A Super Storm Emerges: The Ultimate Battle Ahead

 

Let's keep this brief, but the issue at hand is significant.

Many of you might recall that around two years ago, when the Federal Reserve was raising interest rates, essentially waging a "battle of hypertension versus hypoglycemia," I warned that if the U.S. continued down that path, a major economic storm would likely be inevitable. Fast forward to today—the precursors of that storm are becoming increasingly evident.

Few are aware that on May 21st, a notable event occurred in the U.S. This week, the country once again experienced a triple decline in stocks, currency, and bonds. The U.S. dollar fell, the stock market dropped, and Treasury prices plummeted. The U.S. Dollar Index fell from an opening of 99.95 to a low of 99.33, making a return to 100 seem highly unlikely. The Dow Jones Industrial Average dropped by 1.91%, the Nasdaq fell by 1.41%, and the S&P 500 declined by 1.61%. More alarmingly, U.S. Treasury bonds took a severe hit. On that day, the U.S. Treasury auctioned $16 billion in 20-year bonds, with a winning yield of 5.047%. In the history of U.S. Treasury auctions for 20-year bonds, this was only the second time the yield exceeded 5%. Just in April of this year, the auctioned yield was 4.810%! That's a jump of 24 basis points! But that's not all.

A still from House of Cards serves as a reminder. Let's not forget that earlier in the week, on Monday, a similar triple decline occurred. On that day, the U.S. Treasury market crashed, with the yield on 10-year Treasuries briefly surpassing 4.5% during trading, while the yield on 30-year Treasuries broke through the 5% mark. At this point, you might be starting to sense the storm I've previously mentioned. After all, such occurrences are far too frequent and highly unusual.

But the above is merely the surface. Let's delve into what these developments truly signify for the U.S. in terms of danger. We'll start with the broader implications and gradually narrow down.

First, on a macro level, these events indicate a clear trend: the U.S. is no longer the global financial safe haven it once was. To illustrate this, let's revisit an event from 24 years ago. On the morning of September 11, 2001, Eastern Time, four commercial airplanes were hijacked, with two crashing into the North and South Towers of the World Trade Center. The scene was etched into our collective memory: flames and smoke billowed, people were stunned or panicked, and soon after, the massive structures collapsed, sending storms of debris and dust sweeping through the area—a catastrophic event.

But the horror didn't end there. The towers housed numerous U.S. financial institutions, which suffered heavy losses in the attacks. A friend of mine still feels chills when recalling that he had received a job offer from a company located in the World Trade Center, with his start date set for September 12th. By a stroke of luck, he narrowly escaped the disaster. Given the devastation of so many financial institutions, one might have expected the U.S. financial sector to be severely weakened. However, that wasn't the case.

Take a look at this graph. As shown, following the 9/11 attacks, the NASDAQ Composite Index only dropped for a few days before resuming its upward trajectory. Why? The reason is straightforward: at that time, the U.S. was the undisputed superpower. Where else could one's money be safer? Where else could it preserve and grow in value more effectively? Even in the wake of an event like 9/11, investments in the U.S. continued unabated. Some might even have viewed the tragedy as a "golden opportunity" not to be missed. While this may seem counterintuitive, it reflects the mindset of many individuals, particularly the wealthy, at that time. This brings us to the gravity of the situation this week, as the U.S. experienced two instances of a triple decline in stocks, currency, and bonds. If such a statement had been made 24 or even 10 years ago, many would have dismissed it as folly.

Moving on from the macro perspective, let's consider the intermediate level. A nation's financial market is bound to experience fluctuations. How did the U.S. manage in the past? Interestingly, it was akin to a "seesaw" game. Here's how it worked: when the U.S. Treasury market faltered, the stock market would suddenly perk up and rise. International capital, reluctant to leave the U.S., would withdraw from the bond market and flow into the stock market. Conversely, the same dynamic applied in reverse. For instance, during the 2008 subprime mortgage crisis, the U.S. stock market plummeted. Yet, in a surprising turn of events, retail and institutional investors rushed into the U.S. bond market for safety. As a result, U.S. Treasury yields dropped sharply to 3.3%, a decrease of 2 percentage points in a short span of time.

The exterior of the New York Stock Exchange.

After reviewing these historical events, the concept of U.S. financial hegemony becomes clearer to many. Why did so many countries, even those with reservations about the U.S., purchase U.S. Treasury bonds? The answer lies in the need for preserving and growing wealth. No matter the political stance, economic responsibility towards one's own citizens necessitated such investments.

Having discussed the intermediate level, let's delve into the specifics. The fact that the U.S. experienced two instances of a triple decline in stocks, currency, and bonds within a single week carries profound implications. Setting aside the complexities of stocks and currency, let's focus on the bond aspect. Here, it's essential to introduce the "Rule of 72." What does this rule entail? In simple terms, it suggests that with an annual compound interest rate of 1%, it would take 72 years for the principal to double. However, the recent yields on U.S. Treasury bonds are not 1% but exceed 5%. A rough calculation would be as follows: 72 divided by 5 gives us approximately 14. What does this imply? If the U.S. government borrows $100 in 20-year bonds, after 14 years, it would need to repay $200 in principal and interest. Yet, these are 20-year bonds, and 14 years fall short of the full term, leaving an additional six years. Consequently, the repayment figure would be even higher! This is alarming given that the U.S. national debt is nearing $37 trillion, with annual interest payments exceeding $1 trillion.

It's crucial to remember that much of this $37 trillion was borrowed during earlier periods of low-interest rates, averaging around 2.7%. However, the current situation has changed. As the U.S. needs to take on new debt to refinance old obligations, borrowing at today's elevated rates could make interest payments unsustainable for the U.S. government.

The Federal Reserve Building.

This financial strain became evident in recent events. Recall that on April 2nd, Trump triumphantly announced in the White House Rose Garden his plan to impose reciprocal tariffs worldwide. However, just a week later, on April 10th, U.S. Treasury yields soared, prompting Trump to hastily declare a 90-day suspension of the tariffs, with implementation to follow thereafter. The urgency of the situation is reflected in the Federal Reserve's statement at the time: "We are prepared to intervene in the markets at any moment!" This was akin to having an ICU ward ready, with doctors and nurses on standby, as the patient (the U.S. economy) lay on the bed, only to be rushed to emergency care at the first sign of trouble.

Did this declaration have any effect? To some extent, yes. It managed to hold the line for 11 days until April 21st when another crisis erupted. In the days that followed, Trump repeatedly made false claims, asserting that "Xi" had called to discuss negotiations and that agreements were imminent. His message was essentially: "Stay calm, don't panic, hold off on selling, and wait a little longer!" As we all know, our side promptly exposed his lies, stating that no such communications had taken place and that no negotiations were underway. One might dismiss this as just another instance of political deception, but consider the implications: Trump, the President of the United States, openly lied and was subsequently contradicted by us. Where does this leave the prestige of the United States? As a result of this incident, during subsequent talks between China and the U.S. in Geneva, neither the media nor investors placed any faith in American statements. Even as negotiations were ongoing, Trump tweeted that progress was "very good." However, the market remained eerily silent, unresponsive to his claims. All eyes were on our side's announcement. When we finally declared, "Good things come to those who wait," the market took it as truth.

Many may find it puzzling that despite the recent "ceasefire" agreement between China and the U.S., the market remains unimpressed. To understand this, we need to shift our perspective. Firstly, through the trade war between China and the U.S., the world has come to recognize that China is the largest economy. China's manufacturing-driven economic model is far healthier than the U.S.'s service and consumption-based economy, which is inherently fragile. The trade war in April, to some extent, served as a practical exercise in decoupling between China and the U.S., with the U.S. suffering a decisive defeat. On Wednesday local time, U.S. Commerce Secretary Howard Lutnick acknowledged that Trump was afraid of the impact of the trade war on U.S. businesses. Such a statement is rare, as Americans are typically averse to showing weakness.

Secondly, the India-Pakistan air clash, which I mentioned earlier, may have lasted only over an hour but had a profound impact. Through this encounter, we demonstrated our military capabilities, proving ourselves to be on par with the U.S., if not slightly superior. After all, the U.S.'s military prowess has remained stagnant since the Cold War era of the 1990s.

In light of these two events, the foundational logic of the U.S. as a safe financial haven for the world no longer holds. Previously, funds would remain in the U.S. despite reservations, for the sake of preservation and growth. But that rationale is now obsolete.

So, what remains? The Rule of 72. The U.S. faces a dilemma: if it continues to recklessly print money, it can dilute the value of its national debt, but this will keep Treasury yields high. Eventually, the pressure to even pay the interest will become overwhelming. If it refrains from printing money, its massive fiscal deficit will crush the economy. It's one thing to start the printing press; it's quite another to possess genuine productive capacity.

At this point, you may already sense that while the exact timing is uncertain, a major storm is brewing on the horizon, and this could very well be the ultimate battle. For each of us individually, it's imperative to hold on tight. As I've said before, the world has entered a new phase, and every aspect of our future will be affected. Even ordinary individuals can achieve success by seizing opportunities. Rare opportunities should not be missed.