What Could Go Wrong?

By John Mauldin 


I have written several letters on the theme that the best investment posture is cautious optimism. 

Pessimism and bearishness never get you in the game, while untamed optimism means that at some point, you’ll have a serious setback. 

The cautiously optimistic investor asks both, “What could go wrong?” and “What could go right?”

Dave Portnoy notwithstanding, stock prices don’t always go up. 

Investors got a little reminder last week when financial media suddenly had some drama to report. 

Then it subsided, and the market went right back up.

The latest volatility may or may not turn into something more extended. 

Some of the most respected market analysts are turning bearish. 

Still, others expect the bull market to continue. 

Timing is hard. 

Yet nothing has happened to make bear markets impossible. 

Stocks are overextended by many different measurements, so at some point, the bears will take control. 

More than a few investors aren’t ready for that possibility.

Today, I want to show you how richly valued the market is and then review some of the top risks that could force it downward. 

Like those sandpiles I talk about, we don’t know exactly what will trigger a collapse. 

We know something will do it. 

Sandpiles don’t grow to infinity.

But then we’re going to ask what could go right? 

Sandpiles don’t grow to infinity, but they can grow a lot higher for longer than many expect.

Different scenarios suggest different strategic responses. 

It pays to think about what could happen. 

It will let you plan ahead and maybe make some decisions in advance.

Starting Price Matters

Making money in stocks is really quite simple. 

You buy a stock and then sell it at a higher price. 

That means two things need to happen.

  • The stock price rises above your purchase price.
  • You sell while it is up there.

This is why your starting (buy) price matters. 

The higher it is, the fewer chances you have to sell at a profit. 

Buying a stock whose price is already extreme puts the odds against you. 

That’s what people have been doing, and, to be fair, it’s worked well for many. 

But the jury is still out on that because most of those folks haven’t yet sold.

The so-called “Buffett Indicator” is one of the best high-level valuation measures. 

This is simply a ratio of stock market capitalization to GDP.

It makes sense because, over long periods, stocks should track economic growth. 

Here is a graph by my friend Michael Lebowitz.


Source: RealInvestmentAdvice


This ratio recently surpassed its tech bubble peak around 20 years ago. 

This means stocks are more expensive relative to GDP than ever seen in the modern era. Could they get still more expensive? 

Sure. Some stocks could (and almost certainly will) buck the trend. 

But this shouldn’t reassure anyone who is putting new money into the market or who holds unrealized gains.

Michael has another interesting chart on price/earnings ratios. 

He calculated a running sigma, which is the number of standard deviations the current month’s P/E is above/below its ten-year average.


Source: RealInvestmentAdvice

I’ll quote his explanation.

The current reading, of roughly three sigmas, matches or exceeds seven other peaks in the last 100 years. 2009 is the exception. However, that significant overvaluation is a function of earnings collapsing, not excessive prices. In all the cases, the ratio fell to at least zero.

The current sigma is at prior peaks, so any upside appears limited.

If the market reverts to a zero sigma, we should expect 36% losses. 

Again, a decline to negative readings will compound the losses.

For P/E to simply return to what was “normal” over the last ten years will take a 36% loss. 

But past bear markets didn’t stop there. 

Long periods of overvaluation get balanced by subsequent undervaluation. 

So, it’s entirely reasonable to think the next bear market, whenever it comes, will chop prices in half. 

That’s not crazy. 

It is what we should expect.

B-List Triggers

Again, let me stress that the timing is hard. 

We never know exactly when the sandpile will collapse. 

We just know it will. 

The chart above shows the Buffett Indicator has been at worrisome levels for several years. 

This could continue. 

But the longer it does, the bigger the sandpile gets, and the bigger the eventual collapse will be.

The ultimate trigger may be something none of us have yet considered—an unforeseeable bolt from the blue—but many plausible triggers are perfectly visible. 

Some are more plausible than others. I’m going to name several, starting with the “B-list” and then moving to the one I think most likely, and most dangerous, too.

China Crisis

I used to call Japan “a bug in search of a windshield.” 

Lately, I wonder if it could be China, instead. 

Or perhaps China is actually the windshield. 

In any case, China’s sheer size means its problems affect everyone.

The latest China problem is debt-laden property developer Evergrande, which has missed some payments and, as of today, is in default. 

There is never just one cockroach. 

While we don’t know the extent, I will bet you a dollar to 47 doughnuts China has dozens of other “Evergrande lite” problems. 

It’s unclear if the government can help much or even wants to. 

Xi Jinping is responding to popular unrest with a new “Common Prosperity” theme that looks less business-friendly. 

Some Chinese commentators I respect seem to believe that the government will take what money the developers still have and use it to finish projects so consumers aren’t hurt.

I would not want to be a bank or funds holding dollar-denominated Chinese debt. 

They can form all the debt-holder committees they want, but if the CCP is on the other side of the table, you won’t have much leverage. 

There is no rule of law. 

There is the CCP and Xi Jinping.

However, the dollar-denominated debt, while seemingly huge, is a drop in the bucket. 

The rest will be absorbed internally within China, and that is their problem. 

More likely is a slow-burn crisis.

But the world does have one problem. 

China is currently the world’s fastest-growing major economy and a critical supplier to most others. 

If Evergrande depresses construction and business activity while raising the cost of capital, growth in China could slip to a very low level. 

The real estate and commodities world has grown accustomed to China growing at a compound 6–8%. 

Any lasting drop would affect businesses worldwide and slow global growth down. 

This could certainly combine with other forces to generate crisis conditions.

US Political Gridlock

As I write this, the US government is days away from a government shutdown, should the Senate not pass a stopgap spending bill by September 30. 

Democratic leaders have combined that bill with a debt ceiling suspension the Republicans find unpalatable. 

It’s not clear if Democrats have the votes on their own side, and some GOP senators could choose to filibuster. 

So we don’t know what will happen, but it’s another potential fiasco.

In any case, the US Treasury will hit its legal debt ceiling in the next few weeks unless Congress passes some kind of extension, with potentially serious market effects. 

As Jim Bianco recently explained on Twitter, the SEC ruled in 2013 that any government security that doesn’t pay on maturity date is in technical default and must be valued at $0. 

This means money market funds holding T-bills would have to mark down their portfolios if a debt ceiling fight interrupts interest payments. 

They would “break the buck,” in other words. 

This risk has created a kink in the yield curve.


Source: Jim Bianco

However, Jim notes this kink is much smaller than a similar one in the 2013 debt ceiling fight, so traders seem to think the risk is low. 

We should all hope they are right. 

And I should point out, after over 40 years of watching this charade, somehow we always seem to increase the debt ceiling. 

Count me in the group that thinks that risk is low.

US Tax Changes

Congress is also trying to pass a pair of infrastructure bills, one of which has bipartisan support but could fail anyway. 

They have become bargaining chips in other disputes, both between the two parties and within them. 

Senator Kirsten Sinema has made it clear she will not vote for any reconciliation bill if the infrastructure bill does not pass. 

Some House Democrats have made the same declaration.

These aren’t just spending bills, though. 

They are also tax bills—potentially problematic ones. 

The House Democratic version includes a provision that would prevent investors from holding non-publicly traded assets like hedge funds and real estate in IRAs. 

Those who currently have such would get two years to move the assets out of IRA form, at which point, any gains would become taxable.

Where would people get the cash to pay those taxes? 

Many would have to sell other assets, like stocks. 

That wouldn’t be good for stock prices. 

Fortunately, my sources say even many Democrats are against this particular idea, so it (hopefully!) won’t happen.

Other tax changes are quite possible, and even likely, as the negotiations seek “pay-fors” to cover their desired spending. 

The risk of unintended side effects is high, particularly when the people writing legislation don’t understand how markets work or are being advised by special-interest lobbyists.

The moderate Democrats negotiating with Biden have stated both to him and publicly that they want to know what tax increases Biden needs/wants before they agree to the size of any bill. 

Reading the tea leaves suggests that corporate taxes and capital gains taxes will rise 4%+, and that income taxes at the highest levels will go back to 39.6%+, Medicare, etc. 

These would be a drag on the economy, but less so than the original, much-higher proposals—which, (hopefully) are now off the table.

COVID Recession

The pandemic continues to affect economic activity almost everywhere, though the particulars vary. 

We hear a lot about supply-chain problems. 

Some of it begins in the exporting countries when virus outbreaks shut down ports and factories. 

This could continue since vaccinations are proceeding slowly in many of those places—the effects cascade through the economy.

Here in the US, COVID seems to have taken several million people out of the labor force. 

Some are choosing to retire early, and others are homeschooling their children, changing careers, dealing with “long COVID” disability, etc. 

There seem to be several million workers who are reluctant to come back to the workforce when COVID is still a significant factor. 

All of this combines to explain why we have 10 million job openings, increasingly high wages to attract workers,  yet few workers are responding. 

This comes on top of demographic trends that were already reducing the working-age population.

It’s a problem because we need a sufficient number of productive workers to generate GDP growth. 

I’ve said I expect 1% average growth over the rest of the decade. 

Note the “average” part. It could and probably will include recessions with below-zero growth. 

Recession is rarely good for corporate earnings, which is what underpins the present bull market.

Policy Risk

Now, to the main risk. 

As of a few months ago, quite a few economists expected the September Fed policy meeting would mark the initial tapering of its pandemic stimulus programs. That meeting occurred this week. 

They still aren’t tapering.

They did throw us a little bone, though. 

The Federal Open Market Committee (FOMC) statement noted “a moderation in the pace of asset purchases may soon be warranted” if everything goes well… blah, blah, blah. 

It included all their typical hedge clauses and escape hatches. 

They promised nothing and may well do nothing at the next meeting, either.

We’ll never know, but I suspect the weak August jobs numbers probably spooked some FOMC members. 

They have lashed themselves to the “full employment” mast. 

If that’s not happening, tapering now would generate major credibility questions.

The next FOMC statement will be on November 3. 

By then, they will have seen the September jobs report and maybe had a peek at October’s (the Fed, like the White House, gets an advance copy of the Friday BLS public releases). 

If it shows them some plausible path to maximum employment, then maybe they’ll take a first step. I don’t expect it, though. 

By then, we may also know whether Powell will be reappointed, as seems likely. 

At that point, Powell may well be willing to begin a taper that might be faster than normal.

Sadly though, I think the Fed has already waited too long. 

The FOMC members are hoping for some kind of magical return to normal. 

If inflation pressure keeps growing, it will eventually force their hand. 

Real rates will become even more negative, and the Fed will have no choice but to begin applying the brakes, possibly harder and faster than the market currently anticipates.

That won’t be pretty, but it’s a real possibility. 

I consider it the Number 1 risk to both the economy and the stock market. 

They needed to start tapering last year as soon as it was clear the financial system would hold together. 

Now they’re boxed in… and we’re all in the box with them.

What Could Go Right?

Sentiment drives markets, at least in the short term, which presents us with a conundrum. 

Markets are near their all-time highs, yet sentiment is weakening. 

Let’s quote from my friend Philippa Dunne of TLR Analytics.

This morning, Langer Research Associates reported that those who believe the economy is improving fell 11 percentage points, to 27%, between mid-August and mid-September, the sharpest dive in 13 years. 

Those who believe the economy is getting worse rose by 7pps to 40%. 

Since 1985, the spread between brightening and darkening outlooks has averaged -17 points, so the sudden September decline is the bigger concern. 

Outlooks among households making less than $50,000 fell by 16 points, among higher earners by 5 points, among Democrats by 21 points, and among Republicans by 13 points.

LRA highlights that their current-sentiment gauges have also fallen over the last three weeks from what they are calling their pandemic peak, and unevenly. 

Rating the national economy, the largest losses were among Republicans, 9.7pps, households making less than $50,000, 9.2pps, with losses of 8.7pps among Southerners, and 6.3pps among women. 

Personal finances and buying climate are both off by about 2pps.

In his morning missive, David Kotok flagged the Conference Board’s 18-point jump from 24% in June to 42% August, in those ranking risk of contracting Covid personally among their greatest concerns about returning to work, with women and millennials more concerned about catching Covid themselves and about spreading it to their families, another rising share.

Our friend Danielle DiMartino Booth of Quill Intelligence put that data into charts:


Source: The Daily Feather

That data and charts reflect the view outlined above of what could go wrong. 

But what could go right? 

What could change that sentiment?

Last week my doctor, Mike Roizen, told me COVID models, developed by scientists who advise CDC, that  are finally beginning to improve. 

One scenario suggests infections will fall 80% or even more by March.

Getting past this pandemic could create a huge turnaround in the country’s mood. 

Workers would feel far more comfortable coming back to work, you could find millions of people—especially in the lower-income ranges—finding jobs, the unemployment number would drop significantly—much closer to 4%—the economy would improve, and sentiment would potentially come roaring back.

The Fed would have room to finish the taper faster and actually begin raising rates to something that looks like “normal.” 

In another six months, more supply chain problems will be solved (with the exception of computer chips), and the economy will resume functioning normally. 

Business travel will begin to pick up, though maybe never to the prior level since we now know how to have events online. 

Those of us who speak for a living may actually find ourselves in front of crowds again.

Homebuilders could finally catch up with the demand from first-time homebuyers. 

Businesses would see new opportunities and make capital investments again. 

You know, like normal.

Maybe we even get an honest-to-God 10%+ correction in the markets, creating a buying opportunity as that sentiment begins to build. 

The Cowboys might even win the Super Bowl. 

(Okay, maybe not that last one, but we can dream.)

Optimistic? 

Yes, but appropriately and cautiously optimistic. 

We keep our eyes on the COVID statistics. 

We pay attention to the supply chains. 

We watch the sausage factory in Washington DC hopefully not do too much damage to the tax structures and create too many job-killing regulations.

But a rally from here because of the relief of COVID being behind us is not out of the question. 

I can think of other things that can go right. 

New technologies will be amazingly powerful drivers of not just wealth but jobs and opportunities. 

New medicines and drugs. 

New ways to do things cheaper.

The contrast between what could go right and what could go wrong has hardly ever been starker. 

I still think we are in a market where I would rather diversify among trading strategies rather than buy-and-hold index funds, which reflects my cautious optimism. 

I am in the markets, but there is a hedge. 

And, of course, I still look for those truly transformational technological innovations. 

It is actually a wonderful time to be alive.

A Suggestion

As you may know, I distill information for a living. 

And while I have access to almost any research I want, there are a handful of writers on my “must-read” list. 

Jared Dillian is one of them.

I find that Jared challenges my viewpoints—which is a positive thing in the world of investing. 

His is a voice I want to keep in my ear.

More than anything, Jared understands investor sentiment and market psychology. 

That is why I—and countless other professionals—listen to his views and watch, with keen interest, how he chooses to invest.

This week, at my request, Jared is opening his private, daily letter to Mauldin Economics readers.

If you are looking for a fresh, contrarian voice, you may be interested in learning more about his letter, The Daily Dirtnap, and what it could do for you.

When you follow this link, you will gain a good introduction not only to The Daily Dirtnap but to Jared Dillian himself. 

He had quite the career on Wall Street and has riveting (and entertaining) stories to tell about his time there. 

The five minutes spent reading his letter to you may be some of the most diverting and valuable of your Saturday.

New York, Dallas, and Boosters

Theoretically, I qualify for my booster shot next week. I’m beginning to make plans to come to New York in October and definitely Dallas for Thanksgiving. 

I might extend my stay in New York and take a day trip to Philadelphia. 

We will likely have new client meetings and/or presentations in at least both cities and maybe a few others.

It seems almost every week that one of my readers decides to take a trip to Puerto Rico and drops by Dorado to see me. 

There have been some great conversations of late. 

I always enjoy your feedback and appreciate you taking the time to read me. 

Follow me on Twitter and have a great week!

Your cautiously optimistic and hoping for a large reduction in COVID cases analyst,



John Mauldin
Co-Founder, Mauldin Economics

Resurfacing

America is at last getting serious about countering China in Asia

But strengthening military alliances is not enough


Almost ten years ago President Barack Obama visited Australia’s parliament to announce a pivot to Asia. 

“The United States is a Pacific power and we are here to stay,” he declared. 

This week the White House will echo with similar sentiments, as the leaders of the Quad countries—America, Australia, India and Japan—gather in person for the first time. 

There will be talk of a “free and open Indo-Pacific”, code for facing down an assertive China. 

The rhetoric will be familiar, but the reaction may not be: this time both friend and foe may actually believe it.

The reason is aukus, an agreement announced last week for America and Britain to supply Australia with at least eight nuclear-powered submarines. 

The deal has caused waves because of its huge size and because it caused an unseemly row with France, which had a submarine contract of its own with Australia that has now been abandoned.

This belies aukus’s true significance, which is as a step towards a new balance of power in the Pacific. 

In a region where alliances have sometimes seemed fragile, especially during the presidency of Donald Trump, aukus marks a hardening of American attitudes. 

It is a decades-long commitment and a deep one: America and Britain are transferring some of their most sensitive technology. 

The three countries’ co-operation promises to embrace cyber capabilities, artificial intelligence, quantum computing and more besides.

For this the Biden administration deserves credit. 

And yet the deal still amounts to only half a strategy. 

America’s relations with China involve more than a military stand-off. 

In the search for coexistence, America also needs to combine collaboration over issues like climate change with rules-based economic competition. 

The missing parts involve all of South-East Asia, home to some of the countries most vulnerable to Chinese pressure. 

And here American policy is still struggling.

Lest that seem grudging, first consider aukus’s merits. 

After Mr Obama’s pivot, America’s friends in Asia suffered a decade of disappointment. 

China seized and fortified rocks and reefs in the South China Sea, despite competing claims from countries like the Philippines and Vietnam. 

Last year its soldiers brawled with India’s on the border. Its warplanes and battleships are constantly ratcheting up pressure on Taiwan, which it routinely hints it might invade. 

China has punished South Korea for perceived affronts with ruinous commercial boycotts. 

Many Asian countries were beginning to fear that America was too inconsistent and half-hearted to provide a counterweight.

aukus offers a rebuttal. 

One dimension is military. 

Amid the sea-lanes and islands that are flashpoints with China, nuclear submarines are more versatile than diesel-electric ones. 

They can gather intelligence, deploy special forces and lurk for months in deep water in the Pacific or the Indian Ocean, a threat that Chinese planners will have to factor in. 

In addition, aukus sets the stage for American forces to operate around Australia, which could serve as a haven from China’s increasingly threatening missiles. 

The fact that Australia ditched the French deal for the Anglo-American one is evidence of strategic seriousness.

aukus’s other dimension is diplomatic. 

In recent times Australia has borne the brunt of aggressive Chinese tactics, especially after it called for an investigation into the possibility that covid-19 escaped from a Chinese laboratory. 

As punishment for this and other grievances, China imposed an unofficial embargo on a series of Australian exports. 

China’s belligerence is typical of the “wolf warrior” diplomacy that has caused consternation across South-East Asia and beyond. 

By reinforcing Australia, aukus sends a signal to the region that America has no qualms about backing allies that are resisting Chinese bullying.

The question is how America should complement the hard power of aukus with the engagement needed to trade with China and to work with it. 

President Joe Biden signalled his aspirations this week in his speech to the un General Assembly in New York. 

Making clear that he did not want a cold war with China (although he did not refer to it by name), the president called for “relentless diplomacy” to solve the world’s problems.

On the face of it aukus threatens this aim. And yet in the long run China will join global efforts to fight global warming not as a sop to America, but because it judges them to be in its interest. 

Just this week China said it will stop financing coal-fired power plants abroad. 

That was an easy promise, because such financing had already dwindled—but it was one China could have withheld to signal its anger.

Harder will be to strike the balance over commercial competition. 

Mr Biden’s economic policy towards China sets out to increase national security by creating jobs at home, with a Maginot line of industrial aims, regulation and government intervention. 

His Build Back Better World, a mechanism for financing development, (which he did name-check at the un) is a pale imitation of China’s Belt and Road Initiative.

Meanwhile China, already the biggest trading partner of most countries in the region, is strengthening its ability to shape the world’s economic and commercial architecture. 

It is getting its people into important jobs in international institutions. 

It is exporting its domestic regulatory norms, as with, say, its claim to jurisdiction over international legal disputes. 

This week it applied to join the successor to the Trans-Pacific Partnership (tpp), a trade pact America championed to counter China and then withdrew from under Donald Trump.

South-East Asia looks to China for its prosperity, so for America to act as a counterbalance calls for deftness and imagination. 

One sign of how far America falls short is that even the most obvious path—joining the successor to the tpp—is seen in Washington as hopelessly ambitious. 

Almost as worrying, when America is attempting a ferociously complex balancing act, Mr Biden’s diplomacy with France over aukus and his European allies over the pull-out from Afghanistan has been inept.

Celebrate aukus therefore. 

By signalling to China that its assertiveness has consequences, the pact stands to make South-East Asia safer. 

But remember that a deal over nuclear-powered submarines is just a down-payment on a broader China strategy that from here on will become increasingly hard to pull off. 

Cryptocurrencies: developing countries provide fertile ground

Sometimes dismissed as a fad in advanced economies, crypto holds more appeal in countries with a history of financial instability

Jonathan Wheatley and Adrienne Klasa in London

© FT montage |


In Lagos, Nigeria’s commercial capital, a software coder bills her client in London and is paid in bitcoin, sidestepping a costly banking system and the naira currency’s miserly official exchange rate. 

In São Paulo, Brazil, a dentist puts his monthly savings into an exchange traded fund investing in a basket of cryptocurrencies that is the second most popular ETF on the local bourse. 

Individuals and businesses in Vietnam invest, trade and transact so much in bitcoin and other cryptocurrencies that the south-east Asian nation has the world’s highest rate of crypto adoption.

In advanced economies, cryptocurrencies are viewed by many in the financial world with suspicion — the domain of zealous “crypto bros” and a speculative and highly volatile fad that can only end badly. 

Regulators in Europe and the US have issued stark warnings about the dangers of trading crypto.

But in the developing world, there are signs that crypto is quietly building deeper roots. 

Especially in countries which have a history of financial instability or where the barriers to accessing traditional financial products such as bank accounts are high, cryptocurrency use is fast becoming a fact of daily life.


“While everyone was paying attention to [Tesla chief executive] Elon Musk’s tweets, and which institutional investor or CEO was saying what they thought about bitcoin, there was this entire story unravelling in emerging markets around the world that’s really powerful,” says Kim Grauer, director of research at Chainalysis, a leading data company in the sector.

“There’s a massive crypto footprint in many of these countries . . . [and] a massive amount of entrepreneurial opportunity.”

Chainalysis ranks Vietnam first for crypto adoption worldwide — one of 19 emerging and frontier markets in its top 20, with only the US among advanced economies making an appearance at number eight in 2021. 

“It’s very striking this year, [adoption] is a story of emerging and frontier markets,” adds Grauer.

Separate data from UsefulTulips.org, tracking bitcoin transactions on the world’s two biggest peer-to-peer crypto trading platforms, show that in the past few weeks, sub-Saharan Africa has overtaken North America to become the geographical region with the highest volume of this kind of crypto activity.

A customer buys bitcoins at a teller machine in Lagos. Some observers, including the Central Bank of Nigeria, are concerned that inexperienced investors could lose their meagre savings gambling on a highly speculative asset © Seun Sanni/Reuters


On Tuesday, the small central American nation of El Salvador — population 6.4m — will become the first in the world to make bitcoin legal tender, meaning merchants from car dealers to coffee shops will be obliged to accept it as payment. 

The project faces the scepticism of the IMF, among others. 

But some view it as groundbreaking.

“We should take it very seriously,” says Paul Domjan, co-author of the 2021 book Chain Reaction: How Blockchain Will Transform the Developing World

“It changes the position of bitcoin in the [global financial] system and it accelerates the whole debate about digital currencies.”

An alternative to weak currencies

Emerging markets are fertile ground for cryptocurrencies, often because their own are failing to do their job. 

As a store of value, as a means of exchange and as a unit of account, national currencies in some developing countries too often fall short. 

Unpredictable inflation and fast-moving exchange rates, clunky and expensive banking systems, financial restrictions and regulatory uncertainty, especially the existence or threat of capital controls, all undermine their appeal.


Nigeria, Africa’s most populous country, is a case in point. 

Its impatient, youthful population has to contend daily with high unemployment, the vagaries of black market currency exchanges and capital controls. 

As the price of oil, the country’s main export, dropped during the pandemic and further squeezed dollar supply, many businesses were unable to pay foreign suppliers and lenders, almost leading to the default of a World Bank-backed power plant that provides a tenth of Nigeria’s electricity. 

For individuals sending or receiving remittances or billing customers, the lack of dollars is a constant headache.

“When you touch boots to the ground in Africa, specifically Nigeria, and talk to people about their everyday challenges with money, you see that it is almost unfathomable to us in the west to imagine,” says Ray Youssef, chief executive of Paxful, a peer-to-peer crypto exchange that allows users to trade directly with one another. In these transactions, bitcoin are held in escrow accounts by the platform until the payment clears — whether by bank transfer, mobile money or gift card.

A third of the company’s users are in Africa, and Nigeria is its biggest market, the company says, with 1.5m users — an 83 per cent increase in the year to June. 

Peer-to-peer rival LocalBitcoins also has most of its customers in developing markets in Latin America and Africa, as well as Russia.


Transactions vary in size, from retail investors buying small amounts of crypto for under $100, to merchants settling invoices, to financial services businesses that have been built on these platforms and employ rosters of people. 

“There’s a lot of commerce happening between China and Nigeria, importing of goods using cryptocurrency, because the foreign exchange policy has locked out the everyday entrepreneur who doesn’t have a massive amount of money to get into international trade,” says Grauer.

In countries such as Venezuela and Brazil, the cost and bureaucracy of legacy financial systems means many people are more comfortable experimenting with and switching between different cryptocurrencies.

“We thought that people would adopt one cryptocurrency and that would be their primary one, and what we have found instead is they use different ones for different purposes,” says Ryan Taylor, CEO of Dash Core Group, a cryptocurrency network that first entered Venezuela in 2016. 

Coins such as Dash get used more for smaller purchases, bitcoin for larger ones because of higher fees, and litecoin for things like paying satellite bills, he says.

The big exchanges such as Binance and Coinbase still dominate crypto services throughout the developing world. 

In Latin America, central and south Asia and Africa, more than 80 per cent of cryptocurrencies by value sent to these regions moves through exchanges. 

Binance sent over $14bn worth of crypto to eastern Europe in the year to June 2020, accounting for 20 per cent of all funds sent through the exchange globally. 

It was also the exchange of choice in Latin America, sending more than $3bn in crypto to the region over the same period.

An employee works a bitcoin mining centre in Venezuela, where coins such as Dash get used more for smaller purchases, bitcoin for larger ones because of higher fees, and litecoin for things like paying satellite bills © Federico Parra/AFP via Getty Images


It also offers an alternative to traditional remittances, a crucial lifeline for many developing economies. 

Transferring money back and forth across borders through traditional channels such as Western Union can be prohibitively expensive.

“If you want to send money to the African country next door, it’s a veritable nightmare, and sending money outside of Africa — to America, Europe, China, whatever it may be — is almost impossible unless you are rich,” says Youssef.

According to the World Bank, the cost of sending $200 to countries in sub-Saharan Africa averaged 9 per cent of the transaction value in the first quarter of 2020, the highest of any world region, and can go into double digits in some places.

On peer-to-peer crypto networks, however, these fees are typically about 2-5 per cent, according to LocalBitcoins. 

Average transaction fees for bitcoin were below $3 in August 2021, according to data provider BitInfoCharts, while for ethereum they ranged between $8 and $44 over the same period.


But some observers believe there are considerable dangers in cryptocurrencies being used for remittances or other payments.

Paola Subacchi, professor of international economics at the University of London’s Queen Mary Global Policy Institute, says a better solution for migrant workers would be to reduce the cost of remittances. 

“This is a bad remedy for a problem that should be solved using technology we already have.”

She adds: “Cryptocurrencies and crypto companies present themselves as instruments for financial inclusion, but those excluded from traditional financial facilities are precisely those who can least afford to take any risks with their money.” 

More mainstream investment

As with peers in advanced economies, there is plenty of speculative fervour in parts of the developing world about bitcoin - especially in middle-income countries.

Yet crypto investment has already made greater inroads into the investment mainstream in some emerging markets than it has in advanced ones.

In the US and the UK, for example, regulators have yet to approve the creation of cryptocurrency ETFs, which allow investors to gain exposure to the potential gains and losses of bitcoin and others without directly owning any themselves. 

Brazil this year became one of only a handful of countries where cryptocurrency ETFs are available.

Hashdex Asset Management has launched three regulated crypto ETFs on the São Paulo stock exchange this year, which together have over 160,000 investors.

A barber shop displays a sign that it accepts bitcoins in San Salvador. On Tuesday, the small central American nation of El Salvador will become the first in the world to make bitcoin legal tender © Marvin Recinos/AFP via Getty Images


Its flagship fund, HASH11, tracks an index co-developed with Nasdaq based on a basket of crypto assets. Charging a 1.3 per cent management fee, it currently has net assets of R$2.17bn ($421m), and is the second-most owned ETF on the bourse.

Marcelo Sampaio, Hashdex chief executive, describes its customer base as “the mainstream financial market”.

“It’s the whole range from the largest institutional investors in the country to the smallest average Joe investors in the stock exchange,” he says.

Hashdex continued to attract new investors during downturns in the crypto market, such as recent dips provoked by Tesla’s decision to no longer accept bitcoin payments and China’s crackdown on crypto mining. “What that shows is that even with a severe correction in the market they were investing long-term,” Sampaio says.

Brazil is the leading country in Latin America for cryptocurrency users, with 10.4m people, according to analysis by TripleA, a Singapore-based provider of crypto payment solutions.

Crypto’s growing popularity in Brazil is demonstrated by local exchange Mercado Bitcoin, whose total transaction volumes were up sevenfold by the end of August compared with 2020. 

The company recently secured a $200m investment from the Japanese technology group SoftBank and its customers have doubled to 2.8m in the past year.

“In Brazil, almost all activity is related to investments and trading,” says Daniel Cunha, a Mercado Bitcoin executive. 

“[But] in Argentina, stable coins have a very important presence as a strategy to defend [against the changing] value of the currency. 

In Mexico, the use of crypto for remittances represents a very large part of the market.”

Leapfrog to blockchain

The speed with which many developing countries have taken to crypto is not the first example of such early-adopter behaviour.

Perhaps the best-known modern example is M-Pesa, a mobile payment system first developed in Kenya that allowed millions of people without bank accounts to make cash withdrawals and deposits, transfers and payments through their mobile phones, delivering financial inclusion through technological innovation.

To some enthusiasts of the new currencies, the spread of crypto is the first stage in the next great leap, as users get used to trusting the so-called distributed ledger technology (DLT) of which blockchain — the backbone of crypto — is one application.

A sign for the M-Pesa mobile payment system in Nairobi, Kenya, that allowed millions of people without bank accounts to make cash withdrawals and deposits, transfers and payments through their mobile phones © Patrick Meinhardt/Bloomberg


In Chain Reaction, Domjan and his co-authors note that institutions of trust, including the holders of public records such as land registries and licensing agencies, tend to be weaker in the developing world. 

And, they argue, where you see such weaknesses, it is easier for DLT or blockchain-based systems to be “good enough” to offer an attractive alternative.

“It seems rational to expect such innovation . . . to have the biggest impact in developing countries,” they write.

Domjan says such applications could unlock a host of “dead capital” to feed investment and growth.

Warnings of instability

While crypto acolytes are excited about El Salvador’s bitcoin currency experiment, most regulators have greeted it more frostily.

After El Salvador’s announcement, the IMF warned in late July of the dangers inherent in countries adopting cryptocurrencies as legal tender. 

The US-based multilateral lender said that widespread use of the volatile tokens could undermine “macroeconomic stability” and potentially expose financial systems to widespread illicit activity.

The UK’s Financial Conduct Authority has warned that “if consumers invest in these types of products, they should be prepared to lose all their money”. 

The Basel committee of global banking regulators said in June that “the growth of crypto assets and related services has the potential to raise financial stability concerns and increase risks faced by banks” — including fraud, hacking and terrorist financing.

Consumer protection, particularly from scams large and small, is a huge concern in crypto markets. 

Unfortunately, the most vulnerable in poorer countries often pay the price. 

“There’s a lot of hype around [crypto], so I think people may be more willing to invest where they’re more desperate,” says Grauer.

Many national regulators have found themselves ill-equipped to deal with digital asset companies that claim not to be domiciled anywhere.

People check stock prices in São Paulo, Brazil, where the cost and bureaucracy involved in using legacy financial systems means many people are more comfortable experimenting with cryptocurrencies © Amanda Perobelli/Reuters


In countries such as Zimbabwe, regulators have come down hard on crypto ventures, only to reverse their positions. 

Zimbabwe’s central bank has said it is drafting a policy framework for regulating cryptocurrencies, after banning local banks from transacting with them in 2018. 

In Nigeria, the central bank banned commercial banks from dealing with companies involved in cryptocurrency transactions — which quickly found a workaround using third-party accounts.

Some observers, including the Central Bank of Nigeria, have expressed concerns that inexperienced investors could lose their meagre savings gambling on a highly speculative asset. 

“Small retail and unsophisticated investors also face high probability of loss due to the high volatility of the investments in recent times,” the bank said, as it sought to clamp down on the trade

But while most crypto services say they are keen to comply with regulators, they believe excessive bureaucracy will drive people to seek out their services. 

“If a central bank decides to impose some direct form of restrictions on their people, you will see a flood of those people coming to [crypto platforms] looking for help,” says Youssef. 

“They all move with the flux of the geopolitical world, and we have to be ready for that.”

In El Salvador, the government has decided that rather than clamping down on crypto, it should embrace it. 

For Domjan, whether the project succeeds or fails, it has changed the game.

“El Salvador is a genuine country,” he says. 

“It’s not under sanctions, it’s a member of the IMF, it is inserted in the international financial system. 

The point is, it confers an element of legitimacy. 

We will learn lessons about how a country could implement an internationally tradable digital currency as a means of settlement.”


Additional reporting by Neil Munshi in Lagos and Michael Pooler in São Paulo 

China Faces a Reckoning With Evergrande Crisis. What Could Come Next.

By Reshma Kapadia

China President Xi Jinping has made sweeping moves to rein in some of the country’s biggest companies. / Illustration by Robert Connolly; Xinhua News Agency / Getty Images


The debt troubles of property developer China Evergrande Group couldn’t come at a worse time for China’s already slowing economy. 

Global markets, too, may feel the ripples in the near term from a China-centric crisis. 

But there could be a silver lining: If Evergrande’s travails get too painful, Chinese authorities could offer investors a reprieve with targeted stimulus and possibly an easing of some recent investment restrictions.

China has been trying for years to grapple with the aggressive, debt-laden expansion of its property market, which has both bolstered the country’s economic growth and fostered problems. 

President Xi Jinping’s latest spate of regulations aimed at tackling inequality and curbing speculation has cracked down on debt. 

That has led to a reckoning for Evergrande (ticker: 3333.Hong Kong), which until recently was the largest developer in the world. 

Its $300 billion in debt has made it a poster child for the leverage problems that have worried China bears.

Beijing’s control of its economy, its ample reserves, and its unique toolbox limit the possibility of a 2008 Lehman Brothers-like contagion. 

Most analysts expect China to let Evergrande fail in a managed way, with authorities likely protecting the Chinese households who pre-bought Evergrande properties by making sure that housing is built, and shielding some onshore borrowers while allowing others to feel enough pain to help finally reform the property sector.

Indeed, The Wall Street Journal reported on Thursday that global investors holding Evergrande dollar debt, with a face value of more than $2 billion, didn’t receive interest payments that were due that day.

Beijing is preparing local governments for a “possible storm” from Evergrande’s demise and telling them to find ways to minimize the hit, such as limiting job losses, the Journal also reported this past week.

While Federal Reserve Chairman Jerome Powell on Wednesday said there’s little direct U.S. exposure to Evergrande debt, he noted the possibility that the fallout could impact global credit conditions by affecting confidence. 

A broad-based regulatory drive that has targeted China’s biggest companies and shifted the focus to social good over profitability has already rattled investors worried about the state taking a heavier hand in its version of capitalism. 

Those fears have contributed to the 19% decline in the iShares MSCI China exchange-traded fund (MCHI) in the past six months.


The losses that foreign holders of roughly $20 billion in Evergrande obligations could incur might add to concerns that China has become uninvestable, says Gavekal Research analyst Udith Sikand. 

That could trigger outflows from that nation and emerging markets more broadly—an exodus that would be especially dangerous for countries more reliant on foreign investors than China. 

In turn, that might lead to losses in emerging- market debt, which many investors have sought for yield. 

The iShares J.P. Morgan EM Corporate Bond ETF (CEMB) is down a half-percent this month, to $52.15.

Of more concern is the impact that Evergrande’s failure might have on China’s slowing economy. 

The property sector accounts for more than a quarter of economic activity and is a major source of wealth for Chinese households. 

A decline in property prices would hurt consumer confidence and exacerbate China’s slowdown—a major risk that analysts are watching out for.

“The problem is not just a single lender; it’s the whole Chinese growth model that is so dependent on producing real estate,” says Harvard University economist Kenneth Rogoff. 

“It’s not a Lehman moment in that they get a financial crisis, but it could be just as painful if you look at the longer-term growth.”


A deeper slowdown in the world’s second-largest economy would create its own tremors, hitting commodities as China’s construction activity contracts. 

It could also hurt industrials and even consumer companies that rely on Chinese customers, who could become too skittish to spend.

With the S&P 500 sitting on a 18% gain this year and investors antsy about anything that could spoil the run, China could be a spark for volatility, warns Jean Boivin, head of the BlackRock Investment Institute.

Clarity from Beijing’s authorities on how they will manage the fallout will be crucial in influencing how markets react, says Teresa Kong, head of fixed income for Matthews Asia. 

If issuance in China’s investment-grade bond market freezes up or credit spreads widen dramatically, it would signal that the situation is spinning out of control.

But Xi’s focus on avoiding social unrest and maintaining stability ahead of next year’s Communist Party Congress—when he is expected to push for a third term as president—adds to the urgency for authorities to contain the economic fallout.

China has already started some measured and targeted monetary and fiscal easing—the People’s Bank of China injected $17 billion into the banking system after earlier putting in $13 billion. 

Based on just how painful the unwinding could be, money managers say that the authorities could even ease their recent regulatory drive.

Boivin, who has been neutral on Chinese stocks amid the crackdown, says that such a pivot could invite investors with at least a six-to-12-month view to take a closer look at whether the shares offer a buying opportunity.

The next couple of weeks, however, could be dicey, as investors assess how Beijing navigates the problems in a crucial sector of its economy at an inopportune time.