Investing on autopilot works because of the way our money works. The constant creation of new currency through the act of bank lending and government shell games, creates more money than ‘stuff’ there is to buy. Over time this cause the price of things we own, and the cost of things we need, to rise. Investing works then, partly because of currency debasement. It’s not a perfect model to understand the world through, but it explains at least in part, why our portfolios grow. Passive investing works, because the money’s broken.
When we understand the mechanics of money, the strategy becomes clear. Don’t overthink it, just buy things that will rise in value at a pace greater than the pace of monetary inflation.
1. Compound Interest: The Silent Growth Engine
Compound interest is still the cornerstone of passive investing. The principle of earning a return on your returns creates a snowball effect, where your money grows exponentially over time. The earlier you start, the more powerful this effect becomes. It’s a simple yet profoundly effective strategy that requires minimal active management. Why overthink it when a well diversified, passively managed index fund strategy is really all you need? Passive investing relies on the fact that diversifying across many different investments at once, will ‘spawn’ more dollars, and they in turn spawn dollars too – so in a way, it’s money creation.
2. Predictable Market Distortions
Robert Breedlove once said, “Bitcoiners buy Bitcoin because they understand the money, property investors buy property because they don’t.” This statement echoes the idea that many investors might not fully grasp how the money-world works, and some do. Much like the saying, “you wouldn’t eat that hot dog if you knew how it was made,” as long as the investment is nourishing and doesn’t harm us, it might not matter how it works. Unless of course, things are changing…
In school, we learned that the free market and the planned economy were two entirely different operating systems. In reality, especially since 2020, it’s become apparent that interventions cause distortions, and those distortions can be predictable. To predict them (and profit from them), one must first understand the financial system’s “plumbing”, and then understand how global changes are forcing change.
3. Central Planning and Market Reactions
When there’s more currency creation in an economy, prices rise. Asset prices like property and shares rise first, followed by the cost of goods and services, and finally wages. This isn’t a free market—it’s central planners making policy decisions to solve one problem without fully considering the consequences. For example, when interest rates rise, bond prices fall, dragging down the 60/40 portfolio, and in some cases, causing instability in banks. Higher interest rates are used to control inflation though (so we’re told), so like chemotherapy, there’s death in order to preserve life. So now, the common view is that higher rates mean lower asset prices – this hasn’t been entirely true over the last 2 years however. Much like the difference between voltage and current, the cost of money (interest rates) can rise at the same time as the quantity of money can also increase. This dynamic partially explains why share markets have been so resilient.
Understanding currency movements and trends adds another layer of complexity. The US, as the ‘global policeman’ since World War II and custodian of the world’s reserve currency, holds both an exorbitant privilege and a heavy responsibility. Global geopolitics, wars, and rumors of wars influence currency values, adding to the uncertainty.
4. Geopolitical Influences and Currency Trends
To understand the value of the Yen, carry trades, petrodollars, and BRICS currencies, one must appreciate the US’s role on the global stage. The US’s actions, for better or worse, significantly impact global markets. We may or may not like some of their decisions on the worlds stage, and even detest some of their political leaders, but it doesn’t matter. The only question to answer is whether or not the change occurring will change the way we should invest for a new world.
Investing on autopilot works mostly because our money’s broken – your hard-core passive index fund junkie doesn’t know this, and it may not matter. They’ll credit compound returns and assume the market’s free – it really doesn’t matter as long as the world doesn’t change.
What if the world does change though?
In this episode of the Everyday Investor, I catch up with currency expert Roger Kerr to discuss things like the ‘end of the petrodollar agreement’, the rise of the ‘BRICS’ coalition, carry trades, and more.
