Moving onto a trend that’s suddenly become interesting, we want to chat briefly about currency pegs. As you’re well aware, certain hedge funds have made their careers out of breaking currency pegs. However, we aren’t going to be looking at those. Instead, we want to look at pegs that act more like stable coins (chock full of US Dollars). Think of stuff like SAR, HKD, AED, QAR, BHD, OMR, BSD, BZD, XCD, KYD, etc (ranked by size). Sure, some of these guys cheat a bit, some of them don’t back their FX 1 to 1, and maybe they will eventually get into trouble from such actions. In fact, we almost assume that hedge funds are spooling up SPVs to take a shot on breaking some of these pegs (yet again), but that’s not the trade we’re talking about…
Thing is, it’s hard to break a peg when there’s a lot of USD there to defend the peg. Anyways…
When you use a peg, you effectively surrender your monetary sovereignty to the US Fed (for better, and usually worse). For the past few years, these pegged fx countries have had to contend with high interest rates, and an overvalued US Dollar, just like the USA. It has impeded many of these economies.
Unless you’ve forever sworn off Social Media, you’d be well aware that Trump wants to replace JPOW with a new Fed Chairman who can both putt well, and cut rates. Trump has dithered on if he wants to do it immediately in a colossal scandal, or wait until May, 2026. Knowing Trump, he may actually try both options…(uggh). The only certainty, is that barring a dramatic acceleration in inflation, around May, 2026, Fed Funds are going to gap down. When the long end of the curve has a convulsion, it seems almost inevitable that they do some sort of QE/YCC/TWIST. This will happen at the same time that Trump is desperately trying to force the US Dollar lower. Remember back to November, 2024 when we all wondered how he’d get the Dollar down?? Now we have our answer. He’s simply going to make everyone hate America. Fascinatingly, it seems to be working…
So, let’s play it forward a bit, with a warning that we’re going to simplify here a bit. (If you’re a STIR or FX purist, please hold your fire). What happens to the pegged currencies when the DXY drops as the new Fed chair cuts rates and sprays liquidity everywhere. To start with, as the Dollar drops, your pegged currency drops with it. If the Dollar drops a lot, then your currency may drop well below fair value. If/when that happens, and your pegged currency has inflows, the Central Banker has no choice but to print more domestic currency. Let’s look at how this is working for HKD, as it’s one of the more extreme examples. Look at the chart below of M1 in Hong Kong YoY over the past 5 years.
When JPOW did ‘Printer go Brrrrr’ the money supply exploded. Then when DXY ramped and JPOW pretended to be Volcker, the money supply growth was negative for multiple years. Is it any wonder that HK real estate and equities have been in a funk for a few years now??
Then, just recently, M1 started to explode again. Look at 1-month HIBOR. So much capital came in, so quickly that they didn’t quite know what to do with it. The interbank rate collapsed, far below where the roughly pegged to US Fed Funds rate had previously been (chart on next page).
Now, you’re probably shrugging your shoulders. Let me lay it on heavy here. When Trump toilet-papers our currency, these pegged currencies get inflows—crazy inflows. Their rates collapse. If history is any precedent, things go rather berserker as the smaller overall economies simply cannot handle the inflows. Now, you can say that US equities likely go up when Trump does this, and maybe you’re right, though I am a bit skeptical, as we’re starting from such a high place in terms of equity multiples. They ‘ran it hot’ in the 1970s and it wasn’t kind to many US equities. Brazil has been ‘running it hot’ and most of their equities trade at LSD EBITDA multiples and cash flow barely covers debt service. In summary, we’re not sure what happens to US equities.
We think the more interesting trade is to look at some of these really cheap markets like Hong Kong that have done a lot of nothing for almost 2 decades now. Yet, look at how it mooned from 2003 to 2007 when US rates were low and DXY was on the floor.
As consummate degens, we think you can pick apart the index and simply focus on the beneficiaries of a liquidity tidal wave. What do you want?? Financials (check!!), local real estate and equity brokers (double check!!), anything that needs to be financed like commercial real estate or property development (triple check!!). Maybe you want ancillary businesses. Stock exchanges are always 2nd derivative trades on a liquidity boom. You get the idea. Even better, the starting points are quite cheap here, especially when compared to the US.
We still are of the view that we get a messy 2H in US equities, as the tariffs work their way through the system and the US economy continues to fade. At the same time, it’s the sort of thing that potentially sets off the boom for the rest of the decade, as everyone agrees that the only option is to ‘run it hot.’ We think this is the last chance to get long before ‘Project Zimbabwe’ begins in earnest.
We also accept that we never re-grossed after Liberation Day, and may be bitter about things. Fortunately, a lot of these pegged markets have barely gone anywhere, certainly not anywhere near what could happen if liquidity floods in. Though we do notice that the larger financial players like banks are suddenly getting rather perky in some of these markets, and we love ourselves some thesis validation…
We think it’s time to learn these markets better. Each is a special snowflake in certain ways, but we think that simply closing our eyes and buying a basket of the larger cap names (remember fund flows drive everything), will do quite well. We already have a number of positions. We’re looking for more.
