Blood in the Streets

1. The Rothschild Principle: Invest in Crisis

“The best time to buy is when blood is running in the streets.”

Contrarian wisdom. This principle, famously attributed to Nathan Rothschild, highlights that the greatest profits are made by buying when pessimism drives prices to their lowest. In 1815, Rothschild bought British stocks when others panicked over Napoleon's perceived victory at Waterloo, only to sell at a massive profit when Wellington's actual triumph became known. He understood that market sentiment often lags behind underlying reality.

Hidden meaning. Rothschild's success stemmed from his ability to discern the "hidden meaning of political events and how markets respond to crisis," betting against conventional wisdom. This approach, termed the "Rothschild principle," suggests that understanding deep, often overlooked, forces can yield extraordinary returns, even in turbulent times. It's about seeing opportunities where others see only danger.

Profiting from panic. The book argues that "blood in the streets" is not just an investment principle but a prediction for the future, implying significant financial upheaval. While many will suffer staggering losses due to being ill-advised and unprepared, those who follow this principle and take the right investment steps at the right time can earn handsome profits.

2. Megapolitics: The Unseen Hand of Power

“Megapolitics” literally means “politics in the largest sense.’’ It is the study of raw power.

Beyond surface events. Megapolitics delves into the fundamental factors governing power, far removed from personalities or ideologies. It analyzes how variables like shifting technology alter the costs of projecting and resisting power, profoundly influencing governments, economies, and global stability. These forces are often beyond conscious control and shape the world in ways few recognize.

Technology's driving force. The largest megapolitical variable is technology, which determines the reach and scope of human behavior, including warfare. New weapons can give one group an overpowering advantage, making it cheap to deploy force and costly to resist, or vice versa. This dynamic reshapes political boundaries, trade terms, and economic growth, often with long conceptual lags before its full impact is understood.

Power's economic impact. The book illustrates how the "primitive algebra of force" underpins economic transactions. Peace, essential for commerce, is always hostage to those with weapons. When a dominant power can cheaply enforce order, it knocks down trade barriers, protects property rights, and fosters global economic growth, creating a "political ecology" that supports more life and prosperity.

3. The Cycle of Hegemony and Global Instability

Only when one nation has an overwhelming share of economic resources and power does the world economy seem to function smoothly.

Order from dominance. Historically, a stable world economy, characterized by free trade and secure investment, has depended on a single hegemonic power. The Pax Britannica (1815-1914) saw Britain's overwhelming military and economic might enforce global rules, leading to unprecedented growth and the spread of Western values. This dominance made projecting power cheap and resistance costly.

Erosion of power. However, such advantages are self-limiting. As other nations copy innovations and grow, the hegemon's relative power dwindles, while its costs of maintaining order rise. The British Empire's decline, masked by easy victories against technologically backward foes, eventually led to World War I and the collapse of its global system, ushering in decades of chaos.

Pax Americana's end. The Pax Americana (1945-1970s) mirrored Britain's role, but its decline, marked by Vietnam, the oil shock, and rising terrorism, signals a return to instability. The world is now experiencing "micro-disorder," where small groups, empowered by cheaper defensive weapons, can disrupt global arrangements, threatening economic stability and leading to a potential "electronic feudalism."

4. The Inevitable International Debt Default

The existence of great. . . debts is a menace to financial stability everywhere. . . . Entangling alliances or entangling leagues are nothing to the entanglements of cash Owing.

Debt as a power problem. The proliferation of international debt, particularly since the 1970s, is fundamentally a problem of waning power, not just finance. When a dominant power can no longer enforce property rights globally, local elites confiscate investments, leading to a shift from direct equity to external borrowing. This creates a "financial hangover" of unpayable sovereign debt.

Historical parallels. Just as England's weakened power in 1339 led to debt repudiation and Europe's first depression, and British debts fell into default in the 1930s, America's declining hegemony makes a similar outcome likely. The inability to "repossess" defaulting nations, coupled with rising debt and falling commodity prices, makes default an increasingly attractive option for struggling countries.

Triggers and consequences. Several factors could trigger a widespread default:

• Sharp economic downturns or rising interest rates.
• Growing protectionism, limiting debtors' ability to earn foreign currency.
• A united front among debtor nations.
• Crucially, Mexico's unique position (long border with the US) makes it a potential flashpoint, as the US cannot afford its collapse.
  A default would wipe out billions in assets, particularly for major banks, and could lead to a severe financial crisis and prolonged economic stagnation, forcing a "write-down" of America's global financial role.

5. Communism's Twilight: A Deflationary Force

Communism is doomed to destruction by its contradictions.

Technology's undoing. Communism, built on extreme centralization and economic monopoly, is fundamentally at odds with modern technological trends. Just as the assembly line once favored large-scale production, new technologies like microprocessors promote decentralization, individualization of work, and efficient small-scale operations. This makes the rigid, state-controlled Communist system inherently inefficient and unable to compete.

Economic stagnation and reform. The Soviet system, likened to an "overgrown electric utility," suffers from massive inefficiencies, particularly in agriculture and consumer goods, where it lags dramatically behind the West. This has stunted its growth and forced reforms, notably in China under Deng Xiaoping, who privatized agriculture and opened to foreign investment, leading to rapid growth and increased global output.

Deflationary impact. Communist reforms, especially in China, will have profound deflationary consequences for the world economy:

• Depressed agricultural prices: China has moved from grain importer to exporter, increasing global food supply.
• Downward pressure on wages and prices: Cheap Chinese labor ($3/day vs. US auto worker $3/7 minutes) will intensify competition in manufacturing.
• Increased global output: The removal of shackles from over a billion industrious people will add dramatically to world supply.
  This shift implies lower Western living standards, wider income gaps, and increased protectionist pressures, challenging established industries and labor unions.

6. Monetary Instability: The Pendulum Swings

The only thing that has driven more men mad than love is the currency question.

Power and money's value. Monetary stability is intrinsically linked to hegemonic power. In fragmented historical economies, gold was the preferred money due to its intrinsic value and lack of reliance on promises. The Pax Britannica fostered trust in paper money (sterling) by guaranteeing its gold convertibility and global stability. However, the abandonment of gold, first by Britain in WWI and then by the US in 1971 (during Vietnam), marked the decline of hegemonic power and ushered in an era of monetary instability.

Inflation breeds deflation. The book argues that inflation, often seen as an independent force, is merely a symptom of deeper monetary disorder. While printing money causes inflation, the system's compensatory forces eventually pull towards disinflation or deflation. The 1920s saw rapid credit inflation without sustained price increases, followed by an unexpected deflationary collapse, demonstrating that money supply alone doesn't dictate outcomes; the balance between financial and real assets, and non-monetary factors, are crucial.

The deflationary threat. Parallels between the 1920s and 1980s are ominous: declining hegemony, abandonment of gold, real asset premiums, debt buildup, commodity price weakness, and a soaring stock market amidst weak business performance. The geometric growth of interbank lending and massive off-balance sheet liabilities make today's financial system vulnerable to rapid, widespread collapse. While authorities might attempt bailouts, the sheer scale of debt and the costs of runaway inflation make a deflationary crisis, potentially starting in Japan (due to earthquake risk), a significant threat, eventually forcing a return to gold to restore stability.

7. Real Estate's Gathering Storm

Most of the millions piled up in paper profits had melted away, many of the millions sunk in developments had been sunk for good and all, the vast inverted pyramid of credit had toppled to earth, and the lesson of the economic falsity of a scheme of land values based upon grandiose plans, preposterous expectations, and hot air had been taught in a long agony of deflation.

Beyond local factors. While location is crucial, real estate values are profoundly influenced by national and global forces, including monetary conditions, technological shifts, and political stability. For example, political instability in Paraguay depresses land values, while the Iron Curtain's fall boosted Western European property. The post-WWII boom in US real estate, fueled by inflation and cultural perceptions, has created a dangerous "trap" of overvaluation.

Six storm clouds. The book identifies six converging threats to real estate:

• Farmland collapse: Global overproduction, genetic engineering advances, and tightened farm credit are driving down land values, mirroring the 70-year British decline from 1870.
• Commercial glut: A historic building binge has quadrupled vacancy rates, leading to falling rents and increasing defaults, especially in the Northeast and Mid-Atlantic.
• Unfavorable tax treatment: The 1986 tax reform eliminates shelters, slows depreciation, and limits interest deductions, making real estate less attractive and potentially taxing cash losses.
• S&L crisis: Hundreds of insolvent savings and loan banks, lacking funds to close, are gambling on high-risk real estate, threatening massive future losses and forced sales.
• Mortgage market crackup: Rising foreclosures, especially in energy states, and sloppy appraisals, could trigger a crisis similar to the 1930s, reducing liquidity for home purchases.
• Overvalued homes: Many homes sell at huge premiums over rental values, sustained by inflation expectations. If inflation doesn't return, prices will fall, wiping out equity for heavily indebted owners.

Condos particularly weak. Condominiums and cooperative apartments are especially vulnerable due to their origins in rent control conversions, often with structural weaknesses and rising maintenance/insurance costs. The book advises selling expensive homes with large inflation premiums and avoiding commercial partnerships, instead looking for distress sales in stable, lower-middle-class neighborhoods or foreclosure properties from federal agencies.

8. Technology's Creative Destruction and Economic Shift

The early installments of the information revolution provide only hints of what might be possible.

Revolutionary shifts. Technological innovation, especially radical breakthroughs, unleashes "gales of creative destruction," antiquating old investments and stimulating new growth. The 19th-century revolution in transportation (railroads, steamships) dramatically cut costs, intensified global competition, and caused widespread deflation and unemployment, wiping out old businesses and land values.

Deflationary information age. Today's Information Revolution is similarly disruptive, but with a deflationary bias. New technologies are substituting information for raw materials:

• Fiber optics: Using sand, displacing copper.
• Advanced ceramics: Harder than steel, replacing metals in engines and structures.
• Super plastics: Replacing wood and metal in various applications.
• Biotechnology: Pest-resistant crops, milk-boosting hormones, and lab-brewed foods reduce reliance on traditional agriculture and chemicals.
  This reduces demand for primary products, leading to lower commodity prices and excess generating capacity for utilities.

The workerless future. The Information Revolution also promises to sharply reduce human labor content across industries. Automation, robotics, and AI-powered "expert systems" are making blue-collar and even white-collar jobs obsolete, leading to significant transitional unemployment. This shift favors "economies of scope" (small, flexible firms) over large-scale enterprises, widening income gaps and increasing returns for investors and entrepreneurs.

9. The Imperative of Adaptable Investing

We are what we habitually do. Excellence, then, is not an art but a habit.

Mastering investment skills. Investing is a learnable skill, not just a talent. Successful investors share common traits: self-knowledge, being well-informed, constantly updating expectations, and responding rapidly to new information. This requires adopting an "investment frame of mind," interpreting daily events through their potential market impact.

Contrarian and flexible. The market is an "idiot savant," capable of prodigious calculation but lacking consciousness or foresight. It's often short-term focused and impersonal. Successful investors exploit these imperfections by:

• Taking a longer-term view than the market.
• Acting contrary to majority opinion, especially at market junctures.
• Being flexible and avoiding rigid strategies, as "the lock... is always changed."
• "Always leave a profit to the other fellow" – don't chase the last penny.

Trading guidelines. Practical rules for navigating volatile markets include:

• Never risk more than 10% of capital on a single trade.
• Question basic premises and identify unspoken assumptions.
• Match investments to your decision-making speed.
• Follow primary trends, but be suspicious of majority opinion at extremes.
• Cut losses quickly ("It is not a valid reason to hold an investment just because you bought it").
• Let winners run, but don't get greedy.

10. Strategic Diversification for Survival

If past patterns apply, exchange controls are likely for the United States. Therefore, investors with large holdings should diversify internationally.

Navigating upheaval. In an era of increasing instability, traditional buy-and-hold strategies may yield lower returns. Investors need to be active, informed, and adaptable. The looming threats of deflation, potential runaway inflation, and the end of product cycles for old industries demand a dynamic approach.

Diversify globally. As American predominance wanes and the world trading system fragments, foreign markets may offer better growth opportunities. Investors should:

• Diversify internationally: Move liquid funds to stable foreign money centers (Switzerland, Germany, Britain, Holland, Austria) to hedge against potential US exchange controls.
• Consider foreign stocks: Look for growth in economies with lower taxes and costs, especially those innovating new products (e.g., Japanese tech firms).
• Hedge with precious metals: Hold 5% of assets in gold and palladium as insurance against inflation or dramatic instability, but be wary of potential government confiscation or windfall taxes.

Adapt to new realities. The changing landscape requires a re-evaluation of traditional investments:

• Avoid: Agricultural land, firms dependent on grain exports, banks with large agricultural or foreign debt exposure, and industries vulnerable to low-wage competition.
• Favor: Firms benefiting from Communist reforms (ee.g., Finnish companies in Soviet automation, Chinese joint ventures), luxury goods, and small-scale, high-tech enterprises.
• Be cautious: About long-term debt obligations of industrial cities and conventional military contractors.
  The future demands continuous learning and a willingness to challenge assumptions, as "investment is a discipline that remains in constant flux."