American Consequences - November 2020


short-term earnings and cycle volatilities to give a more comprehensive and accurate measure of market value. Today, developed markets trade at an average CAPE of 20, compared to a CAPE of 13 for emerging markets. The S&P 500 trades at a CAPE of 31. The discount of EM to DM (that is, how much cheaper emerging markets are in comparison to developed markets) is toward the high end of its historical range. The U.S. market has long had – even before Donald Trump – one of the highest CAPEs of any stock market in the world (Ireland and Denmark are higher). And in times of trouble, investors around the world flee to the safety and liquidity of U.S. government securities and the U.S. dollar. So what does this mean? Valuations fall when earnings rise or the price falls. If U.S. markets were to be valued more like emerging markets – in line with how the U.S. is looking more like an emerging market on the political and electoral fronts – either earnings would need to more than double, with no change in U.S. market share prices... or share prices would need to collapse by more than 50%. (And meanwhile, EM valuations would need to stay still as the U.S. “caught up” to their emerging market brethren.) That would be catastrophic for U.S. markets. But this isn’t going to happen overnight... if ever. Because luckily for U.S. investors, the

United States remains the closest thing to a superpower. It’s the world’s biggest economy... it’s a hotbed of innovation... and in times of trouble, investors around the world flee to the safety and liquidity of U.S. government securities and the U.S. dollar. And for now, that’s still happening despite America being the world’s largest emerging market. (Will President-elect Joe Biden be able to reverse America’s slide down the slippery slope of emerging markets? More on that below...) Also at risk is the future of the U.S. dollar as the go-to currency around the world... The U.S. DollarWon’t Be the King of Currencies Forever Almost every country – and person – in the world craves U.S. dollars. Central banks around the globe hold reserves – in currency or precious metals – so they can trade goods abroad or invest in other countries. Some central banks use it to maintain exchange-rate pegs. For roughly the past century, the U.S. dollar has served as the world’s primary reserve currency... It’s the global economy’s most important medium of exchange, unit of account, and store of value. Without U.S. dollars, many other countries wouldn’t be able to buy oil or gold, sell toys or cars, or invest in hotels or bridges. And foreigners use a lot of dollars... It’s estimated that more than half – and maybe as much as two-thirds, though no one knows for


November 2020

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