The End of the 60/40 Split?

For the past few weeks I’ve been struggling to capture what’s been happening in markets since late January. There has simply been so much that it is hard to succinctly cover it all in a single blog post.

So instead, toady I hope to touch on one thing that should stand out to us, the potential end of an investing strategy that is so standard it is reflected in almost every corner of the financial services world, from mutual fund companies to robo-advisors to banks.

The 60/40 split, or balanced portfolio, is the general go to solution for steady returns. The principle is simple: 60% of a portfolio is weighted towards equities, that is stocks in companies, mutual funds or ETFs, and the remaining 40% goes towards fixed income; a collection of bonds or other “safe” investments that pay some income in the form of mutual funds or ETFs.

This is a wide space to play in. Within the stock or equity portion, a portfolio may have exposure to any number of companies, sectors, or geographies. Similarly, the fixed income component can have government debt, corporate bonds, T-bills, mortgage securities, either domestic or foreign, in short or longer durations. The individual positions may have short term impacts on performance, as some investments will outperform for limited stretches, but the general architecture of the portfolio should see relatively stable and consistent returns over time with an acceptable level of risk for the majority of investors.

This wasn’t just speculation. It had some math behind it, explained in the form of the “Efficient Frontier”, a curve that showed the relation of risk to return and aimed to help identify an optimum portfolio based on these two metrics. The goal was to maximize the amount of return for the risk undertaken. Its easy to get lost in the weeds here, but if you’re ever interested you can read up on Modern Portfolio Theory or Harry Markowitz. Put simply, the lesson the industry took was that a diversified portfolio of investments, with rough weightings of 40% in fixed income and 60% in equities would largely suit most people.

It’s worth asking why this is. And the answer has a lot to do with buying a house in the late 1970s and early 1980s.

As anyone who remembers 8-tracks will tell you, buying a house in the early part of the 80s was expensive. 5-year fixed rates were 20%, or more. According to the website ratehub.ca, the prime lending rate in Canada peaked at around 21.75% in August of 1981. By comparison, my current 5-year mortgage is a whopping 1.8%. In 1981, you could buy a Government of Canada 10-year bond with a coupon rate of 15.3%, and a 5-year GIC with a rate of 15.4%. Today a 10-year government of Canada bond has a yield of 1.51% and the most generous GIC I can sell is 1.96% from Haventree Bank with a minimum deposit of $50,000.

Figure 1 From London Life – Looking Back at Historical Returns

Okay, so what’s the connection?

The issue here is not just that buying a house cost more when it came to lending in the 1980s, but that the cost of lending itself has been falling for the last 40 years. We tend to think of bonds as an investment you buy, when in reality they are a loan you are making that can be traded on an open market. So imagine you were building a bond portfolio in the early 1980s, and the average yield of that portfolio (the interest you will receive based on what you paid) is 15%. It’s very safe, made entirely of Canadian 10-year bonds. Now, three years pass and a new 10-year bond from the GoC has a rate of 12.3%, what’s the effect on your bond portfolio?

It’s good news! It’s worth more, because for the next 7 years your bonds will pay 3% more than any new bond issuance. By 1986 a 10-year bond was paying 6% less per year than your portfolio. For the last 40 years the cost of borrowing has continued to decline, and the result has been to make bonds issued in previous years more valuable. And so, while there may have been fluctuations in returns over short periods of time, by and large a portfolio of bonds returned not just income, but also capital gains as older bonds were worth more with each decline in the cost of lending.

Figure 2 From http://www.Ratehub.ca/prime-mortgage-rate-history

Today the cost of lending is low. Very low. Central bank lending rates for Canada, the United States, and the ECB are 0.25%, 0.25% and 0% respectively. A 30-year government of Canada bond has a current yield of 1.948%. In other words, were you to buy that bond today, the most you would earn is 1.948% on whatever you paid for the next 30 years.

But remember, bonds are traded on an open market. This means that the value of a bond fluctuates with its demand, and with it the return the bond gives. So, if you think that 1.948% is not enough interest to warrant buying the bond and the broad market agrees with you, the price of the bond should fall enough to push up the yield (for reference, the yield is the interest paid by the bond, divided by its price) until it pays enough interest to warrant investing. And that is what has been happening this year. Government bonds in the United States have been dumped as investors expect stock markets to do well and bond yields are considered too low. And as the bond price falls, the yield the bond pays goes up in relation to the decline of the price, and with it sets a borrowing rate investors are more comfortable with.

What this means for portfolios is that the 40% allocated to bonds is now very vulnerable to both investor sentiment and future rate hikes by central banks. With borrowing rates already at rock bottom both of these risks seem likely, and it’s left the traditional “balanced portfolio” exposed when it comes to reducing risk through different asset classes.

You might assume that this is a new problem, but it isn’t. Risk has been growing and portfolios have been evolving in complexity to meet the needs of investors for the last few decades. Much of this has happened on the equity side of portfolios, with investors demanding, and ultimately gaining access to a much wider range of investable products since the 90s. The period where you could have a portfolio made up of just Canadian dividend paying stocks ended long ago, and in its place, portfolios now hold a variety of investment products with access to large cap, small cap, US, North American, global, international, Emerging Markets, Frontier Markets, sector specific investing, thematic investing, commodities, dividends, value, growth, and growth at a reasonable price. Bonds have undergone a similar transformation, with investors moving from government bonds, to corporate bonds, to junk bonds (bonds with lower quality ratings and potentially higher default rates) both domestically and globally.

Today, to achieve a return of about 6.5%, the average investor is taking on risk at a much higher rate than they would 20 years ago. In 2000 a 6.5% return could be achieved with a portfolio of exclusively bonds. 20 years later a 6.5% return would require a much larger range of positions, including US stocks (large and small cap), real estate, private equity and would have a relative level of risk of more than double (almost three times!) the 2000 level. The above changes to the bond market will only mean more risk and more volatility for investors.

I’m reluctant to ever declare something “dead” or “over”. That language betrays too much confidence about tomorrow, but financial history is much longer than most people appreciate and is filled with disruptions and the ending of economic certainties followed by the arrival of new paradigms. Whether it is the bankrupting of the Medicis, or the popping of a tulip bubble, economic realities can change.  The “balanced portfolio” with its 60/40 mix, has been a cornerstone of simplified investing, a “go-to” solution that has made mass investing using discount platforms affordable and easy.

Figure 3 From Wealth Simple’s web page, simply choose your risk comfort and get a portfolio with more or less bonds. No need to think, no need to worry.

In an ideal world we might wish that investing was more “set it and forget it” than not, but long-term data and averages obscure the reality for many people. In the last ten years we’ve seen two serious “once in a lifetime” events that have shaken markets and governments. Investors, no matter what their stripe, whether they prefer robo-advisors, bank products or a personal financial advisor like myself, should be cautious that the rules to successful portfolio building are immutable.

The Game Stop Chronicles

Last week may go down as one of the weirdest weeks in investing history.

By now you have been made aware of the company Game Stop (GME:N). You’ve undoubtably been forced to look up what a short position and a “short squeeze” are and have collided head first into the meme fuelled online community of Wall Street Bets, the subreddit that lives for dangerous investments and may go down in history for the first market based populist uprising.

My first twig that something was going on came the week before last. I had investments in Blackberry (BB:TSX), a company that I had felt was undervalued and believed had made a successful transition into cyber security, a market sector I believe poised for long term growth. The ride had had not been fun. And then, all of a sudden the stock began going up. At first it seemed to be in response to a series of positive news stories; a settled IP legal case with Facebook, a new deal with Amazon for cloud services, and the sale of some 90 patents to Huawei. And then the stock took off. Within days a stock that had been languishing around $8 – $9 had suddenly doubled and was now looking to triple.

I was elated, until I read about Wall Street Bets (WSB), Game Stop, a hedge fund and how a number of stocks, including Blackberry, were being driven higher in an attempt to hurt a hedge fund. The story was fascinating but also terrifying. On Tuesday morning I exited Blackberry and began trying to understand what was going on.

The internet is a weird place, and far from creating a new universal society, it has instead hastened the growth of more insular and specialized communities. From the outside these groups can feel pretty alien. They have their own language, jokes and hierarchies and the subreddit Wall Street Bets is no different. But once you had pushed past the memes and lingo, it became clear the WSB, which is filled with amateur traders, had caught on to a risky move by a hedge fund called Melvin Capital. Melvin Capital had taken out large short positions on Game Stop, a legacy business that sold physical game cartridges in malls that was obviously struggling. The price of the stock had recently gone up following a new board member and announced plans for further restructuring. The traders at Melvin Capital believed the price of the stock over valued and had opted to short the stock (a method of betting on a future price decline by “borrowing” stock, selling it and buying it back within a set period of time). What the investors over at WSB understood was that the size of the short was too big, and that if they were to buy up all the available stock and hold it they could create a “short squeeze” in which the price of the stock climbs and the available supply of the stock falls, forcing potentially unlimited losses on those holding the shorts.

From here everything becomes extremely weird. It turned out the Wall Street Bets crowd wasn’t interested in making money as much as they were interested in crippling Melvin Capital. The trading platform that facilitated all of this, Robinhood, which prided itself on “democratizing trading” and offered no fees for doing trades, suddenly seemed to fold under the most minor of pressure to the request of another hedge fund to restrict retail trading on Game Stop, allowing only selling and no buying on Thursday. Suddenly members of Congress from across the political spectrum were tweeting and complaining about the restriction of trading regarding Game Stop and threatening to hold hearings into Robinhood’s practices.

On Friday limited purchases of Game Stop reopened, and much to the surprise of many, the commitment to “hold” did hold. While the price of Game Stop stock had fallen Thursday during the period only selling was allowed, the price decline reflected minimal volumes. On Friday morning the stock opened again above $300, and despite considerable volatility closed the week at $325 a share.

You’d be forgiven if you’re having a hard time following all the facets of this story, but from my vantage I’d like to share the 4 major issues this convoluted chain of events has created.

1.Populism and Democracy – Twitter and Reddit have been alive with excitement over screwing with a hedge fund, and its apparent that those engaging in the initial rally for GME are committed to undermining Melvin Capital, but the sharp response from Wall Street institutions that this represented some kind of illegitimate assault on the markets highlights the lack of interest in a “democratized” market. Like a lot of internet buzz about “making things more accessible” or “democratic”, when put into practice established institutions don’t seem to like the rabble actually having all that much power. Whether it’s a crowd sourced populist group of traders playing the other side of an over leveraged short position, or simply an online vote that wishes to name a scientific vessel “Boaty McBoatface”, efforts to open, engage and democratize previously closed off institutions seem to fail when it turns out the masses don’t share the goals or reverence of those institutions.

2. Hedge funds often describe themselves in terms of significant reverence and are self-styled “Titans of Wall Street”, but as a group hedge fund performance frequently falls flat. What hedge funds have been good at is risking other people’s money. The brashness and over confidence displayed by hedge fund traders is precisely how you end up with a short position worth 130% of the available stock of a company and squandering $5 billion in a week. Some may find “shorting” a controversial practice, but in reality it is a common and well understood strategy. But in the hands of hedge funds it can become predatory as efforts are made to sometimes game the system and force stock prices down unnecessarily.

3. The Robinhood trading app, which has become all the rage with DIY investors seemed to have its brand implode in the week, and it perhaps revealed far more about this business than anyone had wanted. Like Google or Facebook, where the service is “free”, people using the Robinhood trading platform were the product. Robinhood, legally but controversially, makes its money by “payment for order flow”, or by directing the orders to different parties for trade execution. This all gets pretty complex, but at its core those using the Robinhood app may have been paying fractionally too much for their trades, but when in the context of billions of trades it adds up to a substantial amount of money. The benefit of buying overflow is that high frequency trading algorithms can potentially front run those trades, which was the subject of the controversial Flash Boys book by Michael Lewis. Perhaps more nefarious was who was Robinhood’s primary purchaser of order flow; Citadel Execution Services, which is owned by Citadel LLC, which just bailed out Melvin Capital.

4.Much of this will end up bypassing the bulk of the population. The story is too weird, to convoluted and too specialized. It involves a cynical and anarchistic online community whose rallying cry is “WE CAN REMAIN RETARDED LONGER THAN THEY CAN STAY SOLVENT”, something that many will find repellent and will keep people from looking closer. What might make people pay attention is the money.

The apocryphal story of the famous investor receiving investment advice from the shoe shine boy right before the great crash has some modern parallels. Prices for stocks, some at all time highs, keep going up despite worrying fundamentals. Companies like Tesla, which have devout adherents, have bid up that stock so that the total company is worth more than all the other major car companies combined! This reeks of the beginnings of a mania, one that can only be made worse by a prolonged lockdown, low interest rates, and the use of social media to hype up a stock. The allure of easy money, embodied by the events surrounding Game Stop will only attract more investors that believe that they too can beat the market.

At the end of last week the number one app in Canada was the Wealthsimple Trade App, a similar low cost trading platform to Robinhood, while the Robinhood App itself remains highly popular south of the border.

The wind has been let out of the sails somewhat this week. Game Stop closed under $100 on Tuesday, and early hype that silver was going to be the next big WSB play seem to have fizzled also. Markets seem to have responded to this cooling of temperatures by resuming their positive direction, but the spectre of market mania looms over returns. Where we go next, I don’t know. But I do know that sensible investors should be watching this with concern. Whatever the merits of hunting hedge funds through crowd sourced market initiatives, the larger story remains one of deep concern, involving all the worst aspects of investing.

“Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of ACPI”.

After Trump: The Persistent Discontent


Supporters of President Donald Trump rally at the U.S. Capitol on Wednesday, Jan. 6, 2021, in Washington. THE CANADIAN PRESS/AP, Jose Luis Magana

The shocking scenes of Trump supporters storming the capitol building on January 6th, sometimes jovially, other times with what seemed like murderous intent, may have permanently cemented Trump’s fate. He’s been impeached, again, and efforts are being made to prevent him from running for office in the future. He may also be facing multiple criminal charges and possibly even bankruptcy.

Explanations for the insurrection both over and under explain the problem. Yes, Trump is a demagogue and its true his supporters have been radicalized in a number of ways, including conspiratorial thinking and racist ideas about threats to white people and black lives matter. But as the saying goes, “the issue isn’t the issue”.

In a video about anti-vaxxers (people who promote ideas that are untrue about vaccines) the YouTube Channel WiseCrack pointed out that vaccine acceptance was highest during and just after the Second World War, a period of high confidence and trust in the government by the American citizenry. Today that confidence has ebbed to an all-time low, and that collapse in trust isn’t necessarily unwarranted. The rise of a managerial and technocratic elite has placed an unacceptable distance between citizens and their governments, while government failures seem never to lead to any improvements or accountability.

The cost of these mistakes remains high. In Europe it has led to Brexit, months of protests by “Yellow Vests” in France, the erosion of the center-left ruling party in Germany and a resurgent far right party, the decline of liberal democracies in Hungary and Poland, and a number of anti-establishment parties getting control of small countries like Greece and big countries like Italy.

Canada, forever looking reasonable and calm compared to other countries, is having its own struggles. Prior to the pandemic we had rail protests across the country, have shown a consistent inability to get large infrastructure built and continue to see the erosion of our manufacturing sector. Pandemic response itself has been a laughable mess, from overconfident and condescending pronouncements on the ineffectiveness of masks and accusations of racism about concern of the virus, to complete reversals of position. Vaccine acquisition and distribution has also been underwhelming. The federal government didn’t seem to get enough at the right time, and provincial governments have struggled to get the vaccine to those who most need it (This is nothing compared to the US, where health care workers are actually refusing the vaccine).

In this moment, China can make credible claims for being a useful alternative to the US and other Western countries in its growing sphere of influence. A competent dictatorship with substantial economic growth and a rising standard of living must seem appealing to autocrats and some global citizens alike.

There are other concerns too. The gap between Main Street and Wall Street has grown ever wider. During early months of the pandemic the collapse of jobs and business was mirrored by a resurgent stock market that began gaining steam even while the real economy was crashing. This disparity between the world of investing and the world we live in only heightens inequality concerns. Ownership of stock by Americans closely correlates with age, ethnicity, wealth, and education. For many people today, inequality continues to look like a political class consorting with a billionaire class that don’t play by the same rules that govern everyone else. In a pandemic Jeff Bezos gets rich, and you get fired.

This is obviously not universal. Different countries have different problems and the degree to which these issues are felt by individuals depends a great deal on background and government. But even if we assume that the American situation represents an extreme amongst Western nations, it should not blind us to the anger that people rightly felt when they learned of politicians and executives travelling outside of Canada while asking everyone else to cancel their Christmas dinners. Politicians of all stripes seemed to believe that they would be exempt from the restrictions they imposed on others and had a hard time fathoming that constituents would be upset.

Fixing these problems will not be easy. Technocrats, that is governing authority due to technical expertise, imbues our current leaders with a lot of confidence on issues where there may be no correct answers. They leave people blind to what they do not know and encourage authorities to rely on models and projections rather than real life.

Take for instance inflation. Governments and central banks are very concerned with inflation. Too little and the economy will not grow. Too much and the economy will stall while savings lose value. Inflation needs to be “just right” which is currently considered somewhere between 1% – 3%, with a target rate of 2%. According to Statistics Canada, the CPI since 2010 has been around 1.5%, just below the current 2% target. In other words, $100 in 2010 would buy roughly $85 of similar goods today.

But would it?

Inflation has been higher and felt more directly by lower income people. Using data collected by Statistics Canada (you can click the link below to download the spreadsheet with all these numbers and my calculations) for retail food prices between November 2010 to November 2020, we can see that many food staples have become more expensive in the last decade at rates in excess of core inflation. In that time, the price of beef has risen between 4% to 7% per year depending on the cut. Potatoes have risen in price over 10%, onions by 5.5% and carrots by 6.3% a year. Baby food rose by an average of more than 9% a year, and toothpaste by 8%. Almost none of the staple groceries tracked by Statistics Canada had price increases contained to the 1.5% official rate of inflation, instead many rose at rates double that or more.

Like real estate, another asset class that continues to defy gravity without an impact on inflation but a dramatic one on the population, a rising price of food that remains unaddressed only highlights the different reality Canadians seem to be living from our elected officials. Despite a great deal of lip service about the importance and risks facing the middle class, governments have yet to seriously tackle these issues, or make them central in elections. Instead we continue to deal with these problems in a patchwork of modest tax credits and empty rhetoric.

I, and I assume many others, would like to put the Trump era behind us and treat it as an anomaly. But to do so would assume that Trump had landed (as had Brexit and other populist movements) fully formed but alien to us, and that we had been taken by a madness that can finally be broken.

I think we know this is not true.

From the moment that Hillary Clinton called Trump supporters “Deplorables” (or half of them at least) there has not been a clearer delineation between those that control the cultural zeitgeist, and those who have come to resent it. We have a similar divide in Canada too, with Alberta constantly at odds with more “progressive” provinces over environmental issues, and Quebec (doing as it always has) putting its historic/cultural/religious identity ahead of more multi-cultural aspirations of equality. Toronto and Vancouver may sit at the centre of Canada’s cultural output, but these two economic powerhouses do not share much with the rest of the country.

Our prolonged period of peace, wealth and stability has tricked us into believing that unrest, dissatisfaction, and failure are aberrations. But the history of Canada, the United States, Great Britain, and other European powers has been one of long periods of unrest. William Jennings Bryan, before being disgraced in the Scopes Money trial, had been a tireless campaigner for agrarian populism. In Canada we too had an agrarian populist movement (interestingly enough, similarly conservative and steeped in conspiratorial anti-Semitism, prominent in Alberta and Quebec) that only really started to disappear after the mid-60s and not totally until the late 80s. Political dissatisfaction can have long legs.

Five people died as a result of the assault on the capitol on January 6th, and one was Ashley Babbitt, a Q-Anon, MAGA loving Trump supporter who had breached four lines of security in an attempt to overthrow the government on behalf of Donald Trump. But while her motives and goals were deeply misguided, her past remains a window into a dispiriting world for many Americans. A fourteen year veteran of the United States air force, Babbitt now owned a pool supply business that was struggling, forcing her into a short term loan with a 169% interest rate. Medieval Europe had better rules governing usury than California. Or consider the North Carolina woman who took to social media because she couldn’t afford the $1000 insulin prescription for her son. Insulin, among other drugs in the United States, has been reported on multiple times for its rising price. Despite that, no government or corporation has been able to act in such a way to curb the rising price of a life saving drug that been around for a century.

All this is baked into America, and represents a growing risk for the future. Though the country has a more dynamic market, holds more patents and has some of the largest corporations, the failure to consider the effects of pushing up stock valuations at the expense of everything else will likely only deliver diminishing results in the future, both for investors like you, but also for the global liberal order that provides much of the stability we rely on.

Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of Aligned Capital Partners Inc.

Defeating the Coronavirus?

Monday, markets exploded after learning that Pfizer may have a viable and highly effective vaccine for Covid-19. The Dow Jones briefly rose above 1200 points before settling back down to a more respectable 835 points for the day. Similar rallies were seen in Toronto and in overnight trading in Asia and Europe. In all, it’s been a good week for markets even while Covid-19 cases continue to surge.

Courtesy of @jkwan_md

The arrival of a vaccine remains the only thing that can truly right our social and economic ship, and without it the economic reality is poised to get worse. Despite efforts to use non-pharmaceutical interventions (social distancing and masks), the virus is resurgent almost everywhere, with new cases exploding across Europe, Canada and the United States.

So the news of a potential vaccine offers the first real potentially positive change for economies. And while the Pfizer vaccine may be the first, it likely will not be the last. Eli Lilly has also introduced an antibody treatment that has received emergency approval from the FDA. Again, such treatments will not be the last, and hint that the balance in the fight against the pandemic is beginning to shift back towards us and away from the virus.

Some quick thoughts on these developments:

  1. Had this announcement come out before the election Trump likely would have won, despite his uniquely poor handling of the pandemic. 
  2. There are still many unknowns about the vaccine, and so we should temper our excitement. This includes how many doses (two, reportedly), how long it lasts in your system, and how effective it will be for the most vulnerable parts of the population.
  3. How long it will be before we get a vaccine is still up in the air. Nicholas Christakis, author of Apollo’s Arrow: The Profound and Enduring Impact of Coronavirus on the Way We Live, recently spoke on Sam Harris’s Podcast saying that it is no small feet to design, produce and distribute a new vaccine (you can listen to that podcast HERE). It could be several months, perhaps even a year, before we see the full recession of the pandemic.
  4. Markets should respond positively, but not indefinitely. Volatility will surround progress or delays in the vaccine, but so long as progress remains steady the vaccine should offer stability in markets for a wider recovery.

Finally, as a father, I’m excited to see that prospect of a return to normalcy for my kids. We’ve spent months sheltering patiently, denying my kids aspects of their childhood for the wider protection of our family. Like many parents with family members that have compromised immune systems, we’ve chosen the path of virtual learning, a half measure that allows for some academic progress but without the important social aspect of school. But the toll is visible on our children, and I am deeply saddened that my kids (as I am for everyone) should have to see a part of their lives, and their innocence about the wider world, forfeit to the reappearance of our oldest but most enduring foe. It is welcome news in a year so full of difficulty.


Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of Aligned Capital Partners Inc.

Some thoughts on the end of Donald J. Trump

President Trump, Evan Vucci AP

This was written on Friday, November 6th. Since then the election has been called for Joe Biden.

It’s Friday, November 6th, and Pennsylvania seems to be looking like it will go to Biden. With four battleground states showing narrow Biden leads, the math seems inescapable. Biden will be the 46th president of the United States.

The narrowness of this victory is unsettling. A record turnout for both Republicans and Democrats, the largest turnout since the 1960s of the electorate, the largest percentage of votes by visible minorities for a Republican candidate since Richard Nixon, only showed that American remains a polarized land. The hoped for “Blue Wave” as Americans repudiated Trump and his enablers did not materialize. The Senate will likely remain in the hands of Republicans. The House of Representatives may flip to Republicans too.

Even now, after all that has unfolded over the last four years, much of what brought Trump to power; anger at a failure of the establishment to protect jobs, uncertainty about the ethnic and cultural future of the United States, the erosion of the middle class, the simultaneous exhaustion of being THE global superpower while being blamed for being one. These issues linger, promised but unaddressed by Trump, ignored by his party and fueling alienation in the general populace.

Other, more persistent aspects of American culture have also been on display. Since Richard Hofstader first wrote his book Anti-Intellectualism in American Life in 1962 (He calls Eisenhower “conventional in mind, (and) relatively inarticulate” – cruel words for one of America’s best remembered Republican presidents) Americans continue to lament, often publicly, just how stupid they find one another. Whether it is over face masks, the environment, or conspiracies about “the deep state”, Americans remain shockingly divided, often down the middle.

But with Biden elected (presuming he survives all the legal attacks and mandated recounts) and once the final vote tallies are certified in a few weeks, a corner will have been turned. Trump, in his role as a lame duck president will likely shore up personal protections, lash out at allies that failed to defend him, denounce democratic institutions that have allowed for his failure, and presumably pardoning those in his close circle and looking to shield himself from any future prosecution. Biden will hopefully find some common ground in the Senate and House of Representatives that will allow business to proceed, but it seems safe to assume that the most ambitious parts of the Democrat’s wish list won’t make it into law. Similarly, hopes for a Trump sized stimulus package will now also be dashed by a Republican establishment always uncomfortable with Trump’s lavish spending but fearful of his wrath.

From the perspective of the investment world this seems to be a continuation of the status quo. Biden does not possess Trump’s unique skill at bullying, backed by the threat of his irate voters. Instead the hope will be that he can better negotiate with Republicans. But with the election leaving the GOP in a strong legislative position there will be little appetite for aggressive policy shifts. Instead we should expect tepid fiscal stimulus, continued strength in businesses profiting from the pandemic (like tech stocks) and a wider, more subdued recovery as we face the immediate economic uncertainty.

So often we think big things represent monumental shifts. The election of Trump was one such event, but in the end his legacy will be a great deal smaller, and I suspect better thought of, than we might guess now. His ignorance, narcissism, and sociopathy were critical flaws in a man that showed great skill in reading the American public. His few achievements, including peace between Israel and several Arab states, challenging China and striking some kind of trade deal, and boosting American military spending were not missteps. His useless forays into border walls and needless antagonism of American allies will not be missed. At the outset of his presidency he even had the foresight to surround himself with some accomplished and knowledgeable people. In the end Donald Trump’s biggest enemy was himself. Were Trump a more competent and less incurious man he could have been a formidable political force. Instead, his certainty in his own skill and inability to adapt made him an aspiring autocrat in search of a balcony.

To cultural observers, the election of Trump should be a reminder that small things that go unnoticed or ignored often prove to be bigger issues. The sudden mysterious outbreak of an unknown form of pneumonia in Wuhan at the end of 2019. The subtle shift in economic thinking by political leaders across the West. A demographic trend that sees a generation shrinking, maybe even incapable of marrying. The rapid economic growth of an often-overlooked part of the world. It may even be the surprising growth of visible minority voters for a candidate long believed to be their enemy. These quiet things, hiding in the corners, may be the issues that guide our future rather than the bombast of men like Donald Trump.

In 2015 I wrote that “You don’t have to love people like Rob Ford or Donald Trump, but their ability to change the political terrain, to question traditional assumptions about the electorate and undo the laziness of identity politics is healthy for a democracy, even when you don’t like the messenger.” Looking back on four years, I am only desiring a return to normalcy, but with so many of the issues that brought Trump to the White House still unaddressed I’m afraid that whatever normalcy Joe Biden can bring will be short lived.

Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of Aligned Capital Partners Inc.

The Undiscovered Country

Pandemics, plagues and other disasters have previously heralded major changes to economic and social landscapes. Most notably, the Black Death had the effect of badly eroding the existing feudal structure. Literally so many people died that feudal lords had to entice serfs to come and work their land or risk it sitting fallow. The Irish potato famine, which reversed the demographic trends in Ireland and made it an outlier in European population growth, also drastically improved the lives of those that survived the famine. This pandemic will be no different, changing the fortunes of many by the time it is gone.

While I wait for books on our current situation, governments aren’t sitting idly by. Faced with an unprecedented crisis, politicians have cried havoc and let slip the public purse strings, passing huge relief bills and providing large social support to ease the monetary impact of global shutdowns and the sudden halt to economies.

This marks a serious departure from what might be considered “peace time” economic management. In normal times, and for much of the past 40 years, control of the economy has been left in the hands of central banks who have manipulated the overnight lending rates (or key interest rates) to encourage or retard economic growth. Even if you haven’t paid much attention to the work of central banks you are likely familiar with some of the most notable names. Alan Greenspan in the 1990s, Ben Bernanke through the financial crisis, and Mark Carney as the Governor of the Bank of Canada and then Governor of the Bank of England have all helmed a central bank and were a staple of economic news and forecasting.

The job of setting rates was to encourage growth and mange inflation; increasing the cost of borrowing should slow economic growth and curb inflation, while cutting rates should make borrowing cheaper and speed up economic growth. But since 2008, with rates hovering at near zero and now a global pandemic destroying wealth, governments have had to take a more active roll in direct economic management.

Enter Modern Monetary Theory, or MMT, the new(ish) idea that governments can largely spend their way out of problems and that fiscal deficits may be the cure for what ails us. The theory has been nicely (and optimistically) covered in the book “The Deficit Myth” by Stephanie Kelton, who argues that our understanding of money and taxes are wrong and as a result we have misunderstood the best way to deal with wealth inequality and job creation.

Kelton’s book is well written, but natural criticisms of her argument feel conspicuously absent. The crux of her thesis is that so long as you’re a “monetary sovereign”, that is a nation that issues its own currency and issues debt in its own currency, its impossible to go bankrupt. In addition, concerns that printing your own money might lead to inflation are not well grounded and that governments are not running deficits large enough to get to full employment. Some of this makes sense, indeed for many years we’ve seen countless countries like Canada, the United States and Japan all run very large deficits with no serious repercussions. But much of the language in the book feels unusually precise, navigating us around large objections with clever rhetorical sleight of hand. Where anyone with a passing understanding might wonder how it is that countries that have previously succumbed to too much debt and hyperinflation didn’t reap the benefits of MMT, the book is quick warn that you don’t want to have the “wrong” type of deficit and that too much spending can be detrimental, before rushing the reader off to see what can be done with MMT to fix pressing issues.

Whether this is a good idea or not, MMT has found a champion in Justin Trudeau, a prime minister for whom spending money as a political solution is as constant as the northern star. Reportedly our new finance minister Chrystia Freeland may be a fan too, a departure from the more traditional Bay Street pedigree of Bill Morneau. But even if our most senior politicians do not have any explicit endorsement of MMT, the direction of spending and the behavior of the Bank of Canada suggests the Modern Monetary Theory is central to current government policy.

Since March, the Bank of Canada has purchased the vast bulk of Canadian government issuances, particularly at the long end of the yield curve (debt that matures in over 11 years), and by the end of 2021 the BoC is expected to hold 60% of all outstanding Government of Canada securities. Intentional or otherwise, this is what MMT looks like, with the government effectively issuing debt to itself so it can spend more. And currently Canada is on track to run the largest deficits of any country, developed or otherwise, in the world.

Governments frequently run deficits but have relied on efforts of slowed spending and economic growth to reduce the long-term debt burden. In fact, it has very rarely been the case that governments ever cut spending, more frequently simply reducing future promised spending below predicted rates of inflation. Yet despite the fact that no government I can think have has run a surplus over the last decade, the belief that we haven’t spent enough will likely only be a reassuring message to governments looking for opportunities to improve their standing in the polls.

Under MMT, politicians like Donald Trump actually look very good (this goes unacknowledged by Kelton, but its impossible to miss). Trump’s lavish spending and huge deficits did seem to have the desired impact of reducing unemployment to below 4%, much lower than the previously believed “natural” rate of unemployment of 5%. And as a result of the pandemic, the US deficit moved from an expected $1 Trillion in 2020, to about $3.7 Trillion for the year. It’s currently an open-ended question how much more needs to be spent before the deficit will be large enough to offset the impact of Covid-19, let alone all the other ills that society faces. Given that most economists are calling for even more spending into 2021 and maybe even 2022, its hard to imagine how big a cheque will need to be written.

A central tenet of our society has been that debt makes us weaker, and that unconstrained spending, either by a household or a government will inevitably become a problem if left unchecked. Modern Monetary theory turns this on its head, and while the theory is serious it would likely not have found mainstream consideration were it not for the pandemic. Like feudal lords forced to consider paying serfs to work their lands, politicians are having to make peace with running huge deficits and manage ballooning debts.

But MMT remains untested, its ideas about money, debt and financial sovereignty are theoretical. Our relationship to debt and our ideas about preserving wealth are very old and persistent, while those that have broken the bond of fiscal prudence, be it Greece in 2011, Zimbabwe in the 1990s, the Weimer Republic in post war Germany or Revolutionary France, have always ended in defaults and hyper-inflation.

I remain skeptical of ideas like MMT, but open to new approaches where old ones seem to be failing. Covid-19 will likely be with us until 2022, putting pressure on all levels of government for the immediate future. Politically, Western nations weren’t doing well prior to the pandemic, plagued with populist political insurgencies, a retreating liberal order and lack luster economic growth. Now with a mountain of new problems, MMT offers perhaps a path to saving economies and people’s livelihoods by freeing us from previous assumed constraints, but carries with it awesome risk. Will our political class be able to resist borrowing or printing too much? We may have no choice but to embark on this path, into an undiscovered country.

Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of Aligned Capital Partners Inc.

The China Syndrome

Even before the pandemic the Chinese Communist Party had been flexing it’s muscles. In response to the arrest of Huawei executive in Canada, the Chinese government illegally kidnapped and has continued to hold two Canadians on fictional charges of espionage. [MT1] China has gone tit for tat in response to the Donald Trump led trade war, putting tariffs on US agricultural goods. [MT2] In Australia, an effort to buy control of Australia’s mining industries and infrastructure has led to tightening controls on foreign investments. Border clashes in India’s far north have led to a month’s long standoff and increasing buildup between the two nuclear armed nations. The world has watched the Chinese government crackdown on Hong Kong, reversing its promise of 50 years of autonomy and One China, two systems. It reneged on its pledge not to militarize the Spratly Islands in the South China Seas. In the far west of the country, a crackdown on China’s Muslim inhabitants, Uighurs, has led to an internment of over a million people. China is also reportedly using its extensive Belt and Road initiative to gain strategic access to countries to broaden its sea power. [MT3] In countries where they have done substantial lending, particularly in Africa, efforts have been made to get the Renminbi used alongside the US dollar. In July of this year, the new security law passed by the Chinese government made it effectively illegal, globally, to advocate for democratic reform in Hong Kong.

Figure 1: Hong Kong- 9 June 2019: the crowd protest in the rally. More than 150,000 protesters with no main organisation, took to the streets of Hong Kong Sunday to oppose a controversial extradition bill

For a year replete with terrible things, China has given its best efforts to be more than an “also-ran”. But for any superpower (and make no mistake, this is a superpower and we live in a multi-polar world) this seems like a lot of toes to step on. Canada, the US, Australia, South Korea, Europe, and India have all, in one way or another, been challenged by the Chinese. Even the Chinese response to Covid-19, as detailed in Bob Woodward’s new book, Rage, shows that the Chinese authorities covered up the seriousness of the new virus, and that a charitable reading of its actions would be disinterest in how other countries might deal with it. At worst, it’s actions might be described as malevolent, interested in seeing it become a pandemic for their own benefit.

The response from the international community has been mixed however. Far from relying on old alliances to convene panels and establishing a coordinated international response, countries have largely faced these problems in isolation, and it is precisely for that reason that China has been so aggressive over the past 12 months.

Under Obama, whose own foreign engagements were at best mixed, there was at least a sense that the US intended to lead an organized response to China’s growing power status. Between the two leaders as well there seemed to be a clear understanding that their relationship was going to need ongoing management. But the election of Trump changed that math. First, the US bowed out of the Trans Pacific Partnership (both Trump and Clinton vowed to not sign the signature deal that would have aimed to get out in front of China in Pacific trade relations) and Trump has maintained a signature focus on “America First”, a mindset that has backed away from multilateral strategy and look for deals that exclusively benefit the United States.

In the short term the US is likely to benefit, signing deals by themselves means fewer compromises seen in large multilateral deals. But America’s strength has never been that it can “go it alone”. Though much of its’ historic growth did come from its rapid expansion across the continental US, the US’s rise to prominence at the end of the Second World War was its ability to build an extensive network of allies and client states. Compared to the Soviet Union the US lacked a conventional army to match its Soviet rival, but through the Marshall Plan, NATO, and other strategic alliances there has been no corner of the Earth that the US couldn’t reach and influence. That allowed the US to establish the “global order”, one that was initially in opposition to the Soviet Bloc, but one that also became the sought-after route to global prosperity. 

Figure 2 – The Chinese Navy aims to be the central power in Asian waters, including the South China Seas and Indian Ocean to the Eastern coast of Africa

Following it’s admission into the World Trade Organization, China has also massively benefited from this global order, but like any rising power it seeks to remake the world in ways more advantageous to itself. Xi Jinping, like Donald Trump, has been explicit in his desire to “Make China Great Again”, undoing the “Century of Humiliation” that looms large in the minds of CCP officials. The historic China is that of a great power, a centre for global culture, surrounded by vassal states like Korea and Japan. Xi Jinping and the CCP, wish to see China returned to this role in the 21st century, making Pacific neighbors subject to its influence and providing a growing alternative to US and Western economic development. All this is old hat. The real question is why is it that China seems to have suddenly become so aggressive despite the immense success its had while not being antagonistic.

One explanation might be China’s policy of Active Defense, a position that dates back to the founding of the Communist regime. This is a posture that seeks for maximum aggression in the face of potential conflicts with larger enemies. Forms of active defense appeared when China helped the North Koreans beat back US forces in the Korean War, the Sino-Indian war of 1962 and an attack on Russia over a border dispute in 1969. This form of defense aims to put potential aggressor nations on a back foot and establish clearly that China’s will regarding national interests is resolute.

Figure 3 – An Indian soldier high in the Himalayas

Another possibility is that China is testing the waters. With much of the world struggling to deal with Covid-19, this is as good a time as ever to see how united the traditional great powers have been. So far the response has been disorganized and uncoordinated. India, which has never had a strong desire for international alliances now finds itself fairly isolated, traditionally antagonistic with its neighbours (the longest walled border in the world is between India and Bangladesh) surrounded by nations that increasingly see their economic development through China. In Europe, the resurgence of a nationalist far right and the high cost of economic bailouts following 2008 has left many countries at Europe’s fringe more open to help from outside the EU. Meanwhile, the high cost and duration of the wars against terrorism have left Western powers far less interested in open conflict and their populations more wary of joint military adventures.

Whether the CCP under Xi Jinping lied about the nature of the novel coronavirus (almost certainly), or deliberately allowed it to escape across its borders (hard to conclusively prove), the Chinese government now finds itself exactly where it always wished to be, ascendant against a disorganized and self-serving group of largely Western antagonists. And while America may get some short terms gains from its “America first” foreign policy, the collapse of an organized and united group of nations committed to the global order will only make life more unpredictable and more costly.

***

In 2010 China blocked the export of rare earth minerals to Japan over arrested fishermen, and in 2011 China stopped buying salmon from Norway after awarding the Nobel Peace Prize to a Chinese dissident. In 2012 China punished the Philippines by leaving bananas on the docks until they rotted during a “prolonged investigation” after the Philippines challenged China’s claim on islands in Philippine waters. In February China stopped buying Canadian canola as part of its campaign to have Canada release Meng Wanzhou. In response to an Australian request for an international inquiry into the outbreak of the Covid-19, the Chinese government stopped accepting Australian beef and placed an 80% tariff on Australian barley. All of these events were a result of China responding to international decisions or publicity they didn’t like. In another time these penalties would be of little consequence, but China is the number one trading partner for 130 countries, giving it unprecedented economic leverage on a global scale. That makes the possibility of an effective response to Chinese economic might all but impossible without committed allies.

Figure 4 – Caricature of the British Diplomat, Lord Macartney on his failed mission to Peking. From 1792 by James Gillray

A famous but apocryphal saying from the 1850s was “If I could add an inch of material to every Chinaman’s shirt tail, the mills of Lancashire could be kept busy for a generation.” In the early 21st century those dreams have been realized but they’ve come with a high cost. At it’s current rate of growth (around 6.9%) every four years China adds the equivalent of the economy of Germany to its own. With such economic power why wouldn’t China assume that the world should be remade in its interests? Why should China not have more say in international organizations? Why should it not set the terms of border disputes with neighbours? Why should it not tell human rights organizations to butt out of its business? Why should China not “have its place in the sun?”, as Kaiser Wilhelm once said of a similarly ascending Germany more than a century ago?

China’s rise is real and cannot be undone. It must be managed, and for those of us that believe that the world is better under the current global order, that means that middle economic powers like Canada, Australia, Western Europe, the UK, Japan and South Korea, will need to better manage our own big power, the United States. With China now the largest market for cars, cell phones, online shopping, alcohol and luxury goods we also cannot ignore or live without the Chinese economy. We are bound together, but not yet subservient. As citizens in a free world, and investors in our own future, these are the problems we must begin demanding of our own politicians to solve, or we will all pay for the consequences with a poorer and more turbulent world.

Books used in this essay include:

               Destined for War by Graham Alison

               Active Defense by M. Taylor Flavel

               The China Wave: Rise of the Civilizational State by Zhang Weiwei


Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of Aligned Capital Partners Inc.

Manufacturing Foxes

Manufacturing Foxes – Tenuous Connections Across Time

In a display of sheer audacsiousness, Adrian tries to connect a forgotten sport from the 1600s to difficulty in re-shoring businesses today.

Can he do it?

Watch and find out!

Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of Aligned Capital Partners Inc.

Beyond Protests and The Police

While protests may not be, strictly speaking, market-based news, the size and scope of the protests regarding police violence and black lives makes them hard to ignore regardless of context. So far, these massive public demonstrations have not had an impact on markets (though they may yet on the spread of Covid-19), and have garnered a mixed reaction in the wider society. Whether police will be held to a level of greater accountability for actions that result in death remains to be seen, and regardless of what reforming actions are taken by police departments its quite obvious that it will take years to overcome distrust of authorities in some communities.

A more interesting aspect of the protests have been calls to “defund the police”, a rallying cry that either means exactly what it says, or sparks 15 minutes of explanations as it “doesn’t mean quite what it sounds like”. The arguments for it do make some sense though, and within some police departments there is sympathy for the idea that too much is asked of the police, resulting in a hodgepodge of policy goals foisted on a group simply not equipped to handle them. Currently the same people who have to deal with a domestic disturbance and oppose criminal gangs are the same people that have to help those with serious mental health issues and spend their days collecting revenue for cities. Not all these jobs should likely fall on the same person.

This raises an interesting point, which is how our political class has largely sidestepped any of the blame aimed at police departments. Police only enforce the laws that they have on the books, and true to any bureaucratic industry, we have lots of laws on the books. So many laws in fact that it is practically impossible to know what they all are. By-laws are added with little consideration for what has preceded it, speed limits seem set arbitrarily and may be subject to change, some laws are posted while others invisible. Which laws are enforced and where is left to the discretion of the police at the time. Many laws end up serving an unintended dual function, launched ostensibly to combat thing A, but end up serving issue B.

Consider that in 2008, Ontario passed a law making it illegal to smoke in a car in the presence of a minor, someone under the age of 16. This was part of a long campaign aimed at discouraging smoking in public that bore some superficial resemblance to other laws that discouraged smoking by making it harder to do in social settings. But where as smoking in public on patios and bars limited where you could go, this new law invited police into a citizen’s private space and criminalized behavior that was, at least under the laws of the province, still kind of legal. But the real issue here is who the law inadvertently targets.

Despite continued drops in the number of people smoking, those people that do smoke are statistically more likely to be poorer with more minimal education. According to the CDC 30% of people below and 25% of those at or just above the poverty line smoke, while those at more than double the poverty level only smoke at a rate of about 15%. In short the people most likely smoking in their car won’t be found in Leaside, but might be found in one of Toronto’s less affluent but already heavily policed neighborhoods. This law isn’t intended to target minorities or the poor, but put in the hands of police who are already tasked with policing higher crime areas (again areas that tend towards being poorer and with higher populations of minorities and new Canadians) it puts another class of previously non-offending people into potential confrontations with the police.

You may remember the death of Eric Garner in 2014. Another black American who died in the arms of a police officer that was caught on camera, Garner had been placed in a choke hold and had died from lack of asphyxiation. Garner’s crime, that had led him to this confrontation with multiple police, was for selling “loose cigarettes”. As part of a style of policing called “broken windows”, police had been instructed by the highest levels of authority within civilian politics to crack down on minor crimes to scare off larger criminal enterprises. Tackling the “loose cigarette” problem ultimately involved “the deployment of special plainclothes unit, two sergeants, and uniformed backup” to arrest a man selling cigarettes for a dollar who had been arrested 12 previous times. At no point did anyone wonder if this was a useful deployment of resources, or whether re-arresting a man who had already been arrest 12 times might finally break his habit.

You might be tempted to imagine that police would simply look the other way when silly or impractical laws find their way onto the books, but this too is a problem. Indeed, we know that the police can sometimes be given directives to enforce some laws over others. But the law cannot function effectively when it is applied only at the discretion by those in authority. If a law cannot be practically enforced or only enforced unevenly, it probably shouldn’t be a law at all.

Politicians remain responsive to their voters, particularly so at municipal levels. That can put enormous pressure on them to pass laws that are intended to fix social ills for moral reasons, but our politicians should be mindful that every law passed puts potentially puts citizens into conflict with the police. So long as the police remain the first line of citizen’s interaction with the state’s power, whether it be for jay walking, speeding, parking illegally, domestic disturbances, assault, or more serious illegal activity, any action can theoretically become fatal. Recently two young people died during police interventions in the GTA. The first was a young woman named Regis Korchinski-Paquet, who fell from a balcony during a mental health crisis when police showed up to take her to CAMH. The second, D’Andre Campbell was shot by police in his home in Brampton when police were called because he was having a schizophrenic episode. How culpable the police were in these events is the subject of much debate, but families in both instances have wondered aloud whether it is the police that should be the people who come during a mental health crisis.  

While Canada’s problems are mercifully not those of the United States (the proliferation of guns and the militarization of police are fortunately not major issues here), that shouldn’t excuse politicians who make noise about police excesses while being quick to use the law to fix minor grievances. While the police continue to do their own reviews and consider reforms, politicians should perhaps begin considering an audit of the numerous laws that we keep and whether it still makes sense to be ticketing people for jaywalking, working out in a park, or issuing fines to children who run a lemonade stand, especially when these laws can not be enforced with any consistency.  Whether our politicians can rise to meet even this challenge remains to be seen.

*In addition to the linked articles within this post, I have also referenced the book The End of Policing by Alex S. Vitale for anyone interested in the arguments of defunding or abolishing the police.

Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of Aligned Capital Partners Inc.

Water and the Future of Global Conflict

It is hardly news that water is precious. Despite the planet being 70% water, only 2.5% is fresh and of that only 0.007% is available for human use. It should also not come as a surprise then that as societies get richer and develop their water needs grow to match industrial and personal consumption, making water not simply an essential resource for nations, but also between nations.

As nations in Africa and Asia continue to make great leaps forward in economic prosperity, water needs are putting those countries at odds with one another. Very few places are like Canada or Indonesia, self sufficient in water and not relying on shared water basins. Most nations share water with multiple other countries, necessitating treaties for its use. But even then, the changing economic fates of nations may mean that treaties become useless and fall out of date.

Farming along the Nile

In 1959 Egypt and Sudan signed a treaty to regulate water use between them ensuring that Egypt would receive the bulk of the Nile’s water, but the world’s longest river flows through 10 other countries, many thousands of kilometers away, all of whom need that water to economically develop. In the past few years, as African nations have grown and stabilized following the 1990s, their own economic goals have started to clash with the older and more established economy of Egypt. In 2010 Ethiopia, Rwanda, Tanzania, Uganda, and Kenya signed an agreement aimed at stripping Egypt’s water rights from the 1959 agreement. It would create a new “Nile Basin Commission” to manage water sharing. In 2011 Burundi signed as well, and so far three of the countries have ratified the agreement.

In Asia water represents one potential flashpoint among many between China and any number of countries. Since Tibet was annexed by China in the 1950s the Chinese have secured the source of water to more nations than any other country, and today the most water that flows across borders from one country to another flows from China. Chinese actions to control water has meant that nations as diverse as India, Cambodia, Vietnam and Russia have all filed international grievances over shared water use. Water is also a flashpoint between Pakistan and India. The largely empty high altitude land of Kashmir, contested land that has been the source of three wars (two with Pakistan and one with China), is home to much of the tributaries that feed the Indus, which remains the primary source of water for agriculture in Pakistan.

An Indian soldier stands guard at the border with China in Kashmir

Sharing water isn’t simply an issue between nations, but an issue within nations too. In 2016, the Indian the states of Karnataka and Tamil Nadu ended up rioting over shared access to water, resulting in burning trucks identified as coming from the other state. Water rights are hotly contested not just in developing nations, but in the West as well. In California, which is a experiencing its worst drought in 1200 years, water rights have farmers fighting with cities. Orange groves, almond farms and avocados are all water thirsty crops that compete with other local needs for water.

The price of Almonds has continued to climb for years as water needs have made the crop more expensive

In the last few years issues around water have revolved around cities facing water shortages, most notably in Cape Town, South Africa, which got dangerously close to “day zero”, at which point the city would be officially out of water. Though rains finally returned before a full-blown crisis emerged, citizens of Cape Town spent months operating under water rationing while wealthier citizens paid for water to be delivered from other cities. Farmers were simply denied water for their crops, until finally they received a normal amount of rain for the rainy season (the first in four years).

But the ability to prioritize domestic and urban water concerns depends on a global order that is robust and sufficiently engaged to head off water conflicts between nations before they become more dangerous. But that world is eroding and with it the order that constrains nations.

It should not be a surprise that the decline of American global leadership coincides with increasing global tensions. India and China, having already fought one war, are currently engaged in ongoing military standoffs. Despite only sharing a few borders in largely remote places (in Jammu and Kashmir there exists only a frontier between China and India and there have been regular skirmishes in the past) Chinese and Indian military patrols regularly run into each other. Due to a treaty previously signed soldiers on either side are prevented from using guns to avoid escalation when two patrols meet (leading to some hilarious recounting of soldiers yelling, throwing punches and hurling rocks), but recently the response has been an increasing build up of military presence by both nations forcing an official diplomatic responses. The issue is not that China and India are about to go to war, but that the potential for war is increasing.

Far from heading into a period of increasing prosperity and international cooperation; something practically essential for tackling climate change, terrorism or pandemics, the global order is failing. Even before the age of Donald Trump and populist nativism it took enormous effort to corral nations into agreeing to restrictions on water use. The 1997 UN Convention on the Law of Non-Navigational Uses of International Watercourses, which aimed at establishing “equitable and reasonable use” of shared water systems and prohibited nations from using water access to impose significant harm on another state only ever had sixteen nations agree to it. In the current climate it is unlikely that any new nations would even consider such a binding restriction.

The 21st century continues to throw new challenges at a global order that seems, at best, sclerotic. That breakdown in the international order is putting new risks on the table, leaving countries, sub-sovereign states, cities and farmers to fight their battles with less support, and more vulnerable to actors with military or diplomatic muscle to flex. China is one such nation that has a great deal of its future connected to the control of water, both through access to waterways in the South China Seas, and to the very water that irrigates crops and powers industry to its neighbours. A resource so precious and important deserves a great deal more attention than its currently getting.

Information in this commentary is for informational purposes only and not meant to be personalized investment advice. The content has been prepared by Adrian Walker from sources believed to be accurate. The opinions expressed are of the author and do not necessarily represent those of ACPI.