The Pomp Podcast - #687 Breaking Down The Macro Economy w/ Darius Dale

Episode Date: October 13, 2021

Darius Dale is the Founder and Chief Executive Officer at 42 Macro LLC, an online financial media company specializing in macro risk management.. He was previously the Managing Director at Hedgeye Risk Management.    In this conversation, we discuss the macro economy, inflation, employment, wealth inequality, wage growth, monetary policy, and bitcoin.  ======================= MiamiCoin is the first token to be released by CityCoins, a community-driven project built on Bitcoin. CityCoins aims to give people around the world a new way to support their favourite cities.   The protocol has already generated over $7 million dollars in donations to the city of Miami and continues to grow every day.   If you want to get involved Follow @minecitycoins on Twitter to stay up to date with the project. Visit chat.CityCoins.co to join the community discord and contribute to the movement. ======================= Cosmos is building the Internet of Blockchains, marking a new era of interoperability, scalability, and usability. The free flow of assets and data between blockchains with bridges to Ethereum and Bitcoin will unleash the potential of DeFi, NFTs, and much more. Dive into Cosmos at cosmos.network/pomp  ======================= Matrixport is Asia’s fastest-growing digital asset platform founded by crypto veterans Jihan Wu and John Ge. With $10 billion in assets under management and custody. Matrixport offers one-stop crypto-financial solutions including fixed income, Defi in 1-click, structured products, Cactus Custody™, spot OTC and lending. You can earn a high double-digit yield with the Dual Currency Product or opt for the lucrative potential of our new product, Range Sniper. If you hold crypto and are actively looking to do more with your precious asset, then this app is one you don’t want to miss. Download the Matrixport App and enjoy a welcome offer of 30% APY on Fixed Income for new users. Visit invest.matrixport.com/en today.

What's up, everyone? This is Anthony Pompliano. Most of you know me as Pomp. You're listening to the Pomp Podcast, simply the best podcast out there. Now let's kick this thing off. Darius Dale is the founder and chief executive officer at 42 Macro LLC, an online financial media company specializing in macro risk management. He was previously the managing director at Hedgeye Risk Management. In this conversation, we discuss the macro economy, inflation, employment, wealth inequality, wage growth, monetary policy, and Bitcoin. I really enjoyed this conversation with Darius and I hope you do as well. Before we get into this episode though, I want to quickly talk about our sponsors. First up is MiamiCoin. As you may have heard, we just had Miami Mayor

Francis Suarez on the show to talk all things Miami, including his excitement for a project that's really caught my attention, MiamiCoin. It is the first token to be released by CityCoins, community-driven initiative built on top of bitcoin city coins aims to give people around the world a new way to support their favorite cities in short the city of miami was given around seven million dollars and counting by private citizens to improve the city with no strings attached a city government embracing bitcoin and crypto instead of fighting it with a historic event do you want to get involved follow at mine city coins on twitter to stay up to date with the project and chat citycoins.co to join the community discord and contribute to

the movement again at mine city coins or city coins.co go check them out let me know what you think next up is cosmos they're building the internet of blockchains marking a new era of interoperability scalability and usability the free flow of assets and data between blockchains with bridges to ethereum and bitcoin will unleash the potential of defy nfts and much more dive into cosmos at cosmos.network slash pomp again cosmos.network slash pomp the internet of blockchains marking a new era of interoperability, scalability, and usability. Last but not least is Matrixport. Have you lost your way in this low-yield environment

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including fixed income, DeFi and one click, structured products, cactus custody, spot OTC and lending. You can earn a high yield with a dual currency product or opt for a lucrative potential of new product. If you hold crypto and are actively looking to do more with your precious assets, then this app is one you don't want to miss. Go download the matrix port app today or go to matrixport.com. Again, you can go to the app store and download the matrix port app or you can go to matrixport.com. All right, let's get in this episode with Darius. I hope you guys enjoy this one. 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. Can we start with your background first? I see the Yale helmet back there. So tell us just a little bit about what you did before you started 42 Macro. Yeah, I guess I crushed skulls at Yale. That's probably the first thing that got me on the map. I ran macroeconomic research at this firm called Hedge Iris Management, a very large independent research provider based in Connecticut. And then I left this year to start my own

project. You know, what we really want to do is sort of help investors across the entire, you know, asset allocation spectrum and level of sophistication kind of get empowered with the same sort of thought processes and tools that, you know, professional investors are using to manage their overall portfolio risk. Got it. And so when we think about your framework for evaluating the macro economy and then actually investing, is there a certain way that you describe what that framework is? Yeah, it's regime segmentation. What the hell does that mean? Well, it means putting things in categories that allows you to sort of think really quickly about what the ultimate sort of impact is whenever you go into and from a different regime. I'd say the

most popular investor, I'm sure you guys all know Ray Dalio is, he probably made that concept of regime segmentation quite famous. I did a lot of research at Hedgeye to make it even more famous. And ultimately, we're using a similar framework here at 42 Macro, although it's a little bit different in terms of the variables we use. What we're ultimately trying to identify is the economy going into one of those four states, Goldilocks, reflation, stagflation, or deflation. And if so, what's the likely response and path of asset markets as a function of that? Okay. So let's walk through these four different kind of regimes. So Goldilocks, what exactly does that mean? Yeah. So that's when growth is

accelerating and inflation is decelerating. That's the most favorable macroeconomic regime for stocks, for credit, for crypto. This is where Bitcoin, Ethereum, all the sort of everything in the crypto space tends to have this outsized excess performance. You go clockwise on this chart to reflation. That's where growth and accelerating simultaneously. Inflation is on the x-axis, growth is on the y-axis. And that tends to be where you still have positive risk on performance, you know, you really get a commodities involved, but you also tend to start to see real negative returns in fixed income, particularly anything with duration risk, which is very sensitive to interest rates. Right now you go continuing on clockwise, you have inflation or

what, you know, what most people call stagflation. We call it inflation because grid sounds better than GRSD. GRSD sounds like a Z's or something. Anyway, you know, this is, this is when you cross the horizontal axis, that's when things start getting risk off. That's when equities and credits start to wobble. I have volatility. That's when fixed income starts to outperform. And so really, but kind of the key differentiator as it relates to Bitcoin and crypto is when you're in that bottom right quadrant, you tend to find that crypto can outperform and can work relative to equities and credit. Whereas when you're in the bottom left quadrant, you tend to have all things going down simultaneously. Got it. And so when we start thinking about where we are right

now. How do you describe which one of these regimes we're in? Yeah. So if you go to that next slide, the big table with all the different regimes. So we run very sophisticated models, econometric tools to forecast where the growth inflation rates are for any account for all the major economies in the world. And ultimately, what we're trying to do is track inflection points in those cycles. So we're kind of at a really critical juncture here in Q4, where the conditional probability of realizing each of those regimes, particularly stagflation, is actually quite, quite wide. You know, you have a much more flat distribution of outcomes as opposed to a very narrow and skinny distribution of outcomes that we've kind of experienced over

the last 18 months, whether it be going from reflation in Q4 of 18 or 19 to deflation in the first quarter of last year, back to Goldilocks and then reflation. Now we're kind of in this jumbled mess, but ultimately we think that jumbled mess is going to resolve itself positively with another reflation trade at the end of the year. Got it. And so when we started- Fourth quarter, man. Fourth quarter, right? Fourth quarter, you know. At Yale, they were throwing up fourth quarter when they were losing a book now, I remember. So let's talk about actual assets themselves, right? What we basically saw was in March of 2020, we saw a massive sell off in asset prices. Government steps in through fiscal monetary policy. They basically inflate assets to the moon. As we start to look towards the end of this year, there's a lot of talk around, are they going to taper? Are they not? But before we get to kind of a conclusion on what you think is going to happen there, what are the factors that play into that decision that you're watching?

Is it things around inflation? Is it things around unemployment? Is it things around job growth on a month to month basis? Like what are the data points that you look at that you ultimately think feed into they're going to taper or they're not? Yeah. So it's to me, it's number one, two and three of the labor market dynamics, whether or not they're going to taper. I would argue that they're going to taper in terms of their guide, their forward guidance from the most recent FOMC meeting. they almost they basically just said, I don't really care what happens. We're going to taper November. Now, the speed of the tapering program and whether or not it's a it's a successive program, i.e. going from start to finish without any interruption, that is yet to be determined. But as it relates to sort of their accomplishing some of their goals on substantial further

progress in the labor market, they see they feel like they've met those goals, particularly looking at the level of total employment. I argue that there's still a lot of long ways to go into the different conversation. But on inflation, very clearly achieved substantial further progress on that front as well. And so it looks like that we're going to have liftoff in Q4. But again, the taper is the sideshow. What markets really care about is, OK, once we get done with this tapering process, what is the likelihood that we see interest rate hikes over the near term, medium term, long term? What's the shape of that curve look like? And I think that's what the market's really wrestling with and trying to digest and hearing you for. Got it. And so when

you start to look at inflation right now, we're over 5% on a CPI basis, over 4% core. These are some of the highest levels we've seen, you know, CPI numbers, I think 13 years, core like 30 years. What exactly is driving that in your opinion? Is that supply chain? Is that monetary fiscal policy stuff? Is it a combination? It seems like everyone's got an opinion, but nobody actually knows? Yeah, no, no. So we, I mean, we do a tremendous amount of work at 42 Macro unpacking all these dynamics. I sent you a bunch of these charts out of the deck. I don't know if I sent you the supply chain charts, but so it's, it's a combination of factors, right? You have supply chains, you know, where the, you know, there's different data sets that we look at to identify

that, whether it be the Baltic dry index, the supplier delivery time indices within the ISM services and paid ISM services and manufacturing indices, they're all continuing to suggest supply chains on the tradable goods side is supply chain headwinds continued. In terms of the supply chain dynamics on the services side, we're actually starting to see that, you know, pick up. You go back to Friday's jobs report. We saw that the labor force participation rate for prime working age adults, you know, people who are 24 to 25 to 54 years old, that actually ticked down 20 basis points. So people who should be in the labor force should be working, you know, at a very high rate actually are now moving in the wrong direction, partially likely driven by the Delta variant.

But who knows if it is a Delta variant? We'll have to see on the next data point. The reason I highlight that is because that, in my opinion, catalyzed the very sharp acceleration in average weekly earnings. We're tracking just shy of 6 percent on that metric, which is obviously extremely high relative to the recent past. And if we continue to see that supply demand mismatch develop in the service as part of the economy, we're going to see more wage inflation. And that is a very different dynamic than most people have had to deal with in the last 20, 30 years. One of the interesting charts that you had sent me was just how much cash investors have on hand right now. It's basically a record amount of cash. What's driving that?

Yeah. So slide 40. Yeah, absolutely. Great chart. And so the slide 40 and 41 kind of really go hand in hand. This blue line just shows the amount of assets in money market funds. That's about four and a half trillion. What's interesting about this is typically when there's a lot of cash on sideline is because stocks have blown up and people rush to rush for the exits this is very anomalous relative to you know any any pass of this time series what it's telling you is that people are really concerned about bonds uh they don't want to buy bonds the long you know long term treasuries with the 10-foot pole because they're very concerned about inflation so they're looking for resolution on the inflation front i.e is inflation going to be transitory is it going to

be uh persistent from a levels perspective i happen to think it's both rate of change transitory it's going to be rate of change or sorry rate of change terms it's heading down over the next 12 months but from a levels perspective it's going to bottom at a rate that's much higher than we're used to having inflation bottom uh in this economy and that to me is a big difference and part of the reason why you're seeing all this cash on the sidelines but i say that to say this look at the next chart slide 41. to me slide 41 is partially the reason why uh we anticipate there is going to be a recovery a reflation trade uh here in in q4 and more importantly this is is probably why you're going to see Bitcoin, Ethereum and the like go through the moon here

in Q4. Everyone's so hyper concerned about sort of all these different dynamics, whether it be the debt ceiling, fiscal policy, all that nonsense going on down in D.C. You have earnings, corporate earnings and all the supply chain dynamics that are kind of forcing people, investors to take down their expectations for earnings growth. But the reality is the thing that's gotten the market to this point hasn't slowed down yet. Right. Look at the blue line in this chart shows the Fed balance sheet minus the change in the Treasury general account. That's a rough approximation for the amount of net liquidity being pumped in asset markets. And as long as that blue line's going up, you have to tell me a really, really interesting story about why the red line has to

go down a lot. We would expect the blue line to finally peak out sometime in Q1 or Q2 of next year once the Treasury Department really starts to borrow a debt in size again. They've kind of been nowhere to be found all year, and that's been very supportive for asset markets. But ultimately, once we get to the other side of the debt ceiling, we get the budget resolution passed and we have much more clarity on the fiscal policy front, you're going to start to see the Treasury take up its cash balance and really start to tap public markets. But again, that to me is at the earliest three months away, probably four or five months away. If we go to slide 43, you've got these slides on inflation and then disinflation. So first, let's start with kind of the secular

view around inflation and kind of how you're actually looking at this on both secular and cyclical? And then we'll talk about what those macro structures around disinflation are. Yeah, great question, man. Absolutely. So on slide 43, we just show our inflation projections, both on a long-term basis in terms of contextualizing the time series, that's on the left. And then we zoom in for the last, you know, kind of five years on the right with our cyclical view on inflation. As I mentioned, our models are pointing to disinflation over the intermediate term. Now, over the next couple of months, you could see flat to up series. If you zoom all the way in, you're going to see some flat to up data, likely to see some flat to up inflation prints

here in Q4. But the reality is, you know, you go a year from now, we're talking about inflation, that's 100, 200 basis points lower from a headline perspective. However, if you look at the, you know, kind of draw a line at the tail end of that chart on the right and draw a line all the way through the chart on the left, and you say, hey, if we bottom here, that's much higher than where we used to bottom in terms of the most recent past, right? Like inflation, and I'm going to get super academic and wonky on you. I still have a few brain cells left from my gridiron days. But, you know, the stationary mean of this time series is somewhere around one and a half percent. That's kind of where it oscillates around. We're talking about the stationary mean of the CPI time series

starting to oscillate around two, two and a half percent. That is a big change. And one of the reasons why you're seeing all that cash on the sidelines in terms of investors not really wanting bonds, but ultimately that cash has to find a home. No one's going to sit in cash if we're talking about inflation, the stationary mean of inflation transposing itself higher by 100 basis points. That cash either has to find a home in cryptocurrency, has to find a home in commodities, which I would argue is accelerating to the upside and or it has to find a home in equities and credit. And so to me, I think those dynamics really do support recovery like inflation type trade here in Q4. But ultimately, I do believe the net liquidity dynamics will put an end to

that sometime in the first part of next year. So before we talk about disinflation real quick, what I want to kind of outline for people is the situation we have right now is we've got higher levels of inflation. When the rate of change of inflation comes down, it won't be at five percent, somewhere to two and a half percent, which is much higher than it previously had been. People are sitting with cash because they don't want to buy the bonds because of their worry about the inflation. And so your argument is if we have that persistent level of inflation, people aren't going to sit in cash forever. They're going to eventually have to deploy the cash. When they deploy the cash, they basically are going to look at asset prices.

They've got commodities, they've got equity, they've got credit, and they've got crypto or Bitcoin. And so the argument then becomes, how can they deploy this money with the best risk return kind of profile and build a portfolio that allows them to take all that cash with that inflation that's just eroding it away and get it into these assets? When we look at what is slide 46 here, this idea that while all of that is going on that I just described, there's these like macro structures that are pushing disinflation. And this is demographic technology globalization. So explain what this is showing. Yeah, absolutely. So on that chart, we're just showing go back one chart, actually. So the chart prior to that. Yeah, exactly. So these are the secular drivers of disinflation. This is why inflation isn't going from five percent to 10 percent. Right. These are these things haven't changed. The blue line shows the labor force participation rate.

That's a proxy for demographics. The red line shows the money velocity of both are on lows, obviously, from a secular perspective. The black line shows globalization as it relates to the percentage of our imports of goods and services that we import. That's obviously still quite elevated relative to the longer-term time series. And then obviously, one thing that's really accelerated in the pandemic is our use of digital technology and digitization of the economy. I mean, the blue line just shows as a proxy for that, the NASDAQ 100 market cap as a ratio to the Russell 3000 market cap. That's the broadest measure of U.S. equities. And clearly, we're at the highest there. So I'm obviously talking to you guys by Zoom. We're not in the same place. All those things are disinflationary.

Same with the following chart that you were just on. The blue line in that chart is our proxy for an obscenity power in the economy. That's the S&P 100 index market cap as a ratio to the S&P 500. That's up and to the right. That means bigger companies are dominating incrementally relative to the smaller companies. And the red line in this chart just shows employee comp as a ratio to corporate cap X. And it's obviously on the low. So there's this conversation about wages in this country and the potential for wage price spiral, which I think you do have to combat that conversation to some degree and say, hey, a lot of these dynamics that have not only kept inflation low over the last 10 to 20 years, but really, in my opinion, kind of taken the stationary mean down

over the last kind of 30 years or so, some of these dynamics are very much still intact. And so you have to get to a place where, OK, what is changing? To me, what is changing is the key a debate about inflation right now. To me, you go to slide 58 in that deck, 58 through 62, kind of walk through what we see changing and how we think it'll likely impact inflation rates. This is wild. Hold on a second, Darius. This is wild to me. Slide 58. Look at our buddies. What you are saying is that the drivers of populism put the United States from a political risk standpoint the same as a emerging market there is no developed nation united states when

it comes to the political risk so explain what is going on here yeah so let me just i mean just without even explaining what the chart is signifying just look at our homies like look at the guys and gals we're hanging out with in this chart it's not like france and korea and japan like our developed market homies it's russia and china people will hack us on a regular basis in Chile and Mexico. It's bonkers. So the x-axis on this chart shows the Gini coefficient. That's a measure of income dispersion. Higher is more unequal, lower is more equal. And the y-axis in this chart shows unemployment rate. And so you think about unequal societies that have high levels of unemployment, that tends to be where you get the highest amount of political risk

in the economy. And as a function of that, and sorry, what are the reasons for the location of our dot the reason our dot is in that location is on slide 59 you know so like the we've had we've had a war against you know middle class and low class uh low middle income and lower income people in this in this society for the past kind of 20 plus years the blue line in this chart shows employee compensation as a percent of national income and the red line just shows corporate profits as a percent of national income and obviously that was a long healthy stable relationship it was cyclical but it's pretty stable for you know kind of 50 years and then over the last 20 years or so, it's kind of really reversed on its head. And why has it reversed on

its head? Well, there's kind of three big factors. One, obviously, globalization. China joined the WTO in 2001 was obviously a big factor there. You have obviously the advent of technology and digitization in the economy. But I would think one of the least talked about factors is really kind of the explosion and the growth of the private equity industry and industry consolidation we've seen as a function of that and all the M&A associated with that. And so really, we've gotten to the point in this chart where it's like it's just politically unfeasible not to address this situation. Obviously, we had, you know, black lives matter. We have black people protesting in the spring. We have angry white people protesting in January. And guess what? They're

on both sides of the political aisle. It's not about Democrats or Republicans. It's about angry poor people who created a very large amount of angry poor people in America. And as much as we try to ignore that as people operating in and around Wall Street, the fact of the matter is, they haven't gone anywhere and so the in our and my sort of thesis on this is that if you go back to the next slide is that's why we're panicking from a fiscal policy perspective albeit less so than we were at the at the onset of the pandemic but we're certainly still panicking that next slide shows the the scatter plot shows the x-axis is the current account uh uh surplus for deficit as a percentage gdp the y-axis shows the uh sovereign fiscal balance as a percentage gdp

And the reality is, is our dot is at the bottom left for a reason. Like we are panicking as a fiscal authority in response to not just COVID, because COVID was an accelerant to some of these dynamics, right? Like COVID made poor people poor. It made people of color even more poor on a relative basis than they already were. And so it really was an accelerant. And so that's why you see us drop our dot in this chart all the way down to the bottom left. Well, you know, kind of to round up this entire discussion, the next couple of charts kind of just kind of get to the real heart of the matter, which is why I think the inflation rate is likely to be persistent over the long term. You go to slide 60, 60 through 62, kind of just get to the real answer the question really quickly. Who's going to pay the bill? Slide 61 says the foreigners aren't going to pay the damn bill. You go to slide 62. It says, aha. No, yeah, go back up. So go back to 62. The blue line in this chart just shows the Fed's balance sheet is a percent of public debt outstanding. They have to pay the bill. And you think about the change in the Fed's composition over the next year or so, you know, we could have a different Fed head, although I don't think we're going to. But you could have six new people on the FOMC board. All could be pretty dovish on a relative basis to the current composition of the board, although we will get two hops at the margin.

But, you know, this this this Fed could be very different over the next three to five years in terms of facilitating this lurching left of fiscal policy as a function of not just COVID, it, but for some of these dynamics that have been building up, these vulnerabilities that have been building up for 20 years. All right. So talk to me about 42 Macro, the clients that you serve first, because I want people to understand the perspective at which when you spend all day, you know, I was telling people that you're full of data, of charts, of graphs, et cetera. And you take all this, you basically synthesize it. And then you go and you talk to these clients about what they should be doing or how they should be thinking about these markets. So who exactly are those types of clients that you have? Yeah, no, it's anybody who likes making money and not

losing it. I say that very succinctly. I mean, I talked to the biggest hedge funds and mutual funds in the world, the guys who run those funds. And I talked to guys who retire rich guys who just have tons of money in their account. I mean, the reality is, you know, we created 42 macro to democratize information. I believe in what you're doing. I believe in the democratization of information as the most important factor for narrowing the gap between the haves and haves not society. As you know, you know me for many years. I was very much a have not in this society. Plenty of people would love that I continue to be a have-not, but unfortunately, that's not going to be the case. And so we created 42 Macro to actually democratize the processes and the tools, all this data that you're referring to, to everybody.

Whoever can afford our research can come buy the research. We're going to help you construct thoughtful, balanced portfolios in the context of what we see as the most probable outcomes from a macro risk management perspective. When you look at portfolios today, especially of younger people, what is the most common portfolio that you're seeing in terms of you're like, yep, they, you know, the tactical differences aside, that seems to be like either the common portfolio or the portfolio that is best positioned from a structure standpoint for the macro environment we're in? Yeah, that's a great question. And so I'll answer it in a slightly different way. When I'm spending my time in Zoom meetings and whatnot, it's usually with our highest tier of clients for obvious reasons. And so they tend to be hedge fund and mutual fund type investors. And the reality is there is a clear difference between, I would say, millennial investors, you know, portfolio managers who are kind of in our age range versus those who are in the, you know, kind of, you know, Gen X to Baby Boomer age range. There's just a lot more risk taking among, you know, sort of folks like us. I think we all sort of came to we came of age in a time where the market really didn't go down and it didn't pay to be a permabit. I mean, there's a lot of people that are just from previous experience, you know, going back to the Gen Z baby boomers who've seen 250 plus percent market declines in like 20 years.

And so I think they know there's a real kind of there's a perma bear community out there that increasingly will die and go by the wayside. And I think they've been replaced by investors who really understand all these monetary and fiscal dynamics that have gotten the market to this point and are likely to get the market to a different point over the near future, over the long term. Talk to me about Bitcoin and cryptocurrencies. How does that fit into all this? Yeah, great question. So you go to slide 104. So we backtested everything that ticks in that group. We can invest in it or there's some way to get exposure to it. We backtested it within the context of those grids. And right now, we're actually long Bitcoin and Ethereum in our model portfolio construction as a function of sort of being in this kind of hybrid, what we call grid zero environment, whereby each of the four grid regimes is reasonably

probable over the next few months. And so understanding that Bitcoin, if you look at that back test, it has 137% annualized monthly return whenever we're in inflation, that's stagflation. And so that's one of the exposures we've actually allocated to in the book model portfolio construction to take advantage of the fact that, hey, the economy may actually tip into stagflation here in Q4. And if we're wrong on our views on reflation, and it actually is stagflation, you're going to have some exposure to that downside risk with respect to asset markets. And so Bitcoin, Ethereum, two of the best places you can be right now as it relates to price against stagflation. NatGas, Uranium, those are other features in the portfolio construction as

well. We're not all fully tilted into stagflation, but we certainly think crypto plays a very important role in terms of protecting investor portfolios to the upside of inflation and also to the downside and growth over the next few months. Talk about when you're looking at it in terms of that protection to a portfolio in both of those scenarios, what is the allocation size that you're seeing? Is this like half a percent, one percent type stuff? Is it five, 10 percent, bigger, somewhere in between? Yeah. So I've spent many years consulting institutional investors on portfolio construction and really position sizing. That's kind of like the final frontier of investing. There's no real right way to do it. There's wrong ways to do it

for sure. I think licking your finger in the air is probably the worst way to do it. But the reality is, I mean, I've tried, you know, mean variance, I've tried it all. And the reality is nothing works. Nothing works ex ante. It always works ex post. And so I've actually just gone, I've gone straight with just equal weighted position sizes, but more importantly, controlling your allocation to the themes. If you have the slide that go to slide 23, you'll see sort of how we're balanced across the four different regimes and also have a decent cash position in the context of expecting a little bit more volatility in asset markets over the next kind of two to three weeks. I think earnings season could potentially be negative. We got a bunch of economic data this week that

could be negative. It's PPI or CPI tomorrow, PPI Thursday, retail sales Friday, consumer confidence Friday. But it really, as you can see here, it's really just about allocating to each of the regimes. And right now, we're in this hybrid grid zero portfolio construction where we're saying, hey, each of the four regimes is reasonably probable in terms of realizing that economically here in Q4, both in the US economy and also abroad. And so we don't want to be tilted too far into any one regime. If we had this conversation in November of last year, that entire freaking circle would be lime green. It's like, this is going to be the most historic inflation trade you've ever seen in your life. I was on several programs like this,

saying that, screaming at the top of my lungs, saying, look, Bitcoin's probably going to 100,000 by the spring. Now, we only got to $60,000, but I certainly think it's probably going to $100,000 by the end of this year. And you can write me down on that. I like timestamps. But the reality is that the size of each of those pie slices in the portfolio construction varies with respect to what's the actual probability of realizing that regime. And so right now, the probabilities are pretty balanced. So we're pretty balanced. But the next time you have me on the program, it may be all dark blue or maybe all dark green. Who knows? When you think about Bitcoin specifically, you said 100K by the end of the year. Is that a floor that you think will cross over or do you think that's more of like a market top? And that's how that's like the highest you could see it going?

No, no. I mean, pick your duration. It's going to keep going up, right? We know the supply is being halved at various intervals. So it's really just about not being the guy or gal who buys the top of the chart and has to hodl that for like three years. That's what you got to avoid in Bitcoin, right? And so I've been following the stock-to-flow analysis just like everybody else. I don't purport to be an expert in Bitcoin. I purport to be an expert and understanding how the asset actually trades with respect to its own volatility and covariance and return characteristics as a function of the economic cycle, what's happening in the economy. That's what I'm an expert on. And in terms of using that expertise, I would say, hey, look,

as long as we're in this period where we could either be in Goldilocks reflation or stagflation, or sorry, not you can be in the rather each of those has a reasonably probable probability for being realized that you're going to have positive price momentum in Bitcoin. And that's exactly what we're seeing. That's exactly what we expect to continue to see through year end. Ultimately, the sell signal on Bitcoin, it'll be when this sort of net liquidity dynamic really starts to inflect or really is the forward outlook for it to start to inflect lower because what we've seen historically going back to 2017, heading into 2018, was that Bitcoin, you know, ahead of these big market moves tends to be a leading indicator. Obviously, Bitcoin peaked, you know, in Q1 of

last year prior to the stock market, you know, so there is some leading characteristics with respect to Bitcoin and partially because it's more of a pure market, right? Again, I'm not, you know, I certainly am not a Bitcoin cheerleader. I think it's just as, I think of Bitcoin the same way I think of all the other, they're like kids in the portfolio construction. You know, one kid sometimes is acting up, one kid's out there winning awards sometimes and it switches. The reality is understanding portfolio construction and where each of these children fit in that context is really the name of the game, in my opinion. So I've got two of my brothers here with me. They're real excited to talk to you. What questions you guys got?

Darius, what's going on, man? Good to see you. So my question revolves around your personal portfolio and you share what you want to share. But as someone who talks to more traditional institutional investors all day, I'm curious kind of how you think about personal allocation within your portfolio. Do you own a bunch of equities, a bunch of bonds, gold, or do you own a bunch of crypto and Bitcoin also? And how do you think, we have a lot of younger people that watched this show. How do you think younger people should be thinking about Bitcoin and other cryptos as part of their portfolio? Yeah. So the first answer is the slide 23 is my personal portfolio. And so, you know, I don't spend 16 hours a day working to arrive

at these mathematical conclusions only to not use it for myself. That'd be the most preposterous activity on it. So, no, this is what my portfolio looks like. At most times, obviously, I isolate my cash position every once in a while because I'm a human being that needs to consume stuff. But generally speaking, this is it. In terms of how we generally talk to younger investors about portfolio construction, obviously, if you have more time to retirement, you can take more risk in your portfolio construction. That doesn't necessarily mean you need to always be taking the same amount of risk at every single interval. There are times, specifically using the last 12 months as an example, there are times where it pays to take a crap ton of risk. are really not the last 12 months. I would argue kind of from May of last year through June of this year, that was probably the time to take as much risk as you possibly can. And even if you

didn't get in in May of last year, you could have gotten in in November of last year and still made a crap ton of money. Now, this economic environment that we're talking about is not as obvious in terms of, you know, perpetuating higher, very positive realized outcomes in equity and credit markets than, you know, let's say a broad reflation pie. Go back to that slide. If the pie was all dark green or all lime green, you should be taking maximum risk. If the pie is mostly red or mostly dark blue, you should be taking a lot less risk. And that's what we're trying to help people with. I mean, I can confuse people and lose a lot of people with volatility and covariance and conditional probability. And I certainly understand that discussion is for a more

institutional audience. But the reality is, if you can't figure out colors, you shouldn't be investing anyway. I think that's kind of the key takeaway. John, what do you got? Yeah, Darius, what's up? Thank you for doing this. 42 macro. I am curious about how you look at just inflation in the stock market and bullish and bearish in that sense. What are the key drivers that you see? Is it the interest rates? Is it the inflation that we're seeing? Can you just talk about the overall macro environment we have today? Yeah, I'll take that a step further. Go to slide 18 in the deck. So I think the macro environment is pretty murky. Like each of the four regimes is reasonably probable at the current juncture as a function of where we are on those time series for growth and inflation. they're starting to flatten out and when you start to flatten out it means the probability of going in one direction or the other is higher right if you're just sloping upward or to the downside you know the probability that you go back up or back down and vice versa is much much lower so the reality is i think it's what's mostly about looking at asset markets through different lenses

right now in terms of gleaning forward-looking signals so what i'm showing on this chart here on the on the on the chart on the left the y-axis is showing the volatility risk premium don't worry about how we calculated, that's not for this program. But the reality is the higher up on the y-axis you go, the more bearish people tend to be on that asset class. And the lower you on this on the y-axis you go, the more bullish people tend to be. And so what you're starting to see is that investors are getting really nervous about fixing common defensive assets through the lens of the options market, particularly relative to risk assets, U.S. equities, credit, things of that nature, even something like this S&P 500, obviously, down there to the bottom right.

that's they're effectively betting on what you're seeing in the chart on the right the chart on the right is showing dispersion from a month over month sharp ratio basis so that's kind of that's the volatility adjusted performance for each of these sort of sectors and style factors there's 50 in the entire sample what i'm showing here is the top 10 versus the bottom 10 and the composition of the top 10 versus the bottom 10 is really instructive in terms of spotting in real time what investors at these sort of big massive hedge funds that you hear about you'd citadel on 0.72 in millennium, you know, kind of the guys pulling the strings behind the curtain. You know, this is what they're either choosing to bet on or being forced to bet on as a function

of the risk management systems at those platforms. And so clearly the market is moving towards a reflationary bias. Now I'd argue that it might be a little bit too soon as it relates to some of the catalysts we have between now and then on the economic front. And then on the operations expert front, we've got S&P OPEX this Friday, we've got VIX OPEX next Friday. So you might see some volatility in between now and then, but over a median term basis, I tend to agree with what this chart is saying, is that, hey, look, we might see a bounce in growth post-Delta in terms of the peak economic impact of that. And if that doesn't drag up inflation too fast, if you get some modest appreciation in inflation between now and then, you could actually have a very positive

setup for risk in Q4. Could you see S&P 500 up 4% or 5% between now and the end of the year? I think that's a very reasonable probability. Could you see Bitcoin up by 50% between now and the end of the year? I think that's also a very reasonable probability. Darius, when you start thinking about the questions you get from a lot of your clients, what are the most common concerns or things that people are worried about right now? Yeah, I would say going back to a discussion we had earlier, what's the probability that inflation gets unhinged? We talk about this. I think it's a much bigger issue in Europe right now. You look at our European inflation curves. I forget the chart. Don't quiz me on the chart

number. But you look at the European inflation curve, it's a lot less sanguine over the next few months with respect to getting through the next couple of months. And so you could see some upside surprises in inflation there. And from a headline risk perspective, that could actually catalyze some downside volatility and risk assets. Obviously, the speed, in my opinion, of the appreciation we're seeing in in that gas and crude oil um you know things of that nature and going across you know really the it's starting to broaden out to different commodities as well like the speed of the appreciation will determine how how high and how much we can sort of appreciate how much markets can appreciate all that net liquidity we're getting from the government

i mean because that that that fire hose or that that that fire hydrant if you will is still very much on you know it's being it's we're not being able to realize it as a function of some of these sort of kind of back to back to back OpEx dynamics. You also have, you know, earning season kind of, you know, with Bloodbath and Beyond and Nike and FedEx kind of warrant, you know, kind of scaring investors. There's a lot of kind of trepidation right now that is being priced in asset markets, but ultimately we think that can get to, we can get past that as long as that big fire hose remains on, at least for the next quarter or two. Over the last 12 months, somebody's asking in the comments, what's been the best producer in your portfolio? Has it been Bitcoin

or something else? Bitcoin, without question. No, I mean, without question. Yeah, without question. And how do you look at inside of these asset classes, right? So if you think of crypto as an asset class, you've got certain allocations that you described. When you look inside of like equities,

how do you actually decide to allocate? Is this index-based exposure? Are you doing individual security selection? How do you think about that? Great, great question. So going back to that slide 23, right now we're at least going back to mid to late September.

we made the active choice to start reducing our exposure to very specific sectors and style factors with the expectation that, hey, we might see a broadening base with respect to equity participation. So going back to from June to mid-September, equities were led to the upside by defensive sectors and style factors. That's like low beta, communication services, big mega cap thing type names. All that stuff was dominating to the upside from basically mid-June to mid-September. And so we start to sell a lot of that stuff and said, hey, look, you know, we think this equity market rally could actually start to broaden out. Whereas you start to pick up some leadership from things like cyclical sectors and style factors. But right now, I think we're still in the process of investors getting out of that defensive stuff and into the cyclical stuff.

And ultimately, when they're done with that rotational process, once the kind of the consensus market weight allocation is appropriate, then everything can start to recover at the same time. And that's kind of what we see as the most likely probable scenario for Q4. Got it. What are you most looking forward to over the next 12 months? Any like milestones, anything specific in the in the financial markets or from an investing perspective that you're like, you know, if this happened, that'd be pretty cool. Whether it's the price of a single asset, whether it's a monetary fiscal policy decision, like what are you looking forward to? Yeah, I don't know if it's something to look forward to. It's probably going to be negative. But to me, it's when does the Treasury Department sort of authorize a big, you know, kind of debt binge, public debt binge and start to tap the markets really aggressively again? Because, again, that's been one of the dynamics that's been very supportive for asset markets all year is the fact that the Treasury has not really issued a ton of debt.

And then the function of the debt ceiling and kind of breaching that or at least potentially breaching that doesn't look like they're going to. But, you know, they were kicking that can down the road again. And so to me, I think we're pushing that into Q1 or Q2 of next year when the Fed's balance sheet is doing this, you know, it's going from exponential growth to logarithmic growth. And at the same time, the Treasury General Account is going from going down to going up. When is that moment in time where that blue line going back to slide 42, when does that blue line start to go down? Like to me, like that to me, I'm sorry, slide 41 rather. When does that blue line start to go down? that's the biggest thing that's going to impact asset markets. Yeah, this one right here. When

does this blue line start to go down as a function of those two dynamics I just highlighted? That to me is the next big catalyst on the horizon. And then the catalyst after that, again, these aren't necessarily positive catalysts. But again, we just went from the freaking most historic recovery in stocks, credit and crypto in history. Like every year can't be like that. So let's not expect that to be the case. And the whole purpose of engaging with firms like mine is to understand when do these things, when do these wins change? You have to do something different from the perspective of your portfolio. But again, going back to that second thing, it's when do we when we get to the end of tapering? What is the discussion on inflation like that? Because

it'll be lower in terms of the level relative to where it is now. But if we're talking about different dynamics, then like wage inflation, shelter inflation, things that very well could continue to be accelerating, then that I think we're having a very different conversation about policy dynamics in the U.S. than we're currently anticipating just in terms of the Fed's most recent guidance. My last question for you actually has nothing to do with the quantifiable metrics, but I'm fascinated by this. John is 25 and a lot of his friends we've talked about many times on the show before, they're not allocating any money to any investment unless they think it's 10x or more. There's this element of psychologically people who have not seen those massive market

drawdowns or any market drawdowns that they've experienced have quickly been supported by fiscal monetary policy and kind of shot right back up. It almost feels like they're perma bulls and there is very little understanding or worry of market risks, of safety of margin, all those types of things that I think are kind of timeless investing principles. And so how do you think that that plays into both the younger generations kind of continuing to enter into the financial market, But also those younger people end up actually kind of growing their careers and end up in very important capital allocation positions. And so do you see that changing as well at some of the large hedge funds or asset allocators where younger people just have kind of a different risk reward type framework? And now they're doing it not just with their own personal capital, but they're also doing it from a professional standpoint as well.

Yeah, I see this all the time at the professional level. You know, I'll use there's a big mutual fund that everybody is touched or is it touched by up in Boston? You guys all know who it is. I have discussions all the time with sort of the senior guys there that talk about whether, you know, like how if you made money and really got promoted in that in that shop, you know, the last kind of, let's say, 10 years or so. It's because of the unwillingness to adhere to traditional valuation metrics. You've been you've had the fact that we tune out valuation and the whole concept of it and stay long, you know, rocket type charts, you know, particularly in the thing type space in order to outperform. And that's been something that's been very much demarcated by whether you're millennial versus a Gen X or baby boomer. And so I think that general sort of sanguineness, that sanguine take towards risk asset markets is something that is shared by younger generations.

And I don't think that's going anywhere, if only because we're all products of the market environment we're born in. You know, people who I talk to are, you know, 50, 60, not 50, 60, probably 60, 70 plus or hyper concerned about inflation all the time. People I talk to 40 to 50, they're hyper concerned about the market getting cut in half all the time. And people I talk to are 35 and younger are hyper concerned about the next 10 back. Right. It's just a function of the market environment you grow up in. And the reality is markets don't change. Like the people who are operating in markets change in their relative starting point and all the stuff that effectively trains them to deal and operate in financial markets. that changes, but how markets function don't really change, right? Greed and fear will always

dominate financial markets. And the reality is, you know, just when, you know, just when that cohort at least expects to be really punished by, you know, material long-term drawdowns is when they're all going to get one. Everyone learns how to lose money in financial markets. Like, there's no cohort of investors that is just perpetually rotating from the one 10-bagger to the next. Eventually you get, you know, you go from a 10-bagger to a zero and you go from 10 back to a bunch of zeros. And eventually you realize that making money in financial markets is not easy. When we want to send people to find you on the internet, I'm going to put your Twitter account here in the chat right now so people can follow it. Where else should we send them? Where

can they find you with 42 Macro? Yeah, I appreciate that, bro. Thank you. So I'm at 42macro.com is our website. You can find me on Twitter. I'm a pretty prolific Twitter of charts and analysis i'm at 42 macro d dale d d a l e uh come check us out we appreciate you i uh i always enjoy talking to you and if you're going to show up with charts that say the united states from a wealth inequality standpoint and unemployment standpoint is worse than russia and china uh i think that kind of shocks people a little bit right it is it's true in terms of math bro well there's a lot of people who are arguing with math you know bitcoin is just math and a lot of people argue with that but uh it doesn't mean that they're right indeed they won't be all right

everyone who's watching i highly highly suggest you go check out darius uh on twitter or go to 42 macro.com as well joe johnny last comments thoughts from you geniuses now a couple people in the chat were asking uh who could bench more john or darius but uh we'll leave that imagination for now i i i right now probably definitely you john 42 macro and we'll go check it out so this guy the guy behind me peaked at 405 i think i did 225 25 times is my peak there um so that's your warm-up there was a time where there was no contest but i would i'd probably give you the nod now i mean you got me by 10 years i appreciate that neither of us bench enough exactly that's the right answer i don't know how we started

talking about benching but of course john is going to throw up a little flex for everyone before i let you go all right darrence listen thanks for doing this man appreciate you guys thank you so much bye buddy