The Research HUB: Lessons From Argentina
And the money kept rolling in (and out)
In this article, I will be sharing lessons from the crisis in Argentina that took place in the late '90s and early 2000s. I will explain how to think about markets in the context of this crisis, connect it with recent examples, and then provide a framework for maneuvering future crises.
Principles For Reading History:
Reading history is one of the most important things you can do when approaching any domain. Let me provide three brief principles on this, and then we will get into the book on Argentina:
1: Read history in any field you operate in:
When you approach any field (markets, chemistry, industrial production, machinery, electrical engineering, etc.), you need to start by surveying all the history that has taken place in order to frame your current situation. This will save you tremendous amounts of time because you will know all the things NOT to do. You will also begin to understand the causal mechanics of the field and how it functions in connection with other fields. Time is the greatest test of any idea, so observe how the field functions through time. Survey all the successful people and identify the degree to which their success can be replicated or is a result of survivor bias.
2: Create a mental model for your present situation identifying continuity and discontinuity:
Many times we hear that history is never the same but it "rhymes." While this might be a true statement on the surface, it doesn't help you as a risk taker. You need to know WHY exactly there is continuity and discontinuity with the past. I will give you a very simple example: right before the SVB crisis, I had read the book, The Greatest Trade Ever which was the story of John Paulson during 2008. One of the key insights he provided was that even though they knew the banks were in a bad situation, there were violent rallies on the news of acquisitions during 2007. This was something I kept in mind going into the SVB crisis, and it served as a mental check for my trading. You can actually go back and see the article where I covered my short and turned marginally bullish. Article: link1 and link2. Fundamentally, you want to know the causal mechanics of the system, identify historical continuity, and then use your imagination to identify discontinuity.
3: Don’t be reductionistic in your creation of mental models. A model needs to correctly quantify variables so that it is useful to take risks.
A popular narrative is that markets go through a "fear and greed cycle." While this is true on the surface, it isn't necessarily helpful. You need to quantify this somehow in order to inform risk-taking decisions (aka where do I buy and sell). Saying the market goes through extreme fear and greed is like saying the Twin Towers fell because of gravity. Of course, it's true, but you are missing the WHY behind it and the quantification of variables that allow you to take calculated action.
The Story Of Argentina:
One of the books I have been reading recently is called, “And the money kept rolling in (and out)” by Paul Blustein: Link. It is really a great book that I thoroughly enjoyed.
Here is a picture of me reading it at a cigar lounge down the street: 😎
Why did I choose this book?
A while back I was chatting with Jose from
who is one of the smartest guys I know. (His Twitter: link). One of the things he told me was that acquiring an exceptional understanding of fixed income and emerging markets is one of the most valuable things for operating in financial markets. I have always focused on global macro, fx, and fixed income but his comment pushed me to be even more intentional and focused. Part of that intentionality is reading a number of books on emerging markets which is why I am reading this book.
A quick breakdown of the book and the story of Argentina:
During the 1990s, Argentina was THE country. Like the high-flying FANNG stocks of today, Argentina was the "model" of how to run an emerging market. Growth was so exceptional that any bearish narratives were laughable and received minimal focus. As the country approached the late '90s and early 2000s, the economy and society completely collapsed. If you think getting toilet paper was difficult during COVID-19, read about the women and children who couldn't purchase food. Rioting was commonplace and it was dangerous to even be in the country.
The book I noted above by Paul Blustein recounts the entire story from a political, financial, and societal perspective. Blustein does an exceptional job deciphering the various agents as they interact with their respective incentives and constraints. The government of Argentina, the IMF, and Wall Street played instrumental roles in the rise and fall of the country.
I would commend the book to everyone who wants to learn more about cross-border flows, currency regimes, and the constraints a country faces.
Lessons from the perspective of a practitioner:
Instead of recounting the entire story of Argentina (read the book!), I am going to share the main things I learned and how these connect with the current environment:
Lesson #1: The beginning of Argentina’s growth story started when a new Economic Minister was announced. On the news, the stock market immediately rallied 30% in a single day! Why would this happen? This was the beginning of a policy where the Argentinian peso would be pegged to the US dollar. This dynamic of currency regimes is something I have been spending a lot of time reading about. As some of you know, I was reading The Fall of the Euro by Jens Nordvig which explains currency dynamics with the Euro crisis. This is something I come back to again and again because understanding the constraints a country faces with its currency is fundamental for growth, inflation, and liquidity, especially as it’s reflected in the balance of payments. If you want to understand more of these constraints, look into “The Impossible Trinity.” I would also suggest Michael Pettis’s book, The Volatility Machine which has been instrumental in my thinking and a lot of models I have built.
Lesson #2: Every agent in the economy is self-interested, and this should be expected: What you realize when you study every crisis is that everyone deserves some of the blame. The IMF was trying to maintain their reputation and cared about how its decisions looked on the international scene. Government officials were trying to gain as much financial power as possible because it was in their financial interest. Wall Street didn't publish much bearish research on Argentina because they were the ones facilitating the debt transactions, which they made fees on. Funds continued to buy the debt from Argentina because they wanted to maintain their performance against the index.
Two key ideas: constraints and incentives. For example, if you are a company trying to maintain market share, you take every edge possible against competitors. If interest rates go to incredibly low levels (think 2020) and your competitor is taking out debt to increase their competitive advantage, you face a trade-off: take out debt to maintain your edge and market share or remain conservative and keep your debt service costs low. The trade-off is taking more default risk from additional debt or business risk from a competitor taking market share. These types of constraints exist in finance, every sector of the economy, and in every government agency. It's a two-fold pressure; you have business risk (or career risk) pressuring you to take excessive risk AND the incentive that you will make money off of it. Now think about this happening with every agent across the entire economy!
This is why it is always admirable when someone goes against the grain and pulls back their risk exposure during these periods of time. The book actually had a short section on Mohamed A. El-Erian who was at PIMCO at the time and was one of the few individuals who expressed bearish concerns and actually acted on them. I would recommend his book, The Only Game In Town to everyone who wants to understand central banking.
Lesson #3: Conversations about risk always happen behind the scenes: The real risks of Argentina were talked about in private meetings within the government, the IMF, and Wall Street well before they hit the headlines of media outlets or analyst reports. This is something I cannot stress enough to people; there are so many conversations about risk that take place behind the scenes, and when they finally hit the news, the opportunity to make money is gone. This is why you need to think preemptively and be an exceptional redundancy planner. I wrote an article breaking down redundancy planning and scenario analysis here: link and shared this video on it from the former CEO of Goldman: link
Lesson #4: All components of a country are intricately connected: While reading the book in a story format, you really begin to see how intricately connected financial markets are to society and the various sectors of the economy. The currency peg Argentina maintained was directly connected to the constraints on the government and thereby the political climate. The currency also directly impacted the ability of people to consume and invest in the economy. When the currency actually began to be devalued, investment dried up because people didn't have any certainty about prices. When you have volatility of prices, planning becomes incredibly difficult.
Connecting It Too Today:
The story of Argentina is a helpful mental model, but let's go through a couple of situations that make these ideas more tangible. Remember, when I use these examples, there is continuity and discontinuity between the lessons I provided above.
Example 1: Russia Invasion, The Ruble, and the S&P500:
Financial assets are directly connected to cross-border flows and currency regimes. An example of this is the RUB/EUR pair during the invasion in 2022. We saw the RUB/EUR pair lead risk-on/risk-off moves in the S&P500. If you can have a clear understanding of the currency regime and the WHY behind a currency move, you can begin to connect it with other assets: (I have two charts below, but they are the same; the formatting was a little difficult to display):
Example 2: the BoJ and the Yen during 2022
The move in the Yen and all BoJ dynamics have been closely followed and reported on by Weston Nakamura. You should follow his podcast on Blockworks: link
In the case of Argentina, they pegged their exchange rate to the dollar and maintained it with USD reserves. The BoJ did the opposite in that they pinned yields, which devalued their currency.
Example 3:
This final example is China and its current currency regime. While China has certainly had an impact on the international community, there are underlying risks that have yet to be realized yet. The two individuals I would point to on this are Peter Zeihan and
. Zeihan has a great book on this and Michael has written multiple articles/papers on it:
If you think Argentina had a debt problem, just look at China. It’s my opinion that the next major risk and currency crisis will come from China.
Trust Is A Fragile Thing:
The final thing I will leave you with is that trust is a fragile thing that is hard to maintain but easy to break. The market puts trust in specific assets by providing liquidity. However, once that trust is shaken, just a little, liquidity is withdrawn which reveals the true constraints of a situation.
The goal of a trader is to constantly identify scenarios where capital flows and liquidity are changing. This creates an opportunity to benefit from volatility as the constraints on other players force them to buy or sell.
Thanks for reading!
Fantastic piece!
Great post, but you have to plot debt against a country’s trade surplus, and the portion of that debt which is externally owned. From this perspective, it’s the US that’s in the danger zone. On a consolidated basis, Chinese debt is not that daunting.