Looks like the attention deficit disorder folks are busy buying stocks this morning. No bad news anymore. Everything is good news. Great.

But I gotta say — I am really glad I’ve been focusing more on figuring out how my heavy cash position should be diversified across currencies than I have been on desperately trying to find stocks to buy with cash denominated in declining dollars. Not sure I’m quite there yet but the attempt to diversify cash is reminding me of why I’m so heavily in cash.

It’s not because I expect Armageddon tomorrow as I peer out from my beans-and-ammo stocked bunker. It’s because I am just not finding too many compelling values in equities now and current equity prices aren’t really rewarding me for taking on equity risk. When some values do seem to pop up, they seem to last for one day which reminds me more of a sleazy used-car dealership — buy now, last chance, sign here — than of a sober market that is looking ahead with any foresight (or better yet, a wholesale panic).

Looking at currency volatility, I finally seem to understand why that is. Currencies themselves are jumping around vs each other. If currency markets can’t seem to find a somewhat stable relative value; then how on Earth is anyone supposed to be able to value a riskier asset that is, by definition, denominated in a currency (and in many cases loaded up with their own currency bets/hedges/speculations). Answer — they’re not. The big global portfolio allocation decisions are, short-term at least, being made wholly by computers. Dollar going down? Computer says — buy dollar-denominated stocks to rebalance the global stock portfolio. Company treasurer says — buy/sell some dollar hedge in order to manipulate earnings next quarter. Doesn’t make a bit of sense until you realize that big institutional money doesn’t give a damn about absolute returns. All they care about is returns relative to other big institutional money. Can anyone say “herd animal”?

The real benefit to me of focusing on currencies for now (while I am heavily in cash) is manyfold:

1. First, I am benefiting from the (current) drop in the dollar without adding a completely new risk. Diversifying existing cash across currencies (including gold) is a hedge — not a new risk/speculation. Absent that diversification, one is 100% long the dollar whenever one is in “cash”. It is the absence of diversification that is the speculation. That underlying speculation, inevitable whenever you are legally required to denominate your portfolio in the legal tender currency, is what creates an emotional need to “get rid of cash and investinvestinvestbuybuybuy”. That emotion/desperation/etc is what is played on by those who have something to sell and really it doesn’t much matter what they are selling – stocks/bonds/gold/commodities/etc. They will succeed in selling it to you whenever your “100% long dollar cash” speculation is moving against you because that’s when you become desperate to do something fast/now/yesterday. Diversifying cash is, essentially, immunization against that desperation. It puts decision time back on your side.

2. Second, the process of figuring this stuff out is making me realize that there are only two different currencies at any point in time — strong (cash holding that will remain cash until the next point in time) and weak (sources of funds for something else). This isn’t diversification just for the sake of diversification. The point is to make cash holdings as strong as possible — and to use the knowledge gained in the strong/weak triage to make better deployments of cash into investments. My personal timeframe for “cash” is pretty short — weeks/months. Not interested in daily stuff – and there is certainly not enough reward for cash held for years. I expect to be more of a trend follower – with as little trading/switching as possible – rather than anything more active than that. This is cash after all so don’t want to waste too much time on it.

3. Third, classifying currencies (henceforth known as “cash”) into “strong” and “weak” immediately creates a higher hurdle for non-cash investments – especially shorter-term trades. If a potential trade doesn’t have a high probability of outperforming the strongest currency; then why take the added risk if you’re not likely to get rewarded for it? Just deploy funds from “weaker” into “stronger” and wait until a better opportunity presents itself. That’s the real value of liquidity. Higher hurdle rates also will improve overall portfolio performance — fewer fatal mistakes, fewer trading commissions, more rigorous screening/weeding, etc.

4. Fourth, there is little more “certainty” about the future of currency value than there is “certainty” about the future of any investment value. A bit more – by definition of currency as a unit of account – but not much. Diversifying cash across the “strong” half of currencies is, at core, admitting/accepting that uncertainty. Seems healthier than failing to admit that uncertainty and simply riding the long-dollar cash bet. A failure of omission is still a failure.

So with this verbiage/logorrhea out of the way, I’m gonna “do” a more formal currency analysis once a week. Might as well be Monday for now. In the next post.


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