Leonardo da Vinci has special cachet. What is striking about the Christie's soiree in New York last week was not so much the US$450m ($661m) paid for his rediscovered Salvator Mundi but the prices fetched by everyone else.

Buyers forked out $46m for vermilion spirals from the Bacchus series by Cy Twombly, executed 12 years ago with a paint-drenched brush on a pole. Soothing sands called Saffron by Mark Rothko fetched US$32m.

The week's haul at Christie's and Sotheby's topped US$1.5 billion, with Asian buyers snapping up Monets. Fernand Leger's abstract Contrastes de Formes fetched US$62m.

It screams late-cycle liquidity, recalling Japan's impressionist fever in the late Eighties before the Nikkei collapsed and the bottom fell out of the art market.


Bitcoin clinches the argument. It has risen more than 1,200 per cent over the past year to more than US$8000 - five times an ounce of gold - on a "greater fool" presumption.

This is not a criticism of blockchain technology. It will flourish. But you cannot yet buy and sell things in any meaningful way with cryptocurrencies worth US$180b.

Bitcoin will end badly, either when the Chicago Mercantile Exchange launches its futures contracts in two weeks and allows traders to short it, or when the global cycle turns. A runaway asset boom can last a long time when the G4 central banks are holding real interest at minus 1.5 per cent and spending US$2 trillion a year soaking up "safe assets".

Academic bulls say the stock of central bank assets is still growing. Market bears counter that the flow is falling, which matters more to them. Hence the recent rout in high-yield credit. Junk bond funds saw the biggest outflows since 2014 last week.

A parallel retreat is under way in East Asia where US$800m of bond sales in steel, solar and palm oil were cancelled. These are minor tremors. What threatens the universe of stretched asset values is the return of US inflation. The boom is built on the premise that the Fed will bathe the global system with ample liquidity.

Yet that is precisely what is now in doubt as US unemployment drops to a 17-year low and the dormant Phillips curve reawakens. The New York Fed's underlying inflation gauge has jumped to a post-Lehman peak of 2.96 per cent.

All it will take from now on is a single piece of hard data to confirm this trend and the markets will reprice interest rate futures abruptly, shaking the whole edifice of global risk appetite.

Staccato rate rises by the Fed would ignite a dollar surge, squeezing an estimated US$10.7t of offshore dollar debt. There is a further US$14t of global dollar debt hidden in derivatives and FX swap contracts, pushing the total to US$25t.


Higher US rates would hit through a second channel, raising borrowing rates across the world. International finance is priced off US benchmark rates. The Bank of England mapped out last July how this could metastasise into the next financial crisis.

Its Stability Paper No 42 argued that banks were now much safer than in 2008, when a bad "feedback loop" amplified US$300b of subprime losses into US$2.5t of bank write-downs.

But risk has migrated into non-bank finance from investment funds, pension funds and insurance companies through debt securities, creating a new feedback loop that could be just as dangerous.

A rush for the exits would set off fire-sales. First movers acting cautiously - the "paradox of prudence" - create a self-fulfilling dynamic. Major players in the City are watching with wolfish concentration. Bank of America says the air is getting thinner for risk assets but tells clients to stay with the "Icarus trade" as long as you can still breathe.

Mark Haefele, investment chief at UBS, says it is too early to bail out but the coming inflection point is "something we think about a lot".

His number-one worry is a US inflation surprise forcing the Fed to slam on the brakes. The triggers could be a rise in earnings growth to 4 per cent, a rise in the "five-year/five-year break-evens" (inflation expectations) to 3 per cent, and a rise in core PCE inflation to 2 per cent.

If these happen, run for the hills. His second worry is credit stress in China setting off a fresh capital flight. Sophisticates may wish to short 12-month forwards in the offshore Chinese yuan. The rest of us should buy a few safe-haven bonds and pursue a "risk parity strategy".

This global expansion is the second longest since the mid 19th century. It has been stretched because the recovery was so weak and because it was slowed by the eurozone banking crisis and the Chinese fiscal slump.

Above all, it has been stretched by debt creation. The world has even less tolerance for monetary tightening today. So does the market for red squiggles daubed with a pole.