Analogies. They are the mental constructs that allow our very finite brains to hold a great deal of information. Seeing the similarities in seemingly dissimilar things is essential for mastering any field. For example, engineers often classify components of systems by how they process or transform some important variable like energy. Thus, it is through this lens that one can view capacitors and toilets, ostensibly very different objects in terms of size and sanitary standards, as just simple reservoirs of energy – electrostatic energy in the case of capacitors and hydrostatic energy in the case of toilets.
Finding financial analogies can be crucial for investors as they are bombarded by an ever increasing selection of products promising brand new paths to profitability. Take stablecoins for example. Blockchains and cryptocurrencies have been popular with all the cool kids in the financial media for several years now. However, the new digital assets can be incredibly volatile and insecure. While the unregulated nature of the world of decentralized finance may be intriguing, many investors would like a way to enter and exit that world in a stable fashion. Stablecoins were created in an attempt to implement these safe passages. Using a simplified model, if you give a stablecoin provider $1, he will give you a token that you then can use on the blockchain and exchange with other cryptocurrencies for all sorts of shenanigans. The stablecoin provider places your dollar in the bank, where it will wait until you are done playing blockchain games and decide to re-enter the real world. Then all of your stablecoin tokens can be converted back to U.S. currency, one token per dollar.
This cutting edge product has a very similar structure to the commonplace money market fund, which was first introduced in 1971. In this case, a retail investor wants to participate in the world of large, interest-bearing financial instruments, but his small bank account doesn’t allow him direct access. However, if he gives a money market fund $1, then they will give him one share in their interest-bearing fund. The fund’s pot of money can now be used to buy things like commercial paper (short-term unsecured corporate loans) or to engage in the repo market (short-term secured loans). With his share in the money-market fund, the investor is able to participate in this corner of high finance and collect some of the interest. And when his $1 is needed elsewhere, the investor can sell his share of the fund to get his cash back.
Ultimately, both of these instruments are comparable to an even earlier financial arrangement – the Bretton Woods system that governed international currencies from the mid-1940s until the early 1970s. At its inception, many people believed that the safest form of money was pieces of precious metals like gold. Nevertheless, everyone still saw the advantages of participating in the world of paper currencies. It was decided that the currency of the biggest economic and military power in the world, the United States, would be the perfect token to transition from the world of metallic to paper money. One dollar could be exchanged for (1/35) oz. of gold and vice versa. The exchange rate of the dollar to other countries’ paper currencies could vary, but the dollar-to-gold ratio was static. At least theoretically, the dollar was the token (or stablecoin) that allowed the financial world to transfer from cumbersome gold coins to the exciting world of government legal tender.
Hopefully, you can perceive an analogous structure in the preceding paragraphs. In each case, a token is created that allows investors to move assets “safely” back and forth from one financial domain to another – possibly less familiar and more risky – financial domain. And it is important to emphasize that each system has the potential of breaking down. Instead of placing dollars in the bank, many stablecoin providers have placed the money given to them in risky investments that eventually caused a loss of principal and collapse of the given stablecoin. In 2008, the default of many short-term corporate debt obligations caused major money market funds to “break the buck”, devaluing their shares below one dollar. And it was 50 years ago this month that President Richard Nixon ended the Bretton Woods system and the dollar’s convertibility into gold because … well, to avoid a lengthy discursion into the contentious world of monetary system politics, we will finish this article with the simple fact that it did indeed end.
Quote of the Week
|The story of cryptocurrency is in large part a story about rediscovering traditional finance.|
An aphorism coined by Bloomberg columnist Matt Levine in an article earlier this year. Mr. Levine had noticed that many of the people who attempt to create new unfettered financial frameworks through open source computer code and new blockchain database architectures eventually rediscover the wisdom and value of traditional financial structures
Market Sector Performance %
|1 Week||1 Month||3 Month||YTD||Market Segment||Trend|
|S&P 500||1.52||2.45||7.34||20.06||U.S. Large Cap||Favorable|
|Dow Jones Ind. Avg.||0.96||1.13||2.88||15.84||U.S. Large Cap||Favorable|
|S&P 600||4.09||4.27||(0.08)||22.89||U.S. Small Cap||Favorable|
|S&P 400||3.42||4.00||1.51||19.96||U.S. Mid Cap||Favorable|
|MSCI EAFE||1.83||1.46||1.04||9.40||Int. Developed||Favorable|
|MSCI Em. Mkts.||4.25||1.62||(6.03)||(1.44)||Emerging Markets||Favorable|
|Barclays U.S. Agg. Bnd.||(0.05)||(0.14)||1.75||(0.70)||U.S. Bonds||Favorable|
Past performance is no guarantee of future results. Trend signals are proprietary research of Fortunatus Investments, LLC, a Registered Investment Advisor with the Securities and Exchange Commission (SEC). Reference to registration does not imply any particular level of qualification or skill. Prior to June 2014, Fortunatus Investments was a wholly owned subsidiary of Executive Wealth Management, LLC and they continue to share common ownership and control. Data source for returns is FactSet Research Systems Inc. This chart is not intended to provide investment advice and should not be considered as a recommendation. One cannot invest directly in an index. Executive Wealth Management does not guarantee the accuracy of this data.
There were no trades in the Fortunatus models during the week ending on August 28th, 2021. The major equity market sectors remain in a long-term favorable trend, and the Fortunatus Asset Allocation models are near their maximum allowable equity exposure with domestic stocks favored over international shares.
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Returns are calculated as indicated below with reinvested dividends not considered except for the Barclays U.S. Aggregate Bond Index. Data source for returns is FactSet Research Systems Inc. The London Gold PM Fix Price is used to calculate returns for gold.
1 Week = closing price on August 20, 2021 to closing price on August 27, 2021
1 Month = closing price on July 27, 2021 to closing price on August 27, 2021
3 Month = closing price on May 27, 2021 to closing price on August 27, 2021
YTD = closing price on December 31, 2020 to closing price on August 27, 2021
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