The Pomp Podcast - #1402 Darius Dale | Stock Market Predictions To End 2024!

Episode Date: September 3, 2024

Darius Dale is the founder & CEO of 42Macro. In this conversation, we discuss inflation, productivity, asset prices, political impact, federal reserve interest rate decisions, and outlook for 2024.  ======================= CrossFi is the Apple Pay for Crypto. For the first time in history, anyone with a web 3 wallet like Metamask can spend crypto through a physical or virtual visa cards anywhere in the world where Visa is accepted. Be one of the first to get your hands on a CrossFi card and a prize pool of $3 Million Dollars by joining and participating in their testnet today: ⁠⁠https://xfi.foundation/users⁠⁠ ======================= Pomp writes a daily letter to over 265,000+ investors about business, technology, and finance. He breaks down complex topics into easy-to-understand language while sharing opinions on various aspects of each industry. You can subscribe at https://pomp.substack.com/ ======================= View 10k+ open startup jobs: ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠https://dreamstartupjob.com/⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠ Enroll in my Crypto Academy: https://www.thecryptoacademy.io/

What's up everyone? This is Anthony Pompliano. Many of you know me as Pomp. You're listening to the Pomp Podcast, which is my effort to find the most interesting people in the world and sit with them for hours while I ask questions in an effort to learn. So it would mean the world to me if you would subscribe to the show on your favorite audio platform, watch episodes on YouTube, and tell your friends and family about the podcast. My goal is to help millions learn from the world's most interesting people. So let's get into today's episode. What's up, guys? Darius Dale is back on the podcast. He is the founder and CEO of 42 Macro, and you know that means he's breaking down all of the data in the legacy financial system.

What's going on with inflation? How about productivity? Should you be worried about asset prices? How does he see all of this playing out going into the end of the year? What's up with the politicians? Are they going to print cash or are they not? Is the Fed going to cut rates? We cover all of it. Darius, dropping knowledge as usual. Here is my latest conversation with Darius Dale. Anthony Pompliano runs Pomp Investments. All views of him and the guests on his podcast are solely their opinions

and do not reflect the opinions of Pomp Investments. You should not treat any opinion expressed by Pomp or his guests as a specific inducement to make a particular investment or follow a particular strategy, but only as an expression of his personal opinion. This podcast is for informational purposes only. Today's episode is brought to you by CrossFi.

CrossFi is the Apple Pay for crypto. For the first time in history, anyone with a Web3 wallet like MetaMask can spend crypto through a physical or virtual Visa card anywhere in the world where Visa is accepted. No more exchanges or middlemen. Just link your wallet, get your card, and start spending today. CrossFi card transactions have already been successfully processed in New York, Los Angeles, London, Dubai, China, Japan, and over 20 other countries. Be one of the first to get your hands on a CrossFi card and a prize pool of up to three

million by joining and participating in their test net today. You can go to xfi.foundation slash users. Again, that's xfi.foundation slash users. Go check it out today. All right, guys. Darius, I thought a great place to start this conversation is everyone is trying to figure out what is happening in the US economy. They see job revisions occurring. They see politicians talking about how great the economy is. They see headlines, but not just what is going on in the economy, but also what does that mean for asset prices? You guys have a couple of models over at 42 Macro that I think are worth talking through. And maybe we can start with this risk matrix that you guys put together and kind of walk

us through what is it telling us and how do you really look at the insights as to where we may be going? Yeah, 100%, man. Thanks for having me back. Always a pleasure to be here with your gang. So I'll start by saying you're absolutely right. We are in an era of peak noise. You know, so I've been doing this for almost 16 years now in terms of the institutional macro risk management side.

And I don't think I've ever seen such a dispersion or cacophony of opinion regarding the near term outlook for the U.S. and global economy, regarding the near term, medium term outlook for asset markets. And so one of the things we do well for our clients here, 42 Macro, is distill signal from all the noise. And our global macro risk matrix is one of the more powerful tools we've built to do that for them. And so how this model works is it's scoring the 42 most important macro markets in the world through the lens of our volatility adjusted momentum signal, which we know it works really well in terms of projecting returns and things like stocks, crypto, balance, et cetera. And so how the process works is we understand how each of these assets have historically traded. And based on the current volatility adjusted momentum signal relative to how the asset is historically traded across the four grid regimes, we can sort of sum up exactly what asset markets are trying to price in any given moment. But the obvious conclusion is when that changes, we make changes in our portfolio so that we can remain on the right side of market risk.

And if you look at slide two, you know, we've had this interesting debate over the past couple of months, really since the end of June, between Goldilocks and deflation. right now where deflation has the highest share of the confirming markets in terms of the 18 markets that are currently confirming deflation right now, only 18 of the 42. And as you can see in terms of that strength of signal metric in the chart on the left here, it's actually really low. It's only in the 27th percentile. The total amount of signal that's being generated by asset markets right now is only in the 27th percentile of daily data going all the way back to January of 1998. So we can infer from that that there is a healthy debate going on right now amongst market participants around where we actually headed in market regime terms. We suspect based on our

fundamental views, which we'll talk about later, that will ultimately resolve this debate in Goldilocks. But that doesn't necessarily mean we're out of the woods yet. And we could also see a little bit more deflation priced in in the coming weeks. Now, as this occurs, deflation was this really big concern. I remember Barry Sternlich went on television kind of at maybe Q1, and he said deflation is coming. You know, there's going to be this massive issue. He was accused of talking his book when it came to kind of commercial real estate. And so that deflation never really came because we still got inflation that's elevated. Could there be a world where inflation going down gives us some of the impact, but we still see kind of higher inflation prints? Like,

is there a disconnect between maybe like what the number says versus what people feel? Or should we look at it as a positive number is exactly what we think it is, and a negative number would be the opposite? Yeah, that's a great question. So with respect to being a human, you feel the absolute number, right? The actual change in prices and the level of prices is what we feel as people. What markets feel is the rate of change of those time series. And so what deflation is in grid regime standpoint, is that's when growth is slowing and inflation is slowing simultaneously. Historically, that's obviously a decline in nominal GDP growth. Historically, that's led to risk off characteristics in asset markets. It doesn't necessarily mean markets always have to

go down, but certainly tend to be led by defensive leadership within the equity and credit markets. That's exactly what we've seen over the past six weeks or so, is that deflation has really become the modal outcome from the perspective of asset markets. Now, will it stay is the question, Right. You know, in terms of understanding, you need to understand where you are so that you can understand the base rate to be able to project more accurately where you're headed. And right now we understand that we are in this sort of low strength of signal, low conviction deflation regime with the probability of Goldilocks continuing to rise. And so ultimately, we are sort of, you know, I think from a fundamental standpoint, it's more than likely that Goldilocks wins out when you layer on our projections for growth, inflation, things like liquidity, where we are in the positioning cycle, et cetera. But that doesn't necessarily mean we have to have this smooth transition from today, right? You know, there's other things on the horizon that could create some consternation in asset markets.

And the reason we bring this up is because this system is incredibly powerful at explaining and projecting market performance. If you look at slide four, where we show our global accuracy matrix market regime backtest, specifically for the S&P 500 and Bitcoin, what we see is that there is a significant amount of dispersion when you're going from one of the two risk-on regimes, which are Goldilocks and reflation to one of the two risk-off regimes, which are inflation and deflation. For example, with respect to the S&P 500, 97% of the S&P 500's cumulative return since January of 1998 has come when our global macro risk matrix has identified markets are in a risk-on market regime. That's 109% from Bitcoin. I think Bitcoin time series starts in 2009 or 2010. And so the system is actually better at trading Bitcoin than Bitcoin is at trading itself.

And so that's why we spend so much time infusing and effort in terms of infusing these signals into how we manage risk for clients here at 42 Macro, either via our kiss before the construction process, which is very simple for retail investors, or discretionary risk management overlay, which keeps our buy side clients on the right side of market risk. Now, we saw two quarters of negative GDP growth in 2022, I think it was. And NBER, a fake nonprofit, came out and they said, no, it's not a recession. Yeah, I called it a fake nonprofit because they're really a nonprofit, but somehow they got like king, you know, or decided they were going to, you know, be the ones who said whether it was a recession or not. Why should we be worried if we get negative quarters of GDP growth if we just say, hey, it's not a recession? Like everyone just kind of forgot that that happened and it doesn't seem to really have affected markets. Yeah, well, I mean, it did have market impact in 2022, right? recall that we were in a bear market in stocks and credit. But that, in our opinion, that was

more as a function of the duration risk that we saw develop in the bond market associated with the Fed, you know, taking the policy rate to a 40-year high at the fastest pace we've seen in 40 to 50 years. So, you know, we definitely had some, it created some market risk in 2022. But I agree with you that we weren't in recession. And recall, you know, I was on this program with you in the summer of that year saying the economy's resilient. That's exactly when we authored our resilient U.S. economy theme, which we've maintained every day since then. in the sense that the economy is likely to remain resilient. We're not going to go into a real recession

as identified by the NBR and other sources. And a real recession is when you have a broad-based decline in things like income, production, employment, consumer spending. None of those things are happening. We had just that two negative quarters of GDP. It had a lot to do with the acceleration in the GDP deflator and the unwind of inventory build.

That wasn't your typical recession and the kind of recession that we need to be concerned about as investors in terms of perpetuating a you know deep protracted prolonged uh decline in asset markets you know in terms of you know what creates a deep protracted and prolonged decline in asset markets there's really only three things that you need to be concerned about as an investor one is a sharp you know and sharpened unexpected slowdown and growth uh two is a sharp and unexpected acceleration and inflation and number three is a sharp and unexpected tightening of monetary and fiscal policy we got two of those

three in 2022 where actually i would argue we had all three a sharp and unexpected slowdown in growth. We had a sharp and unexpected acceleration in inflation. We had a sharp and unexpected tightening of both monetary and fiscal policy in 2022. In fact, it was the sharpest fiscal retrenchment we had ever seen on a year-over-year basis in the history of the U.S. economy. So a lot of that created problems. But when we look forward from a fundamental standpoint, if you go to slide six, where we show our grid model, which we use to assess the probability of regime change in asset markets over a medium to long-term time horizon, we're not seeing a lot of negativity, at least not until we get into the first half of next year. So if you look at our

projections for the U.S. economy, we have growth slowing alongside consensus. But what we differ from consensus on the growth side is that growth is likely to surprise to the upside over the medium term. That's the chart on the bottom left. The chart on the bottom right is where we have more concern. But again, that concern is a little bit more tethered to the first half of next year relative to now, is that we start to see inflation pick back up again in the first half of next year. And that'll be pretty divergent from Bloomberg consensus, which is calling for inflation to continue decelerating. And that's obviously consistent with the Bloomberg consensus is consistent with what the Fed is guiding to. And so if you think about how we could see first half of next year play out, we could see something that looks a little bit kind of like 2022 light, whereas we have to price out from the four rate curve, a lot of rate cuts.

And that could also cause some consternation in bond markets, which ultimately causes issues with global liquidity. So, again, that's an issue we see on the horizon, but it's not necessarily something we have to deal with yet. The number one thing we think we have to deal with, you know, between now and let's call it year end, is the fact that growth is likely to continue surprising consensus estimates to the upside, which is something we've been consistent about, you know, since the summer of 2022. Why would inflation kind of reemerge? Do you think it's, you know, if Trump got elected, some people are saying inflation could go up. Is it that because they start cutting interest rates and, you know, kind of the inflationary behavior from consumers returns back into the market? What could kind of drive that? And why do you think consensus is saying it's not going to happen and you guys are arriving

at a different conclusion? Yeah, that's a great question. So I think there's three reasons. There are three reasons, rather, why inflation is likely to start to reaccelerate when you get into the first half of next year. The number one reason is base effects. We're just cycling the lows of the time series. And we had a lot of persistent, protracted disinflation over the past few years that

is going to start to fall out of the time series. And if you follow the time series, you're going to be replacing that with levels of inflation that would cause an acceleration. So that's quantitative. Just mathematically, it's very likely that we see an acceleration inflation. So that's step one. Step two is that, you know, based on how I think we understand how the business cycle works as well as anyone. I are 42 macro having done a big, deep dive empirical study on hundreds of time series to identify exactly how they perform in and around recessions, in and around recoveries. you know, what leads, what, what lags, what, and what we found that one of the most salient takeaways from that study is that inflation is by far the most lagging indicator of the business cycle by far, like by a country mile. If you think about, you know, how the business cycle

actually works, you know, you have policy Titans, then you have liquidity drains and you have corporate profits decline. Then you have growth slow, the employment breakdown, the year of credit breakdown, and then like 12 to 15 months after recession has started, you have inflation breaking down below trend. Well, again, I said this earlier, we don't see a forward recession as a likelihood on over medium term time horizon. And so without a recession to really, you know, kind of create that durable breakdown below trend and inflation that would allow it to, you know, have a mean of two percent, that's unlikely to occur. And so if that's unlikely to occur, what is likely to occur is the base effects just start to carry the time series higher.

And then the final thing I'll say is that next year, it doesn't matter who wins the election. and this is something we've talked about on this program and other programs, but both parties are incredibly populist. You know, both Donald Trump or Kamala Harris, J.D. Vance or Tim Walz, it doesn't make a difference what they're saying. What you need to hear from each side, both sides of the aisle is that the debt and deficit are going to continue to rise. And, you know, one party does it with tax cuts, the other party does it with, you know, profligate spending, and they both wind up in the same place, which is, you know, deficits and debts continue to rise. And so ultimately, we see a fiscal expansion, a fiscal impulse, a positive fiscal impulse in 2025 that

could also contribute to some upside in inflation, which would be very consistent with how the business cycle has historically behaved. Typically, you see, you know, significant deceleration in inflation late in the business cycle, only to have it reaccelerate, you know, kind of towards the very tail end of the business cycle, which obviously causes the Fed to have monetary policy too tight relative to the ultimate growth outlook. But again, this is all stuff that I think we're going to have to deal with that throughout 2025. Right now, I think that the most important thing we need to be concerned about, you know, looking at slide six is the fact that growth is likely to surprise consensus to the upside, continue surprising consensus to

the upside. If we look at this seventh slide that you have here, what exactly are we seeing in the grid model that you think people should take away? Yeah, so what I'm showing here, these are each of our grid models, the historical and the projections for all the major economies in the world. When you see a G in this table that just shows that the economy is likely to be in Goldilocks, has been or likely to be in Goldilocks. That's where growth is accelerating and inflation is decelerating. R is where we call that reflation here, 42 macro. That's where growth and inflation are accelerating simultaneously on a trending basis. Inflation is where growth is decelerating and inflation is accelerating. And finally, deflation is where growth and inflation are slowing

simultaneously. Goldilocks and reflation have typically catalyzed risk on market regimes, either Goldilocks or reflation, dating back to that global macro strategy we talked about earlier. And then inflation and deflation have typically catalyzed risk off market regimes, dating back to slide five, four that we talked about earlier. And so when we look at this from a global perspective, if you look at the bottom, the world grid model, and then the mode of all the countries in the sample, you know, we're seeing a lot of Gs through, you know, towards the end of this year. And so in our opinion, this is something that could also create some positive dynamics and positive forces for asset markets over the medium term. Now, again, the macro markets, generally speaking,

we're sort of relating what's happening in the economy versus what's actually happening in asset markets through the lens of that global macro risk matrix we talked about earlier. Typically, what happens is the U.S. economy's grid sequence is more dominant than the global grid sequence. So I would put more weight on what's likely to occur in the U.S. economy over the medium term than I would on the global economy. But the fact that we have these now global tailwinds, as opposed to persistent global headwinds, which is what we had from basically the second half of 2021 all the way through the end of 2023. Now those have turned into tailwinds from a growth perspective. And so that's positive at the margins. But again, it's really going to hinge

on whether or not we're right on US growth surprises at the upside and inflation remaining relatively tame until at least year end. When you look at asset prices in general, Um, there's a lot of, uh, I think investors asking themselves, I can buy S and P I can buy tech. I can buy name your, you know, other kind of, uh, verticals within public equities. I can buy crypto. I can buy bonds, whatever. One of the things that I find most interesting is there's been this boom in AI and a lot of people are saying, Hey, that's why the tech sector is taking off. And the question is, you know, can it continue in, uh, in the path that it's on? But AI also promises productivity gains, which if that promise comes to fruition should lead to growth gains and GDP growth. How do you start to kind of think about AI as investable, you know, kind of universe and whether people should be evaluating that on just itself or looking at the market more broadly, but then also trying to look at the technology and the companies and all this stuff and seeing like, does it change some of these models? and potential future growth and maybe actually lead the Fed to want to cut faster or more severely and kind of all these like knock on and second, third, fourth order effects that maybe aren't being as discussed today as they should be. Yeah, no, 100%. I'm so glad you brought up

productivity because that's one of the things, the productivity dynamics are one of the things that helped us get our clients back on the long side of risk in November. We recall that in October of 2023, we were on the bear side for about a month, but then we got back on the bull side, you know, the beginning of November of last year. And one of the catalysts for that pivot among many, one of the catalysts for that pivot was the recovery we saw then in productivity growth. And productivity growth, to your point, is very positive for asset markets because it ultimately allows you to grow the economy with disinflationary pressure. And so whenever you have productivity growth rising, you have margin expansion, which ultimately allows you to have, you know,

labor market growth without necessarily having the sort of inflationary impulse that would cause corporations to kind of fire people. And so that was something that was really positive at the margins. We saw that that persists, that dynamic does persist. But with respect to AI, I don't know that we're at the point in AI where we're really going to start to achieve productivity gains. And the reason I say that is because when you look at the leadership in the stock market with respect to AI, it's still relatively concentrated to the picks and shovels. It has not necessarily broadened out from a leadership standpoint to the kind of application providers. And so it's got to get to the application providers first. They really

need to see the outsized benefit before we really start to see an outsized benefit and productivity for the broader economy. That's coming. It's more than likely coming, right? But this could be something that could take 12 months, 18 months, 24 months, 36 months. Any one of us would be a fool to pretend like we understand how this is going to play out because it's, you know, this is industrial revolution type stuff. You just, you can't predict the outcomes. But what we do know is that we aren't necessarily there yet. And this is going back to this Goldilocks versus deflation debate, you know, going back up slide two. I think what Goldilocks versus deflation within the context of AI is trying to argue is, do I want to bet on the mega cap safety of the folks,

the picks and shovels and the companies that we know are directly exposed that are going to have outsized revenue and cash flow growth over the medium term or Goldilocks, which is, do I want to bet on that kind of broadening out to the rest of the economy? And so ultimately, that's kind of how I think about it from the set of AI. But again, I don't know that AI is the dominant driver of the asset markets over the medium term, but they will be a dominant if it's what it is supposed to be. Right. And none of us knows if it is going to be what it's supposed to be. But if it is if it turns out to be what it's supposed to be, then it will have an enormous impact on the future of economy that you know i don't think we can really understand all the ways and we just have to be

basing about that along the way i have no clue what all the impact is going to be it just feels like uh yeah it's going to be helpful right it already is kind of you know we use our ai applications and whatnot and it's certainly helpful we're integrating ai into a more and more into our client dashboard so that's been super helpful in terms of you know generating summaries and helping clients you know find answers to questions during our research and whatnot so like it's certainly helpful and productive it's speeding up the amount of time for information transfer. You used to have a library, you used to go to college or, you know, get a PhD to learn

things. Now you, then you went to the internet, but now the AI just actually takes all the stuff from the internet and dumps it right into your lap in a way that's, you know, saves time. And ultimately, if you could save time, you could speed up your development process for different, different tools, applications, et cetera. Yeah. It's pretty incredible.

Where can we send people to find 42 Macro? 42macro.com. Come check us out. I appreciate you, man. It's always a pleasure to be here with you guys. and you ask the best questions, my friend. So you keep doing what you're doing for your community. I know they really appreciate it.

You're so kind. I learned something today that you think inflation is going to re-accelerate and consensus doesn't. So I'm going to go study that a little bit more and that we'll come back in the next time we talk. Hopefully I'll have some answers for you. Absolutely.

Yeah. Again, that's the first half of next year issue. So I wouldn't put that on right just yet. But again, I think that's something we'll deal with as investors primarily through bond markets and global liquidity on the first half of next year. But between now and then, And I think we should have some relatively smooth sailing, barring, obviously, our usual

September, October seasonality. All right, my friend. Thank you so much. We'll do it again. Appreciate you, brother. I'll see you next time.