FX & Y: The world's most crowded trade

This afternoon's first-quarter results from Nvidia are unlikely to cool the artificial intelligence frenzy. In nominal terms, net income almost certainly grew to a level no public company has ever surpassed. But the chipmaker's dazzling numbers—and the reaction felt across asset classes—will also illuminate a risk that ought to concern investors and businesses far beyond Silicon Valley: the sheer concentration of global wealth in American technology stocks, and the exposure of the rest of the world to any stumble.

Start with scale. American equities are now worth—on paper, at least—$76trn, an amount approaching 70% of world output*. A decade ago the figure was barely a third. Nvidia alone is worth more than most countries' entire stock markets. Add Apple, Microsoft, Alphabet and the rest of the "Magnificent Seven" and a handful of firms account for a staggering share of global investable wealth.

That matters because the rest of the world is deeply entangled. Foreign investors now own roughly 18% of American equities and 29% of corporate bonds. The bulk of these holdings are not passively controlled by central banks or sovereign wealth funds; most belong to private pension funds, insurers, and asset managers chasing returns unavailable at home.

Add it all up, and total foreign holdings of American financial assets now approach 40% of rest-of-world gross domestic product—a figure that has roughly quadrupled in two decades. This is, in effect, an enormous leveraged bet on the continued supremacy of a small cluster of American firms—and on the currency in which their shares are denominated**.

The danger is reflexive. A sharp correction in tech sector valuations—triggered, say, by the emergence of a competitor technology, a geopolitical shock, or a simple loss of momentum—could inflict losses on foreign portfolios far larger, relative to their home economies, than anything seen before. A wave of forced selling could weaken the dollar, with asymmetric capital repatriation*** amplifying the rout in a reversal of the dynamic that has prevailed in past crises. The very concentration that made the trade so profitable on the way up could make it spectacularly treacherous—especially in currency markets—on the way down.

America's technology sector—and Nvidia in particular—has generated an extraordinary amount of wealth, and may continue to do so for some time yet. But when the world's savings are crowded into one corner of one country's stock market, the question is no longer whether returns are good—it is what happens when they are not.

- Karl Schamotta, Chief Market Strategist, Karl.Schamotta@Corpay.com

*Note that economic purists often object to any comparison between a stock (market valuation) and a flow (gross domestic product), but the ratio's virtue here is that it captures the absurd scale of paper wealth relative to the real economy that must ultimately justify it.

**Gita Gopinath, former chief economist and deputy managing director of the IMF, delivered an excellent speech on these imbalances last night. It's worth a listen.

***Asymmetric because US holdings of rest-of-world assets, particularly equities, are far smaller than the obverse.