For months back in 1992, the 39-year-old Stanley Druckenmiller and his team at the Quantum Fund, one of the largest hedge funds owned by George Soros , analyzed the British pound. At some point, they concluded that the Bank of England would be unable to support the pound’s exchange rate within the then-existing Exchange Rate Mechanism (ERM). The pound was overvalued, high interest rates were hurting the British economy, and foreign exchange reserves were rapidly declining.
In September 1992, Mr. Drunkemiller, who was the manager of the Quantum Fund, walked into George Soros’s (owner) office in London and proposed the biggest trade of his life. To gradually increase their short position in the pound, betting on its decline.
Drankemiller had already “built up” a short position worth $1.5 billion, which was already substantial, as it accounted for one-third of the Quantum Fund’s assets. Soros reportedly told him that if the short position against the pound was so good and there was no risk of losing money, he shouldn’t increase it gradually but take it to $15 billion.
The next day, the Bank of England raised interest rates to 12% and 15% while spending 27 billion pounds to prop up the currency. It wasn’t enough. By evening, Britain had withdrawn from the ERM, the pound was collapsing, and the Quantum Fund had made a profit of over $1 billion. George Soros went down in history as the man who broke the pound.
However, Scott Bessent, the current U.S. Secretary of the Treasury, who was head of the Quantum Fund’s London office, knew what really happened. “Shorting the pound was Druckenmiller’s idea. Soros’s contribution was that he pushed him to take a massive position.”
The lesson for the markets? It’s not enough to be right. You have to have the courage to act with all your might. What matters is the size of the bet you make when you believe in something.
We mentioned this event for two reasons. First, because it involved the current U.S. Secretary of the Treasury, Mr. Bessent, and the well-known major investors George Soros and Stanley Druckenmiller. Second, because it resembles, relatively speaking, what we are experiencing today.
The investment community seems to be ignoring the adverse effects that higher energy prices and the rapid depletion of oil reserves are having on the global economy. Instead, it believes the political assurances that Iran and the U.S. are nearing an agreement and that the situation in the energy market will normalize relatively quickly, while AI will bring about leaps in productivity.
It would be rash to jump to the conclusion that trust in the statements of American politicians is unfounded. A deal between Iran and the U.S. may indeed materialize , and the geopolitical risk premium on oil prices—estimated at between $10 and $15 per barrel—could drop sharply. It is already happening.
However, the situation is more complex. It is well known that refineries in Asia have already signed contracts to source oil from the US and elsewhere because they could not be certain about Gulf oil.
Furthermore, only 36% of LNG storage facilities in the EU are currently filled. The fill rate is even lower than during the 2022 crisis, with 17% of Qatar’s production capacity having been taken off the market following the Iranian attack. What will happen to gas prices in the EU if autumn arrives and storage levels are not where they should be? Already, PMI indices in the EU have taken a downturn, and some are beginning to talk about stagflation.
So why do the markets seem to be ignoring these facts?Historian Neil Ferguson noted some time ago that perhaps market participants love AI more than they hate the closure of the Strait of Hormuz. Perhaps they are right. Or perhaps they have no idea what is coming, just as their colleagues did not in July 1914, just before World War I broke out, even though the signs were already evident, or in February 2000, or in October 2007. In those instances, stocks hit new highs before reality took its toll.