ROGER HIRST: Double.
JAMIE MACDONALD: So wait, you're talking about the-- talk about the business cycle here.
ROGER HIRST: Yeah.
JAMIE MACDONALD: OK, so are you talking about how different asset classes function depending on where they are in the cycle or within these asset classes?
ROGER HIRST: It's a bit of both. So I think you can look at how different--
JAMIE MACDONALD: I know you [inaudible].
ROGER HIRST: --assets, different currencies. But I think, probably, for most people, it's all about how different sectors-- equity sectors-- operate. So you've got cyclicality, which will be early cyclicals, mid cyclicals, and particularly, late cyclicals. And things like early cyclicals, or dirty cyclicals, as I used to call them, which are things like the mining stocks-- things that take things out of the ground-- which normally are there at the beginning of the cycle.
Now, you could say that they're also an inflation hedge towards the end of different cycles. So different cycles matter. But trying to work out roughly which part of the cycle you're in, whether you're in the early expansion out of a recession, or you're in the growth part, which is the trending bit, or whether you're starting to pick and roll over-- all of those, theoretically, through history have different sectors that should outperform in each one of those periods.
JAMIE MACDONALD: Mm-hmm.
ROGER HIRST: And even during the recessionary period, again, you'd say, OK, in a recessionary period I want to be long. If I'm going to be long anything, these sectors compared to those sectors. So the cycle matters.
JAMIE MACDONALD: But isn't the duration of the cycle has been oscillating quite a lot itself? I mean, sometimes we've had business cycles as short as two or three years to some have been eight or nine years. So how do you know what length of business cycle you're in?
ROGER HIRST: That goes back to, which secular trend were you in? So we were in that monetary, post-interventionist era from 1982 to, potentially, 2020, 2022. Maybe we're leaving that now into one which is becoming a fiscal, and now inflationary environment, where you have to think about cycles being shorter. We don't know because we're two years into a new cycle because of such a short, sharp recession in 2020.
We don't whether that was finishing a cycle too early which we never finished fully. Or was that the end of that cycle and a completely new paradigm? So this is where it goes down to, we've always got to retest our thesis. Because I have no idea at any one point in time whether the cycle should be a 10-year cycle or a 2-year cycle. And even if I'm 8 years into a cycle, should it last for another 4 years? Then we look at the yield curves and all those sorts of things for some clues, but none of them give us precise timing tools.
JAMES HELLIWELL: So thinking in terms of the cycle and building on that, you've also got, effectively, greater sensitivity of particular assets to the cycle, or, beta, as we call it, compared to others. So how do you thinking that?
ROGER HIRST: Yeah, I mean, well, we talked about that in terms of currencies. There are different currencies. There are high-beta currencies and low-beta currencies. And high-beta currencies are often, if we're not-- if we avoid the ones which are basket-case currencies-- but the ones that are-- the ones that add on to growth.
So they might be the commodity currencies or emerging market currencies, which tend to outperform in a period of growth because things are doing well. Bond markets-- we talked about bonds are sort of general. But there are government bonds. There are corporate bonds.
JAMIE MACDONALD: High yield.
ROGER HIRST: There's high-yield corporate bonds. There's low-- investment-grade corporate bonds.
JAMES HELLIWELL: Convertibles, as well. Convertible bond ETF, basically, is the S&P 500. Sometimes a little kicker.
ROGER HIRST: A whole bunch of these different things, which in different parts of that cycle, will outperform and underperform. And they can change place. So for instance, some corporate bonds are now almost considered safer bets than a lot of government bonds. Because after the European crisis of the 2012 period, many government bond markets were seen to be kind of unworthy, dangerous, almost. And so you saw this change in rating. So those are all different ways of looking at these cycles through one asset class can have three or four different instruments-- early, mid, late.
JAMIE MACDONALD: I mean, because the way we used to look at it in the stock market was almost every stock was assigned a beta. When I ran a portfolio, we had a central risk officer at the hedge fund who would basically say, you you've got $10 million worth of this Stock X. But that wouldn't be your exposure. That would be your gross market value.
Well, actually, would need to times that by the beta of that stock, which can be anything from 0.5, to 1.52, or some stocks like Tesla or whatever can go up to 3. Or real basket cases can be 4 or 5. But how does it work in other asset classes? Because if you are trying to be responsible in the way you allocate your savings, you need to that every asset class has a different beta. I mean, they're not all the same. But how does it work in the other--
ROGER HIRST: Well, this is one of the dirty secrets of the financial world which is, the long short guys would sit there and go, oh, well, I made I made 12%.
JAMIE MACDONALD: Here we go. Sit back.
JAMES HELLIWELL: Tell us a lie, Jamie.
ROGER HIRST: But actually, what most of them are doing is that they had these portfolios where they made 2% when the S&P was up 15%. And what they did was they then got six times leverage and made 12 and said, well, we were close to the S&P. I mean, it happens in the fixed-income markets. In the repo market, you'll see people trying to take a few basis points out of a, effectively, long-short position between two very, very similar assets. And they'll leverage that up hundreds of times.
So LTCM was a classic example of that where, long and short, leveraged up loads of times. What they forgot about was the liquidity was a potential risk in the market. And when the cycle changed caused by the Asia crisis, then the Russia crisis, and LTCM's positions just blew out. And that was because the leverage.
So it's one of these things where you've got to understand that risk between beta, low beta, high beta. It's a bit like 2015 when you had the Euro Swissy. So the Swiss franc and the euro had been flatlining pretty much. And then Swiss National Bank stepped away from intervention, thing fell 20%.
JAMIE MACDONALD: I remember that day.
ROGER HIRST: And if you look backwards, you'd have thought, oh, this got a volatility of almost 0. And it turned out to have the highest currency volatility of a major pair pretty much ever. So it's that combination of bit of leverage if you want it, but understanding the volatility. And often, that volatility is changing depending on which part of that cycle you're in.
So volatility is never constant. It can go up-- equities can be 18, or they can be 8. And you've got-- that volatility is often a reflection of where we are in that cycle.
JAMES HELLIWELL: So think of the volatility and the cycle, what about crypto?
JAMIE MACDONALD: Well, it seems to me-- my uncultured mind in this world. I'm not an expert-- but a slow process of adoption that, basically, like a big, secular trend has big oscillations in and around certain legislative reasons, sentiment reasons, things like that. So in a way, it's actually playing out like a secular trend that has cycles and also has the short-term news flow moves, as well. I mean, that's what it seems to me.
ROGER HIRST: I mean, what's interesting about crypto is it started off very much in the realm of, this is an uncorrelated asset. And you can see it was very uncorrelated at the beginning. And there were some fantastic returns to be had in it if you were lucky enough to be in it.
And then as it's become more and more mainstream and it gets more and more institutionalized, suddenly, as the institutions come in, you might have noticed over a few years, it's gone from being very, very uncorrelated to times when it's going with the NASDAQ. And that often happens. And that's the unfortunate thing with uncorrelated assets. They become attractive because they're uncorrelated, so everybody wants it in their portfolio.
JAMES HELLIWELL: And then they become correlated.
ROGER HIRST: They become correlated. Because now, it's been like gold in 2008. It sold off. It was supposed to be the perfect hedge against the financial disaster. And it was good. But there's a point in time where you go, I just need cash. If I've got long gold, I'm going to sell it. If I've got long Bitcoin, I might sell it. In those times of crisis, it goes back to uncorrelated assets are often uncorrelated until that time of stress where correlations of everything go to 1 in the big moments.
JAMES HELLIWELL: There's certainly a wall of money, no doubt, still, that's just floating into the space. And I, myself, in terms of-- probably a bit happy go lucky later into the crypto thing, having left it alone for a number of years, mostly. I made an investment that probably proved to be the best one that I've ever made, personally, in the space. But it definitely wasn't a directional bet on Bitcoin or one of the other kinds.
So when I've spent a bit more time looking into that, it's all the things that we've just laid out there. But one chart that sticks out in my mind when we're trying to draw comparisons and see how the relationships work is-- I think it was a chart between, basically, a proxy for high beta or beta versus Bitcoin or any of the crypto-- major crypto you care to take. I think it was the high beta index relative to low volatility. And you can use ETFs to chart that.
And if you overlay crypto, it's basically when it's risk on, there's a lot of risk appetite, all the money's-- speculative money, the fast money, is going into high beta stuff. That's when you've seen the big rallies in Bitcoin. And vice versa-- when it comes off, when there's fear in the market, it just reverses.
ROGER HIRST: What you're outlining here, what's fascinating is that-- again, I'm going to use the I don't know card. But the fundamental, the actual framework for valuing Bitcoin and valuing the other cryptocurrencies is evolving. And no one really knows. There's some great arguments out there, some of which have already been disproved, some of which are still evolving.
And this whole space-- this is a whole new ecosystem, potentially, which is potentially going to have a completely different way of analyzing it-- a completely different way of picking winners and losers. And there's thousands of these things, now-- as many cryptos as there are stocks in the world in terms of listings. So you're going to have to have a new framework, but it's evolving as we speak.
And it might be multiple years. Because investing in the stock market evolved over 100, maybe 150 years. And this is a new paradigm that we're looking at, potentially, here. So it's going to have to take time.
JAMIE MACDONALD: Because I understand, or I think, at least, I have an idea of how the drivers work, with every month that we have is another month of evidence of greater or less adoption, so to speak. But when someone is trying to do fundamental analysis about how much Bitcoin is worth, how do you go about doing that?
JAMES HELLIWELL: That is a complex one. I think it's probably beyond my--
JAMIE MACDONALD: Because the only way I can see of doing it is the relative way and saying, something like gold-- there's-- I don't know. Is it $10 trillion?
JAMES HELLIWELL: I think relativity-- that's probably the way to go. But you can almost think in terms of, how on Earth do you value traditional currencies, which we were discussing earlier, with the beer, rear, and fear. These things are imperfect.
ROGER HIRST: [inaudible].
JAMES HELLIWELL: There you go. And when it's, perhaps, so arguably an even more speculative instrument or asset class compared to traditional currencies, and the rate of evolution in progress of the technology is just on another level--
JAMIE MACDONALD: The pace at which it has advanced we've never seen before.
ROGER HIRST: We're always trying to anchor ourselves to something, which is why we compare it to gold. It's because, well, I don't actually know what this thing is, really, so I'm going to compare it to the thing that I think is nearest. But actually, maybe we shouldn't. Who knows? But that's the point is that we're trying to create frameworks because we don't have a frame of reference, or we didn't. That is slowly evolving.
JAMES HELLIWELL: You can make the same argument against gold, as well, frankly. I know there'll be experts who know exactly what it's worth. But ultimately, what's gold worth? What is it, truly? That's still a matter of subjective debate. You get differing opinions around that.
JAMIE MACDONALD: Isn't argument against gold that if something is to be a true currency-- I mean, gold is not going to be the true currency in the same way Bitcoin is in terms of its utility.
ROGER HIRST: But it is a true diversifier. And that's why that's like crypto and like gold is because you can say, based on its volatility, its past history, if I put 5% of my portfolio into crypto and 5% into gold, they might do something which is, if we have horrific inflation, or war, et cetera, these things might outperform based on the sentiment indicators we talked about. It's not about going all in.
It's all about diversification. It's all about finding all these appropriate bits which balance things out. What you don't want to do is have so many things in your portfolio that you're just the market, and you're just beta.
What you want to have is this balance based on what your requirements are, what your expectations are. And if I was younger and I was a bit more with it, I'd probably have a bigger allocation to crypto because I'd have that time to see it play out. If it went down a lot because volatility, wouldn't worry me too much.
JAMES HELLIWELL: And that's the role of alternatives in your portfolio that we were discussing earlier-- more important than ever. So maybe we found a common ground on crypto and, truly, what it represents. Who would have thought, eh?
JAMIE MACDONALD: So I've got it right from what you're saying. When it comes to looking across asset classes, you can look top down. You can look bottom up. That was much more me. I guess you were much more top down. James, I'm guessing you were one of those experts in between.
The point is, you can make money either way. But if you have an element of both, then you might have a better chance of making money because that builds up your conviction. It's not saying, one's right and one's wrong. It's saying that you can make money from both, but it's better to have a mix of the two.
ROGER HIRST: It's blending things-- a bit like we talked about. Fundamentals and technicals together probably work better than one or the other. Macro, micro together probably work better than just one or the other. I mean, you want to see both sides of everything.
JAMIE MACDONALD: You want as many arrows in your quiver as you can.
ROGER HIRST: Absolutely. Yeah.
JAMIE MACDONALD: More chance of hitting the target.
ROGER HIRST: Yeah. And it just allows you to be able to, then, pick-- try and pick, OK, what are these different trends? And you want the early warnings. What you're looking for in all of this-- macro or micro-- you want that early warning, the catalyst-- the thing that's saying, something is changing here so you can move your portfolio either more aggressively or more defensively.
And we're looking for those big, macro data points. But those big, macro data points are often coincidental. Whereas some of the trends you might see the micro level, in terms of performance, in terms of lending figures, for credit figures, for banks, et cetera, might be the early warning that, actually, something is picking up or slowing down.
JAMIE MACDONALD: And I guess another thing that's important to understand is if something's affecting one asset class, be aware that that can very easily affect other asset classes and try to see how the relationship works between asset classes, right?
JAMES HELLIWELL: For sure. Yeah.
ROGER HIRST: Yeah, I mean, if you get volatility in one asset-- so if bond volatility goes through the roof and equity volatility is collapsing, one of those is probably wrong. We can't tell you which one it would be. Most people go, bonds are always right, but it's not true.
But equally, if, let's say, you had bond volatility going up, and FX volatility going up, and equity volatility going down, you'd probably go, hang on a minute. It doesn't look like equities are doing the right thing here. So again, it's trying to work out from which asset class-- you might see a big move in yen, which is normally safe haven, doing something particularly unsafe haven. And you go, OK, that's telling me something maybe in the framework. Currently it's just one point, but you're joining the dots.
This whole thing is joining the dots. And that's what you're trying to do with all this is like, something happened there. There's something happened over there. Something in the middle-- oh, I'm connecting those. Oh, christ. Something good is happening, or something bad is happening.