The Most Expensive Election Trade Ever Made (A Cautionary Tale)

0:00The Fed is on track to cut interest rates next week, despite the fact that the U.S.S.S.S. the most WTF jobs report, there is a decent chance that inflation is going to keep rising. Gold is going absolutely bonkers through the roof as investors look for security amidst financial and geopolitical chaos. I-bonds are starting to suck. And we have a cautionary tale for anyone who is thinking about trading based on the election. I know y 'all are buying holders, but you probably have friends, family, co-workers who want to make stock market trades based on your election predictions. We have a cautionary tale to illustrate why that's a bad idea, regardless of who wins.

0:44Welcome to the first Friday episode of the Afford Anything podcast. This is the show that understands you can afford anything but not everything. Every choice carries a tradeoff, and that applies to your money, to your time, to your focus, to your energy, to your attention. It applies to every limited resource that you have to allocate. I'm your host, Paula Pant. I hold a Master's in Economic Reporting from Colombia. Once a month, on the first Friday of the month, we host a monthly economic update. So welcome to the November 2024 First Friday Economic Update. Happy Election Month. I know Election Day is coming up.

1:24In a few days, early voting has already started in many states. I cast my early ballot two days ago. it was my first time voting in both the city and state of New York. But the election is not the only big thing that's happening next week. The Federal Reserve is also meeting, and they seem poised to cut interest rates yet again, most likely by another 25 basis points or a quarter of a percentage point. Here's the schedule for next week. Election day is Tuesday. The Fed meets Wednesday and Thursday. The Fed will likely make their announcement on Thursday. The market at this point has priced in a 25 basis point cut, not just at the November meeting, but also in anticipation of their December meeting.

2:04The market is already pricing that in as well. Now, I should add what makes these Fed meetings historically interesting is that in 2022 and 2023, the Fed really signaled their rate hikes ahead of time. We had in 2022 and 2023 much clearer of an indication as to what they were going to do before they did it. What's made the rate cutting cycle in late 2024 a little different has been that the Fed is playing their cards much closer to the vest. And as you recall, when the Fed made their first big rate cut at their last meeting, their September meeting, when they made a 50 basis point cut, there was for the first time since 2005, there was one dissenting vote.

2:50That is incredibly rare for a Fed governor to cast a dissenting vote. It is normally a 12-0 decision every time. But the vote at the most recent meeting, the one in September, was 11 to 1. So given that history of unusual history of dissent and given the fact that the Fed has not signaled their intent as clearly this year as they did back in previous years in recent history, indicates that they themselves might not be too sure of what their next moves are, that they're watching the economy, the markets, the inflation data, the jobs data very closely and are not inclined to get too far ahead of themselves.

3:32Speaking of watching the data, the jobs report in October was, as I said in the intro, an absolute WTF report. Completely out of step with our normal patterns. So in October, the U.S. added 12 ,000 new jobs. 12 ,000. The Dow Jones estimate for what analysts believed the report would be was 100 ,000. And the previous month, September, we added 223 ,000 new jobs. Actually, that is a downward revised number. So the initial report from the BLS stated initially that we had added 254 ,000 new jobs in September. And that number was later revised downward to 223 ,000. So we're talking 223 ,000 new jobs in September, 12 ,000 in October.

4:26There are two major factors at play. One is, of course, the hurricanes. Oxford Economics estimates that Hurricanes Helene and Milton likely reduced employment by about 70 ,000 jobs across the southeast. Now, that's just one estimate. Golden Sacks estimates that the job reduction was somewhere between 40 ,000 to 50 ,000. But regardless of which of the estimates you take, we have a range of somewhere between 40 ,000 to 70 ,000 fewer new jobs being created as a direct result of the two hurricanes that hit the southeast last month. The other major factor are strikes. So there's a strike at Boeing that has caused job numbers in the manufacturing sector to go down by 44 ,000.

5:17there are also strikes at Textron and at Hilton Hotels. So between both the storms and the strikes, those two factors combined probably led to around 100 ,000 fewer jobs created in the month of October, resulting in October's incredibly paltry number of only 12 ,000 new jobs. The good news is both of those factors are likely to have temporary effects. I would not read too much into such an unusually low jobs report. And it seems as though the Fed is in agreement. If the Fed was concerned about unemployment, they would likely take more drastic measures. But analysts and investors have all priced in a very measured quarter point rate cut, which they'll probably announce next Thursday.

6:10By the way, I should add that the unemployment rate is holding steady at 4.1%, which is historically very low unemployment and consistently in line with what we've been experiencing. Stocks are up pretty consistently across the board. Broadly, the S &P 500 is up. The large caps, the Magnificent Seven, are doing well. Generally speaking, whenever there are rate cuts, those tend to benefit small cap companies. As the cost of accessing capital gets cheaper, it's the smallest companies that often tend to benefit the most. So we see the big companies, the Magnificent Seven. Magnificent Seven total return index is up 1.3%.

6:51But the conditions are in place for small caps to also have a pretty good run as capital gets cheaper to access. Global stocks are up. The NASDAQ is up. Bitcoin is holding steady. The yield on 10-year treasuries is up. But the big runaway winner, which I want to turn your attention to, is gold. And this is unusual because gold is an asset that investors often flee to in times of uncertainty. And yet here we are with a very strong equities market, both in the U.S. and globally. We have declining inflation both in the U.S. and globally. we have many high-performing assets that investors could be buying, and yet the safe haven asset of gold, the thing that investors buy for safety, gold is soaring.

7:49Prices for gold are on track to reach their best year since 1979. And can I emphasize how long ago 1979 was? I know we all love Rob Stewart, Michael Jackson, Donna Summer, Earth, Wind & Fire, the Doobie Brothers. But that was 45 years ago. That's where the price of gold is heading. And it's happening at a time when you could just be buying equities instead. So the question is, why? Well, I know it's kind of early in the show for this, but we're going to take a really short break to hear from the sponsors who make this show possible. And when we come back, we're going to dive into what is behind this counterintuitive run-up of gold at a time when investors could be making a lot more money in equities.

8:39What's going on here? That's coming up next. The kids are back in school now, and I finally have some extra time to plan a weekend getaway for just us. We've been wanting to visit Lancaster County, Pennsylvania for a while now because I've heard so many people rave about it. We love exploring new places, finding the cutest shops, and eating at restaurants that the locals love. DiscoverLankaster.com is the best place to learn about the unique things to do and upcoming events. Plan your trip alongside us at DiscoverLankaster.com slash Amplified. This Friday, the NBA on Prime tips off with their debut doubleheader.

9:16First up, Boston brings the action to the Garden as the Celtics face the New York Knicks. Then out west, it's a battle of the superpowers as the Lakers try to poster the relentless pace of the Minnesota Timberwolves. The Celtics and Knicks, who has the most hustle in defense? This game will come down to who wants it more. And the Timberwolves and the Lakers, it's two Western Conference heavyweights going toe-to-toe. Buckle up, folks. This one's going to be electric. Celtics-Knicks, T-Wolves and Lakers. Coverage starts Friday, 7 o 'clock Eastern, only on Prime.

10:03Welcome back. Why are investors pouring into gold? First of all, the modern gold rush was started not by individual investors, not even by institutional investors like pensions. No, neither of those parties did it. The modern gold rush was started by central banks. Back in 2008, gold accounted for only 6 % of central bank reserves. Today, gold accounts for 11 % of those reserves. So it's nearly doubled. And it's done so in a relatively very short order. While the stat that I just gave you runs from 2008 through today, a large part of that buying has happened in the last two years. And here's where it gets particularly interesting.

10:51Many central banks are buying physical gold. Now, there are a lot of different ways that you can invest in gold. You can buy gold ETFs. You can buy gold futures. Gold futures are contracts that trade on exchanges, right? You make a deal to trade gold at a specific price and you agree on the terms today, but the settlement day is going to happen in the future. And then in between now and the settlement day, the price of that contract that you have is going to gyrate and you can try to profit off of that movement. That's the common way that commodities are traded. very few people actually want to settle up for any commodity.

11:40But what we've seen with gold is that the central banks have been purchasing and storing actual physical gold. They're not buying gold futures. They're not buying gold ETFs. They're physically accepting delivery of gold. There's a huge storage area in Singapore where much of this gold is kept. And there are other banks that are trying to ship them to vaults in their own home countries. And so what this signals is that central banks around the world are worried about geopolitical risk. It's telling that some of the biggest demand for gold has come first out of China and then later India and Turkey.

12:21Now, there are open questions about what's going to happen in many areas across the world, in particular one that few people are talking about right now is China and Taiwan. There is the potential for Taiwan to really become a flashpoint in U.S.-China relations. And there are many questions around what could happen to the world order if China were to invade Taiwan. When the central bank of a nation holds gold, that gold is not subject to sanctions. The dollar is the world's reserve currency. While there's been a lot of speculation about, oh, is the dollar going to get replaced as the world reserve currency?

12:59You hear people talk about that a lot. There is no secondary currency in the wings. Like, what would the dollar possibly get replaced with? The yuan is not a contender. Not right now. And yes, there have been officials from Brazil, Russia, India, China, and South Africa that met at a BRIC summit. So those countries collectively, they're known as the BRICS countries, B-R-I-C-S. And if you invest in emerging markets, you can actually invest in BRICS ETFs if you want to. And so the BRICS countries are working on creating a new set of cross-border payment rails that would circumvent the U.S. dollar, but it's nowhere near ready.

13:43I mean, it's notable that the BRICS countries could have simply chosen one of their home currencies, any one of their home currencies, to serve as the replacement to the dollar. They did not do that. Instead, they decided that they were going to attempt to form totally new cross-border payment rails. And so that highlights the fact that there is nothing waiting in the wings to replace the U.S. dollar. It's going to continue to be the world's reserve currency. And the central banks that are worried about that, the ones who are worried about U.S. sanctions, are turning to gold. And this is happening in such a major way that the cost of gold has gone up 38 % over the last year.

14:26It's now over$2 ,700 per troy ounce. And I want to underscore how unusual that is. The U.S. left the gold standard in 1971. So remember how I said this is the highest point that it's been since 1979? Well, 1979 was eight years after the U.S. left the gold standard. What that means is that the U.S. ended the direct convertibility of the U.S. dollar to gold. The decision was made by President Nixon in an effort to do two things, one to curb inflation and the second to reduce the U.S.'s vulnerability to a run on gold. Once the gold standard ended, gold became a purely speculative asset. Think about it.

15:12Other commodities have intrinsic usable value. Broadly speaking, there are two types of commodities. There are hard commodities, which are things that are mined or extracted. And there are soft commodities, which are more like agricultural things. Under the category of hard commodities, you've got crude oil, coal, natural gas, right? And then under soft commodities, you've got soybeans, you've got beef, corn, cotton. All of these are things that have intrinsic usable value. But gold does not. Gold has scarcity, which is where its value comes from, but it doesn't have any utilitarian value. You can't eat it.

15:59You can't live in it. You can't use it to protect yourself. Warren Buffett says that bets on gold are made by those who fear other assets. Even though the price of gold has gone up 38 % over the last year, American institutional investors are not loading up on it. When I say institutional investors, I'm talking about big investors, big investment groups. Despite the huge run-up, they're still not buying in. Overall, among American U.S.-based institutional investors, only 1.5 % of their assets are in gold. So a lot of this demand is coming from China and India. Those two countries make up one-fifth of the world's economic output, but one-half of consumer purchases of physical gold.

16:51And there are very good reasons that demand is for physical gold. So if gold is stored overseas, if it's not in your home country, then the nation that's holding it could seize it. So, for example, the British government has refused to repatriate dozens of tons of gold to Venezuela because it does not recognize Nicolas Maduro as the legitimate leader of Venezuela. And so it's holding on to Venezuelan gold. So what we're seeing right now is that a lot of central banks are bracing themselves for the possibility of global political risk. It remains to be seen if Putin has bigger ambitions for Europe, but the National Bank of Poland has raised its gold holdings by 167 tons.

17:42It has a strategy of keeping 20 % of its reserves in gold. 20%. And the president of the Bank of Poland, Adam Glipinski, has said that what he likes about gold is that its price tends to be high precisely at times, this is a quote, precisely at times when the central bank might need its ammunition most. So what we have in gold is an asset that is an inflation hedge because remember, any physical asset is an inflation hedge. Real estate, gold, art, tangible goods are inflation hedges, right? After a period of high global inflation, we have in gold an asset that is an inflation hedge. It is independent of the U.S.

18:28dollar and therefore reduces the level of influence that the U.S. can have in the form of sanctions on other nations. And it's an asset that has low correlation with the performance of equities and bonds, both. Low correlation with other asset classes. Historically, it hasn't been something that makes you a lot of money, but it's the asset that investors pile into when they're looking for safety amidst potential looming chaos. And so it is notable that that's the direction that many major central banks across the globe have decided to lean into in a big way. Switching our attention to I-bonds.

19:16Okay, if you're not driving, raise your hand if you remember back in 2022 when I-bonds were yielding 9.6%. Those were the days. I mean, we also had like enormously ridiculous inflation, but we also, to help offset that, had I-bonds. Now, I-bonds are designed to help investors protect themselves from inflation. And in 2022, it was yielding 9.6%. The only real downside to them was that the total amount of money that you were allowed to put into I-bonds was capped. I-bonds have a purchase limit of$10 ,000 per person. And two years ago, that was a huge source of complaint because people wanted to flock into I-bonds.

20:05It's a virtually risk-free 9.6%. At least it was two years ago. So these days, I-bonds have dropped dramatically and are now at a four-year low of 3.1%. I-bonds actually consist of two different rates. They have a variable rate and there's a fixed rate. And the fixed rate adjusts twice a year. First business day of May and first business day of November. So welcome to the first business day of November. And the new I-bond rate is 3.1%. That's a decline of the 4.2 % rate that was set six months ago back in May. So what does that mean? It means that, frankly, at this point, you can get better returns from a high-yield savings account.

20:54And those don't have the same purchase limits that iBonds have, nor do you have to deal with, like, the super wonky Treasury Direct website. Basically, there's really no point anymore at the current rates of chasing iBonds. And that means, unfortunately, that the I-bond era is over. It's good news for the economy. It's good news related to inflation and macroeconomics. It's just bad news for the$10 ,000 that you have burning a hole in your pocket. But congrats to those of you who were on the ball back in 2022 and who claimed I-bonds at the 9.6 % rate. Next Friday night, drinks are on you. I'm going to talk just briefly about small caps.

21:35I mentioned earlier that generally speaking, when the Fed cuts interest rates, small caps tend to benefit because small companies most need and can grow from cheaper access to capital. One way to test this hypothesis is by looking at the Russell 2000, which is an index of smaller companies. It is currently trading above its normal long-run valuation multiple. And what that implies is that investors are bullish about small-cap companies. Now, the fact that the Russell 2000 is trading in an increasingly bullish way, that should be contextualized with the fact that the NASDAQ, which is comprised of tech companies, is also doing that.

22:25And the S &P 500 is also doing that. So it isn't that the Russell is necessarily a breakout. It's just that bullishness seems to be happening across the board. I mentioned earlier this small cohort of companies called the Magnificent Seven. That's Apple, Microsoft, Alphabet, Amazon, NVIDIA, Meta, and Tesla. Those seven companies together constitute 62 % of the gains in the S &P 500 over the past year. They comprise such a big component of the S &P 500. There are some people who colloquially, kind of half-jokingly, talk about, not about the S &P 500, but about the Magnificent 7 and then the S &P 493.

23:17just so we have some verbiage that distinguishes the other 493 companies in the S &P outside of those seven. But even still, the profits among the S &P 493 are expected to grow by 13 % next year. Compare the progress that the U.S. has made to look at Germany. Germany is suffering from a recession right now, the German economy is expected to contract, contract by 0.2 % this year. And this is going to be its second consecutive year of decline. It also contracted in 2023. So among the G7 countries, the U.S. has had the highest level of economic growth since the pandemic. And a major piece of that is that tech and innovation is centered here, something that It will be increasingly important as we enter the age of AI, which is truly a game changer.

24:18I've mentioned this on this podcast before, but AI will be to Gen Alpha what the internet was to millennials. Soon, Gen Alpha will be the last generation in the world who will remember what life was like before AI. And when they are elderly, they will tell their great-grandchildren these stories that will sound antiquated and outdated about pre-AI life. Like when millennials talk about recording songs off of the radio onto cassette tapes or using three-and-a-half-inch floppy disks to play their bootleg copies of the Oregon Trail. It'll sound like that. And it's clear, you know, while we can't get complacent, it's clear that we are winning the AI race, at least as of now.

25:05Look at the degree to which LLMs, large language models, are trained in English. LLMs are trained more in English than in any other language. So there is plenty of reason to be bullish on the future of the U.S. market. And in the absence of some catastrophic black swan event, the U.S. market is poised to do great things and to perform very well in the foreseeable future. That said, I do want to talk about some risks that the U.S. market may face. One is the risk of inflation. And I mentioned this in the open. And while inflation over the past many months has trended downward and we're currently pretty close to the Fed's 2 % target, if tariffs are enacted, tariffs have an inflationary effect.

26:03I am broaching politics with that statement with the election just a few days away. And there are concerns that I have that I've voiced in the previous First Friday episode as well with economic proposals put forth by both candidates. As I mentioned in the last First Friday episode, any effort to enact price controls on grocers or on grocery stores, which is a proposal put forth by Vice President Harris, is deeply concerning. I won't go into the arguments in this episode, but if you want to hear a detailed description of that, go to the October First Friday episode. What I'll mention in today's episode is a concern related to tariffs.

26:47Former President Trump has proposed tariffs universally on all imports and on certain goods such as cars being imported from Mexico, where Ford and GM and many American auto manufacturers have plants. He has proposed tariffs of between 200 to 500 percent. tariffs have an inflationary effect. A tariff is functionally a tax on all imported goods, and it causes the price of those goods to rise. So if those tariffs are enacted, there is a high likelihood that inflation will increase. There is also the issue of the deficit. Currently, the U.S. deficit is at 6 % of GDP, which is a number that is abnormally high.

27:38Typically, that is a number that is not seen other than during times of war or recession. It is abnormally high for a time period of peace and prosperity, which we are living in right now. And both candidates have economic proposals that would increase the deficit, though by differing amounts. So to differing degrees of severity, both candidates would increase the deficit. And historically, we've seen the deficit go up under every administration, red and blue, for the last 23 years. So the last year that we did not run a deficit was 2001. Since then, from 2002 onward, under every administration, the deficit has been growing.

28:25No matter what the outcome is of this upcoming election, it will continue to do so because both candidates have proposed economic policies that will continue to grow that deficit. Now, the average deficit over the past 50 years has been 3.7 % of GDP. It is growing to 6.1 % of GDP in 2025. That's according to the Congressional Budget Office. Among the G7 countries, our deficits are the worst. And so that, more so than a monthly economic update, that's really an annual economic update. This is a marker of where we as the U.S. are in this place and time. Among the G7 nations, we have both the strongest growth, the strongest economy, the best markets.

29:18We have the magnificent seven on our home turf. We have the stocks you want to buy. And despite that prosperity, we also have the biggest deficits. Among the G7 nations, we are the extreme on in one very positive way and in one very concerning way. The question then becomes, how do we maintain our growth and continue to press our advantages in an increasingly globally competitive world while simultaneously keeping the federal deficit in check? And how do we protect against geopolitical shocks that may happen given the increasing volatility in Europe, in the Middle East, and potentially between China and Taiwan?

30:02How do we protect ourselves from any black swan events that we, as of this moment, cannot clearly foresee? Which is another way of asking how do we think probabilistically about a range of possible outcomes. I think the primary way to do so is by guarding against what The Economist refers to as tail risk. Low probability but high impact events. By the way, some people have asked me what media do I consume, particularly with regard to major mainstream media, what do I consume? There are three. One is Bloomberg. one is the Financial Times, and one is The Economist. I would urge you, especially as we head into the election, to read the endorsements and the opinions of those three platforms.

30:56Actually, the Financial Times, I wanted to link to all three in the show notes. The Financial Times one is unfortunately behind a paywall and only available to paying subscribers. The Financial Times, by the way, is owned by Nikkei, which is the Japanese stock exchange. So you know when people talk about the Nikkei index? That's Japan's stock exchange index. So the Financial Times, the FT as it's known, is quite focused on the movements of the markets and on global economic performance. Bloomberg and The Economist are, of course, also quite financial markets focused and economics focused. although Bloomberg maintains more of a domestic outlook while The Economist maintains more of a UK-based perspective.