US$ weakness versus Bitcoin and Carillion

19 January 2018

Across the mainstream media, the past week’s finance news was dominated by the collapse of construction conglomerate Carillion and the rapid fall of Bitcoin. However, the investment world was more transfixed by the continued fall of the US-Dollar (US$), which is occurring despite the US economy being the home to strong economic growth and as a consequence the highest interest rates and bond yields of the western world – usually the pre-requisite for a stronger, not weaker currency (see chart at the top which shows the declining value of the US$ against a basket of global currencies over the past 12 months).

Being the currency of global trade, large and unexpected moves in the Dollar can be disruptive to the world economy, because the sudden price changes derail long term planning and thereby slow growth. The explanation for the unorthodox fall may actually be less mysterious than many commentators suggest. The consensus view that US stock markets are trading at exceedingly high valuations compared to Europe and Japan (See last week’s CAPE article), without good economic rationale, is increasingly persuading global investors around the world to shift capital from the US to Europe and Japan. This leads to a selling of US$ for Euros and Yen. One is almost tempted to say the US is suffering the consequences of too much of a good thing – vibrant and dynamic capital markets.

For the time being, the fall in the dollar relative to the Euro, £-Sterling and other global currencies has not reached dimensions that are overly disruptive, but it is a dynamic that merits monitoring. The same applies to the rise in US long term bond yields over the week, where the yield on 10‑year Treasuries jumped above the critical mark of 2.6%, which many fear could trigger an even stronger bond market sell-off that rapidly sends the 10-year to 3%. Just as with too rapid movements in the currency markets, this could put an end to the Goldie-locks environment of strong economic growth, rising corporate earnings and vibrant stock markets in the US.

In this context, the volatility experienced by Bitcoin investors and the noise around the Carillion collapse seem distractions. We will refrain from discussing Bitcoin again in this edition, but the Carillion liquidation raises some important questions about the effectiveness and sustainability of the public-private partnership (PPP) and private-finance-initiative (PFI) model. Unless handled with utmost care, Carillion was big enough to have the potential to drag down other, perfectly healthy and well managed construction and servicing firms.

At the very least, however, the public sector will have to accept a rise in costs – not in the form of a bailout, but most probably in higher prices for buildings and services to prevent the effects of ruinous competition in future. Higher taxes may well be the longer-term result. P.S.: Tatton’s investment portfolios had no exposure to Carillion except for some relatively insignificant tracker fund positions.

To end the summary on a more positive note, RICS’ monthly house price survey reported healthy annual house price increases of around 5%. Interestingly, the report shows that UK’s house price dynamics continues to be somewhat on its head: The southeast is experiencing slight downward price pressures, whereas the revival of export demand for manufactured goods is leading to up‑trending prices in the middle and north.

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