The Past Is Gone For Good

Summary

It’s August, a very hot summer, and I’ll be heading on travels in a couple weeks and I am hopeful of a relaxing trip. I’d rather take a break from looking at the markets if that were possible. At this time, I'm reviewing my current portfolio allocation, and thinking of any “tail” events that could occur, and how that would impact me.

For some reason, I am reminded of the summer of 2011, when many investors were enjoying a holiday at the cottage, but their vacations were disrupted by an unexpected downgrade of the US credit rating, which sent markets spiraling during the 1st week of August.

Do we have a similar setup with our current geopolitics: 10-day warnings to Russia; August deadlines with key trading partners; a barfight in US-China relationship? A lot could happen, yes, and yet, I don’t see any evidence that investors have made any material shifts in asset allocation.

As with earlier in the year, I remain more concerned about “good news” which could ignite the next leg up in markets. But, with that in mind, I am unlikely to reduce risk as I think it’ll be more talk, and less rock.

Reflecting on 2011

Although 2011 seems a distant memory, I can recall that year with vivid memories. I had a variety of equity positions in 2011, and that’s perhaps one reason why I remember that year as it had a couple extremely very volatile periods.

For anyone living in Asia, the images of the Fukushima tsunami on March 11th were an unforgettable event, which sent the Asian markets into free-fall for a few days, and had weeks of speculation of a potential nuclear disaster.

Fortunately that event was contained, and markets calmed down in the following weeks, leading into one of the most watched events in history (2 billion viewers), the wedding of Prince William & Kate Middleton on April 29th.

Just 3 days later, President Obama held a news conference to announce that the world’s most notorious terrorist, Osama bin-Laden was captured and killed on a May 2nd raid.

Although it seems less dramatic now, I always wondered why the Navy Seals chose this particular long weekend to execute this mission? Perhaps it was just thoughtfulness to delay it past the royal wedding.

In any event, the most unexpected event of the year (as far as investors were concerned) was Moody’s downgrade of US debt on August 5th. The first time in history of a US downgrade. On a Friday, during the peak of holiday season.

Markets went crazy, with the banks being the most impacted. JP Morgan, Bank of America, Citigroup, and so on were sold-off by 30 to 40 percent overnight.

The Asian banks were also impacted, with China Construction Bank, HSBC, Standard Chartered and other global markets sold-off rapidly.

The downgrade was the catalyst for the most difficult year since the global financial crisis, with the US banking sector declining by nearly 50 percent.

Anyway, I’m recollecting 2011 as the set-up was similar to this year, given that we had a big volatility moment in April, and we have a serious U.S debt situation. But, it seems that investors are not too concerned about the debt levels, particularly in bank stocks, which have been in a long bull market.

I feel markets are as vulnerable to surprise events today as they were in 2011, and I view the strength of the global banks (which have outperformed the S&P) as particularly vulnerable. I would prefer to be on the short side of those assets.

Analysis of mid-2025

Anyway, as we enter the second half of the year, I’m reviewing the correlation between US and Asia markets, and looking for any signals of shifts in asset allocation.

At the beginning of the year, my core trading thesis was based on trend exhaustion in the US tech sector, which I felt would lead to a technical correction in the Asian assets that were buoyed by the MagSeven.

I was reasonably successful, perhaps a tad lucky, with this allocation. I have been buying Asian income assets, and hedging with the “Mag Asia” technology darlings.

The correlation had been near perfect through March, and since I was over-weight on the short side, I had a very fortunate profit ahead of Easter when the markets sold-off due to the tariff wars.

However, now that the markets have recovered and the S&P is making new highs, I am revisiting the correlation between the MagSeven and MagAsia, and seeing a breakdown in the relationship.

Although it appears that the MagSeven has resumed its climb, and has outperformed the MagAsia stocks; if we evaluate the momentum using volume-weighted prices (vwap), the MagSeven actually peaked in February, while the MagAsia are still in a growth trend.

That is, volume in the MagSeven has declined considerably, while the MagAsia are still supported by higher volumes.

Although Nvidia (NVDA), for example, has made headlines recently for its record new highs (and $4 trillion market cap), the rise in share price has been on declining volume, which often implies a potential correction is forthcoming.

Similarly, Microsoft (MSFT), which based on price levels, has reached new highs, but based on vwap has been flat for the past year.

By comparison, NEC (6701.T), the leader of the MagAsia, is still rising on strong volume. The correlation between NEC and MagSeven has shifted, and thus, it may be premature to expect a correction in this sector.

Generally, as a trading rule, I avoid shorting an asset when there is momentum based on vwap prices levels as this implies that more capital is coming into the asset class. So, I am revisiting my thesis that we will observe a correction in the Asia tech sector, due to trend exhaustion in the MagSeven.

For the time being, Asia momentum remains strong, AI is still hot, and tariffs are priced-in (apparently). I’m still happy to maintain the MagAsia as a hedge, but I’m keeping the size reduced.

Game of Thrones

In any event, some years ago, in March of 2009, I attended a former colleague’s 50th birthday party at the China Club. There were several bankers among the guests and there were plenty of long faces because many had seen their net worth decline by half in that past year. Wealth was concentrated in stock options which were never sold. It’s always stuck with me: very few people hedge or think about the “what if” scenario.

I personally have no interest in waking up poor (after a market shock), and thus I rarely hold any material positions unhedged. As I’m now in the same age category (with a long life expectancy), I find myself often pondering “what if”, and thus why I recall events such as August 2011.

And so, alas, I have been struggling to understand the strength of this US bull market for sometime. Notwithstanding the merits of the AI industry and growth of the monetary supply, I do not understand why there has not been more profit taking in recent years given our prevailing demographics.

As most assets are held by those in their 60s/70s, I would have expected some rotation into bonds, after such a long run-up in equities. Many of those bankers at the China Club are now in that age bracket, and I do hope they are better diversified than in 2009.

I am biased, but my view is that the growth in recent years is less about earnings and simply due to the growth of passive trading flows. The global ETF industry, which held total assets in the range of $US1.4 trillion in 2011, has grown to exceed $16 trillion, and now dominates. So, maybe there is no end in sight for the strength of US equities as long as ETF assets are growing.

When the year began, although I was bearish based on technical indicators, I was concerned about a “Trump Bump 2.0” as there were many narratives: a possible quick end war to war in Ukraine; positive developments on mid-East peace; announcements on reciprocal trade agreements with China; and so on. I was very reluctant to put on my short positions.

But, as this year has progressed I have lost such lofty optimism for Trump 2.0. I have much less expectation for any positive improvements in geopolitics. The disagreements around the globe certainly won’t be resolved with tariffs. Yet, I still remain cautious that we’ll see an end to the 16-year bull market in US equities.

It’s frustrating because I believe an overvalued stock market is detrimental to the overall health of the economy. I have no interest in seeing a collapse, but rather I feel a material pull-back and trading range environment (in US equities as we’ve seen in Asia) would be a much more constructive set-up to achieve broader economic stability.

My framework from earlier in the year remains intact, in that I’ll remain a buyer of HK income stocks, commodities, and bonds, while I’ll maintain a tactical hedge with the over-valued in Asia (Japanese tech, Australia banks), in hope of a reversion to 2018/19 relative valuations. The disparity is 2x since the 2019 lows.

In Cantonese, there is an expression 錯過咗 機會, (gong mh chit) which literally means to lose the treasure. Although I was timely on shorting the MagAsia sector earlier in the year, I was overly cautious given the potential of a Bump 2.0, and thus I lost out on some of the treasure.

But, I must remind myself that short-term market volatility (as well as narrative) can often be a distraction from observing the secular trend. In retrospect, the downgrade of the US credit rating proved to be such a distraction. So, perhaps the treasure still awaits.

Investors often reflect on previous cycles and look for comparables to explain the present markets. I’m no different in pondering if the AI trend is a repeat of the 1990’s tech bubble, for instance. But, in my view, we can only learn so much from historical cycles, as we’re living in unprecendent times. August 2011 is nice food for thought, although it may not be a proxy for the future.

It was also the year that Jon Snow began the North’s quest to unify Westeros in the acclaimed drama, Game of Thrones. Thus, when I am frustrated by the thought of missed opportunities or previous market cycles, I often recall the words of Little Finger … that “the past is gone for good”.

Wish you all a pleasant and relaxing August 2025.