a more insidious tightness in food supply, where prices seem to rise for certain products, but then never come back again. This probably explains why grain related trades, like fertiliser, plantations and tractors have been poor, the food inflation proxy of GLD/TLT has been great.

As they say in fund management - ideas are cheap, execution is everything.

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There are two aspects to fund management - managing money and raising money. Of the two, the second part is the hardest. I have met many managers with fantastic numbers, who have never raised any money at all. Why? Typically they just assume if their numbers are good enough, the money will come. Sometimes that is true - but rarely.

For me, raising money is more a trust game. Do people trust you with their money? And why should they trust you? Building trust is much easier with face to face meetings - than via zoom. But face to face meetings are time consuming, unless you, the manager, do the hard work. And that is why I am going to New York next week.

But why New York? In midtown Manhattan, you have a huge concentration of allocators and investors where you can walk from meeting to meeting. If you are keen enough and motivated enough, you can get through 20 meetings. This is not possible anywhere else in my experience.

The other thing about NY, and American investors, is that they have a higher tolerance for volatility in my experience. European investors are constantly seeking bond like proxies (market neutral, volatility selling strategies) which I disagree with, as they tend to blow up at the same time, and rarely make the returns to justify the risk they run.

The other thing about face to face meetings is that if you don’t have the confidence to back yourself, then why should anyone else - and face to face meetings are great proof of this, in my view anyway.

You may also be wondering why I am going to NY with so little notice - but this has been always my style. Wait until the markets break your way, and then go meet people. I have been arguing that we are moving to an era of capital scarcity - which makes bonds and equities less attractive. But after a wait of a few years, we have finally had a break out in gold relative to the S&P 500.

And we saw 30 year JGB yields rise, even at the Nasdaq fell 10%. This is novel, but would fall squarely inline with my view of moving to an era of capital scarcity.

These two things combined convince me we are in a new world.

If you are in NY next week, and would like to talk about these things, then drop me a line and I can see what we can do.

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I am thinking of being in NY on 25 and 26th March. If you would like a meeting, drop me a line and I can see what I can do.

In case you have been under a rock this month, US markets have finally sold off, while “emerging market” assets have done alright. Aggressive traders who took on the long China tech, short US tech trade have been hugely rewarded this year, with a 50% move already, and miles to run before we get back to old highs.

I can see the merits of this trade - politically China is moving pro-tech, while the US and its new love of tariffs and hate for until recently close allies (what exactly has Canada done wrong again?). While President Trump is obviously going easy on Russia, is the same true for China? Who knows. But we have also quietly seen a break higher in gold vs S&P 500. Even moving back to the recent high in 2011 implies a 300% move.

Just looking at the last five years we can see it has tried to break this level a few times, but this time it is moving higher.

Things like gold and technology always have a bit of Rorschach test about them in my view. You see what you want to see. But from a more hard headed financial perspective, US assets are looking expensive.

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Note this was written morning of 11/3/25 so market pricing below is at that time.

Short selling is not taught at university or in the CFA syllabus. Short selling also only tends to be profitable for brief periods, so finding someone who does it for a living is hard. And generally speaking, only idiots try and make a career from short selling. All of this combines to make it the least studied and least understood part of asset management. For me, when to put on shorts is the easy part - when to cover is the really hard part. And with recent declines in markets - I am wondering if its time to cover some shorts. Well first of all, the Nasdaq has finally pierced is 200MDA, with a 13% straight line fall, and entered what people call a “correction”. Bear market happens with a 20% fall.

All the talk is of recession and in particular the long awaited recession in the US. The most obvious catalyst for all this recession talk is the weakness in equities. Weakness is a strong word in this case - as we are still above the 200MDA.

On a more realistic level, lead indicators in the US, such as the Quits Rate has been pointing to a slow down since 2022, as higher interest rates has slowed growth in the US.

But if it is a recession - its not like one I have seen before. First off all, JGB yields continue to surge. Typically they start falling well before US recession becomes apparent. Falling JGB yields happened before 1991 Savings and Loans Crisis, Asian Financial Crisis, Dot Com Bust, GFC, Euro Crisis, China Deval Scare, and even Covid. JGB investors seem not to be thinking deflationary crisis anymore. Perhaps they expect a Trump administration is more likely to raise tariffs and do a fiscal push rather than accept a recession. Seems a reasonable to me.

Certainly, corporate credit spreads are not shouting recession here. Typically fears of recession are at their highest when spreads widen, as they did in 1998 (Asian Financial Crisis), 2000 (Dot Com Bust), 2008 (GFC), 2015 (China Deval), 2020 (Covid) and 2022 (rapid monetary policy tightening). As of today, spreads are near all time lows.

Given that US pressure is now forcing most nations to boost military forces, the more reasonable question is where is that labour is going to come from, and who is going to pay for it? Japanese population is in decline, but labour force employed is at all time high, even before they remilitarise.

Similar analysis can be applied to German and Poland. Poland has been far more serious about remilitarising than almost any other nation in Europe - for obvious reasons. Unsurprisingly, Polish bond yields are not pointing to recession either.

US conference board inflation expectations are also flagging problems for a recession call. They have popped to 6% in the most recent months.

Using NIIP data, we see that the US has been sucking up capital for over 15 years, with a private sector NIIP the largest since the dot com bust. In 2000, we had China join the WTO, and this was a catalyst for capital to leave the US. I am wondering if the remilitarising of Europe and Japan will lead to a similar capital flight?

All of this is a long way of saying, I do not see recession, but I can see US assets weakening at least relatively. With Trump in the White House, and Europe and Japan spending, a recession is actually hard to see - but I could see a financial crisis driven by tighter monetary policy - but these days, financial crisis does not mean recession. Welcome to the new macro world.

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You spend ages waiting for a good short theme to come along, and two turn up at the same time. I really think markets are not fully appreciating the significance of the sell off in German bunds, and the likely continued weakness in the bunds.

We have also quietly seen 30 year JGBs sell off to reach new cycle highs.

What is unusual about these moves is that it has occurred in a period of US stock market weakness. In the “free market” era from 1980 to 2016, I would expect JGB yields to fall in periods US stock market weakness - but not anymore. Why? Because Donald Trump has gotten his wish. No one will ever trust America to protect a democracy again and everyone is remilitarising. I suspect this is going to be disastrous for the US - and hence time to add more shorts.