Data Update 3 for 2026: The Trust Deficit - From Bonds to Gold to Bitcoin!

Key Concepts: Loss of Trust, US Tariffs (2025), US Credit Rating Downgrade (Moody's, 2025), US Government Shutdown (2025), Federal Reserve Independence, US Treasuries, Yield Curve, Sovereign CDS Spreads, Expected Inflation, Intrinsic Risk-Free Rate, Corporate Bonds, Currency Market, Gold and Silver Prices, Bitcoin, Market Segmentation.

The Trust Deficit and its Divergent Market Impacts in 2025

The year 2025 was marked by a significant "trust deficit" stemming from four major news stories, yet their impact on global financial markets was surprisingly varied. The speaker argues that while these events challenged trust in institutions, different asset classes and investor subsets reacted in distinct ways, highlighting a lack of market consensus.

Four Trust-Testing News Stories of 2025

The speaker identifies four key events that dominated headlines in 2025, all contributing to a perceived loss of trust in institutions:

1. Unprecedented US Tariffs: Announced in late March/early April, the US imposed "unprecedented levels" of tariffs on the rest of the world, shocking markets with their scale and widespread application.
2. US Credit Rating Downgrade: On April 16, 2025, Moody's lowered the US credit rating from AAA to Aa1. This was particularly significant as Moody's was the last of the three major ratings agencies to still assign a AAA rating to the US, following S&P (2011) and Fitch (2023).
3. Longest US Government Shutdown: From October 1 to November 12, 2025, the US government experienced its longest shutdown in history, lasting several weeks due to congressional inaction on the debt limit.
4. Challenges to Federal Reserve Independence: Throughout the year, news stories and social media discussions questioned the independence of the Federal Reserve, including debates over its leadership and board composition.

The speaker posits that these events collectively "cut at the heart of trust" in governments and central banks. However, he argues that this erosion of trust is not a sudden phenomenon of 2025 but rather a trend that has been developing for a couple of decades, with the 2008 financial crisis being a pivotal moment. He challenges the notion of a historically tariff-free environment and points out that the Fed's independence has always been more based on norms than legal structures, often bending to political pressures, though this was more openly discussed in 2025.

US Treasury Market: Resilience Amidst Turmoil

Despite the trust-eroding events, the US Treasury market showed remarkable stability in 2025:

• Interest Rates: US Treasury rates across all maturities (3 months to 30 years) showed "not much of an effect." While a blip occurred in April, it was attributed more to tariffs than the downgrade. Long-term rates (20-30 years) remained flat, the 10-year rate dropped by approximately 39 basis points, and short-term rates (3-month, 2-year, 5-year) saw larger drops.
• Yield Curve: The yield curve became "more upward sloping" over the year. The difference between the 30-year and 10-year rates almost doubled, and the 10-year minus 2-year spread increased. However, the 2-year minus 3-month spread moved in the opposite direction, with the 2-year rate falling relative to the 3-month rate. The speaker notes that while the mythology of a flat/downward sloping yield curve predicting recession is not a powerful indicator, an upward sloping curve is generally associated with stronger economic growth.

The speaker delves into why Treasury rates did not move more significantly:

• Sovereign Default Risk: Measured by 5-year and 10-year sovereign Credit Default Swap (CDS) spreads, the market's perception of US default risk actually decreased or remained stable. The 5-year CDS spread started at 30 basis points and ended at 27 basis points, while the 10-year CDS spread remained at 35 basis points. This suggests markets had already "built in" political dysfunction, and the Moody's downgrade was not a surprise.
• Inflation Expectations: Contrary to economists' predictions of inflation "blowing out of the box" due to tariffs, the market's measure of expected inflation (the difference between 10-year Treasury and 10-year TIPS rates) remained stable around 2.34% throughout 2025.
• Fed Independence and Interest Rates: The speaker argues that the Fed's role in setting long-term interest rates is "vastly overrated." Long-term rates are primarily driven by expected inflation and expected real interest rates (proxied by real GDP growth), which together form an "intrinsic risk-free rate." While Treasury rates have historically converged with this intrinsic rate, the speaker suggests that trust in the Fed to manage inflation is crucial. A loss of Fed independence could break this link, making it harder to control rates.

Corporate Bonds: Riskier Segments Affected

The corporate bond market largely mirrored the Treasury market's resilience, with one key exception:

• Default Spreads: For highly-rated corporate bonds, default spreads showed "no impact or a very slight impact." However, for lower-rated bonds, particularly those "below investment grade" (C and below), default spreads widened, indicating that these bonds were perceived as riskier by investors.

Currency Market: The Dollar Weakens

The currency market showed a clearer reaction to the trust deficit:

• US Dollar Performance: The dollar had a "bad year," weakening against other currencies. It was down 7.2% against a broad trade-weighted index, 8% against developed market currencies (like the Euro and Yen), and 6% against emerging market currencies. The speaker attributes this weakening to the role trust plays in currencies.

Gold and Silver: A Flight to Safety

Gold and silver experienced an exceptional year, reflecting a strong flight to safety:

• Price Surge: Gold was up almost 65% in 2025, breaking through $4,300 by year-end and exceeding $5,000 in early 2026. Silver performed even better, surging 148%.
• Overpricing Indicators: Traditional indicators of overpricing were "blown through." The gold-to-CPI ratio, historically reverting to a median of 2.93, stood at 18.76 at the start of 2026, indicating a significant deviation from historical norms. The gold-to-silver ratio, which was 90 times at the end of 2024 (historically around 57 times), normalized to 56.9 times by the end of 2025 due to silver's massive rally. This suggests a subset of investors behaved "as the world is going to come to an end."

Bitcoin: An Outlier Behaving Like Stocks

Bitcoin's performance in 2025 was "very mixed," challenging its status as a collectible or alternative currency:

• Volatile Performance: Bitcoin started the year poorly, soared mid-year (briefly hitting $120,000 in July 2025), but then lost most of its gains, ending the year down 6.4% in USD terms and 17.4% in Euro terms.
• Correlation Analysis: A correlation analysis of weekly returns in 2025 showed Bitcoin behaving "more like stocks (large or small stocks) than it is like collectibles." It exhibited an inverse relationship with silver and little to no relationship with gold. This suggests Bitcoin prices are currently driven by "risk seekers" rather than "risk avoiders" who typically gravitate towards collectibles.

Synthesis and Conclusion: Market Segmentation

The speaker concludes that the "trust deficit" of 2025 had a highly segmented impact across markets:

• Bond markets largely "blew through" the trust issue, delivering a solid year with minimal impact on Treasuries and only affecting the riskiest corporate bonds.
• A subset of investors in the currency market cared enough to weaken the dollar by 6-8%.
• An even smaller subset of investors in the gold and silver market reacted with extreme caution, pushing prices to unprecedented levels, indicative of a "catastrophe" mindset.
• Bitcoin remains an "outlier," behaving more like an equity and driven by "risk seekers," making its long-term status as a collectible or alternative currency uncertain.

This divergence highlights that markets are not monolithic; different subsets of investors hold varying beliefs and react to the same news with distinct investment strategies, leading to varied outcomes across asset classes.