Understanding Debasement and Its Portfolio Implications

Key Takeaways:

• Debasement occurs when fiat currencies lose purchasing power and investor confidence over time.
• Fiscal stress, monetary easing and geopolitical risk drive demand for alternative stores of value like gold.
• AI-driven productivity gains, policy credibility and currency stability could unwind debasement.
• Our Wealth Builder Portfolios balance debasement hedges with exposure to assets that may benefit from reversal.

An investment in the VanEck Bitcoin ETF (“HODL”) and VanEck Merk Gold ETF (“OUNZ,” and together with HODL, the “Trusts”) is subject to significant risk and may not be suitable for all investors. The value of Bitcoin is highly volatile, and you can lose your entire principal investment. HODL and OUNZ are not investment companies registered under the Investment Company Act of 1940 (the “1940 Act”) and therefore are not subject to the same protections as mutual funds or ETFs registered under the 1940 Act.

Debasement is a popular term that has gotten a lot of press in the past year and a topic we have written frequently about as a core part of our quarterly outlooks and model portfolio positioning.

In this blog, we define what debasement is, outline the conditions that have brought it back into focus, explore what could reverse it and explain how we reflect that balance in our model portfolios.

What Is Debasement?

Debasement refers to the erosion of confidence and purchasing power of fiat currency.

It typically emerges as the result of money supply expansion, quantitative easing and sustained low interest rates. These conditions erode the real value of fiat money over time through inflation or financial repression. When money is worth less and fixed rate investments do not compensate investors for these risks, they tend to seek out alternative potential stores of value.

Debasement is not a modern phenomenon. It has played a part in some of history’s greatest boom-bust cycles. Around 64AD, Roman emperor Nero began reducing the silver content in the Denarius, the Roman currency, in order to raise revenues to support and strengthen his empire. Over time, repeated debasements diluted the currency from pure silver to roughly 5% silver by the end of the 3rd century, dramatically expanding supply.

This caused significant inflation, leading to economic instability, which was a key factor in the crumbling of the Roman empire.

Conditions that Drive Debasement

Fast forward to today. We have new policy tools, but the same economic forces. Debasement tends to emerge when several fiscal, monetary and geopolitical forces converge:

• High and rising sovereign debt levels: US debt at $37T now exceeds GDP, and annual interest expense is approximately $1T. When debt service becomes large and potentially unsustainable, people lose confidence in the debtor (in this case G10 sovereigns) and either sell their bonds or demand a higher interest rate as compensation.
• Large and expanding deficits: Massive deficit expansion has led to an increase in money supply during a period of below average interest rates. This policy cocktail is inflationary and erodes the purchasing power of fiat currency.
• Sustained monetary easing and low real yields: Low interest rates allow governments to spend more, because it costs less. Once they start spending, it’s hard to stop. This is also inflationary and as an incremental dollar spent becomes less productive, investors lose confidence in the government as an effective allocator of capital. When inflation is higher than the real yield an investor can earn from holding a fixed rate investment, investors reallocate capital towards potential store of value assets.
• Loss of confidence in institutions and fiat money: Fiscal stress can leads to political conflict in the form of how much to spend and on what, which leads to government shutdowns and partisan bickering. Investors lose confidence in the system and seek out alternative stores of value.
• Geopolitical uncertainty: Trade wars, tariffs and the instability of hostile nations expand the loss of confidence from onshore to being a global phenomenon, which leads other central banks to act and diversify away from fiat currency into alternative stores of value.

These conditions should sound familiar. We are currently living through versions of all of them today, which is why alternative stores of value, like gold and silver in particular, have been among the best performing assets over the past year.

What Could Reverse the Debasement Trade

With these forces in place for over a year, it is equally important to consider what could shift the narrative.

Fiscal credibility returns and debt stabilizes: Sustained deficit reduction, through spending restraint, increases in tax collection, entitlement reform or growth, may begin to outpace debt accumulation. As investors start to believe the debt can be serviced, demand for alternative stores of value is reduced.

Strong productivity leads growth, which results in disinflation: Real growth driven by technology-led productivity may boost output and tax collection, putting downward pressure on prices. Disinflationary growth reduces debt and makes holding bonds or cash more rewarding.

Fiat currency stabilizes: Currency values are relative, so capital goes towards where it is most productive. Positive currency returns lead to investment capital returning to assets denominated in that currency.

Reduction in geopolitical uncertainty: The perception of lower systemic risk reduces the demand for alternative stores of value and brings support to fiat currency and risk assets.

Inflation returns to target, restoring policy credibility: Persistent low inflation alongside growth that is at or above trend drives investor confidence in policy and the overall direction of the economy, which supports risk assets over alternative stores of value.

Just as the conditions that create the debasement phenomenon are not mutually exclusive, the conditions that can unwind it are not either. Instead, progress in one or two of these areas can reinforce others. For example, if the advancements of AI lead to sustainable productivity gains, that could act to lower inflation, tighten monetary conditions, improve debt sustainability and drive currency stability. This reinforcement loop would reduce the demand for alternative stores of value and increase the demand for both risk assets (equities) and fixed rate investments (bonds).

How Are We Playing This in Our Model Portfolios?

VanEck’s Wealth Builder Core Portfolios and Plus Portfolios are positioned to reflect both sides of the debasement narrative in measured proportions. We are providing investors with protection from further erosion in purchasing power while maintaining exposure to assets that may benefit from a reversal in conditions.

On the debasement side, we have exposure to real assets such as gold via the VanEck Merk Gold ETF (OUNZ), broad commodities via the VanEck Real Assets ETF (RAAX) and digital assets via the VanEck Bitcoin ETF (HODL). These allocations are intended to provide exposure to assets that have historically been viewed as potential hedges in environments characterized by inflation, financial repression or declining confidence in fiat currencies.¹

At the same time, we also own cyclical and growth equities which have historically benefited when similar conditions improved. Within growth, we tilt our exposure away from the more expensive parts of the market and towards AI beneficiaries. Of the above-mentioned risks to the debasement trade, AI-led productivity gains stand out, and we want to maintain exposure to this structural theme.

Our fixed income allocations are selectively exposed to interest rate risks, emphasizing lower duration fixed rate exposure with tilts towards floating rate non sovereign debt in the form of CLOs via the VanEck CLO ETF (CLOI) and business development companies via the VanEck BDC Income ETF (BIZD).

In the current environment we continue to favor owning debasement and inflation fighting assets in higher proportion relative to historical average, while remaining aware of the conditions that can shift this dynamic.

¹ Bitcoin and digital assets are relatively new assets compared with gold and other commodities. Bitcoin and digital assets are subject to significant risk and are not suitable for all investors; their value is highly volatile, and loss of principal is possible.