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George Herman
Chief Investment Officer


By now it sounds clichéd to refer to 2020 as a “unique year”, but it was absolutely jaw-dropping in so many different ways. The world hasn’t faced a global pandemic for a long time, so there was much uncertainty regarding the nature, spread and mortality rate of the coronavirus at the beginning of the year. This uncertainty filtered into the financial markets and a massive risk-off move tore through all asset markets during the latter half of the first quarter. What was clear at that point was that the world was poised to fall into an enormous and synchronised recession as mobility restrictions curbed economic activity. In hindsight, we now know that global equity markets bottomed out around 23 March after declining up to 30% in record time.

Why did risk asset markets put in their lows so rapidly after an enormous, unexpected recession descended upon the globe? It’s not that the future path of the pathogen was understood any better than weeks before. Instead, it was because global central banks followed the most recent roadmap at their disposal, that they used in response to the global financial crisis of 2008.

Central banks promptly reduced interest rates to record low levels in an effort to support economic survival and revival via monetary policy. This time they even went further by buying bonds from their bond markets and, in so doing, flooding the financial system with liquidity. This process is also known as quantitative easing (QE), despite many central banks trying to argue that these actions are not tantamount to QE since they bought the bonds from the secondary market, rather than directly from the sovereign issuer. This technical distinction doesn’t change the fact that central bank purchases of their own government’s debt is nothing other than monetisation of debt. This is important because this action is the central tenet of a school of thought known as Modern Monetary Theory (MMT) – but more on that later.

As soon as the markets realised that central banks were prepared to support markets – no matter what – sentiment started looking way beyond the reality of the time. Sentiment started focusing on the inevitable recovery that is bound to take place once frustrated consumers are released from their containment. Risk-on sentiment returned like an avalanche and a record advance in the markets followed during the middle of the year. On cue, announcements by various global pharmaceutical players of successful vaccines arrived in the third quarter of the year and with it the sense that soon “everything would return to normal”. This fired the animal instincts as markets roared past previous record highs.

The table below shows the returns for various asset classes for 2020, all expressed in SA rand and split into 31 December 2019 to 23 March 2020 and 23 March 2020 to year end.


Source: CAM, Bloomberg

The advances for equities, and indeed most risk assets, during this second spell were astounding, considering this was amid a once-in-a-century recession. The United States still hasn’t recovered 10 of the 20 million jobs lost during the initial lockdowns as the services sector remains decimated. Consumers are surviving from one relief package to the next, otherwise housing markets will collapse as consumer debt skyrockets. Corporates used the record low interest rates to borrow as much as they could to keep afloat during very uncertain economic times with much uncertainty still ahead. And it’s here where economics, politics and monetary policy become enmeshed in that experimental dance referred to as MMT.

Modern Monetary Theory or “Magic Money Tree”
MMT includes the word “modern” because it’s new, untried and untested. It includes “monetary” as it refers to a specific strategy employed by central banks and “theory” because that’s exactly what it is. A theory.

MMT suggests that governments can spend enormous, even limitless, amounts of money – funds which have been raised from debt – to bring an economy to full employment. As long as it issues its own currency, a government can run an enormous budget deficit, as it can merely fund this deficit by debt, which is bought by the central bank via monetisation of debt (as described above). This theory is very appealing to populist politicians as it theoretically supplies them with infinite resources to deliver on their promises. Debt doesn’t matter and money can be created from thin air by the central bank. Magic! No wonder MMT is also referred to as the Magic Money Tree. With consumers, corporates and governments in debt, global central bankers all jumped onto the carousel and monetised a record US$10 trillion of debt in 2020.

It was this tsunami of liquidity that caused risk assets to rally like never before during a recession. It also made diversification worthless, since all assets went higher and the correlation between different asset classes and the actual economy broke down entirely. This led to a range of new mantras and behaviours in the markets: bad news (poor economic numbers) is good news (more stimulus) and why not buy-the-dips as markets can no longer go down. This experiment of infinite debt, coupled with the financing of ballooning deficits in order to cover struggling economies, will take years to resolve.

In the meantime, the first 10 days of the new year have made it abundantly clear that the uniqueness of 2020 isn’t something of the past. Rotations from growth to value, large to small caps, developed markets to emerging markets and the US dollar to other currencies are traded with such ferocity that it seems it’s the only outcome possible. The JSE jumped 8.5% during the first five trading days of the year. That would be a fantastic annual return considering the domestic fundamental backdrop! It’s already clear that this year will be as adventurous as the last.

At Citadel Asset Management we’ll approach this year with a good dose of optimistic pessimism around assets that ran well ahead of fundamentals and a good dose of pessimistic optimism about the effect of the vaccines on the fundamentals themselves.

Happy 20-MMT-one!