Transcripts

Erik:     Joining me now is Francesco Filia, founder of Fasanara Capital. Francesco has prepared a terrific slide deck for today's interview. Registered users will find the download link in your research roundup email. If you don't have a research roundup email, it means you're not yet registered at macrovoices.com. Just go to our homepage, macrovoices.com, click on the red button that says looking for the downloads.

Francesco, it's great to have you back on the show. It's been way too long, you know, something I've been thinking a lot about in the last year is DeFi, decentralized finance. It's going to completely totally change everything. And frankly, I think most people in the industry don't understand that yet. But exactly what form it's going to take. Who's going to be in charge and how we're going to sort out this intersection between new technology and an industry that's slow to change is going to be really interesting to watch. You've got a whole slide deck that talks about first the existing conditions in the economy and leads into where we're headed with DeFi. So I'm really excited about this one. Let's go ahead and dive into it.

Francesco:     Thank you, Erik and thank you for the invite. It is a pleasure to be here and happy to start with the current situation in markets. And obviously here it's a little bit of a broken record from myself when it's about the expensiveness of both bonds and equities at the same time. And we've been researching this for several years now. We have spotted the conditions of a bubble, bubble financial markets in both bonds and equities for you know, several years now. And definitely we have been wrong in predicting the direction of travel because markets kept rising over this period. But still, you know, like our main point of contention is that evaluations make no sense. And it is becoming ultra hard for institutional investors, which apply rational investing to be involved with the public bonds and equities at current levels of valuations. And, you know, one word on bonds and one word on equities. Bonds since 2016 has been trading at close to zero interest rates if not deeply negative, and they've stopped, you know, functioning effectively. And our idea is that, as an asset class, it has been retired, and it may be considered the fund, you know, it has stopped to be sensitive to levels of inflations and level of economic activities since several years now.

And it's funny that we lament that rates may be rising at this point in time in the markets, when we are still talking about negative rates in most western market economies. Even in the US, we're talking about a 10-year rate at 1.5% and the 30 year rate below 2%. And if you ask me, these levels are very close to zero, and they are closer to zero than anywhere else. And then you know, the problem with this is that, you know bonds, they have a function within portfolios, which is to counterbalance the allocation to equities to save the day at times in which the equity have a very bad day. And they can no longer fulfill that function because they're just no longer there. A bond is a coupon bearing instrument, whose coupon are currently zero, and therefore is a zero coupon bond. But typically, a zero coupon bond is one that you buy below par, and you enjoy the pull to par. In this case, you buy it at par or sometimes above par. So you're looking at a bond that within your portfolio and within your wallet. But effectively, there is no bond there, what you're looking at is a quasi cash or quasi bond, but it's definitely a new instrument that you're not accustomed to. And there is nothing there.

So within all those balanced portfolios, where we have a 40 to 60% allocation to bonds then we can claim that the 40 to 60% of allocation really does not exist. Now there is a and we may claim that there is no reversion to mean either. Now there is a lot of talk about inflation, right. And inflation has been printing out very widely lately to 6% and over 6%. And obviously there is the fear of rising interest rates. But the problem that we're facing is that if our theory is correct, bonds will not react to that. And the rates will not move higher in any meaningful fashion. If it is true that the bond as an instrument has been retired and no longer fulfill the function of what it used to be. And obviously I'm making a big statement, I'm exaggerating, you know, to exaggerate the argument to make it visible. But basically my idea is that the so called the Lazarus trader, the trader mean reversion where rates go back higher may not be seen anytime soon, as a reflection of the fact that the linkage between bonds as an asset class and fundamentals is broken in a very fundamental way. And this is a problem. This is a problem because you cannot rely on bonds anymore for asset allocation.

And then obviously equities right, so a word on equities. Equities are also very expensive as known to most people after the pandemic, they went into more extravagant levels. We have seen the technology equity complex reaching 10 trillion in market valuation alone. If you include just FAANG stocks, and the like we have seen indices this year, rallying to new highs. The NASDAQ is 20% up over 20% year to date. But actually, when you take out the top five stocks within the NASDAQ, it's actually down 20%. So what you see is not only extreme valuations, but also extreme concentration. And so like, and there are multiple ratios, and I don't want to go into multiple ratios here during the call, but basically, like there are multiple data points that they showed that the market is as expensive as it has ever been compared to GDP, for example, i tis twice as expensive as during dotcom bubble. Obviously, if you're an institutional locator, it's very hard to cope with a market like this and not be in fear of fast and violent drawdowns.

And so like, you know, my point is that the job of an allocator looking at traditional asset classes like equity and bonds has become extremely difficult to navigate these markets from now on. And to be able to, you know, to have faith in markets at these levels. You have bonds that they cannot save the day, equities goes down, you have equities that are ultra expensive and the risk of a drawdown is extreme and you are left a little bit between a rock and a hard place. Now after this big rally in levels, we are facing a January 2022 which may be like I'm not trying to predict here a big crash. I think that there is something more interesting to do in the current market than just predicting the next three months. But if we look at the next three months is that there is a possibility that the January 2022 looks a little bit like one of the previous January's that we've been through. January 2000, January 2008, January 2018 and January 2020. And we know of those January's that they proceeded faster, faster drawdown so dotcom was followed by the dotcom implosion and the 2008 is obviously linked to the Lehman moment. 2018 saw a faster down especially on the February VIX complex implosion, and obviously January 2020 was then followed by a very heavy March following the lockdown as a response to the pandemic.

And now again, we may be seeing a blow off top followed by some sort of a drawdown. But in the trigger tweet, it's not even that relevant. It could be interest rates following inflation, I don't think so. Or it could be something else like a market falling under its own weight. But we already know what is the reaction function of policy makers. And we already know that if there is a fallout in prices, it would be followed by an even more forceful monetary printing and market intervention. And it's probably going to be recouped. And the probably another buy the dip is going to show up and the market is going to pick up from those levels. What we have learned over the past over 10 years is that markets have lost their function of allocating to the real economy, because they've completely been confined into a space in which they are self referencing. So whenever there is some fallout, there is an immediate intervention by policymakers and the market has been unable to develop the anti corpse against those fallout to recover on  its own merit.

And then there is one slide in this big deck that is on page 11 that tries to draw the linkage between these different market phases and the real DNA of the market as we see it. And it goes from depicting actually like I think that the big disease in the market is a one of short termism and it can be seen in the markets but also in societies at large. And the way I look at it is that, you know, the full lockdown after the pandemic, but also quantitative easing, also talks of modern monetary theory and even populism. They're kind of symptoms of the same underlying theme and the theme is a short termism. It's basically an attitude to swap, you know, short term solutions for long term problems is an attitude of not being able to endure like duress in markets, as much as in society. And therefore to always look for the easy solution that is able to trigger the positive very short term effect, but always at the expenses of a longer term, a bigger problem.

These fundamental disease and these fundamental medical condition, let's say of the markets but those of society at large has led into an investment community which has been, which has gone through a retailification, I call it so everybody's playing as a retail. Both retail and institutional investors trying to survive to some extent or fund management. And so like in retail, we know the new generation of Robinhood to the new generation of reddit has driven investment investments, which is kind of less driven by fundamentals and more by momentum and by emotions to some extent as well. But you know, what is more interesting to analyze is the institutional side of things. The institutionalized asset management world, which in an in an attempt to survive, as endorsed some of the attributes and attitudes of the retail community and therefore has been going from being an Hedge Fund and investing into long only, even when you are a long short equity of a very big beta correlation and a very big net exposure. And you know, very few are really shorting stocks these days in any successful fashion at least. And then, you know, in the buy, the dip mentality has completely spread around and is affecting most market participants.

Following this retailification, you have the Bitcoinization of markets. And what I mean by that is basically, in a place where public markets have become video gaming, and where effectively like there is no reference to the real economy anymore. The reference to the real economy and to fundamentals is lost. And as a consequence of that the main function of markets has been lost as well, which is allocating resources to the real economy to support both consumers and corporations. And this is reflected also in the current levels of interest rates and in the current level of equities.

The good story is that there is an emerging trend which substitutes these, let's say, all asset classes, and that at least tries to produce an alternative to them, although not in total, not in full, but for some partial in some partial ways. And that the alternative is, you know, ways to access the real economy in a most in a more decentralized fashion. And I'm not talking only about decentralized finance in the ways of cryptocurrencies and blockchain. I'm also talking about platforms and the platform economy, the so called the India utilize another audible term, which is a platformification of credit, and the economy. And this represents, in my personal opinion, the new capital markets, that they can offer an alternative to institutional investors, but also to, in general, to market participants. And when I talk about platforms, I mean, FinTech, the FinTech trend, in all these new ways to reach out to the real economy to originate loans and receivables to both consumers and corporations. And that they can form an alternative to bonds at a time in which bonds have disappeared and they are trading at zero.

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Erik:  Joining me now is MI2 Partners founder Julian Brigden. Julian prepared a terrific slide deck for today's interview, registered users will find the download link in your research roundup email. If you don't have a research roundup email, it means you're not yet registered at macro voices.com. Just go to our homepage macrovoices.com Click the red button that says looking for the downloads.

Julian, it's great to have you back on the show. It's been way too long. The inflation-deflation debate rages on. Just last week, I had David Rosenberg on telling us that the three Ds those being debt, demographics, and disruptive technology assure a disinflationary backdrop for years to come. And that this inflation will be transitory, what say you and feel free to reference your charts as we get into it.

Julian:    Well, here’s the thing - look, I'm not going to answer that myself. I'm going to lean on the world's oldest central bank, the Bank of England, and they wrote a piece which we picked up on and we discussed with our clients the other week, and probably other month, and we said, the title of the piece was, it's always transitory, a 700 year history, Because I think there's a real temptation for us to get lost in a very short term perspective. And by short term, I mean, you know, 20-30 years, right, that's our kind of our frame of reference. I mean, even if you're an old geek like me, right? He's been in markets, you know, for 30 odd years. Right? I mean, it's very easy to just get my optically focused on those last 30 years and lose the longer frame of reference. And what the Bank of England discovered, was that basically, when they look at the risk free asset, and they look at returns and inflation. That basically since the mid 1460s, we've been in a disinflationary world, David, so I like to kind of use that word, as opposed to deflation.

And, you know, the drivers are pretty consistent, right? I mean, productivity, you know, demographics, etc, etc. And I think there's always this tendency to get very, very excited about developments, you know, that are sort of today, right? To think that the technology we have today is just so utterly transformative. And, you know, I was reading this piece by Barry Ritholtz, who's the sort of equity guy, and he's very, very good. And he wrote this thing and said, sort of, you know, it's all really changed since the mid 80s. And I was like, really, you know, if you actually look at productivity since the mid 80s, it's actually not the case. Right? Actually, arguably it's been lower than it than it was in the 60s in the 70s. And also, we shouldn't forget, you know, the world quite transformative events historically. I mean, even in a relatively short period of history. I mean, you know, penicillin, the aeroplane, right? The internal combustion engine, the light bulb, right? I mean, all these things have been bloody transformative, right? So just to assume that, that Salesforce or cloud computing, all these things are just so much greater. You know, is that really, right?

So what the Bank of England did was, they look at all these trends. And they say basically, even though we've been in this disinflationary period, since the mid 1400s, they've actually been eight periods. And this would be the ninth, where we've had extended what they call real rate depressions, so incredibly low levels of real rates. Now, they come up with some reasons as for that, but what's interesting is what causes those 10. And, and the point is, what causes them to end is essentially two things typically. Firstly, some sort of geopolitical shock. And then secondly, and this is quite remarkable, particularly some sort of pandemic some sort of big shock. And you can understand why I mean, you basically rejig the world, particularly after a pandemic, you actually reset expectations of workers, you've obviously, certainly in cases, things like the Black Death, right? You've wiped a lot of your workers out, right? So, you know, wages tends to rise. But there's all these sorts of factors that are remarkably consistent over this hundreds of year period. And I think we tick that box now. Ultimately, even these bouts of inflation proved to be transitory when we go back to that long term, disinflationary trend. So I think the disinflationists  are ultimately going to be right. But let's say this bout is typical last seven years, right? And we're two years into it, maybe. Do you really want to be long fixed income for the next five years because you're gonna get hosed? I mean that's a life, that's a career. Right?

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Erik:     Joining me now is David Rosenberg, founder of Rosenberg Research. Rosie, it's great to have you back on the show. Last time we spoke, it wasn't in vogue yet to be talking about inflation, only a few people were. You told us inflation was coming but don't be fooled. It's going to be transitory. Let's get an update. Is that still your view? And what is your outlook? Are you concerned at all about secular inflation?

David:   Well, the last part is easy to answer. So absolutely not at all concerned about secular inflation. And very interesting, I was asked those questions after Barack Obama got elected, and I got asked it again after Donald Trump got elected. And there are no new eras, one about Farrells Fabled 10 marker rules to remember. No new eras, there is no new inflation era despite what you hear. And I would just say that the fundamental forces in place for the past three decades that have ensured that inflation remained on a fundamental downtrend line were the three Ds. Demographics, Debt, and Disruptive technology. And it doesn't mean that we don't have gyrations around that trendline, we had a gigantic gyration around that trendline, you know, in the 2000s, when I was at Mother Merrill and oil prices if you remember went to $150 a barrel and inflation got to the same levels that they're at today and everybody believed back then that we were in some permanently new commodity supercycle inflation era. And I asked the question, how well did that turn out?

So I would say that, you know, for the time being, certainly, inflation is going to remain sticky because of the supply chain issues. People talk about booming demand. That to me is in the rearview mirror, I don't think we have booming demand anymore. And a lot of the durable goods purchases by the American consumer has already been facilitated if there's going to be strengthened spending, it'll come more on the services side, which is still lower today than it was before the pandemic. So speaking of the pandemic, that's really where the inflation is coming from. And it's principally from supply side issues that the Fed or any other central bank has little control over. But I don't believe for a second that supply chains are broken indefinitely. And I do believe that we are going to have a situation where you're seeing it in the commodity markets already where the goods inflation morphs into goods deflation a year from now that's not in the market.

And I guess if transitory to you is, you know, a few days, weeks, months or even quarters, then certainly it's not transitory if you go to the Webster's definition of transitory there's no timeline attached to it. And Jay Powell is thrown in the towel on this, I haven't. Because transitory to me means something that isn't permanent, or something that's short term. And in the overall scheme of things from a, from an economic history standpoint, we will not be talking about this as a major secular inflationary period, any more than we remember what happened in the mid 2000s. When we had that massive commodity supercycle, nobody seems to remember that, but we were talking about inflation back then, too. So I'm feeding the consensus narrative on this. I think the economy is going to slow precipitously next year because of the fiscal withdrawal. I think that God willing, we'll get through the pandemic without any more variants along the way, but that could be wishful thinking. But the supply chains will come back. Globalization is not dead. And we will go back to where we were before, which was an inflation environment. That'll be roughly 2%. I don't see that deviating.

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Erik:     Joining me now is Lyn Alden, founder of Lyn Alden Investment Strategy. Lyn prepared a terrific slide deck to accompany today's interview. Registered users will find the download link in your research roundup email. If you don't have a research roundup email, it means you haven't registered yet at macrovoices.com. Just go to our homepage, macrovoices.com, click the red button that says looking for the downloads.

Lyn, I have really been looking forward to getting you on the show because, frankly, one of the biggest names that's come up in reaction to Jeff Snyder's interview last week was yours and a lot of people saying, hey, wait a minute, Jeff is really telling us a story that banks heavily on the idea that the bond market is a really solid source of information. And of course, a lot of people are saying wait a minute, if the Fed owns 30% of the 30-year Treasury issuance, or whatever the statistic is, I've lost track of it. It's kind of hard to believe that there could really be efficient price discovery in that market. So what did you think of Jeff's interview overall? And in general, this discussion about secular inflation. Which side of the debate are you on and particularly what do you think about the value of the bond market as a predictive signal?

Lyn:   Well, thanks for having me on, Erik. Always happy to be here, big fan of your podcast. And you know, when it comes to Jeff's work and I have a lot of respect for areas that he covers. And one of the things we agreed to touch on was, you know, some of the things right, I view differently than his discussion on your podcast. So the areas that I would have viewed differently is that I am more in the inflationist camp and had been for the past couple years. And I don't view bond markets as being a particularly reliable signal about forward inflation expectations overall. And I think history bears that out. So I'm happy to go over a couple of the, you know, the slides that I brought here to kind of cover those points, but that kind of sets out, you know, that the areas that I that I view things differently on. And so if you look at, for example, you know, kind of set the stage, the first slide deck, we can see kind of the long term, century long fiscal monetary policy that we're working through, right.

So, as the chart shows, I think, you know, the 1940s are an interesting comparison. Obviously, they don't cover every aspect of it. But in terms of fiscal monetary policy, I think that that's the closest period that we have. And so you had Jeff discuss that period. So I think that was, you know, that's a period I like to focus on too. And so I think that's worth exploring in more detail. So as we saw, you know, everybody, when they think about inflationary decades, they think about the 70s. But as we can see from these charts, the 70s are actually quite different. So the chart on the left there shows debt as a percentage of GDP, and I break it into federal debt versus non-federal debt, and non-federal debts, mostly private debt, you know, companies and households, a little bit of state debt in there as well, such as all the debt that's non monetary sovereign. And then you have federal debt, which is a pretty different beast. And we saw that, you know, private debt peaked in the early 1930s. And then again, in the 2008 and 2009 period, and those are associated with major, you know, deflationary banking crises.

And then what you have is, you know, the echo from that, you know, a decade later, is that you had basically periods of stagnation, and then some sort of external catalysts that resulted in a lot of debt building up on the public sector. And that tended to be more inflationary. And when we look at the chart on the right there, we can see that, you know, basically, short term interest rates go to zero during this banking crisis for the first time in decades, combined with the monetary base going up. And so that tends to be somewhat of a not particularly inflationary period. But when you go later into that you have massive fiscal deficit spending. At a time when interest rates are super low, and the Federal Reserve's monetizing it, that's when you're more prone to get that inflationary type of environment. So I think the biggest difference between this the 40s, and 70s, is that in the 70s, because debt was low, they were able to raise rates to rein in inflation, which was in large part driven by bank lending, whereas 1940s, they were unable to raise interest rates, because debt was so high, and inflation was coming from fiscal spending, rather than bank lending anyway. So it's unclear that raising rates would have even helped. And so basically, you had a big disconnect between rates and inflation. So on the second slide there, I showed this, I show basically, you know, the on both those charts, the blue line is the year of your CPI. So you can see that both the 40s and the 70s, on average had pretty high inflation. And the big difference was that in the 70s, interest rates generally kept up with inflation more or less, whereas in the 40s, you had a complete disconnect between inflation and rates because you had a period of financial repression. And I would contend that the 2020s are shaping up, at least in this regard to be more like the 40s we're gonna probably see ongoing disconnects between inflation and bond yields.

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Erik:     Joining me now is Alhambra Investments Chief Investment Officer Jeffrey Snider. Jeff has prepared a terrific slide deck to accompany today's interview. Registered users will find the download link in your research roundup email. Now if you don't have a research roundup email, it means you haven't registered yet at macrovoices.com. Just go to the homepage at macrovoices.com Look for the red button that says looking for the downloads.

Jeff, I am really really looking forward to this interview with you because you are one of the absolute smartest guys that I know and you particularly understand the dollar funding system internationally. And for any listeners listening who are perhaps new to MacroVoices and are not aware. At macrovoices.com/edu for Eurodollar University, you can find a detailed series where Jeff explains the entire international global US dollar funding system, the Euro dollar system, which I think is going to play a role in today's discussion. The topic of which will be inflation and particularly Jeff, just about all of the smartest macro guys I know have kind of flipped from the deflation camp into the secular inflation camp.

Just last week, we had Ole Hansen on this program describing how the lack of investment in oil producing resources is likely to lead to a very significant oil price shock to the upside in coming years. And of course, oil prices, energy prices are one of the biggest drivers of inflation. I think we've gotten to the point Jeff, where the last two men standing are you and Dr. Lacey Hunt. We're trying to get Dr. Lacey Hunt back on the program. Our producers are working on that. But let's start with our own Jeff Snyder, who knows the Eurodollar system. So well. Why is it Jeff with everybody else saying hey, look, secular inflation is just so clear. There's so many reasons to think that the MMT crowd is going to keep printing money, debasing currency and so forth, has to lead to runaway inflation someday. You're saying no you don't see it? How come?

Jeff:   Well, there's two things here Erik. By the way, thanks for having me back on to try to explain what's going on here. Because I think, you know, inflation is the one topic that everybody wants to talk about for very good reason. And when I say you know there isn't inflation happening this year, people are like, wait a minute come on. The CPI is at 6.2% in October, which is the highest been 30 years. How can you possibly say there's no inflation? And the answer is we have to define our terms. We have to we have to be specific about what it is we're actually talking about. And the one part of it is what you just said, Erik, which is, you know, debasing the currency, money printing, and that gets to the heart of what we're really want to talk about. But there's other things involved too, specifically to start with, you know, when we look at the CPI. Is the CPI always talking about inflation? Is it always reflective of actual inflation? Or is there possibly very different underlying circumstances that could be creating consumer price bubbles or consumer price deviation? That's the first thing.

When we look at the CPI, is the CPI really just an inflation index or is it a consumer price index, where consumer prices could be moved by other factors that aren't inflation? And you know, it's understandable why people would think that it's only the other. That CPI is always inflation, because that's really how everybody talks about it. And it's true, not just to the public, but also central bankers and economists. You know, they do all sorts of studies, for example, about the CPI and what's the best predictive model of the CPI because, you know, obviously, we have a good interest in trying to figure out. If we do see consumer prices rising, is it going to last? Is it going to go on forever? Is there any sort of secular trend there? And so these academic models, take a look at the CPI is if every CPI is exactly the same and so their conclusions are usually about what is the best predictor of the CPI? And I don't think that's really the right question to ask because, again, there are different types of situations where consumer prices could be reacting or be responsible from other different factors. Very different factors that lead to very different conclusions and all sorts of different implications.

So if we get into the slides here, that's really our goal here. It was started on slide three is we look at the CPI, we look at consumer prices, what we're really interested in is, is it just consumer prices rising or is inflation responsible for why consumer prices are going up? And what the you know, the academic, economist, you know, mainstream orthodoxy tells you is that there really isn't a good way to sort out predictive CPI values. It's really pretty much a crapshoot. They figured the best methods is by using professional economists who use econometric models. You know, things like the blue chip economic survey because they have a more, at least a decent track record of predicting the CPI.

And you look at some of the other factors, they looked at, you know, some of the other ways of predicting consumer prices. Among the worst they say is financial markets, or bond yields, which is kind of a, what we're trying to get at here, which is do bond deals predict the CPI or do bond yields react only to inflation in the CPI. And so that's really where we're gonna start. If we go to slide four, throughout history, consumer prices have been driven by very different factors at very different times. We're very much familiar with the 1970s and the great inflation. And so we're kind of led to believe that anytime the CPI accelerates, it's because of inflation. As you said before printing too much money, currency devaluation, that kind of thing. But in truth, you have to go back before 1955. But usually, when the CPIs went up, it had nothing to do with monetary printing. It had nothing to do with money printing or excess currency. And a perfect example of that is 1950-51.

We had what was essentially a very classic supply shock, which was, you know, the North Koreans invaded South Korea on June 24 of 1950. Within a couple of weeks, American consumers went to every store they could find and started buying everything imaginable, because they understood that pretty soon, the US government was going to start redirecting economic resources until the warfighting effort when the US finally joined the Korean conflict. And so it was very much like World War II where consumers understood that the availability of goods is going to be restricted. And so it created this massive bottleneck, where consumers went absolutely nuts buying everything they could possibly buy, while it was still available. At the same time, the supply side was not able to keep up with that demand, because number one, it was a shock or a true shock in the fact it was unpredictable. But also as more and more resources were taking away from the consumer sector and channeled into the defense industries. It was again, supply just could not keep up with demand.

And so in terms of small economic prices, from around July 1950 to February 1951, the Consumer Price Index accelerated to at that time, which was at an annual rate of more than 12%. So it wasn't money printing, it wasn't you know, the currency devaluation even though the Federal Reserve was convinced that it was. The Federal Reserve actually provoked a political crisis to gain its independence from the Treasury Department, because those at the Fed were absolutely concerned this rise in consumer prices was inflationary, therefore, it was going to continue unless they were able to gain independent monetary policy. But they again, they got the inflation thing wrong. They didn't look at the CPI as a supply shock. And the level of CPI puts what we're seeing today to shame. Again, the annual rate of 12%. That was a massive burst of consumer price inflation. But it wasn't really inflation. It was actually just a surprise shock.

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