The liquidity cycle just broke bitcoin, with Michael Howell, Founder at CrossBorder Capital

0:04 Welcome to another episode of 51 Insights. Today, my guest is Dr. Michael Howell. Welcome to the show. Mark, it's great to be here. Interesting times. Yeah, interesting times. It's great to have you here.

0:18 You're the founder of Cross-Border Capital and GL Indexes, and one of the world's foremost authorities on global liquidity. You spent decades at Salomon Brothers and Barings.

0:31 You have advised the world banks on capital flows and pioneered the Global Liquidity Index. We'll speak about that later. That's a framework that tracks money flowing through financial markets across nearly 90 countries.

0:44 You also have a Substack, Capital Wars, one of the top-ranked financial publications out there. And to all our listeners, here's why you should care. Michael predicted the liquidity cycle will peak in late 2025.

0:56 Bitcoin crashed from $126,000 to $60,000. $2 billion evaporated from crypto markets and, and every risk asset got a hit at once. So his framework called it. Super excited to have you here today. And yeah, let's jump in.

1:12 Great. Okay. Look forward to it. So, uh, first question I have for, for, for you, Michael. Uh, your Global Liquidity Index predicted the cyclical peak around 2025, and we just watched Bitcoin crash.

1:25 Did February 2026 play out exactly as your model forecast, or did something surprise you how this played out now in the last two months?

1:35 Well, I think that, you know, if you look at the underlying momentum of liquidity, it, it's clearly going down. Now, there may be little flurries.

1:43 For example, the Federal Reserve in late last year introduced another mechanism for QE, a small one called Reserve Management Purchases, which, uh, is trying to dig them out of the hole of the turmoil in the repo markets in the US.

1:58 But generally speaking, liquidity is, is losing momentum. It's not actually falling in absolute terms, but it's at the margin where this matters, and growth rates are pretty critical.

2:08 And if you start to see a slowdown at the margin, you're gonna get dislocation in markets.

2:13 Bitcoin and other crypto, but particularly Bitcoin, uh, from what we've found, it's the most liquidity-sensitive asset on the planet, and that means that it's a great barometer.

2:24 It may even be, if you think about it, the canary in the coal mine, to keep, uh, throwing in metaphors.

2:28 I mean, basically, if liquidity goes down, you'll find that in Bitcoin, in the Bitcoin price, Bitcoin prices will come down, and Bitcoin prices will lead other assets.

2:38 I mean, other assets, other risk assets are not gonna be immune from this because liquidity is a key factor driving financial markets. You won't find it in the finance textbooks, but so what?

2:48 The fact is that reality, experience, and you talk to traders, you talk to investment managers, they will all come back with the idea that historically it's movements in money flows, capital flows that are really driving these asset markets, and so you need to monitor, uh, the flow of money, and that's exactly what we do.

3:06 So we're seeing money flows falling away, and that's not great news. Equally, if you go back to, what, the fall of, of 2022, September, October 2022, uh, at that stage, liquidity was beginning to pick up.

3:19 We turned very bullish, and we've been riding a three-year upwave now in liquidity. But cycles are cycles, and cycles go up, cycles turn and come down, and we're now in a downswing. Mm-hmm.

3:32 You track the global 65-month liquidity cycle tied to debt maturity. If that cycle peaked in 2025, how, how will this play out? How does the downside look like now in the next one to two years?

3:47 Well, I think the first thing to look at is what is the sensitivity of assets like Bitcoin, um, to liquidity.

3:55 And there's a sh- there's a chart that I can show you which, uh, is probably displayed now, which is looking at the relationship between global liquidity and a basket of prominent crypto assets, and this is called BES, uh, and you can probably see that on the slide.

4:12 And what that shows is Bitcoin, Ethereum, Solana with weights of 60% for Bitcoin, 30% for Ethereum, 10% for Solana to give some sort of notion of a basket.

4:23 And what that shows is six-week changes in orange in that, uh, in that basket, the val- changes in the percent- percentage value of the basket.

4:32 And the black line that you can see, uh, behind it is global liquidity, the same six-week change, advanced by three months. And so global liquidity is a lead indicator of what happens in Bitcoin.

4:44 It's not the only factor that clearly affects Bitcoin.

4:47 We found that if you do a deep dive into the statistical properties, systematic influences, uh, looking at systematic influences, about 40% to 45% is global liquidity.

4:58 There are other factors like there is an impact from the gold market, uh, there's an impact from investor sentiment as well.

5:04 But broadly speaking, let's say approximately half of the movement, uh, is coming from global liquidity, and you can see here that the recent gyrations have more or less aligned, uh, with that basket.

5:14 I mean, you can actually infer, although it may be a brief flurry, that it's possible that Bitcoin could bounce very near term. That's quite possible. But I would caution that the trend may well be downwards.

5:25 Now, to get back to your question, your explicit question, which is basically saying, what about, um, uh, what about looking at, um, the cycle. What you see- Yeah... here is the global, global liquidity cycle.

5:39 What the global liquidity cycle is, is illustrating is the flow of liquidity through global financial markets. It's a rate of change or an underlying momentum. Uh, it is not a level.

5:50 Um, the level is still going up, but the momentum is clearly slowing. And what matters at the margin for pricing is rates of change. So you can see this inflection. The cycle moves through- Um, a 65-month wave.

6:03 We can show that with the red dotted line. That's a sine wave imposed on top of the data estimated by Fourier analysis, but it seems to show very clearly, uh, these five to six-year cycles. Why five to six years?

6:17 Because five to six years is the average maturity of world debt, so what we're looking at here is a debt refinancing cycle.

6:25 Uh, the cycle bottomed in late 2022, um, around September, October, and it's peaking, uh, assuming this is the definitive peak, which it probably is, uh, sometime around the end of the third quarter of 2025.

6:39 The cycle looks as if it's going down now. That down wave will likely last through this year and well into 2027 before there's an upturn.

6:49 Uh, that means that the environment for investing, uh, in risk assets is gonna be problematic.

6:56 Uh, it doesn't mean to say you can't make money tactically, but it's gonna be, you know, it, it's more difficult clearly than an upswing.

7:02 And the point that we make here is that whatever the long-term outlook for crypto, for gold, and we're very excited by both, we think that both are very good monetary inflation hedges, which, uh, should be dedicated parts of people's portfolios.

7:16 The trouble is in the next 12 months, it may be quite a difficult ride. Gold may be underpinned by other factors, namely China, but China is easing.

7:25 On the other hand, the Chinese are not allowed to buy crypto, so a lot of the Chinese liquidity is gonna be funneled into the gold market, not the crypto market.

7:33 So what we're saying here is that, you know, our, our expectation over the long term has been for buying crypto, buying Bitcoin, for example, uh, around one standard deviation below its trend, which is, you know, s- mid 60,000s is probably not a bad re-entry point.

7:50 If you can get it lower, great, but, you know, it, it's gonna be tough. You're not gonna make money short term. But the fact is that we've gotta pay attention to cycles. There are trends and there are cycles.

8:00 Very often, we get skewered by the cycles, and we're in a downswing now. Mm-hmm. Yeah, no, I would love to talk about that, uh, China and US relationship later as well. Let's stay with Bitcoin for a moment.

8:15 Bitcoin has long been said to be digital gold. Bitcoin had many narratives over its 16-year history. The last five years, digital gold was the m- most prevalent narrative.

8:28 Bitcoin and gold are no longer correlated, however, and with that crypto crash still fresh, what do you think Bitcoin is right now, if you had to explain this to an in- institutional investor?

8:39 Is this a liquidity instrument, a monetary hedge, or is this just a leveraged tech bet? What's your view in that? Well, I think [chuckles] in many ways, probably a little bit of each. I think that, that's fair to say.

8:51 But, you know, when we're talking about monetary inflation, monetary inflation is basically triggered by liquidity, so those neatly dovetail together.

8:59 And, you know, what we're looking at is a long-term, uh, picture where liquidity is likely to expand significantly.

9:06 The very simple reason for that is we're in a world economy where debt is continuing to grow, and I can't see any way out of that debt expansion because in many ways that we're on a road which is really, really being dictated by compound interest.

9:20 If you've got to pay a large interest bill on your existing debt, the debt burden is gonna grow exponentially, and that really is what seems to be happening.

9:29 And in order to refinance or roll over that debt, you need more liquidity, otherwise you get a financial crisis.

9:34 So liquidity is gonna go up long term, and that's a monetary expansion or a liquidity expansion, and you want a monetary inflation hedge against that, which is, which is gold historically, or more recently, Bitcoin has demonstrated that it's a very, very good monetary inflation hedge.

9:49 As I said, it's the most liquidity-sensitive asset in the planet, on the planet. But you've got to, you've got to then accept that if liquidity goes up cyclically, Bitcoin does fa- famously well.

10:00 But if liquidity comes down cyclically, Bitcoin will suffer, and I think that's what we're seeing right now. Now, I'd go on to say that I think Bitcoin is a canary in the coal mine, as I sort of suggested.

10:11 It's a barometer of what could happen elsewhere, and we're likely to see that poor performance from Bitcoin extending into other areas of risk assets.

10:19 We're already finding technology stocks suffering with-- We're likely to see the stock market at best range-bound this year. I think it's range-bound with downside. But, you know, gold may well decouple because of China.

10:35 Now, in actual fact, our research shows that anyway, even disregarding China, uh, Bitcoin and gold tend to be, have a v- well, have a very strange relationship.

10:44 They tend to be very positively correlated in the long term, but they tend to be negatively correlated in the short term, and that's, you know, that's a fact that is in the data even before China's d- been doing what it's doing now.

10:54 China is adding to that dislocation because China is expanding liquidity quite aggressively to dig itself out of its debt problems.

11:02 But Chinese residents are not allowed to buy crypto or digital assets like Bitcoin, and therefore they funnel their monetary inflation protection into the gold market or silver market. Mm-hmm.

11:17 Yeah, so that's a very interesting topic. You just described a bifurcating global monetary system with the US backed by Treasuries in a digital wrapper via stablecoins and China backing the renminbi with gold.

11:32 What do you make out of that situation? Where does Bitcoin sit in that framework or context?

11:39 Well, I think that that's [clears throat] that's an interesting debating point, and I think what, what we're evolving to, I mean, this is a sort of much broader question.

11:46 We're evolving into a, a world monetary system that is likely bifurcating into these two spheres. So we've got a China sphere or China system, which is, um, yeah, much more tightly controlled.

11:59 It's using central bank digital currency issued by the People's Bank. That is gonna have very tight control around it by definition. It's a very centralized system, not decentralized.

12:09 It is highly permissioned, which is another issue. All those facets probably make it less attractive in many, in many ways for, uh, for investors to hold.

12:19 I think backing that system, one has to think about what, you know, what is, what is the collateral that is behind that system apart from the voice of the Chinese Communist Party, which may not be a particularly attractive voice.

12:30 What's backing that is collateral or what has to back it is collateral.

12:35 Now, it can't really be the Chinese government bond market because that's not an, that's not an international market, so that wouldn't really carry favor, favor with international investors.

12:44 What you need is something that is recognized that China has, and that is gold. So I think that what you're likely to see evolving in China is some commodity backing.

12:53 Now, I stress the fact this is not in any way, shape, or form a return to a gold standard. That is not gonna happen. Big governments now need fiat currencies.

13:02 If China is gonna expand the size of its government, if it's gonna spend on defense, et cetera, et cetera, it is gonna have to have the option of fiat currency.

13:12 I mean, that's a fact, and the same that the US has, or even the same for Europe. All these things. We're in a world now where fiat currencies matter.

13:20 What China can do is to accumulate gold as some sort of notional backing for its currency that will give it some credibility.

13:27 And what I'm really suggesting there is that you may well get a situation whereby if they do, for example, an oil deal with the Saudis, they will allow the Saudis to be paid to some extent, uh, for that oil in gold, so there'd be a gold oil exchange, uh, which they can facilitate.

13:44 That will be very selective. It will be very narrow, very focused. It won't be very big, but it will give that sense that there is some anchor in the system.

13:52 And if you think back to the gold exchange standard that came out of Bretton Woods, I mean, it's not a million miles different.

13:59 Uh, I mean, there wasn't free movement of gold that, you know, I couldn't go to, uh, the Federal Reserve and claim gold. Other central banks had that, that, had that option, but clearly the general public didn't.

14:09 So this is a restricted system that we've seen before. If you turn to the US, it's very different. The US is, um, you know, much, much more of a decentralized digital system or monetary system.

14:22 Uh, the US already has very clear payment rails that it, it-- where the US dollar is accepted, and that clearly gives it sort of first mover advantage.

14:33 The other thing is that the treasury market is very well accepted as collateral, uh, for the dollar anyway.

14:39 Uh, I mean, that's really what's been backing the US dollar system, you know, since really nineteen seventy-two, there or thereabouts, uh, when the dollar began to float. That, that's very well established.

14:49 And I think the idea of stablecoin is a great innovation because stablecoin will extend the reach of the, of the dollar zone.

14:58 A lot of investors in many, many countries around the world that have more unstable fiat monetary regimes will actually welcome the dollar.

15:07 And what you're likely to see is the dollar being embraced or stablecoin, dollar stablecoin being embraced more widely worldwide.

15:14 Given the fact that they are wrappers for treasuries, that will underpin the integrity of the dollar system.

15:21 So I think you've got these two rivals out there, and they're vi- they're vying for attention or vying for, you know, for our money. But it's really a, a, a dollar-based versus a Yuan-based system.

15:32 Now, it's very much in the US interest to get the value of digital, and by association, I'd say Bitcoin, because that may be, that may bask in the same aura of stablecoin, in the US interest to get its digital technology at the forefront and to probably diminish the role of gold in the same way as the US tried to diminish the role of gold post-Bretton Woods.

15:55 If you look at it from China's perspective, China wants the opposite.

15:58 It wants to limit the attractions of US crypto and US digital, and maybe the advances into quantum computing are a way of doing that, uh, because, you know, a lot of, uh, people a lot, uh, you know, a lot smarter than me have identified the fact that quantum computing is a real risk to the protocols that lie behind Bitcoin.

16:17 And China will want the gold price to go up, which it's trying to engineer, I think right now, by accumulating lots of gold.

16:22 Um, whenever there's a seller out there, the Chinese come with in with alacrity to buy the gold up. Yeah.

16:30 Thanks to the Genius Act, the US is now able to essentially wrap US debt into a stablecoin, um, through creating new treasury demand. So, uh, definitely a very smart move.

16:42 And you've said that governments are essentially bankrupt and the only path forward is monetizing debt. If that isn't a bug, if that is the operating system, what's the end game here?

16:56 Well, I think that [clears throat] when I say the governments are bust, what I'm, what I'm really saying is that the, the avenues for funding, uh, are narrowing very fast.

17:05 And you've got, you know, three possibilities, assuming that you don't cut back government expenditure.

17:11 But the great problem that the world faces is the world is aging, and you've got mandatory demands on government spending, unless you don't have, but, I mean, that's a big political step to say that we dismantle the welfare state.

17:23 It's probably inevitable, one would have to say, but it's clearly not on the agenda right now. So government spending is gonna increase.

17:31 It's gonna increase more because of required defense expenditure, which clearly has been on the back burner for probably too long, so you're gonna see more of that. Those deficits have got to be funded.

17:40 Now, they can be funded in three ways. You can raise taxation, but we're probably on the wrong side of the Laffer curve in most economies, so the more that you raise tax rates, the less tax revenue governments will get.

17:55 And what's more, you're gonna, uh, effectively slow economic growth, which is clearly a, a, a unfavorable prospect.

18:02 The other thing you can do is you can try and fund through the bond markets, but we've got bond vigilantes out there who probably won't like to see a lot of debt issuance.

18:11 And we can see what happened, you know, as recently as the, as the previous UK government, uh, the Conservative government, when Liz Truss, the prime minister, caused huge mayhem in the British bond markets, and that shows, you know, the knife edge that we're really on.

18:26 So, you know, what can happen in Britain can really happen in, in, easily happen in other economies too.

18:32 So bond vigilantes are sort of keeping that channel closed or, or basically quite narrow, which means there's only one channel which is basically printing money and monetizing debt.

18:41 Now, that's actually what's happening right now in front of us, in front of our eyes, but people are not waking up to it.

18:48 And, you know, if you look at the amount of monetization that's been going on in the world economy since the GFC, it's basically doubled. The rate of monetization has doubled.

18:56 Now, you know, it don't take a genius to say that you want in that environment more monetary inflation hedges, and consequently and not surprisingly, the gold market has exploded upwards, increasing by, what, 12, 13 times since a year 2000.

19:10 And Bitcoin has actually put on an even bigger performance. Uh, but these are dedicated monetary inflation hedges. But we got to remember there are cycles as well, and that's what I'm trying to say right now.

19:20 The cycle's turned down.

19:21 But, you know, at the end of the day, we're in a world where you've got to start thinking about what the monetary landscape is gonna look like, what the international monetary system will, what shape it will take.

19:31 And, you know, the Genius Act is clearly one big step, but the reaction to the Genius Act, uh, is, um, uh, called sort of rather more prosaically, uh, Notice 42, which came out from China, uh, recently in the last two weeks,

19:47 which basically says they are doubling down on regulation or banning, in actual fact, more, more, more accurately, crypto and digital assets, tokenization, et cetera.

19:58 That, that simply can't be done or it can't be done by foreign powers.

20:01 And the fact is that Chinese investors will not have the option to invest in some of these digital assets, therefore their monetary inflation avenues are very limited to precious metals. Why do you think they did that?

20:16 Well, because I think the stablecoin are a huge, huge threat to the Chinese monetary system.

20:21 And the reality that China has to face is that the Chinese monetary system is effectively dollarized or there's a very, very large dollar component in that monetary system, despite what others might claim or the Chinese themselves claim.

20:33 The dollar is a key, key factor. China is a big holder of dollars. The majority of its trade or a very large proportion still of its trade is denominated in dollars. Uh, they hold a lot of dollar investments.

20:45 Consequently, what happens to the dollar area matters for China.

20:49 Now, if you start to get stablecoin being introduced, you have the prospect of Chinese exporters then thinking what are they going to do with their revenues or their cash piles? Uh, do you hold it in dollars in a bank?

21:03 Well, it could be sanctioned. I mean, that's clearly the Russian example i-is a eye-opener for many foreign governments or for-foreign, uh, foreign holders.

21:12 You could keep it in the Chinese state banks, but good luck with that because that can be sanctioned or taken away at a moment's notice, so that's not very attractive.

21:21 Or you could hold it in stablecoin, and stablecoin at least gives the impression of having some anonymity, and therefore that could be a big growth area.

21:30 So what the Chinese have done is they've really closed off that avenue as best they can by making it illegal to hold any of these instruments. Equally, I mean, extending up to Bitcoin as well.

21:40 So I think that, you know, Notice 42 has been very clearly a reaction to, uh, the Genius Act. The US dollar has lost purchasing power against a lot of major currencies in the last couple of years.

21:53 Do you think the US government has an interest in devaluing the dollar? Well, I mean, if you take, if you take that statement at face value, they do because they, they claim they want a weaker dollar.

22:05 I'm not too sure I kind of understand that really.

22:10 Um, I mean, apart from giving a, a, maybe a bit, a small uplift to Main Street and manufacturing, I don't think that's in the US, in generally America's interest to have a weaker dollar.

22:22 Um, you know, devaluation never really made any country rich, otherwise Zimbabwe and Argentina would sort of top the list of the most wealthy countries in the world right now.

22:31 So devaluation doesn't really work in that regard. It may give, it m- it's more a redistribution between sectors of the economy, and I accept the fact it may give manufacturing a, a, you know, a short-lived uplift.

22:42 But, you know, I-I'm not so convinced. Anyway, that doesn't mean to say that it won't it.

22:47 So I would argue that the dollar probably near term is soft, but that softness already reflects, to a very large extent, diversification away from US assets that is a normal feature late in the cycle.

22:59 And, you know, we've got to pay attention. Now I'm gonna move on, if I move the, the slides on slightly, to what we should be looking at. I show this slide here.

23:09 Now, this is the schematic representation of what the, what the asset allocation cycle is doing.

23:17 And what this is showing is really, uh, uh, well, a schematic version of that previous chart, which was actual data or momentum.

23:25 And if you look at the chart, what it shows is the points on the cycle, the investment cycle, that are associated with outperformance from various asset classes.

23:36 So if you look at the upswings of the cycle, and it's divided into asset allocation on the left and the liquidity regime on the right, but it's, you know, it's the same underlying cycle.

23:46 And what you can see is in upswings, which we denote as being risk-on periods, equities really do best, certainly through the main channel of that upswing.

23:56 Around the peaks in the cycle, which, you know, clearly on that previous data we're at and, you know, we're, we're around that peak and just beyond it, commodity markets do well.

24:05 So that's actually, you know, exactly as we've been seeing the roadmap is working.

24:10 Um, you know, I mean, uncannily this time in a way that, you know, I probably [chuckles] in all my experience, I've, I've never seen it quite as like clockwork as it is now, but it seems to be doing that.

24:19 And then you move on to a cash phase where cash is probably the best, building up cash is the best asset. Choice. And then you get towards the bottom of the cycle, and you'd start to see bonds.

24:28 Uh, if you take Bitcoin, Bitcoin is an asset that is not dissimilar from technology stocks. It's a very liquidity-sensitive asset. It has a much higher liquidity beta, so to speak, than, than tech or Nasdaq.

24:42 But it's a risk-on asset, so it will do well in the upswings and not so well in the downswings. So you've got to be very careful when liquidity is going down, and that's really the view we take.

24:51 Now, there's a lot of reasons why that cycle is turning, and one of the reasons that, uh, and I should just maybe mention this.

24:59 This chart is basically looking at a traffic light system that is showing that same diagram in a slightly different form.

25:06 And what it's illustrating is, again, assets on the left, industry groups within the market on the right-hand side.

25:12 And what it shows is four phases of the liquidity cycle that we generically call rebound, calm, speculation, turbulence. The US market currently is in the speculation phase.

25:21 Europe is late calm, emerging Asia is mid to late calm, and China is rebound, so China's much earlier.

25:28 And, you know, we've been arguing that, um, you know, from early twenty-- uh, late '22, early '23, you wanted equities and credits, then you migrated into commodities and equities, and now you're really just in commodities, trimming your equities and out of credits.

25:43 And within industry groups, what you should be-- what you should have done in the upswing is dominate portfolios by technology, cyclicals and technology.

25:51 Financials come in about mid-cycle when the yield curve begins to steepen, and they've had a very good eighteen months. Energy commodities towards the end of the cycle, they're running now.

26:03 Uh, you know, energy is clearly pretty firm. Utilities are doing well, which is a more defensive sector. And, you know, we're starting to move towards defensive, you know, defensive stocks like consumer staples.

26:15 Uh, they should be good. And then we're actually beginning to make, uh, the sort of the shift gradually into fixed income around mid duration. So that's how we're, we're coping with this.

26:26 To try to understand what's going on, let me maybe illustrate this with two slides. This is looking at cyclical stocks within the MSCI World relative to defensive stocks, and that's the black line.

26:41 The orange line is the world business cycle as reported by all major surveys.

26:47 So that's things like the US ISM, the Tankan in Japan, the IFO survey in Germany, INSEAD survey in France, CBI in the UK, et cetera, put together, weighted by GDP. That's the orange line.

26:59 The black line is showing what the market is thinking the economy is doing.

27:03 This is what legendary investor Stanley Druckenmiller calls the internals of the market, which he thinks is a much, much better predictor than economists can offer, and it so would-- it would so seem, and that's showing that the economy is, is running, beginning to run.

27:18 Now, the fact that we've got to start to think about is that all money that is anywhere must be somewhere.

27:25 So if it's in the real economy, it's not in financial markets, and if it's in financial markets, it's not in the real economy. So, you know, you can't, you can't have everything.

27:34 And what this chart here is illustrating, the next one, is showing global liquidity vis-à-vis the world business cycle, uh, with the business cycle, you know, cheated a tad by moving it six months forward, so nicely aligned.

27:48 But you get the idea that when liquidity is very strong, when that orange line is high, it tends to coincide with very weak business activity.

27:58 And equally, when you get the business cycle picking up, that's normally when you start to get an inflection in the liquidity cycle, and that's pretty much what we're seeing now.

28:07 So the more bullish you are on the economy, uh, the more negative I would be on liquidity in financial markets.

28:12 Strong economies don't always have strong financial markets, and that's the thing we've got to start to remember.

28:18 Now, that's one key theme, and that theme I think sort of dominates a lot of our research and has done over recent months. But the other one is this one.

28:26 And what this is illustrating is the way that the global liquidity cycle is actually itself being, being sort of split into two, into two, two divisions.

28:36 Uh, there's desynchronization and uncoupling or decoupling between the US and China. The orange line here is China. The black is US liquidity.

28:48 Starting in year two thousand, just around the time that China joined the WTO, the World Trade Organization, you could see that China and the US were very closely aligned.

28:59 China's cycle was more volatile, but then it was struggling to, if you like, align its, uh, liquidity to the US and run monetary policy pretty much instead.

29:08 And that persisted right through until about twenty twelve, twenty thirteen, when there was a more obvious decoupling. China had a bubble it had to sort out in real estate.

29:17 It was running a very tight monetary policy for several years, evidenced by that flat orange line. Uh, it didn't participate in those cycles, uh, or the US cycles.

29:28 And now what's happened is that it's trying to dig itself out of its liquidity crisis, and it's starting to ease quite significantly.

29:35 It was-- You know, it had to revive the economy in the wake of COVID, which is that first spike, and then it tried to deal again with overheating real estate markets.

29:45 And what it's, what it's doing now is actually beginning the process of reliquefication again, exactly at the time that the US cycle turns down.

29:57 Michael, you've called the traditional sixty forty portfolio redundant in a world of monetary inflation. If you were building a portfolio from scratch today for a long-term investor, how would that look like?

30:10 Well, I think what I'd, what I-- I mean, for a long term, it's very different from what I would have right now, and, uh, I think o-one's got to be clear about that. But, I mean, my, my view would be

30:20 that you probably want at least one-third of your portfolio in dedicated monetary inflation hedges. And when I say dedicated, I mean gold and- Crypto, but particularly Bitcoin.

30:33 I know I think one can finesse the other crypto assets. I mean, Ethereum, I'm not an expert if I sort of dig mu-much beyond that.

30:40 But they've got some ability to outperform during a strong economy period because there's, there's more work involved or more, uh, you know, blockchain, uh, applications.

30:52 So one imagine a stronger economy, you may well see Ethereum outperforming Bitcoin, but I think that's a nuance.

30:58 But generally speaking, these cryptocurrencies are monetary inflation hedges, and in the long term, you probably want a third of your portfolio, investment portfolio for, you know, I'm talking an average investor here, in those dedicated monetary inflation hedges.

31:13 Now, the choice you choose between gold and Bitcoin, I think is a personal choice.

31:17 I mean, I would tend to align them based on relative volatility, so I'd probably have more in gold and a little bit less in Bitcoin, but you get the idea. You want those assets.

31:26 You've also got to have other, you know, maybe less good monetary inflation hedges, but fairly decent hedges, like equity is a good monetary inflation hedge. It's not as good as gold and Bitcoin, but not bad.

31:38 And prime residential real estate is also a pretty good hedge.

31:41 Bonds are not, and I would be very light in bonds on the long term, although, as I would try to stress, my short-term portfolio or near-term portfolio would have bonds in, but certainly they will be chucked out as soon as we get back to the trend, and, uh, that trend, I think, is a powerful one we've got to recognize.

31:58 Let's say, 70th or, say, two-thirds, one-third, probably a reasonable guess, and one-third is dedicated monetary inflation hedges, Bitcoin and, uh, gold.

32:08 The AI CapEx boom is now approaching $600 to $700 billion per year, and hyperscalers are issuing over $100 billion in debt to fund it.

32:18 I-in your framework, does AI infrastructure spending drain liquidity from financial markets, or does the debt it generates actually create new liquidity? No question it drains.

32:30 And what I've shown here on this slide I've just put up is looking at the demands on US capital markets from issuance, and this is basically showing, in orange, the, uh, as a percent of US GDP funding requirements from the US government and from the private sector.

32:48 Now, uh, the private sector is dominated by corporate. Corporate spending is probably dominated, or a large part of it comes from AI spend.

32:56 And let's be clear that that is also coming through in terms of this is the corporate deficit. Now, if you get

33:05 AI corporations or some of the big tech companies running down their cash piles, that is also gonna be affected here. So this would also be reflected in the data.

33:15 You know, coming back to the point, all money that's anywhere must be somewhere.

33:19 If it's going into the real economy, it's coming out of financial markets, unless the central banks are injecting lots more, but they're not. And that's really the key.

33:27 And we know that, um, you know, uh, presumptive Fed Chair Kevin Warsh has gone on record as saying he actually wants to go back to QT and shrink the Fed balance sheet.

33:37 I don't think he can do that, but, I mean, if that's an aspiration, watch out. Mm-hmm. Yeah. So there's definitely a lot going on right now in the markets to make sense of.

33:47 Michael, you've been studying liquidity for over 30 years. What's one thing the market is completely wrong about right now? Well, I think it's completely wrong about gold, and let me explain that.

34:01 And I think it's also ignoring the fact that we get cycles. I mean, the whole point about liquidity is that it's a liquidity cycle.

34:08 And I'll, maybe I'll, maybe I'll demonstrate that with, with a s- with a slide if I can, and then go on to the China question and gold.

34:17 So if we look at, if we go back to look at the cycle, this chart may be a tad wonkish, but it's really a critical chart, and it's one that really is at the heart of the argument that we, that we put forward.

34:29 And it's one that, you know, even if you're skeptical about this, you, you've got to ponder and, you know, at least try and come up with a good reason why it's not true.

34:37 What this is showing is, in orange, the global liquidity cycle going right back to the mid-1980s, and the black line is looking at the term premia on government fixed income market.

34:50 Now, the term premia is the extra yield that investors in bonds require to hold a bond over its term. So think of it as a risk premia for bonds, if you like.

35:00 And what that's showing is that when liquidity is high, the term premia is also quite high. In other words, the black line is showing the, the actually the 12-month change, so the expansion of the term premia.

35:12 So what it's saying is that during a period of high liquidity, you're getting investors, uh, selling bonds, their prices are coming down, and their term premia are going up because the yield on the bond is the inverse of the price.

35:25 So what this is showing, this expanding yield is saying that the price of the bond, if the black line is going up, is falling. Now, why is the price of the bond falling?

35:32 Because investors are dumping bonds in a high liquidity environment, and they're moving into risk assets. Contra-wise, when liquidity comes down, what you tend to see is that investors do the reverse of that.

35:44 There's more systemic risk out there, more risk of greater defaults, and therefore, the investors want protection against that, and the best asset to protect against systemic risk and default is a long-dated government bond, and therefore, term premia in long-dated government bonds should fall, and lo and behold, they are.

36:03 And that correlation on this chart is very close over the long term. Um, these are completely independent series. The orange line is a flow of liquidity, and the black line is an interest rate, so very, very different.

36:16 Uh, it's what we used when I was at Salomon Brothers or the framework to try and understand how the bond markets work.

36:22 And if you want this in microcosm, this is looking at US liquidity here advanced by 12-- uh, sorry, t- nine months, and the average slope of the term structure.

36:32 So this is, you know, cutting through the ten two or the Uh, 21 or the two five spreads, looking at the aggregate, uh, slope of the, of the term structure.

36:42 And this is showing that the term structure steepens when you get expanding liquidity. The dominant factor driving the term structure is term premia, needless to say.

36:52 And therefore, this is the same argument, but it's in the US case. And what this is telling us is that, first of all, yield curve is cyclical. Everyone knows that.

37:01 But that cyclicality is driven by liquidity, and what's more upcoming, sometime around the middle of this year, you will see an inflection in the US yield curve.

37:10 And I think that's a risk-off move, and it may well be a bullish flattening of the curve. That's entirely possible. So that's one thing that people are missing.

37:19 Now, the other thing which is connected with that is this whole debate about the great debasement trade. Now, actually, I, I kind of quite like the great debasement trade because I sort of believe in it in the long term.

37:32 That's the only way governments... the only route they've got up. But it's not happening now. We're actually looking at the opposite. We're looking at liquidity conditions tightening.

37:40 So if liquidity conditions are tightening, why do people explain the rising gold through the great debasement argument? Because that shouldn't follow, should it? And in actual fact, I don't think it does.

37:52 And the reason it doesn't is if you take a look at this data upcoming here, what this is showing is what's going on in China. Now, China matters. Matters hugely, uh, for financial markets, for the world real economy.

38:07 Uh, may not matter too much for crypto, uh, because they've cut themselves off, but it clearly matters for other monetary inflation hedges.

38:15 What you see here is the red line looking at Japan and the orange line looking at China. This is the debt to liquidity ratio. Why do I look at debt to liquidity, not debt to GDP?

38:26 Because I think debt to GDP is meaningless. I don't, I don't really understand what it, what it tells us, if anything.

38:32 But debt to liquidity is critical because debt has to be rolled over, and you need liquidity or balancing capacity in the financial sector to roll the debt over, or a debt is not repaid.

38:43 It's only ever rolled over, refinanced, and therefore, you need liquidity. And when you've got a too high debt to liquidity ratio, you can't do the refinancing.

38:52 There's not enough liquidity, and you get financial crises and financial tensions and crises, et cetera. And Japan has suffered that through the 1990s

39:02 until they got to Abenomics, and Abenomics basically restructured the economy and encouraged the Bank of Japan to buy lots of government debt, JGBs. Uh, they flooded the system with liquidity.

39:13 The yen collapsed, and that red line came down, and Japan has dug itself out of its problems, okay? Or is digging itself out, but it's, it's pretty much through those. China is 15 years behind.

39:24 China has an equally big debt problem, maybe, you know, in absolute terms, massively bigger. It had a real estate bubble that burst, like Japan.

39:33 It's got debt which is underwater, probably insolvent, but the Chinese government could bail them out, but it's also very illiquid. So what they have to do is to refinance that debt somehow.

39:43 They've got to reduce the value of the debt, which means that if you want to get the debt liquidity ratio down and you're not gonna default, you're gonna have to get liquidity up, which means that you've got to print a lot of money.

39:54 Voila. This is what the PBOC, the People's Bank of China, is doing. It's injecting lots of liquidity. This is daily data showing what they're doing in the markets, and, you know, the trend is clearly upwards.

40:07 Uh, that trend is actually showing the change over a year ago in terms of liquidity.

40:14 So in the last year, their incremental spend has been about one trillion, uh, well, since the beginning of 2025, in fact, it's been about $1.1, $1.2 trillion.

40:24 But, uh, on a year-on-year basis, it's basically just under one, and they're gonna have to do the same again. So they're printing lots of liquidity. Why does that matter?

40:35 Because if I shift on, uh, you'll see that that launches the gold price higher. So if China prints paper money, the gold market goes up. Now, Chinese residents can buy gold.

40:47 They can't export gold, but they can buy it, and the monetary expansion in China is not going into crypto because they can't buy that. It's going into gold. It's going into the Shanghai stock market.

40:57 Uh, it's coming out of bonds, as the previous chart showed. This is the bond market. Yields are rising. Prices are falling. Um, [coughs] but it's going into monetary inflation hedges, and that's the story.

41:08 So China's been progressively pushing the gold price up, and those previous channels that we identified there are where we saw earlier targets, and we think they're, you know, they're gonna put more liquidity and the gold price goes up, the gold price in yuan goes up.

41:24 Now, people have been flummoxed by this char-chart, and this was the one that they used to say there is a great debasement going on, and this was showing the gold market in orange decoupling from real interest rates around 2024, '25.

41:39 And everyone said, "Look, this is showing us that central banks are printing money, and what you're getting here is the gold price going up."

41:47 Well, actually, it was a good call because clearly that happened and is probably gonna continue. But the real driver was not a general debasement. It was a China debasement, as this chart shows.

41:58 So this is illustrating PBOC liquidity and the gold price.

42:03 So what this neatly explains is why you've got term premia falling in the bond markets, why you've had bond market stability across the West in the advanced economies, despite these claims of monetary inflation.

42:15 But the crypto is equally down, which is consistent with that.

42:19 But you've got, on the other side of the world, China printing lots of money and the bullion market going up, and it's China that controls the world bullion market through the Shanghai Gold Exchange, and that's the story.

42:32 And how does that compare to the, to the US? Do investors need to be worried about that the US won't be able to, to service its debt at one point? No, not at all. The US will always service its debt.

42:42 There's no question about that. The question is at what price, uh, and how much monetization do you need? But they'll always do it. I mean, that's what central banks are here to do.

42:51 Central banks move with, with alacrity to maintain the integrity of sovereign debt markets. All this stuff about inflation fighting and employment gains i- is basically, you know, uh, is playing to the crowds.

43:01 The fact is that they are, uh, they're in the business to maintain the integrity of sovereign debt, and US Treasury will keep paying interest. There's no doubt about that. They will not default.

43:12 They are the one that has the world standard of value, the dollar. How do you look into the next six to 12 months? What's on your radar? What are the catalysts? What are the key events that you're looking at?

43:24 Well, I think there, there are two basically, uh, that I, that I would say. One is, what is the outlook for the world economy?

43:32 And if we're correct, and you get a much stronger world economy underpinned by, uh, the big beautiful bill, underpinned by CapEx from AI companies, et cetera.

43:42 If that, if that transpires, uh, you're gonna get a stronger economy, which is gonna suck even more liquidity out of financial markets.

43:48 Economies don't always have strong financial markets, and that really depends on whether central banks are willing to go along and pump in liquidity.

43:56 We've already seen evidence that the BOJ in Japan is tightening policy. We've seen further evidence from the, uh, Reserve Bank of Australia. They're r- raising interest rates.

44:05 They may be early trendsetters in this regard. Uh, the US is still talking about cutting rates, but on the other hand, incoming, uh, Treasury Secretary Kevin Warsh has talked about slashing the size of the balance sheet.

44:18 Good luck with that. I just don't think that is feasible.

44:21 But if they go down the road or try to go down the road of, uh, cutting liquidity, which I think is far, far more important than interest rates, then we've got a problem out there, and that is gonna cause me to be even more negative than I may sound at the moment.

44:36 Last question, is it still a good time for investors to be invested in US stocks or not? No. I mean, it's- No... it-- If-- No. I mean, it's not. You, you don't wanna have too much exposure to risk assets in my view.

44:51 I would be taking money off the table, not putting it on, but I'd probably keep... You know, I am gradually exiting.

44:56 I'm not saying press the panic button and dive out tomorrow because I think the-- my view is that what we're gonna see at best, and I stress at best, is a range-bound market. Uh, but that's maybe still give some time.

45:08 The Fed's not tightening yet, so that's, you know, one support to the market. But the reality is that, you know, this is not an attractive environment for risk asset investment, and I would be starting to move.

45:20 I'd probably be slower to exit areas like energy stocks. I'd be slower to probably move out of Europe. But the trouble is we know that European markets are very sensitive to bad [chuckles] US news, so watch out there.

45:31 And I would still keep, uh, you know, positions in China, and China technology is probably not a bad area to be in. It's very early cycle. Mm-hmm. Dr. Michael Howell, it was a pleasure to have you on The 51 Show.

45:45 Where can people learn more about CrossBorder Capital and GL indexes? Well, you can look at our websites, one being glindexes.com, crossbordercapital.com.

45:55 Equally, you can, probably the main route is Capital Wars on Substack, which is where we do a lot of writing. Uh, the institutional service is more data-based, and that is available through the websites.

46:08 Substack is more of a narrative for maybe less, if I say less professional investors, but certainly not quant funds or whatever. But i- it's for people who enjoy understanding about markets. Yeah. That's great.

46:19 We'll link all of that in the show notes. Michael, thanks for coming on the show. It was a pleasure to have you here, and talk soon. Great, Marc. Enjoyed it enormously. Thanks so much.