30-year Treasury hit 5.3% in early August, the steepest curve in ~19 years.

Treasury Secretary Scott Bessent announced buying $4B (vs. $2B) in long-end Treasuries — an unusual explicit intervention not tied to a scheduled auction.

Market reaction was muted; intervention was characterised as debt shuffling, not quantitative easing.

$40 trillion in U.S. debt cited as a backdrop; debt service has surpassed Medicare as the second-largest federal expense item.

Political motive flagged: 10-year yields are mortgage-linked and politically sensitive ahead of 2026 midterms.

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Fed Policy & Inflation Credibility

2% inflation target viewed as a credibility problem — inflation has exceeded 2% for 6+ years.

Kevin Warsh (Fed Chair, ~3 months in) committed to data-driven, committee-based approach; the market is not expecting new policy signals from Jackson Hole speech.

FOMC vote: 3 of 12 members favoured a hike; 9 voted to hold.

Core PCE came in lower than expected on the day of recording — reinforces hold stance.

Risk: if inflation trends upward, a hike remains on the table.

Historical note: Fed over-communication traced to post-GFC Bernanke era; Warsh signalling a partial return to less-forward-guidance style.

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Yield Curve Dynamics

2s/10s spread: ~55 bps — not historically steep; long-term average ~120–125 bps, leaving significant room to steepen further.

10s/30s: has steepened more materially, creating rich forward points in the 10–15 year part of the curve.

Burden of proof sits with hawks to justify a hike given slowing momentum and financial system vulnerabilities (regional banks, real estate).

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Supply-Side Inflation & Macro Risks

Current inflation is supply-driven, not demand-driven — limits the Fed’s effective toolkit.

Key pressure points: Strait of Hormuz oil volatility, Ukrainian strikes on Russian refining, Red Sea/Bab el Mandab constraints, Rhine at a 146-year low, Panama Canal draft cuts.

U.S. refining capacity is structurally insufficient; product prices elevated independent of crude exports.

Strategic Petroleum Reserve (SPR) entered the current period below optimal levels.

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AI, Credit Markets & Private Credit Risk

Investment-grade spreads remain tight; Google, Alphabet, Amazon issuing long-dated debt for datacenters.

Risk: 30-year datacenter debt faces technology obsolescence; ad-based revenue (Google, Meta) is cyclically sensitive.

Private credit (~15–18% in tech/SaaS per UBS) is the new canary — opaque by nature, with early signs of stress seen in Blackstone/Blue Owl redemption pressures pre-conflict.

If AI momentum falters, bond and equity correlations collapse simultaneously.

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Municipal Credit

$4 trillion muni market seen as relatively insulated — property tax revenue lags economic downturns, providing a buffer.

AAA–BBB muni spread at 80–100 bps (all-time tight), reflecting strong fundamental credit health.

States sitting on fat reserves; debt service as % of general fund far healthier than federal government.

Key risk flagged: Medicaid/Medicare federal match funding cuts flowing onto state/local balance sheets — more pressing than global macro spillover. [Citation]

Pension Obligation Bonds (e.g., Andover, MA) criticised as converting soft liabilities into hard debt — poor practice despite short-term trade success.

AI notes

Overview

Harry and Keith Weiner (founder/CEO of Monetary Metals) explored New Austrian economics, the structural causes of inflation, and gold’s role as a savings and financing instrument. The conversation covered why conventional interest rate policy may worsen inflation, why global capital is increasingly scarce, and how Monetary Metals addresses an unmet need: yield-bearing gold savings. This was a recorded podcast-style interview.

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New Austrian Economics

New Austrian School emphasises Karl Menger’s framework of bid/offer spreads as a measure of market coordination efficiency — tighter spreads signal more efficient coordination.

Distinguishes itself from Misesian, Hayekian, and Rothbardian branches by focusing on price formation through spread dynamics rather than pseudo-mathematical equations.

Key critique of conventional economics: equations like MV = PQ fail because people have free will and are not deterministic particles — unlike physical systems such as PV = NRT.

Every government intervention — subsidies, taxes, price floors, price ceilings — widens spreads and hampers coordination, provably reducing economic efficiency.

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Inflation & Interest Rate Policy

Rising prices in the U.S. are supply-destruction driven, not purely monetary — caused by regulations, green energy mandates, tariffs, war, and disrupted supply chains.

Hiking interest rates to fight this inflation is counterproductive: it raises the cost of financing new production capacity, discouraging the very supply expansion needed to reduce prices.

A business earning 3% return on capital becomes unviable when borrowing costs rise to 5–6%, forcing balance sheet shrinkage and capacity liquidation — reducing supply further.

New Austrian heterodox view: cut rates to ease consumer prices when inflation is supply-constrained, not monetary in origin — though this creates other delayed problems.

Government policy effects are often temporally displaced (6 months to 6 years), making voters unable to connect cause and effect — demand for the cure mirrors the disease.

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Global Capital Scarcity

Harry’s thesis: the world faces a genuine shortage of savings and capital, driven by war, climate adaptation costs, underinvestment in infrastructure, and defence spending.

Rising prices of capital assets (real estate, factories, equities) signal growing scarcity of real capital — not merely dollar inflation.

Regulatory burdens, energy restrictions, labour market constraints, and war are destroying or preventing renewal of capital stock through attrition.

Real yields on TIPS rising toward 3% further evidences capital scarcity and have direct implications for asset and precious metal valuations.

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Gold’s Role and Demand Drivers

In an irredeemable fiat currency system, all dollar savings are captive — every path (Fed, Treasury, bank) ultimately funds government debt; gold is the only exit. [Citation][Citation]

Gold ownership by region:

India: near-universal ownership, thousands of years of tradition; rupee depreciates ~7–8%/year vs. dollar

China: capital controls make gold a permitted escape valve for yuan exposure

Turkey: ~1.5 gold bank accounts per person — protection against lira collapse

Arab world: religious mandate, cultural (bridal jewellery, divorce protection), and dollar-peg resentment

Geopolitical tailwind: freezing of Russian FX reserves (~$300B) signals that dollar and euro holdings can be weaponised — accelerating non-Western gold demand. [Citation]

Gold price rises when more buyers or more purchasing power enters the market; rising per-capita incomes in India, China, Turkey, and the Gulf are structural demand drivers. [Citation]

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Monetary Metals — Business Model

Core product: deposit gold, earn 4% annual yield paid in gold (e.g., 100 oz in → 104 oz out at year-end). [Citation]

Value proposition for savers: swing from paying ~$75/year storage to earning +400 bps yield = 475 bps total swing. [Citation]

Addresses the paradox that gold protects against debasement but generates no yield in conventional custody — completing an intertemporal gold market. [Citation]

Two revenue-generating programs:

Leasing: finances gold inventory (jewellers, refiners, mints, fabricators) in gold terms — eliminates price-drop mismatch risk that dollar-denominated loans create

Lending / Gold Bonds: gold-denominated loans to mining companies; principal and interest payable in ounces; first gold bond issued in 87 years (2020, since 1933)

Yield is not self-referential (not a Ponzi); it is generated by productive use of gold in real industry. [

Transcript

13:08:08 Harry Melandri: Excellent.

13:08:10 Harry Melandri: So, hi everybody. I’m excited to have this particular chat, because I suspect, Keith and I are quite simpatico. I should say Mr. Weiner, I’m hoping he’ll let me call him Keith. I just assume things I shouldn’t assume. Keith Weiner is the founder and CEO of Monetary Metals.

13:08:31 Harry Melandri: It’s a company that focuses on unlocking the productivity of gold through global gold leasing, through the global gold leasing marketplace. He’s a leading voice on gold and monetary economics, and we’re going to talk to him about gold.

13:08:45 Harry Melandri: And he spent almost a decade making gold a yield-bearing monetary asset, which is kind of intriguing for me, given a past job I used to do.

13:08:54 Harry Melandri: Keith is a serial entrepreneur and a frequent speaker on the role of gold in the modern financial system.

13:09:01 Harry Melandri: Hi Keith, thank you so much for coming on and I can’t tell you how much I’ve been looking forward to this chat. Naturally, I read around your thinking a little and I was really intrigued to read about the new Austrian school for a start, but then I was also I had a wry grin on my face when I saw a video you had done called the heat death of the economic universe. So, can you tell us a little about New Austrian economics, and what you’re thinking about the US economy and global economy right now.

13:09:38 Keith Weiner: Okay, well, that’s that’s quite a broad remit here. So, first of all, yes, call me Keith, please.

13:09:46 Keith Weiner: New Austrian school. I haven’t.

13:09:49 Keith Weiner: Tried to answer that question, and 15 years or so, but I’d say It comes from the Austrian school, it was of the Austrian school.

13:09:59 Keith Weiner: That probably puts more emphasis on Carl Menger.

13:10:02 Keith Weiner: And the idea of bid and offer and spread.

13:10:04 Keith Weiner: In its its approach versus the conventional Austrian school, which would either be Misesian, Hayekian, Rothbardian.

13:10:12 Keith Weiner: Garrisonian.

13:10:13 Keith Weiner: And they all went in different directions and explored different things.

13:10:17 Keith Weiner: So, that said, the New Austrian School is not an accredited school.

13:10:23 Keith Weiner: My PhD from it, the work was real, but it’s not a credential that would ever get me a job.

13:10:27 Keith Weiner: In anything, Like a banker.

13:10:31 Keith Weiner: Central bank or whatever.

13:10:33 Keith Weiner: How do I look at the world today?

13:10:38 Keith Weiner: We have this bizarre combination of We’re crushing.

13:10:45 Keith Weiner: Margins.

13:10:47 Keith Weiner: With ever more regulations, ever more green energy policies, ever more trade wars and tariffs, obviously actual war.

13:10:57 Keith Weiner: I don’t think Ukraine exports anywhere near what it used to. Iran is obviously not exporting what it used to other Gulf countries are not exporting what they used to. So goods are becoming genuinely scarcer.

13:11:10 Keith Weiner: And those goods that manage to get out are subject to more and more regulatory costs.

13:11:16 Keith Weiner: And not just cost, but friction.

13:11:18 Keith Weiner: So it’s it’s the unseen and the unrealized. You raise the friction on a certain kind of transaction to a certain point, and you see less and less, or maybe none.

13:11:27 Keith Weiner: Of that, Type of transaction at all.

13:11:31 Keith Weiner: And so we have that going on, so it’s just harder and harder to do business. Conventional theory outside the Austrian school, although I think far too many Austrians accept it, is that rising prices is only.

13:11:47 Keith Weiner: And Milton Friedman is very clear spelling this out exclusively and solely due to monetary You know, increase in the quantity of what we call money, which is the dollar, isn’t.

13:11:59 Keith Weiner: That’s a whole different argument.

13:12:02 Keith Weiner: And so, the cure for that in the conventional approach is hike interest rates.

13:12:07 Keith Weiner: So, I have to look at this with a certain degree of irony, that The government, since COVID has become ever more inventive in finding ways to destroy productive capacity, to destroy supply, and to destroy, distribution channels and shipping and warehousing, every possible thing along the way to bringing supply to market.

13:12:29 Keith Weiner: The government has attacked it almost systematically.

13:12:33 Keith Weiner: It’s almost as if it’s on purpose. Maybe not. I won’t go into, you know conspiracy theories, but they’ve certainly done an awful lot of things to reduce supply globally, but let’s just think, ask the US.

13:12:46 Keith Weiner: So, that obviously causes prices to rise, and boy have they. Depending on what market you’re in, they’re just things that are just you know, the U.S. is experiencing what, what, the Third World is used to, which is intermittent availability.if you want to buy, like, a high-quality bicycle.

13:13:04 Keith Weiner: Like, if you’re really into, maybe not necessarily racing it, but just a high-quality, lightweight, super-stiff frame, thing.

13:13:11 Keith Weiner: And ever since COVID, those things have become hard to get, the dealer has one, you better run in, you better bid it up.

13:13:18 Keith Weiner: To get it. So, supply drastically reduced.

13:13:22 Keith Weiner: Now, the commonly believed cure is that we have to hike the rate of interest so as to combat the increase in what is called the money supply.

13:13:30 Keith Weiner: But what we’re doing is we’re hiking the cost of building replacement supply.

13:13:36 Keith Weiner: So if, let’s say, certain kinds of components that are used on bicycles are only made in China because that was how the market was before COVID.

13:13:46 Keith Weiner: And now, supply is so intermittent and so difficult to obtain, and then let alone tariff to death, that some American manufacturer would think, okay, I’m gonna machine those gear sprockets, or whatever.

13:13:58 Keith Weiner: And then they go and say, okay, can I get a loan?

13:14:01 Keith Weiner: We keep hiking the cost, or we want to keep we hike the cost quite a bit, and the proposal is to hike more and more and more the cost of financing this production facility, this factory.

13:14:11 Keith Weiner: And so, hiking the interest rate doesn’t combat.

13:14:15 Keith Weiner: What we call inflation, it actually feeds it.

13:14:18 Keith Weiner: Because the higher the interest rate, first of all, the stronger the disincentive to build more capacity, so it will discourage a great.

13:14:26 Keith Weiner: Great number of businesses from added capacity, and it’s also the hurdle rate.

13:14:31 Keith Weiner: What do you do if you’re managing a business.

13:14:34 Keith Weiner: That back in the day when a business could borrow at, let’s say, 2%.

13:14:40 Keith Weiner: And you did so in great volume to build a great deal of capacity that generates, let’s say, 3% return on capital.

13:14:47 Keith Weiner: Which perfectly makes sense. If the cost of capital is 2%, 3% is fine, right? And now the cost of capital to that same business, if the Fed funds rate and the T-bill rate, kind of in that mid to high threes, range at the moment.

13:15:03 Keith Weiner: What is the cost of a 2- or 3-year bond?

13:15:07 Keith Weiner: For that sort of manufacturing business, probably 6%.

13:15:12 Keith Weiner: I’m not in that market maybe as much as you are, but it’s got to be a big spread to SOFR.

13:15:15 Harry Melandri: Yeah, T-bills are free, three and a half, but then where would the corporate paper yield be? Depends on the corporate. So yeah, you could be looking at 300 over if you were a high-quality corporate, you’re probably looking at 100 over maximum.

13:15:32 Harry Melandri: I think Google’s more like 30 bps, whether it’s over at all.

13:15:36 Keith Weiner: But also the, also the longer maturity, you’re looking for three year money and not.

13:15:39 Harry Melandri: Oh, if you want to lock it up there, the curve’s getting absurdly steep, particularly after 10 years. There’s a really interesting steepness of the curve. If I actually was in a hedge fund that’s what I’d be playing now, because the roll-down of the like, there’s a real inflection point.

13:15:55 Keith Weiner: Yes.

13:15:56 Harry Melandri: At the 12, 13, 14-year point, and suddenly it’s really steep, and you go down 30 bps in, like, 3 or 4 years. That’s pretty attractive, if you’re if you have access to a swap curve.

13:16:10 Keith Weiner: Right.

13:16:11 Keith Weiner: So anyway, so whatever. So let’s say it’s, let’s say money is costing you 5%.

13:16:16 Keith Weiner: But you’re only making 3% return on capital.

13:16:20 Keith Weiner: That’s a problem.

13:16:21 Harry Melandri: Right.

13:16:22 Keith Weiner: Now, let’s so, obviously, you’re gonna have to shrink the balance sheet, you’re gonna have to liquidate assets and pay off some debt. That doesn’t work. Suppose you’re completely unlevered, zero debt on the balance sheet.

13:16:32 Keith Weiner: And you’re getting 3% return on capital.

13:16:35 Keith Weiner: Your hurdle is still effectively 5%.

13:16:38 Keith Weiner: If you can’t generate 5%, you shouldn’t be in that business.

13:16:41 Harry Melandri: Yeah.

13:16:42 Keith Weiner: Right, so the interest rate is an incredibly powerful signal that’s saying, shrink supply, reduce capacity liquidate production.

13:16:51 Keith Weiner: And the higher the interest rate, the more that it’s saying to shrink and liquidate.

13:16:55 Keith Weiner: So the mainstream’s got it backwards. So the U.S. has a lot of what we call inflation, which is rising prices, but isn’t monetary in origin. And if You know, I think most of the voices at the Fed think we should hike rates.

13:17:08 Keith Weiner: I think Kevin Warsh was hired to cut rates.

13:17:13 Keith Weiner: And I don’t think he’s going to cross his new boss.

13:17:16 Keith Weiner: But that’s a whole different—that’s a speculation on what he’s gonna do.

13:17:21 Keith Weiner: Here’s how I put it, and I’m not a central planner, and I don’t think anybody, including me, knows the right interest rate. And even if government did know the right interest rate, it shouldn’t be imposing it by force.

13:17:32 Keith Weiner: But, suppose you’re a central planner.

13:17:35 Keith Weiner: And you’re only concerned with prices.

13:17:38 Keith Weiner: Now, there are many harms caused by changing the interest rate around outside of consumer prices, but suppose you only cared about consumer prices.

13:17:47 Keith Weiner: Price inflation is running hot.

13:17:50 Keith Weiner: You should cut rates, not hike rates.

13:17:53 Keith Weiner: And that is extremely heterodox.

13:17:55 Keith Weiner: New Austrian school view of, of how, interest rates and prices interact, and how, you know prices are formed.

13:18:05 Harry Melandri: So I’m familiar with that argument. I think it’s persuasive. I mean, one of the questions in my head is, imagine you thought.

13:18:17 Harry Melandri: The interest rates had been too low for an extended period of time.

13:18:24 Harry Melandri: Wouldn’t that encourage some sort of malinvestment problem.

13:18:29 Keith Weiner: Oh, yeah, there’s lots and lots of problems of interest rates that are too low.

13:18:30 Harry Melandri: Over an extended period.

13:18:34 Keith Weiner: But if you focus only on consumer prices.

13:18:37 Keith Weiner: And you want to ease consumer prices, then, then that would be the policy. Yes, you’re causing other problems in other places, but usually delayed. So, solve pain today to cause problem with some lag tomorrow, and that’s how policymakers.

13:18:52 Keith Weiner: That’s when you politicize the decision, that’s exactly what happens.

13:18:56 Harry Melandri: And then you suddenly realize that you had rates too low, so domestic capital formation might be too low, or might be skewed into markets it shouldn’t have been in Well, sorry, then you want to increase domestic capital formation.

13:19:15 Harry Melandri: Your problem is one of the problems with that, one of the constraints would be the supply of savings. If you have sufficient savings, then you can cut rates.

13:19:26 Harry Melandri: And they will mobilize those savings anyway. But if you don’t, would that work?

13:19:33 Keith Weiner: So, here’s another area where I’m not sure if I’d call this New Austrian, but I’d definitely call it Keith Weiner.

13:19:39 Keith Weiner: In an irredeemable currency system everyone assumes it works basically like gold, except it’s inflationary, but that Every dollar that you could have It was trapped in a closed-loop system.

13:19:55 Keith Weiner: You are a creditor, whether you wish it or not So your savings are captive to them, because the thing that you think is savings is actually government debt paper.

13:20:05 Keith Weiner: So, you if you’re gonna have a dollar, you have 3 choices of who you’re a creditor to. You can be a creditor to the Fed.

13:20:12 Keith Weiner: If you have dollar bills, paper, pieces of paper printed.

13:20:17 Keith Weiner: 20 on them, or 100, or whatever.

13:20:20 Keith Weiner: You can be a creditor to the Treasury, if you go to treasurydirect. com and buy, T-bills or, or, or, Treasury bonds or whatever, or you can be a creditor to Now, if you’re a creditor to the Fed, the Fed lends to the Treasury.

13:20:34 Keith Weiner: So, you’re still financing the government debt anyway, and if you’re creditor to a bank.

13:20:38 Keith Weiner: The bank is either funding the Treasury or the Fed.

13:20:41 Keith Weiner: And so, all possible paths lead to You’re funding this anyway.

13:20:47 Harry Melandri: Yeah.

13:20:47 Keith Weiner: Now, one of the things that makes gold different is that it’s possible to take your marbles home.

13:20:53 Keith Weiner: This was the thing that was concerning to President Roosevelt in 1933, because people taking their marbles home is also called a run on the bank.

13:21:04 Harry Melandri: Yeah.

13:21:04 Keith Weiner: And, so that forces banks to sell bonds, pushing bond prices down, interest rates up, which he didn’t want, he wanted lower rates.

13:21:11 Keith Weiner: And secondly, it actually causes banks to be insolvent, because if you mark the bank’s assets to market, which has been the case since, Luca Pacioli proposed double-entry accounting, I think in the 16th century, all the way through 2009, when they thought they knew better and said, we’re not gonna mark to market anymore.

13:21:31 Keith Weiner: But in 1933, you’re marking to market, so if your entire bond portfolio loses 10% in market price, then the asset side of your balance sheet as a bank loses 10%, you might not be solvent anymore.

13:21:42 Harry Melandri: Yeah.

13:21:42 Keith Weiner: And so you have insolvency, certainly you have liquidity crunches, where the bank can’t raise the capital, the gold, to pay out the depositors they’re redeeming.

13:21:51 Keith Weiner: So, Roosevelt says, okay, we’ll make the domestic currency system irredeemable.

13:21:57 Keith Weiner: Now, if you’re an American, it’s illegal to hold gold. The banks don’t redeem anything for gold anymore.

13:22:02 Keith Weiner: And, there’s no there’s no means of having it run.

13:22:06 Keith Weiner: Not on the banking system. Yes, one bank can go bad, and everyone flees to the other banks, but not systemically.

13:22:12 Keith Weiner: So, what that means is, among other things, you can push the interest rate to any level.

13:22:18 Keith Weiner: And people may not like it, but they have no their preference has no teeth. There’s nothing they can do about it.

13:22:23 Keith Weiner: They’re trapped.

13:22:24 Harry Melandri: Yeah, it’s really interesting. You make the observation.

13:22:29 Harry Melandri: Because the modern monetary theorists make the same observation. That’s a central element in their logic.

13:22:39 Harry Melandri: I think the, and I think that logic is completely persuasive. There’s no real way around it. Everyone’s asset is somebody else’s liability. Money can’t escape the system. You can destroy balance sheet.

13:22:54 Harry Melandri: But money itself can’t be destroyed.the balance sheet can be canceled, but the money doesn’t cancel unless you make it, allow it to cancel. You can kind of force it.

13:22:55 Keith Weiner: Okay.

13:23:05 Harry Melandri: And it’s intriguing that the and I’m I will bet a lot of money you’re not a fan of modern monetary theorists.

13:23:13 Harry Melandri: Because quite often they pair that with a few other value judgements. But that core logic, it’s compelling.

13:23:23 Harry Melandri: The bit that’s not compelling is reaching is reaching the conclusion that, therefore, until we see inflation, we don’t have a problem with manipulating interest rates. so you’d have to their argument is inflation is a resource constraint issue.

13:23:38 Harry Melandri: And if you haven’t—sorry, go on.

13:23:40 Keith Weiner: Yes, sir.

13:23:42 Keith Weiner: They’re sort of like the Keynesians. Keynes said that capital is plentiful, and therefore the interest rate should be zero, or just marginally above zero.

13:23:52 Keith Weiner: To afford paying a wage to the, asset manager.

13:23:56 Harry Melandri: Exactly.

13:23:57 Keith Weiner: And, that was it. And the MMT people think that having a positive interest rate is a government subsidy gifted to the And so they’re all in on Piketty and envy for rich people.

13:24:05 Harry Melandri: Yes.

13:24:10 Keith Weiner: No, I go in the opposite direction and say, okay, yes.

13:24:14 Keith Weiner: Part of your description of the system.

13:24:16 Keith Weiner: It’s true, I mean, there are other parts that are rubbish.

13:24:19 Keith Weiner: But you’re, You’ve got your prescription goes absolutely wrong. You’re saying, well, therefore, the government has all this power to use and abuse people.

13:24:28 Keith Weiner: And I said, wait a minute, that’s not why we instituted government in the first place. We instituted government in the first place to protect us from predators, both domestic and foreign, not to become the biggest predator.

13:24:39 Keith Weiner: And use and abuse us. And You know, if you look at Warren Mosler’s seminal paper.

13:24:45 Keith Weiner: I’ve seen 1995 and 1996 on the paper, so I think he might have published it.

13:24:48 Harry Melandri: The seven deadly sins, or which one are we talking about?

13:24:53 Harry Melandri: It’s okay. I’ve read a lot of Mosler. I like Mosler’s work. He does good work.

13:24:58 Keith Weiner: I believe it was the very first one, and I put this is years and years ago now, but I put some work in to try to find the seminal paper.

13:25:06 Harry Melandri: Yeah.

13:25:07 Keith Weiner: I think it was a draft in ‘95, and it was more formally published in ‘96. But he argues that In capitalism, there’s a substantial amount of idle resources.

13:25:18 Keith Weiner: This is the very, very start of his approach to laying the groundwork to his theory, which is just rubbish.

13:25:22 Harry Melandri: Yeah.

13:25:23 Keith Weiner: Okay, capitalism doesn’t create resources that it’s wasting like that number one, and number two, the government can see what resources are being wasted, and it can print money to commandeer those resources.

13:25:38 Keith Weiner: And right off the bat, he’s just starting with a central planner sort of mindset, a socialist kind of mindset.

13:25:46 Keith Weiner: And everything he builds on top of that is awesome.

13:25:50 Harry Melandri: So I wouldn’t say that Mosler is a central planner or a socialist. He’s an ex-hedge fund manager. How socialist is he ever gonna be?

13:26:01 Harry Melandri: But you I think you’ve hit the nail on the head there. And, we talked just before the start of this chat about context-dependent economics.

13:26:12 Harry Melandri: I think MMT has a much more interesting core observation, which was the one you just mentioned about the difficulty of destroying money and how it’s a closed system.

13:26:22 Harry Melandri: But it’s really only interesting when you have unused resources, when you have spare capacity in your economy.

13:26:30 Harry Melandri: And I think our Austrian friends are talking to us about the situation where you actually are savings constrained and capital constrained.

13:26:41 Harry Melandri: And you have large amounts of debt in your system. And these are very different situations. Right now, the US is importing very large sums of capital.

13:26:51 Harry Melandri: I don’t think we’re in a situation where capital is plentiful. It’s not the savings glut that Bernanke talked about in 2005. It’s the exact opposite. And that shift of context changes everything, I think. Anyway, it’s my you know, I blather on. You made me do it because you said something I found very provocative and interesting, but I think that’s the key to why switch off the MMT, switch on your new Austrians or Austrians.

13:27:23 Keith Weiner: Look, at heart,

13:27:26 Keith Weiner: I’m a free marketer.

13:27:29 Keith Weiner: And, whether you call the other side socialist or some other word—dirigiste, maybe.

13:27:34 Keith Weiner: I love that word, from the French you know, it’s treating people as kind of pawns of the government to move them around on the board in order to achieve objectives that the government says are good. So the government is doing good to us.

13:27:47 Keith Weiner: Which I find to be kind of a contradiction in terms. Hayek points out that, of course, the government isn’t actually all-knowing and all-wise. Buchanan points out that the people who are the agents of the government. Not only are they not all wise, but actually they have their own personal incentives.

13:28:03 Keith Weiner: Which, even if the government, as such, wanted an outcome.

13:28:07 Keith Weiner: But politicians and bureaucrats that are operating it may want a different outcome for reasons that have to do with their own personal incentives.

13:28:14 Keith Weiner: But, economically, so, I think the most important thing in my dissertation, I cover a lot of ground in it.

13:28:20 Keith Weiner: Was to look at all the different ways I shouldn’t say all, but I think a dozen different ways that government can intrude into the market. Always, always, always, they sell it that, hey, we’re going to improve outcomes.

13:28:32 Keith Weiner: Whether it’s a subsidy, whether it’s a tax, whether it’s a price floor, let’s say on a wage, or a price ceiling, like on rent.

13:28:39 Keith Weiner: And I looked at, I think, a dozen different kinds of things that government can do.

13:28:43 Keith Weiner: And with a new Austrian lens.

13:28:46 Keith Weiner: Of the idea that you can look at spreads as a measure of essential economic coordination, and as spreads get tighter, that means coordination is becoming more efficient.

13:28:59 Keith Weiner: I’ll use the example of, suppose you have a farm—there’s a lot of people that are raising chickens to produce eggs, and you have a city 30 kilometers away, and you look at the price of eggs in the city center versus the price of eggs in the farm.

13:29:12 Keith Weiner: If you see that Eggs are selling for a penny in the farm town, and they’re selling for a dollar each inside the city. Something’s radically wrong.

13:29:22 Keith Weiner: Either there’s a Grand Canyon in between the two, or the government is somehow

13:29:23 Harry Melandri: Yeah.

13:29:27 Keith Weiner: Rendered it impossible for people to coordinate.

13:29:30 Keith Weiner: And so, I proved, using kind of the calculus of spreads, that every time the government tries to intrude.

13:29:36 Keith Weiner: They make they reduce they hamper coordination, and they cause discoordination.

13:29:41 Keith Weiner: And ultimately, that’s my, I’d say, definitive sort of rigorous proof that MMT and all the tinkering that they want to do with it.

13:29:48 Keith Weiner: They don’t actually know what resources are idle. The bureaucrats would love to get their hands on those resources for political reasons.

13:29:56 Keith Weiner: And every, every, every move they make only just impoverishes people in a variety of ways that are usually unseen and therefore, the voters don’t make the connection.

13:30:08 Keith Weiner: It’s kind of like, how did the ancients know that eating pork was bad?

13:30:12 Keith Weiner: Right, because both the Jewish tradition and the Muslim tradition believe that eating pork is bad.

13:30:18 Keith Weiner: And I’ve heard modern apologists for this say, well, they knew that, if you eat pork, you get trichinosis.

13:30:23 Keith Weiner: And I asked the question, how would you know that? Because the way trichinosis works is you eat the pork that’s not fully cooked, and 3 months later, you have a pain in your shoulder.

13:30:32 Harry Melandri: Yeah, so it’s

13:30:34 Keith Weiner: How could you possibly have connected those two events?

13:30:36 Harry Melandri: Yeah.

13:30:37 Keith Weiner: They’re temporally separated, and they didn’t have the germ theory of medicine, germ theory of disease anyway.

13:30:43 Keith Weiner: Not until the 19th century, so how could they? They couldn’t have Whatever reasons they had for forbidding it wasn’t that.

13:30:47 Harry Melandri: Well, you could have looked at broad outcomes and decided one set of outcomes were bad in retrospect, but I’m with you, they probably didn’t, because there’s too many too much scope for spurious correlation.

13:31:01 Keith Weiner: Yeah, but the correlation is so far spread out in time that you just wouldn’t make the connection anyway.

13:31:05 Harry Melandri: Right.

13:31:07 Keith Weiner: This pain in my shoulder is because of something I ate 3 months ago? Really?

13:31:12 Keith Weiner: So, I forget where I was going with all that, but

13:31:16 Harry Melandri: Yeah, how did they make that inference?

13:31:17 Keith Weiner: Oh, so the government does something the government does something, and then there’s a negative effect that takes place 6 months or 6 years later.

13:31:25 Keith Weiner: People don’t really connect it. Otherwise, they’d be mad as hell and say, let’s stop doing that.

13:31:30 Harry Melandri: Yeah.

13:31:31 Keith Weiner: But always the demand is for more, more of whatever caused the disease. That’s the cure.

13:31:36 Harry Melandri: So with the pork question, I asked the same question.

13:31:40 Harry Melandri: And the answer that I got back from the particular rabbi I asked was pigs consume seven times as much water as other livestock.

13:31:50 Keith Weiner: I could see that. It’s about the resources the pig consumes versus the resources it provides. The hide isn’t really that useful.

13:31:57 Keith Weiner: The urine isn’t useful, the milk isn’t useful, so it’s not The cow is much more useful, and therefore not as much of a drain on the society’s resources. That makes a lot more sense to me.

13:32:09 Harry Melandri: Yeah, and funnily enough, I make the same point you made with regard to the Blair government in the UK. And I don’t mean to be overly political, and every time you talk politics, you get a whole bunch of people you’d otherwise have got along great with to dislike you. But I would argue You can’t know what the Blair government did unless you take a 10-year view.

13:32:30 Harry Melandri: Most of the things they did had impacts that happened 10 years later. And if you assume that instead of the most successful post-war, after Margaret Thatcher, then instead of the most successful government, you’ve got one of the least successful governments, because the outcomes have just been so poor.

13:32:49 Harry Melandri: Now, people will tell me. We have a big lag, right? So you don’t know, because a lot of the changes we make, like focusing the UK on finance.

13:32:50 Keith Weiner: But there was a lag and therefore, yeah.

13:33:00 Harry Melandri: Well, that didn’t work out so good after 2008, and they didn’t know. But I do recognize that was that was a negative. There were probably lots of positives, too, and I don’t wanna tell, I’ve got a particular dislike of Tony Blair. That’s neither here nor there.

13:33:17 Harry Melandri: But So you know what I was hoping to guide you towards was giving you the Macro your macro view, and why that was a positive I assume it’s going to be a positive view of gold.

13:33:33 Harry Melandri: Why should gold perform on a 10-year view? And why has it performed in the last 10 years? What’s going on?

13:33:44 Keith Weiner: So a couple of things. So for, for Western investors.

13:33:48 Keith Weiner: Gold is the anti-dollar, anti-pound, or anti-euro.

13:33:54 Keith Weiner: So if you don’t want to be a creditor, if you think if you think about this idea that you’re trapped in a closed-loop system.

13:34:01 Keith Weiner: You buy gold.

13:34:02 Keith Weiner: It’s not money, quote-unquote, and we can argue the definition of money.

13:34:07 Keith Weiner: I am in occasionally in debates on Twitter, or X now, about, you know.

13:34:12 Keith Weiner: The definition of money, and why my definition of You know, gold isn’t money in the sense that all of your debts and all of your expenses are not denominated in gold, they’re denominated in dollars, or sterling, or euros, or but if you don’t want to be a creditor, and you have and you have savings that you don’t want them to use and abuse.

13:34:33 Keith Weiner: And/or you think that the interest rate, the paltry, meager interest rate on offer.

13:34:38 Keith Weiner: It’s less than the debasement of their currency.

13:34:42 Keith Weiner: Or that there’s a risk that the debasement of currency could accelerate.

13:34:46 Keith Weiner: Then your own gold is something to escape.

13:34:51 Keith Weiner: Escape that trap.

13:34:54 Keith Weiner: Now, to me, the biggest thing you know, debt buildup.

13:34:59 Keith Weiner: It isn’t whether consumer prices are gonna go up or not, so I interviewed a gold bullion dealer in Nicosia, Cyprus right after the Cyprus banking system collapsed. What was this, 2009 or 2011, something, it was a long time ago now.

13:35:15 Keith Weiner: And, one of the points I made was If you had bought gold before, so you took your euros out of the banking system in Cyprus and bought a bunch of gold.

13:35:26 Keith Weiner: And then the banking system collapsed. It wasn’t that the price of gold had gone up.

13:35:30 Keith Weiner: In fact, I think it was basically sideways at that time.

13:35:32 Keith Weiner: I don’t think it was rising.

13:35:34 Keith Weiner: The gold was still good.

13:35:36 Keith Weiner: And what you called money in the banking system was now trapped in the banking system, and it wasn’t good anymore.

13:35:39 Harry Melandri: Now.

13:35:41 Keith Weiner: And so, unemployment, at least temporarily skyrocketed to, like, 60% or something in Cyprus. Now, of course, you were a citizen of the Eurozone.

13:35:50 Keith Weiner: So if you wanted a job, all you needed was a boat to get to the mainland, and get to some place that had jobs, and then you could be employed and putting food on the table.

13:35:59 Keith Weiner: If you didn’t have passage to pay the captain of the boat, you’re kind of stuck in this, hell that emerged in Cyprus.

13:36:09 Keith Weiner: And so, owning gold is the escape hatch from this horrible system where horrible things are happening. And so if you don’t want to be a creditor to Uncle Sam, you’ve got to think about holding dollars. I actually am funding Uncle Sam, or funding.

13:36:25 Keith Weiner: What’s the new guy’s name in the UK? Burnham? Is that his name?

13:36:29 Harry Melandri: Andy Burnham, yes, although I can understand why it’s hard to keep track.

13:36:33 Keith Weiner: Yeah, there’s just been a few, but anyway, if you don’t want to fund Burnh you know, new programs, whatever those may be, then gold is the way to opt out. But now, in the rest of the world, there are different motivators.

13:36:44 Keith Weiner: So, as I You know, focus on the East a lot more than the West, because that’s where the gold market is.

13:36:52 Harry Melandri: Sure.

13:36:53 Keith Weiner: Less than 1% of Americans own any gold.

13:36:56 Keith Weiner: And I was interviewed by a reporter for Bloomberg India.

13:36:59 Keith Weiner: And so at the end of the interview, she asked me, what’s the difference between the perception of gold or attitudes toward gold in America versus in India.

13:37:06 Keith Weiner: And I said, well, look, in India.

13:37:08 Keith Weiner: Pretty much 100% of the people own gold. She was like, yeah, of course.

13:37:12 Keith Weiner: I said, well, in America, it would be less than 1%.

13:37:15 Keith Weiner: She’s like, no, really? So I said to her, if I was talking to your colleague.

13:37:20 Keith Weiner: Bloomberg US right now, and your colleague asked me the same question, I’d give the same answer, but in reverse order, and say, everybody in India owns gold. And that reporter would say the same thing. Really?

13:37:31 Harry Melandri: Yeah.

13:37:32 Keith Weiner: So but in in India so, if I look at the four worlds that kind of converge around, Dubai and the market, here.

13:37:42 Keith Weiner: The Indians are buying gold, as they always have, by the way, and this goes back thousands of years. It was, Pliny the Elder who said, India is a sink for gold from which the gold never returns. 2,000 years ago, they were complaining about this, and he thought that he thought that the Roman.

13:37:56 Harry Melandri: Yeah.

13:37:59 Keith Weiner: Women were buying too many luxury goods and silk and all this stuff 2,000 years ago.

13:38:04 Keith Weiner: They’re mercantilists.

13:38:07 Keith Weiner: Like, what was his name? Jean-Baptiste Colbert was a French bureaucr you know, started to try to measure, like, the flow of gold in and out, and they thought that Europe was getting poorer at India’s expense because the gold was going to India and the goods were coming out of India.

13:38:22 Keith Weiner: The British in the 19th century thought that, hey, let’s tell the East India Company to somehow create a market for British-made goods in India.

13:38:33 Keith Weiner: All of these things to try to reverse cause and effect.

13:38:35 Harry Melandri: There’s an even better example of the difference between hard metal flows and fiat flows. The East India Company developed a trade in opium to China.

13:38:49 Keith Weiner: Yes.

13:38:50 Harry Melandri: And the reason why they developed the opium trade was there was a pre-existing trade in tea.

13:38:50 Keith Weiner: Yep.

13:38:57 Harry Melandri: The British had an enormous appetite for Chinese tea. one of the big advantages of India is you could grow tea in India. you couldn’t grow it in the UK. So the appetite for tea among Jane Austen’s types.

13:39:12 Harry Melandri: I just went exponential, and there was this flow of silver out of the UK into China, which was becoming completely unmanageable. It was destabilizing the monetary system of the United Kingdom.

13:39:26 Harry Melandri: So, the East India Company came up with a great idea. We’re gonna find a product that the Chinese like as much as we like tea.

13:39:35 Harry Melandri: And that turned out to be opium. I hear it’s a bit moreish, I’ve not tried much of it myself.

13:39:40 Harry Melandri: Anyway.

13:39:42 Harry Melandri: Anyway, so then this caused a problem because it wasn’t much of a problem, but it became a problem when the concubines in the Forbidden City developed habits as well and were a bit out of it during work hours.

13:39:58 Harry Melandri: And that’s when they clamped down on the trade, and that’s when Palmerston sent in the gunboats to make sure they consumed their opium like good boys and girls.

13:40:07 Keith Weiner: Right, force them to stay addicted to opium.

13:40:09 Harry Melandri: That’s right.

13:40:09 Keith Weiner: Not one of the more enlightened chapters of British history, for sure.

13:40:11 Harry Melandri: It’s for their own good. They didn’t understand the benefits.

13:40:14 Keith Weiner: Yes.

13:40:20 Keith Weiner: So Indians are buying it to protect themselves from The system that they don’t trust.

13:40:27 Keith Weiner: And they’re not wrong to distrust that. I mean, the rupee, I think it’s 7 or 8% a year down against the dollar over long periods of time.

13:40:35 Keith Weiner: And the dollar is obviously falling against gold, so in China.

13:40:41 Keith Weiner: It’s illegal, it’s capital control, so it’s illegal to try to get your money out.

13:40:46 Keith Weiner: And everyone does.

13:40:48 Keith Weiner: And so, they’re risking their lives to get their capital out. If everybody who wanted to Yuan.

13:40:56 Keith Weiner: As much as they wish to, the yuan would collapse.

13:40:59 Keith Weiner: So, but they are allowed a limited avenue to buy gold, and so they do that to protect themselves from the Chinese Yuan and the Chinese government.

13:41:07 Keith Weiner: In Turkey.

13:41:08 Keith Weiner: A giant gold country.

13:41:11 Keith Weiner: There’s 80 million population and 120 million gold-denominated bank accounts.

13:41:16 Keith Weiner: There’s one and a half gold bank accounts per person. It’s kind of like America and guns, except gold bank accounts per person in Turkey.

13:41:24 Keith Weiner: Again, to protect themselves against the lira.

13:41:27 Keith Weiner: Of all those currencies I just mentioned, that’s the one that’s closest to an imminent hyperinflation and then finally, the Arab world also buys a lot of gold partly for religious reasons, right? The Quran commands everybody to own.

13:41:41 Keith Weiner: It’s an archaic, and I don’t know how much it works out to I think it’s 6 grams or something. It’s not a huge amount of gold, but It’s or 60 grams.

13:41:52 Keith Weiner: But anyway, they’re all supposed to have some of that okay.

13:41:56 Keith Weiner: And, culturally, it’s very significant for brides at weddings and things like that And, maybe more importantly, and more practically, if a man divorces his wife.

13:42:07 Keith Weiner: She doesn’t really get much.

13:42:09 Keith Weiner: However, she gets her clothing and her jewelry.

13:42:11 Keith Weiner: So, she’s put a lot of money into gold jewelry.

13:42:15 Keith Weiner: Then she has something to protect her, question from.

13:42:17 Harry Melandri: It’s an appropriate security blanket for them, yeah.

13:42:21 Keith Weiner: Yeah, exactly. So, and of all of them, the Arab world would be the only one that really has a choice rejecting the dollar, right? So the Arab currencies are generally pegged to the dollar, and unlike most pegs, they’re actually stable, like, for decades.

13:42:39 Keith Weiner: So it’s not like anybody in this part of the world has to worry about waking up tomorrow morning and finding that their currency had lost 30% of its value or something.

13:42:44 Harry Melandri: There’s been huge current account surpluses in most of these currencies up until very recently, the very short term, so it’s easy to maintain a peg when you’re running a current account surplus.

13:42:55 Keith Weiner: Oh, yeah, of course. Right, they export a lot of oil, and, there’s a lot of reasons for it, but anyway, but people You know, turn to gold, as a significant asset class. I think, again, for cultural, religious and divorce-related reasons, but also, I think.

13:43:12 Keith Weiner: They they don’t love They don’t hate the dollar, it’s.

13:43:17 Keith Weiner: It’s not like, you get, in Iran or Russia or something like that, where they hate America, passionately. That’s definitely not the case here, but let’s just say.

13:43:29 Keith Weiner: They’re on the short end of the stick on the monetary system.

13:43:33 Keith Weiner: To maintain that peg, their interest rate is higher and less stable, there’s a lot of different.

13:43:39 Keith Weiner: There’s consequences to that, and they don’t love it.

13:43:41 Keith Weiner: And every time the US does something kind of crazy, there’s a little bit of resentment that builds. And I think they turn to gold, for some of those reasons. But worldwide, everybody’s turning to gold.

13:43:51 Keith Weiner: I would not say that there’s a sense yet, outside of libertarians, gold bugs, and Austrian economists.

13:44:01 Keith Weiner: That there’s a sense that gold is going to return as money and the dollar is finished.

13:44:05 Keith Weiner: Any libertarian Austrian can tell you that all fiat currencies come to an end, ignominiously, and collapse, and whatever, and this one is way past its, sell-by date.

13:44:13 Harry Melandri: Yeah.

13:44:17 Keith Weiner: I don’t think most people either heard those arguments or find them very persuasive. So I don’t think that’s going on But I do think that there’s an increasing sense that gold may have a role to play in some sort of parallel way, and I think there’s a sense that, hey, if I own gold, I get a non-expiring call option.

13:44:37 Keith Weiner: On whatever may come, whatever role.

13:44:41 Keith Weiner: Gold may have And I also think, especially in this part of the world, people are turning to gold for more sophisticated kinds of things, rather than just buy it, hold it, wait for the price to go up, which is where America is still largely.

13:44:55 Keith Weiner: Stuck on that You buy it goes up, and then they measure the returns on gold you know, Warren Buffett derides it and says, look, it’s just a lump of metal, you stick it in your desk drawer, as if, 20 years later, you take it out, it’s the same lump of metal, it hasn’ and yet the price of it is much higher, and if you track the price gains in gold versus the price gains in Berkshire Hathaway, which doesn’t pay dividends, it was the last time I had checked.

13:45:22 Keith Weiner: There are times when gold actually outperforms.

13:45:26 Harry Melandri: Yeah.

13:45:26 Keith Weiner: And so, it’s one of those things where people buy gold as kind of an investment.

13:45:31 Keith Weiner: Portfolio diversifier.

13:45:33 Keith Weiner: Or a hedge, or something like that But You know, for all those reasons, I think, yeah, people are Increasingly, right, so Austrian school emphasizes change at the margin.

13:45:46 Keith Weiner: Right, so, 30 years ago, there was a lot of people that swore by gold.

13:45:50 Keith Weiner: If it’s the same people today, then you wouldn’t expect the price to move.

13:45:54 Harry Melandri: Yeah.

13:45:54 Keith Weiner: For prices to move up, there has to be more people than there were 30 years ago, or 1 year ago.

13:45:59 Harry Melandri: More people or more votes in the form of value exchanged. It could be the same number of people, but they’ve just got more money.

13:46:07 Keith Weiner: Yeah, to some degree, but it is an increasing number and it is global.

13:46:10 Harry Melandri: Yes.

13:46:11 Keith Weiner: And yes, certainly in India, and the Arab world, and China, and Turkey, all of them have much higher per capita incomes now than they did 30 years ago, so they have More purchasing power for gold.

13:46:24 Harry Melandri: So I’ve got a more pernicious take on current events and why it’s driving more money into gold. And, maybe I’m jumping on this late and that, in fact, that much of this has already happened. In fact, when we’re going to reverse and it won’t be as strong.

13:46:25 Keith Weiner: Second.

13:46:42 Harry Melandri: My suspicion is it can’t be like that. And it comes from The core axiom in the back of my head is that we have insufficient global capital at the moment.

13:46:54 Harry Melandri: And there are reasons for that. Some are that people are in a very bad mood and fighting each other, and wars are very capital-intensive things. Some of it is that there’s some evidence for climate change.

13:47:07 Harry Melandri: And if you were growing cocoa in one area, and then the rainfall pattern changed, you have to move your farm to a different area to make it possible.

13:47:17 Harry Melandri: Another one is, we just haven’t been investing in infrastructure in lots of places in the developed world.

13:47:25 Harry Melandri: And we now need to do a wholesale shift of our infrastructure, partly because of the climate change, but for all of these reasons and others, defense spending, for example.

13:47:35 Harry Melandri: We just have a shortage of savings, a shortage of global savings in the world.

13:47:41 Harry Melandri: Well, when you have that There’s gonna be a temptation for any country with a fiat currency.

13:47:48 Harry Melandri: To relax the constraints on the government by just printing a little bit of extra money, or just having another fiscal deficit where you force, maybe certain financial institutions to swallow a few more bonds than they previously wanted because, banking supervision or prudential supervision requires it.

13:48:11 Harry Melandri: So, with that being the kind of line of least resistance, it seems to me that we’re all going to be looking at a world in which precious metals kind of just don’t depreciate as fast as fiat. and, that will look like appreciation, but maybe it isn’t.

13:48:32 Harry Melandri: And then there’s the last thing, which is in a bad-tempered world where people aren’t getting on the standard use of money becomes problematic. The Russians are very upset about what happened to their 300 billion euros that sits in Belgium.

13:48:49 Harry Melandri: It’s all frozen. They can’t do anything with it. And the same’s true of their dollars. there’s a sense in which the United States completely controls every dollar which is floating in the world, because all dollars you could make the argument that all dollars live in New York.

13:49:03 Harry Melandri: Ultimately.

13:49:06 Harry Melandri: In that situation, if you were not a friendly or in good terms with the US government, you run the risk of your FX reserves being frozen at any point. So all of these factors are kind of putting a tailwind behind precious metals, and probably not just precious metals. There are other commodities that are probably benefiting from the same tailwind.

13:49:30 Harry Melandri: Anyway, so that’s my big picture story.

13:49:34 Keith Weiner: I would add, so I’m kind of working on a theory which isn’t fully baked, so I’m reluctant to go too deep into it.

13:49:40 Keith Weiner: But I think a proper theory is to start with observation.

13:49:44 Keith Weiner: And then you look for the explanation.

13:49:47 Keith Weiner: And MMT, just to take one more whack at that pinata before I move on It’s actually starting with the other way around. It’s starting with kind of an objective for the government to do things.

13:49:56 Keith Weiner: And then, sort of, post hoc rationalizing.

13:49:59 Keith Weiner: Here’s some reasons why.

13:50:01 Keith Weiner: The observation is that The price, the market price of Of capital assets, whether it be shares in a business.

13:50:11 Keith Weiner: Real estate.

13:50:13 Keith Weiner: Factories, whatever.

13:50:15 Keith Weiner: It’s up and up and up.

13:50:18 Keith Weiner: And, the inference that I draw from that, what causes prices to rise relentlessly.

13:50:26 Keith Weiner: When something is becoming scarcer.

13:50:29 Keith Weiner: Right, so Real capital, not dollar sloshing around.

13:50:34 Keith Weiner: Which are, kind of of a proxy for capital in the way tree ring thickness is a proxy for temperature.

13:50:41 Keith Weiner: And, a proxy can be a weak proxy or a strong proxy, and it may be very context-dependent.

13:50:48 Keith Weiner: So, I was in London this summer, and, it was so little rain I don’t think it had rained.

13:50:53 Keith Weiner: From, like, May through Mid-August, at least.

13:50:55 Harry Melandri: Okay.

13:50:57 Keith Weiner: And it was hot, and it was also drier than normal.

13:50:57 Harry Melandri: Yeah.

13:51:00 Keith Weiner: The leaves were actually falling off the trees in the parks.

13:51:03 Keith Weiner: The grass was no longer grass, it had turned to ash, because it was not only brown, but gray, and people, of course, walking all over it.

13:51:09 Harry Melandri: Yeah.

13:51:09 Keith Weiner: It looked like kind of a post-industrial wasteland not quite getting there yet, but if the leaves continued to fall, it would be winter by, August 31.

13:51:16 Harry Melandri: Yes.

13:51:19 Harry Melandri: But not a green and pleasant land, right?

13:51:22 Keith Weiner: No, but anyway, my point is, that must have done something to the 2026 tree ring.

13:51:28 Keith Weiner: And so, some Some, scientist that’s going to be cutting down trees 200 years from now and looking at the tree ring for 2026 and saying, oh, it must have been globally hot or something like that, when in fact, actually, at least in London, it was just dry, and therefore the ring would be thinner, the tree wasn’t growing.

13:51:47 Keith Weiner: Very much this year, right?

13:51:49 Keith Weiner: So anyway, so you have weak proxies and strong proxies.

13:51:50 Harry Melandri: Yeah.

13:51:53 Keith Weiner: And, the amount of free dollars that can come into, let’s say, an investment opportunity is a weak proxy, or maybe it’s a middling proxy for how much capital there is But the fact that capital assets keep rising in price would suggest growing scarcity of real capital assets. That is, the regulatory state.

13:52:15 Keith Weiner: The restrictions on the production and transmission and usage of energy.

13:52:20 Keith Weiner: Labor market restrictions, all these things that are happening, war, are either destroying capital, preventing it from being renewed, so it’s It’s going away by attrition, because all capital has a finite life, it wears out.

13:52:33 Harry Melandri: Yeah.

13:52:33 Keith Weiner: It gets used up.

13:52:34 Harry Melandri: That’s right, we should think of it as a flow to some degree.

13:52:34 Keith Weiner: Right, I mean, it could have a 30-year

13:52:41 Harry Melandri: Depreciation schedule, or a 10- or 7-year one. I don’t know. Yeah.

13:52:45 Keith Weiner: It was relatively recently, I want to say 5, 6 years ago, that I learned the meaning of the word bayou like around Houston and Louisiana, it’s a very slow-moving river.

13:52:52 Harry Melandri: Oh, yeah.

13:52:57 Keith Weiner: I didn’t realize that. I just thought it was a swamp. It’s a word for French word for swamp or something.

13:52:57 Harry Melandri: Okay.

13:52:59 Harry Melandri: Right. Absolutely. Absolutely.

13:53:01 Keith Weiner: It’s actually got a flow to it, but it’s very, very slow.

13:53:04 Keith Weiner: It’s not like what you think of as, like, a river that moves. You can measure the current in the Thames.

13:53:09 Harry Melandri: Yeah.

13:53:09 Keith Weiner: But the values are just almost stagnant, but they actually are flowing.

13:53:15 Keith Weiner: The big river delta that’s filled in with these grassy little islands.

13:53:18 Harry Melandri: Yeah.

13:53:18 Keith Weiner: So, anyways, I think capital is getting scarcer, because the government is attacking capital formation at every level, whether it be wealth taxes.

13:53:27 Keith Weiner: Whether it be restrictions on usage.

13:53:31 Keith Weiner: And, Permits, renewing permits can become very problematic.

13:53:39 Keith Weiner: So those.

13:53:40 Keith Weiner: As the amount of capital assets dwindless.

13:53:44 Keith Weiner: The price tags on the ones that remain, you go through the roof.

13:53:48 Keith Weiner: And so

13:53:48 Harry Melandri: Really intriguingly, industrial policy has returned.

13:53:53 Harry Melandri: Like, just when you thought it was safe to emerge, the 80s and the 70s are back In the U.S. we saw it with Jake Sullivan when he was National Security Advisor. and Brian Deese. The U.S. has industrial policy again, and it’s a really striking, cyclical thing for me to see that happening. It’s the Overt intervention in the economy. I don’t know if it’s good, I don’t know if it’s bad. I know a lot of, I know any person who respects markets doesn’t respect industrial policy, but ideologically this was dead in the Clinton era and now it’s come back to life.

13:54:34 Harry Melandri: Curious, right?

13:54:35 Keith Weiner: That’s right.

13:54:37 Harry Melandri: Because I’m running out of time.

13:54:40 Harry Melandri: And you know, we could chat a lot because there’s a lot of accord here and a lot of interesting insights. But I wanted to speak about your business because I think your business itself is very intriguing business. So talk a little bit about Monetary Metals, what you do, why you do it.

13:54:56 Harry Melandri: What’s the what’s the point?

13:54:59 Keith Weiner: So, Our brand promise is a yield on gold paid in gold.

13:55:05 Keith Weiner: So, conceptually, deposit your gold, and we pay you interest on it in gold.

13:55:10 Keith Weiner: Currently 4% a year.

13:55:13 Keith Weiner: So, you give me 100 ounces, the end of the year, I give you 104 ounces.

13:55:18 Keith Weiner: So, that’s what we do.

13:55:19 Harry Melandri: Interesting. Yeah.

13:55:21 Keith Weiner: So, there are two sides to the business. We’ll talk about the saver who owns some gold first.

13:55:27 Keith Weiner: Isn’t it better if you own gold? So we don’t try to sell people on why you should own gold.

13:55:31 Keith Weiner: If you haven’t been sold on that yet, it’s highly unlikely that anything that we could put out.

13:55:37 Keith Weiner: Be persuasive.

13:55:38 Keith Weiner: That’s, gold is a controversial, contentious topic, a lot of opinions.

13:55:42 Keith Weiner: But if you have gold.

13:55:44 Keith Weiner: And you’re paying to store it.

13:55:46 Keith Weiner: Our average customer is paying $75 a year to store.

13:55:49 Keith Weiner: Wouldn’t it be better to get a positive 400 basis point?

13:55:54 Keith Weiner: Yield, then pay negative, for storage.

13:55:58 Harry Melandri: That’s very interesting. Your yield is higher than Fed funds.

13:55:59 Keith Weiner: Are you ready for this comment?

13:56:02 Harry Melandri: Significantly higher, because you’re the difference between the storage rate and the interest rate paid on gold.

13:56:09 Keith Weiner: Yeah, if you want to look at it that way, the swing is 475 bps.

13:56:12 Harry Melandri: Yeah.

13:56:12 Keith Weiner: Now, gold is not inside the dollar closed loop, so the gold interest rate isn’t necessarily subject to the gyrations of, of the dollar interest rate, which can go up and down with monetary policy.

13:56:25 Keith Weiner: All kinds of other things, but If you’re a saver.

13:56:28 Keith Weiner: And you so, number one, savings and interest compounded interest on savings is a universal human need.

13:56:36 Keith Weiner: So if you look at Maslow’s hierarchy, obviously you need oxygen. If you don’t have oxygen, in 2 or 3 minutes.

13:56:43 Keith Weiner: Then followed by that, I guess you need temperature that’s simpatico with human life. If you don’t get that, you’re dead. Then you need water, then you need food, then you need clothing, then you need shelter, right, and so on down.

13:56:54 Keith Weiner: Suddenly, after those things are satisfied.

13:56:58 Keith Weiner: You need to compound interest.

13:57:00 Keith Weiner: Because we all know we’re headed towards not just retirement, but senescence.

13:57:05 Keith Weiner: We all know that we’re gonna become less capable, or maybe incapable of working.

13:57:09 Keith Weiner: And nobody wants to be the beggar.

13:57:11 Keith Weiner: In the streets or on the church steps you know, begging every day when you can’t work anymore. So you gotta save, and you need compounding interest.

13:57:20 Keith Weiner: Well, the conventional world has pretty much.

13:57:24 Keith Weiner: Done away with that and today, yeah, you can find banks that will pay you a little bit of interest on your savings account.

13:57:31 Keith Weiner: But is it really keeping up with currency debasement?

13:57:34 Keith Weiner: Maybe not That’s why people buy gold, but gold isn’t really compounding savings, compounding interest on savings, it’s just merely protecting you.

13:57:44 Keith Weiner: If the elevator is falling rapidly into the basement.

13:57:49 Keith Weiner: Merely getting off the elevator on the 17th floor is an improvement by, in a relative way.

13:57:55 Keith Weiner: But it isn’t climbing and going higher, either. So there’s a universal human need which isn’t being met.

13:58:02 Keith Weiner: And so that’s, that’s what we do.

13:58:05 Keith Weiner: Now, on the other side of the business, you can’t just generate and the crypto guys, God knows they’ve tried.

13:58:12 Keith Weiner: A self-referential yield.

13:58:14 Keith Weiner: You see, we’re gonna have this little thing, and you’re gonna do this thing, and I’m gonna do this thing, we’ll go back and forth, and each time.

13:58:21 Keith Weiner: That doesn’t really work.

13:58:22 Keith Weiner: That is the very definition of a Ponzi scheme.

13:58:27 Harry Melandri: Yeah.

13:58:28 Keith Weiner: But, so you have to do something productive with it.

13:58:31 Keith Weiner: And so, we have two programs today that generate the same value proposition. One is leasing, and one is lending.

13:58:39 Keith Weiner: Leasing is for businesses that have gold as inventory.

13:58:43 Keith Weiner: Work in progress.

13:58:45 Keith Weiner: That gold has to be financed. Gold is $4,500, $4,600 an ounce.

13:58:50 Keith Weiner: It’s not pocket change. I mean, if it was copper, you’d just buy the copper.

13:58:55 Harry Melandri: Hey, even copper ain’t that cheap.

13:58:58 Keith Weiner: Right, it’s much more expensive than it was a couple years ago.

13:59:00 Harry Melandri: Yeah.

13:59:01 Keith Weiner: At $4,600 an ounce, you pretty easily get to, millions if not tens of millions of dollars in gold inventory. It’s got to be financed.

13:59:09 Harry Melandri: Sure.

13:59:11 Keith Weiner: And so we’re providing that finance in a way that doesn’t require hedging or price exposure. So if you borrow let’s say you have $10 million worth of gold inventory. You borrow $10 million, you buy the gold inventory, sounds good, until the gold price drops 10%.

13:59:25 Keith Weiner: Now you have a $9 million asset against a $10 million liability. Banks tend to get pretty cranky about that sort of thing, and, liquidation and, administration, you know.

13:59:26 Harry Melandri: Yeah.

13:59:29 Harry Melandri: Yeah.

13:59:35 Keith Weiner: Proceed.

13:59:37 Keith Weiner: So we provide a better finance solution to, jewelers and refiners and mints and fabricators and There’s about a dozen different verticals that we address with that it’s not their asset, it’s not on their balance sheet, it’s not available to their creditors if they should fall over.

13:59:56 Keith Weiner: And, we have insurance, we have a bunch of other things to protect it, and the guy who owns the gold is getting 4%, so Pretty cool, I think. We have a lending program.

14:00:10 Keith Weiner: Which is, under securities regulation, you were talking about regulation before, and how it makes capital formation difficult securities regulation in the U.S. does not allow non-accredited investors to participate in unregistered securities.

14:00:25 Keith Weiner: But when when a business doesn’t have gold as inventory, but has gold income.

14:00:30 Keith Weiner: Such as a mining company.

14:00:31 Keith Weiner: We give them a gold loan.

14:00:34 Keith Weiner: And then, again, principal and interest, payable and denominated in ounces.

14:00:39 Keith Weiner: Not in, in dollars.

14:00:42 Keith Weiner: Again, saves them from the currency risk.

14:00:46 Keith Weiner: The price of gold drops after you put your mine into production.

14:00:50 Keith Weiner: And we pay, typically double-digit interest rates to the, to the investors.

14:00:57 Keith Weiner: And when we do that, we issue a security that we call a gold bond.

14:01:02 Keith Weiner: Very much like a conventional bond, except denominated in gold.

14:01:07 Keith Weiner: And so, in 2020, we did the first gold bond in 87 years.

14:01:11 Keith Weiner: Right, so that basically, gold bonds were done in 1933, when you know, on the eve of World War II.

14:01:18 Keith Weiner: All the countries were moving away from gold. Roosevelt killed the gold standard by decree.

14:01:23 Keith Weiner: And that was it.

14:01:26 Keith Weiner: So those are our two, two products.

14:01:29 Keith Weiner: And They’re solving a finance need.

14:01:33 Keith Weiner: For certain industry sectors that isn’t solved nearly as well by conventional finance.

14:01:39 Keith Weiner: And it’s solving a need of saver that isn’t being solved, really, at all. If you hold dollars or pounds, and you’re saving in that, and just keeping that in the bank.

14:01:49 Keith Weiner: You’re actually falling behind.

14:01:51 Keith Weiner: Not only are you not moving forward towards your retirement goals, you’re actually retreating from your retirement goals.

14:01:54 Harry Melandri: But if you held gold, you wouldn’t normally be paid an interest rate, so you’re falling behind there as well, and you this product addresses that paradox, if you will.

14:01:59 Keith Weiner: Yep.

14:02:05 Keith Weiner: Yeah, that’s it.

14:02:05 Harry Melandri: It was really interesting for me to read it, because, there’s you will be aware of this, there’s an Arrow-Debreu theorem in economics about the completeness of markets and Pareto optimality. And what they did is Arrow and Debreu worked out the circumstances in which free markets would be Pareto optimal.

14:02:29 Harry Melandri: And one of the requirements.

14:02:32 Harry Melandri: For Pareto optimality of free markets is completeness. You have to be able to trade different states of nature, different situations, places. You have to have contingent things, including intertemporal trade. The example I used in the thing I read was, you need to be able to trade umbrellas both in a rainy and non-rainy day. Otherwise, you’ll find that when you try and buy your umbrella, they’ll all be they’ll run out. So you should be able to do that. I read what you were doing, and I thought, ah, he’s completing markets.

14:03:10 Harry Melandri: He’s filling a gap so that you can transact in gold intertemporally and therefore cut out the fiat, non-fiat, risk of inflation.

14:03:22 Keith Weiner: A very insightful way of looking at it. The way I would sort of frame it to laymen is Every time gold is You know, generating something, obviously there are businesses that make money on it.

14:03:34 Keith Weiner: It’s like, you have this gold brick, right, and here’s my.

14:03:38 Keith Weiner: And we wrap it in green paper.

14:03:41 Keith Weiner: Right, and say, okay, I made $100,000 on it.

14:03:45 Keith Weiner: And I think of Monetary Metals. Let’s tear that paper off. Say, okay, I made an ounce.

14:03:50 Keith Weiner: Right? And, but you make a very good point, and that’s a very new Austrian school way of looking at it, is there’s a spread between, let’s say, now and one year from now.

14:03:50 Harry Melandri: Yeah.

14:04:01 Keith Weiner: Which is the interest rate.

14:04:03 Keith Weiner: And, Mises talks about the originary interest rate.

14:04:07 Keith Weiner: I’m on board with that as an idea, but conceptually if I’m gonna get the gold a year from now and not today, there has to be a premium, otherwise just give it to me today.

14:04:19 Harry Melandri: So, this time preference, we don’t have much time, and I just want to throw this in there. It’s probably me chatting when it should be you chatting, but, so you talked about,

14:04:19 Keith Weiner: So, absolutely.

14:04:31 Harry Melandri: Compound interest or interest on savings. And why, this was in the hierarchy of needs. But I think of it as a privilege more than a need.

14:04:43 Harry Melandri: Because we’re inter-temporally trading, with each other, and some people have different future preferences. Now, me, I’m very concerned about the possibility of cat food as a retirement, foodstuff for me. I shouldn’t be. I should have enough put aside that cat food risk is quite low. But you know it’s just how I was raised, and things like that. And it wasn’t that long ago that when I went to buy, inflation-protected securities, I’d receive a negative rate on those securities. They were trading at negative yields. And that’s the market’s way of saying you’re, you don’t deserve a positive yield. Everybody wants future consumption. Nobody wants present consumption.

14:05:31 Harry Melandri: So you’re gonna have to pay us a premium for your future consumption over present consumption. We’ll give you inflation, so it’s not as bad as it looks, but you’re gonna pay a premium for that future consumption. The time preference was the other way around.

14:05:47 Harry Melandri: Current consumption should command a time preference. Well, for people like me, it’s my future consumption that I want to lock up and that was happening, I don’t know, was it, 2008? Around then, real rates were negative, and they’ve been negative for big spells of time, on TIPS.

14:06:07 Harry Melandri: Now they’re rapidly gaining weight. My, the real yield, I bought some tips, 30-year TIPS at two and three quarters. They’re a lot closer to 3% real yields now. So much for my, my forecasting skills.

14:06:22 Harry Melandri: But, yeah, there’s this it just it’s a further piece of evidence that we don’t have enough, capital in the world, and real yields keep ticking higher.

14:06:35 Harry Melandri: And that has consequences, that has implications and consequences for asset values and precious metal values. So anyway, I don’t know. That struck me; I just wanted to throw that in the mix.

14:06:49 Keith Weiner: Yeah, no, I hear you.

14:06:51 Harry Melandri: I think we’ve spoken for an hour, and I can’t believe I can hold people’s attention for an hour. You’ve held mine just fine, but I worry about other people. Their time on the treadmill is coming to an end, or whatever.

14:07:03 Harry Melandri: So, maybe we could do it again, maybe we could pick it up and, dig in a bit deeper on certain things. I did think that the description of your business was fascinating.

14:07:14 Harry Melandri: And hopefully someone listening, calls you and wants to do some business with you, because but thank you so much, Keith, Mr. Weiner. really appreciated it was fascinating. hopefully we can do it again sometime.

14:07:28 Keith Weiner: Absolutely. My pleasure. And thank you.

14:07:33 Harry Melandri: Thanks, everyone. Bye.

Transcript

16:04:16 --> 16:04:33

Harry Melandri: So I don’t think today’s guest needs any intro, but it’s considered generally polite to introduce people. So Peter Bookvar is a chief investment officer at One Point BFG Wealth Partners, where he oversees investment strategy and asset allocation.

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Harry Melandri: He’s also the editor of the book report, he’s widely followed daily macro and markets research, and he has more than 30 years of experience across macro research and portfolio management.

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Harry Melandri: Um, which I’m sure makes him sad sometimes, um, including roles at Omega Advisors and Lindsay Group, and I’m going to ask you questions about that. And, uh, he’s a regular contributor to financial news shows, which is why I think I know him, even though.

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Harry Melandri: Maybe I’m fooling myself to think I know. Anyway, Peter, very good to see you again. How have you been?

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Peter Boockvar: I’m good, good. Good to see you again, this time virtual.

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Harry Melandri: That’s right. Last time we were in Wisconsin it was cold.

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Harry Melandri: a dry cold.

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Peter Boockvar: Uh, minus sign in front of the Fahrenheit.

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Harry Melandri: That’s right, it’s like minus 13, 14 rings a bell, but then, you know, who’s counting?

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Harry Melandri: Um, uh, but, you know, it was a nice time. And, that’s why the very first thing I wanted to ask you about was football, of course. Um…

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Harry Melandri: The time you we all presented ideas. Mine were incoherent. One of yours was on united.

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Harry Melandri: What are you thinking about that call now?

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Peter Boockvar: So that was Manchester United. It was the time I felt more of a value play than anything.

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Peter Boockvar: For those not familiar, uh, it’s one of the few publicly traded sports teams, and at the time, I’m thinking the stock was probably in the…

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Peter Boockvar: the mid-teens when the enterprise value was about $3 billion and the value of the team was at least $6. That $15, just for perspective, Jim Ratcliffe, who owns about a quarter of the team.

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Peter Boockvar: he paid $34 for his shares. Particularly, he bought some from the Glazer family, uh, which has its own voting rights, and then he bought the publicly traded kind, in which he paid $34.

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Peter Boockvar: Um, so that, and also Madison Square Garden Sports, I’d mentioned that on this Knicks and Rangers. Now, this year, we know we’ve seen.

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Peter Boockvar: ever-rising, uh, values of, uh, sports teams, uh, both in the U.S. and elsewhere, and, uh, Man U and MSGS, which I had sold after the Knicks won the championship, but still have Man U. Uh, these, these teams have, have, have gotten re-rated in the public markets.

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Harry Melandri: Nice.

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Peter Boockvar: to get closer to their private market valuations.

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Harry Melandri: And some part of that’s playing performance. I mean, the Knicks couldn’t have done much better, and United qualified for Champions League football, all the stuff that puts money in the bank for sports teams. So it went about as well as it could in most respects, I think.

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Peter Boockvar: Yeah, it did work out. I mean, you can still argue that, um, both have still more upside. I mean, even Man U, with this rally, its enterprise value is maybe $4.5 billion, and uh…

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Peter Boockvar: Uh, Mark Walter, who’s getting into some issues at Guggenheim and selling the, uh, the Dodgers, um, you know, he’s about to sell possibly Chelsea. Jeff Bezos took a stake in Liverpool, and, uh, those valuations have manu at least $6 billion.

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Peter Boockvar: And, uh, even that, even the Knicks and Rangers, uh, stocks trading below where, uh, it is in the private markets. But, you know, just when you think that these valuations can’t get any more crazy, um, you know, you see the Lakers go for $12 billion.

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Harry Melandri: Hmm.

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Peter Boockvar: it was only 10 a year ago. So, it’s gotten crazy, but to your point, I figured with the Knicks, I’d sell into some of the hype, even though it was very exciting to see as a Knicks fan.

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Harry Melandri: Yeah.

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Harry Melandri: It was. It was. It was very exciting.

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Harry Melandri: So, forgive me, but I didn’t know before that you’d worked with both Leon Cooperman and Larry Lindsay, and I’m super curious about that. Um, so…

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Harry Melandri: Tell me, can you give us, I mean, you can’t really be completely frank about those two experiences.

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Harry Melandri: Tell me a little about what that was like.

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Harry Melandri: And, you know, how that… how that built you, yeah.

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Peter Boockvar: So before…

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Peter Boockvar: Yeah. So before I started with, with Larry, I worked for Lee. It was a very brief period of time. It was brief by my choosing, because after about six months, I didn’t feel that it was the right spot for me.

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Peter Boockvar: Uh, based on, um…

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Peter Boockvar: you know, the goings-on. And, uh, Steve Einhorn, who I worked closely with, was Lee’s, uh, partner and vice chair, who I love to this day and still, uh, uh, talk with, um…

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Peter Boockvar: It just wasn’t, uh, a fit for me. So rather than just being in a place, um.

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Peter Boockvar: And just sticking it out, but not being happy, I said, uh, let me, uh, cut my losses short, so to speak. And then, uh, soon after, started working with Larry back on the sell side. I didn’t necessarily want to do that because I wanted to manage money, but I felt like this was a unique opportunity.

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Peter Boockvar: to work with a Federal Reserve governor, a former one at the time, and someone who worked in the White House. And, uh, to me, that was an invaluable…

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Peter Boockvar: Four and a half years, uh, working side by side with him, and um.

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Peter Boockvar: Learning a tremendous amount and, and, and, and so forth and Larry and I still speak to this day, um, but I left Larry in 2017 because I wanted to go back to the buy side and manage money and I’m in my current position, uh, since 2018, but.

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Peter Boockvar: Larry’s a salt of the earth guy. One of the, one of the smartest people I’ve ever met, with one of the sharpest minds. And, he knows all the players. He knows all the players in the past. He knows all the players currently.

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Peter Boockvar: And, it’s just so interesting, you know, to to peek into his head every day.

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Harry Melandri: Um, you know, I only met him a couple of times. I worked at Medley for a while. Here’s my Medley t-shirt. Um, and Larry was a source at one… at some point. Not when he was a Fed official, but other points. Richard Medley would call him.

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Harry Melandri: Um, and I totally agree with you. Uh, he was sharp, really acute mind, really sharp.

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Harry Melandri: and massively underrated. And, you know, I say the wrong thing. I have the political skills of a…

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Harry Melandri: of a seal. But, um, I’m gonna go out on a limb and say something that no one else would say, which is that he had an eating problem.

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Harry Melandri: And I saw him do things which would, you know, you just can’t do that in public, right?

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Harry Melandri: But the guy was lovely. He’s a fantastic guy, super sweet and sharper than 9 out of 10 guys I’ve come across in markets. Just really knew his stuff, knew his markets, knew the personalities.

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Harry Melandri: understood things, you know, intrinsically, and it just such a waste.

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Harry Melandri: So, you know, and it’s not like Leon Cooperman is the skinniest chap in the world. I mean.

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Harry Melandri: Um…

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Harry Melandri: Anyway, I’m sure I shouldn’t say any of that, and I said it so that other people can, but it’s just… Larry Lindsay is massively underrated, and should have gone further, and should have been a Fed chair.

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Harry Melandri: And I…

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Peter Boockvar: A brilliant mind. A brilliant mind.

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Harry Melandri: Yeah.

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Harry Melandri: Um, what about Leon? I think you just did something, us British civil servants, I did a small stint where you said something like… said something… the right way of putting it, and I’m sure you’re right, the first cut is the cheapest.

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Harry Melandri: I understood he was a difficult personality to work with.

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Harry Melandri: Is that about a fair?

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Peter Boockvar: Yeah, he’s. Yeah, he. Absolutely. And, you know, I work best when left alone. And.

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Peter Boockvar: Uh, he was not one of those bosses to leave people alone, uh, so for me, from a personality perspective, uh, just wasn’t right for me.

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Harry Melandri: But what was his superpower? I mean, he does pretty well in markets generally. So the impression I got here was he was shouting.

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Peter Boockvar: Yeah, I mean, Lee’s one of the hardest working people I’ve ever met. He’s got an incredible passion for the investment business.

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Harry Melandri: I don’t know.

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Peter Boockvar: Loves the markets, loves to invest, and, and, uh, it worked out for, for, for many, many years. And, uh.

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Peter Boockvar: He was always willing to think outside the box.

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Peter Boockvar: do a lot of due diligence in terms of company research and talking to management and so forth, and uh… you know, he’s an investing legend. Um, but um…

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Peter Boockvar: Just wasn’t right for me there.

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Harry Melandri: The story I’d heard, and this is all third party, was he was shouty. He’s the kind of guy who expresses himself with volume.

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Peter Boockvar: Um, he’s, you know, he’s an old… he’s an old-school Wall Street guy, um, you know, who grew up when, you know, that was the culture. And, um…

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Harry Melandri: And.

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Peter Boockvar: You know, that was just his way.

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Harry Melandri: So, on to more substantive matters, although, forgive me, I love gossip, sorry, can’t help it. Um, what are you thinking about the macro setup here? Um, I think we’re closely aligned, tell you the truth, from what I gather.

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Peter Boockvar: Um, the macro setup is, um…

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Peter Boockvar: It is very interesting, because a lot of…

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Peter Boockvar: Things are happening at once in the sense that.

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Peter Boockvar: There’s very interesting goings on in the bond market.

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Peter Boockvar: With this rise in interest rates.

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Peter Boockvar: Uh, I think after…

16:14:21 --> 16:14:31

Peter Boockvar: 40-plus years of a lot of influence. The Federal Reserve is the least relevant it’s ever been in all the years that I’ve been doing this.

16:14:32 --> 16:14:33

Peter Boockvar: Um…

16:14:34 --> 16:14:48

Peter Boockvar: in the equity market, it’s dominated, of course, by this Gen AI trade, to the point where the U.S. economy, the U.S. stock market, the U.S. earnings story, the U.S. profit margin story, is all related.

16:14:48 --> 16:14:53

Peter Boockvar: Say almost all related, not all, almost all tied to this one theme.

16:14:53 --> 16:15:00

Peter Boockvar: And as that theme goes, so goes all of those things.

16:15:00 --> 16:15:06

Peter Boockvar: And earnings have been unbelievable, but it’s tied to the CapEx driven by AI.

16:15:06 --> 16:15:15

Peter Boockvar: And if it’s not directly tied to AI infrastructure, it’s big money center banks that are benefiting from robust capital markets that are.

16:15:15 --> 16:15:18

Peter Boockvar: being helped by AI.

16:15:19 --> 16:15:25

Peter Boockvar: So, it’s… we’re very tethered to this one theme, and for now, it’s fine, because it’s working.

16:15:25 --> 16:15:30

Peter Boockvar: But at some point it’s not, and it’s not a question of.

16:15:30 --> 16:15:46

Peter Boockvar: If it won’t work at some point, it’s a question of when, just because the level of spending is so extraordinary that you just can’t keep doing it if your business model is going to last. Oracle can’t keep spending 100% of its revenue.

16:15:46 --> 16:15:49

Peter Boockvar: On a gross basis, uh…

16:15:49 --> 16:16:00

Peter Boockvar: on CapEx and be a viable business in the coming years, unless they tail that back and start generating free cash flow again. You know, even Meta.

16:16:00 --> 16:16:07

Peter Boockvar: as incredible its base business is, I mean, they grew top line by 28% the last quarter, which is extraordinary.

16:16:07 --> 16:16:24

Peter Boockvar: You know, they’re not gonna be as robustly profitable by spending 55% of their revenue on CapEx. Um, at some point, that has to scale back. At some point, all these companies have to prove that this level of spend will translate into.

16:16:24 --> 16:16:31

Peter Boockvar: a lot of profits and cash flow. And that still remains to be seen. Uh, that is, of course, the debate.

16:16:31 --> 16:16:37

Peter Boockvar: Uh, how much spend is enough, uh, is also the debate. But at least right now.

16:16:37 --> 16:16:56

Peter Boockvar: the market’s pricing in a pretty robust CapEx story this year, and certainly next year. I mean, I’ve seen Wall Street estimates that CapEx, which will be, with respect to the five hyperscalers, $800 billion. Next year, it’s supposed to go to $1.2. So in order for the market to continue to do as well as it is.

16:16:56 --> 16:17:01

Peter Boockvar: You’d think that would have to be even above 1.2, which is already a 50% increase.

16:17:01 --> 16:17:17

Peter Boockvar: So that that’s a story with the equity market. Then I think you have an interesting story in the commodity space, too. With, of course, everything going on in the oil and gas market products with the crack spread being at record highs, obviously the straight being partly.

16:17:17 --> 16:17:35

Peter Boockvar: closed effectively. This rally we’ve seen in precious metals, industrial metals with copper near record highs, this recent spurt up in ag prices. It’s like each of these asset classes are showing really fascinating moments. And you take the FX market.

16:17:36 --> 16:17:52

Peter Boockvar: You know, the dollar has been rather boring this year. You know, it had its rally after the war began, but really wasn’t much of a rally. But now you have some softness that was directly a result of both the Treasury Secretary intervening in the yen.

16:17:52 --> 16:18:10

Peter Boockvar: Uh, market in order to strengthen that currency, and then followed up by what he announced with, uh, the Treasury, uh, increasing their purchases of, uh, or their buybacks, call it, of longer-term paper. So all these four major asset classes, stocks, bonds, commodities, currencies.

16:18:10 --> 16:18:18

Peter Boockvar: are all really quite interesting right now and seemingly like big moments in time, I would say.

16:18:18 --> 16:18:29

Harry Melandri: You know, I’m thinking about all of this, like, all these markets seem to be telling us a similar story. Um, so the generative AI thing.

16:18:29 --> 16:18:36

Harry Melandri: Um, I think we’re trapped in that. There’s no escape from it. Uh, so for Meta…

16:18:36 --> 16:18:37

Harry Melandri: And for.

16:18:38 --> 16:18:50

Harry Melandri: You know, all of the big players, hyperscalers, it’s hard for them to imagine that they can conduct their businesses without being a significant player in these spaces.

16:18:50 --> 16:19:01

Harry Melandri: I imagine they’re all rushing to try and be on top of this, because they believe that’s where the future is. And if that destroys their profitability.

16:19:01 --> 16:19:10

Harry Melandri: Well, they don’t really have a choice because they may not be involved at all in their markets if they aren’t on top of where AI is heading.

16:19:11 --> 16:19:17

Peter Boockvar: Well, also the other challenge, and I should have threw this out there when talking about AI.

16:19:11 --> 16:19:13

Harry Melandri: And…

16:19:17 --> 16:19:24

Peter Boockvar: Uh, and the other thing that I think is really a big picture, interesting moment is…

16:19:24 --> 16:19:35

Peter Boockvar: Outside of the 1980s, when the US competed against the Japanese, um, US technology companies have never had a competitor like the Chinese.

16:19:36 --> 16:19:38

Peter Boockvar: Uh, the Chinese…

16:19:38 --> 16:19:41

Peter Boockvar: From a high-tech perspective.

16:19:41 --> 16:19:45

Peter Boockvar: want to compete and play on the global stage with the US.

16:19:45 --> 16:19:51

Peter Boockvar: And our attempts to limit their access to our technology.

16:19:51 --> 16:19:58

Peter Boockvar: And the Tower Four that we started with them twice has just encouraged them to create their own independence.

16:19:58 --> 16:20:04

Peter Boockvar: And China, you know, took that sort of message and has really ran with it.

16:20:04 --> 16:20:10

Peter Boockvar: So, the business models of different U.S. industries.

16:20:10 --> 16:20:20

Peter Boockvar: particularly tech is, to me, forever. Forever is a long time, but at least in the coming decade is altered.

16:20:20 --> 16:20:22

Peter Boockvar: You know, China…

16:20:22 --> 16:20:25

Peter Boockvar: Came for our furniture industry.

16:20:25 --> 16:20:31

Peter Boockvar: China came for our textile industry, and it wasn’t like they stole it, we gave it to them, because…

16:20:31 --> 16:20:35

Peter Boockvar: US manufacturers said, well, if I can do it cheaper there, I’m going to outsource it.

16:20:35 --> 16:20:36

Harry Melandri: Absolutely.

16:20:35 --> 16:20:44

Peter Boockvar: And, you know, so it wasn’t like they took it, we just gave it to them. And, you know, China, when it comes to the global auto market.

16:20:45 --> 16:20:52

Peter Boockvar: They’re going to take their share than they are in EVs and solar panels and robotics and automation.

16:20:52 --> 16:20:57

Peter Boockvar: And electrification, I mean, energy power, their energy costs are half.

16:20:57 --> 16:21:07

Peter Boockvar: Uh, that they are on a kilowatt basis to the U.S. And as Jeff Bezos said in the late 1990s, is your profit margin is my opportunity.

16:21:07 --> 16:21:19

Peter Boockvar: And the Chinese are saying that, too. Now, they’re doing it partly from a competitive standpoint, but they’re also doing it from a self-sufficiency standpoint, because they’re not going to want to have to rely on.

16:21:19 --> 16:21:21

Peter Boockvar: U.S. models, they want to have their own.

16:21:21 --> 16:21:34

Peter Boockvar: But not only by having their own are they going to be able to benefit from that, but they’re going to be able to sell that throughout the rest of the world. So that’s on the software side. On the hardware side, you know, they’re definitely behind, particularly on the semi side.

16:21:34 --> 16:21:42

Peter Boockvar: But you can be sure they’re catching up rather quickly, and will continue to do so. So I just wanted to throw that…

16:21:40 --> 16:21:43

Harry Melandri: They just got a lot of engineers. Yeah.

16:21:42 --> 16:21:46

Peter Boockvar: Uh, yeah, they’re graduating a lot more than we are. Um…

16:21:46 --> 16:21:59

Peter Boockvar: So, I just wanted to throw that out as part of that AI piece, because anybody, any U.S. tech investor that’s not paying attention to China, I think, is not doing all of their homework.

16:21:51 --> 16:21:53

Harry Melandri: No, I’m…

16:21:58 --> 16:22:12

Harry Melandri: So, I’m a terrible conspiracy theorist. It’s, like, my hobby. Um, that and soccer, right? I’m a Tottenham fan, so soccer hasn’t been an awful lot of fun recently. Um, but the conspiracy theory, it’s a gift that keeps on giving. And…

16:22:13 --> 16:22:24

Harry Melandri: I would suggest that the right way to look at these issues is in military and strategic terms, not in profitability terms.

16:22:24 --> 16:22:25

Harry Melandri: um…

16:22:25 --> 16:22:31

Harry Melandri: I think of AI as being the biggest single military innovation.

16:22:31 --> 16:22:36

Harry Melandri: we’ve had, and I don’t believe the Us. Has any intention.

16:22:36 --> 16:22:38

Harry Melandri: of being second best in it.

16:22:38 --> 16:22:51

Harry Melandri: So, and that isn’t necessarily good for investors. We are gonna make a rush to dominate that space and maybe ultimately we will dominate and ultimately be good in economic terms.

16:22:51 --> 16:22:54

Harry Melandri: But it doesn’t matter that it’s not profitable now.

16:22:55 --> 16:22:59

Harry Melandri: The the military uses are so important.

16:22:59 --> 16:23:05

Harry Melandri: that we’re going to channel investment into that space, and the Chinese will too.

16:23:03 --> 16:23:05

Peter Boockvar: Yeah, but that…

16:23:05 --> 16:23:19

Peter Boockvar: Yeah, but that’s what technology always is. I mean, I never was in the military, so I can’t say specifically. But all the commercial uses of technology have been integrated into the military.

16:23:19 --> 16:23:35

Peter Boockvar: You know, they, they, they, they get on the same, you know, the, the internet and, and, and, um, uh, have benefited from, from, from that. Now, you, you, you can argue that, that maybe this, um, is, is better suited for, for military uses, which.

16:23:27 --> 16:23:29

Harry Melandri: Yeah.

16:23:35 --> 16:23:43

Peter Boockvar: For sure, it can be the case, but, you know, the beauty of technology is to integrate it in all different aspects, and, uh, you know.

16:23:43 --> 16:24:00

Peter Boockvar: Our high speed semis is in the military equipment that we use every single day. Unfortunately, we still need Chinese rare earth magnets to be in that military equipment too. But that’s another conversation on the tariff side.

16:24:00 --> 16:24:02

Peter Boockvar: But, um…

16:24:02 --> 16:24:12

Peter Boockvar: Technology has wide reaches and can be applicable certainly in many ways, both commercially and kinetically.

16:24:12 --> 16:24:21

Harry Melandri: Yeah, you know, I think we’re pretty aligned on that. I think we’re also pretty aligned on the long end of the bond market.

16:24:21 --> 16:24:24

Harry Melandri: And that it doesn’t look great.

16:24:24 --> 16:24:32

Harry Melandri: Um, I, you know, I’m an ex-bond trader, and bond punter, and derivative punter, and that stuff.

16:24:32 --> 16:24:41

Harry Melandri: And I look at this thing and I think to myself, what peasant just did is a pocatel, pocatel of weakness.

16:24:41 --> 16:24:54

Harry Melandri: You don’t look to adjust the you know the arbitrage yield differences when things are great. You look to support markets when they’re fundamentally weak.

16:24:55 --> 16:25:05

Harry Melandri: Um, and I don’t think this is an intervention of a scale that could possibly change the general course of the bond market. Am I wrong to be so negative?

16:25:05 --> 16:25:10

Peter Boockvar: No, I agree. And, you know, certainly.

16:25:10 --> 16:25:17

Peter Boockvar: When it comes to treasury secretaries, there are probably few, if any, that are as market savvy as him.

16:25:17 --> 16:25:27

Peter Boockvar: So I was pretty surprised that he decided to draw a line in the sand at this 475 level-ish in the US tenure.

16:25:27 --> 16:25:31

Peter Boockvar: You would think that maybe he would have saved some, some…

16:25:31 --> 16:25:44

Peter Boockvar: uh, some action and some ammo for maybe 5% or more when, you know, since that was the, uh, the peak post-COVID in October 2023. Um…

16:25:45 --> 16:25:49

Peter Boockvar: You know, in a way, he sort of picked a fight with the long end of the yield curve.

16:25:49 --> 16:25:51

Peter Boockvar: And…

16:25:51 --> 16:25:53

Peter Boockvar: Unfortunately for him.

16:25:53 --> 16:25:56

Peter Boockvar: He doesn’t have the Fed’s printing press.

16:25:56 --> 16:25:58

Peter Boockvar: And the market is much bigger than he is.

16:25:59 --> 16:26:00

Peter Boockvar: And…

16:26:00 --> 16:26:05

Peter Boockvar: So, so I, I, I don’t know where he’s going with this.

16:26:05 --> 16:26:07

Peter Boockvar: So I think it was actually kind of.

16:26:07 --> 16:26:13

Peter Boockvar: rushed, in a way. Um, I don’t think this was fully well thought out.

16:26:13 --> 16:26:21

Peter Boockvar: And I don’t think I know there are a couple things because they’re also this is a game of whack a mole.

16:26:21 --> 16:26:27

Peter Boockvar: So, on one hand, he thought to himself, okay, I need to step in and cap the rise in the long end.

16:26:21 --> 16:26:23

Harry Melandri: Yeah.

16:26:27 --> 16:26:28

Peter Boockvar: And…

16:26:28 --> 16:26:31

Peter Boockvar: You know, there’s a lot of long-term bonds.

16:26:31 --> 16:26:34

Peter Boockvar: That are trading well below par.

16:26:34 --> 16:26:36

Peter Boockvar: So it’s like, hey, you know, if I can buy a.

16:26:36 --> 16:26:48

Peter Boockvar: a long-end bond at 60 cents on the dollar, because, you know, 30-year paper, you know, got cut in half over the last couple years. Um, you know, great deal for the U.S. taxpayer. I’m retiring.

16:26:48 --> 16:26:53

Peter Boockvar: uh, this. So for a million dollars of principal, I can buy it back for $500,000.

16:26:53 --> 16:26:57

Peter Boockvar: Problem on the flip side is, he’s…

16:26:57 --> 16:27:02

Peter Boockvar: By retiring that bond, well, you’re retiring low-cost debt for the US government.

16:27:03 --> 16:27:04

Harry Melandri: Yeah.

16:27:03 --> 16:27:08

Peter Boockvar: And you’re now replacing it with high-cost debt by issuing.

16:27:08 --> 16:27:12

Peter Boockvar: Short-term debt at 3 3/4 to 4% to pay for it.

16:27:12 --> 16:27:17

Peter Boockvar: Um, now, it’s not dollar for dollar, because you are reducing the national debt by…

16:27:18 --> 16:27:26

Peter Boockvar: you know, that difference between PAR and when you’re pricing it, but then, of course, you’re issuing more at a much higher interest rate than the rate that you’re retiring.

16:27:26 --> 16:27:34

Peter Boockvar: Uh, you also risk weakness in the dollar, which, if it… the sell-off gets pronounced, that’s inflationary.

16:27:35 --> 16:27:45

Peter Boockvar: And foreigners still own $27.5 trillion more than we own of foreign assets, and that’s our net capital investment position.

16:27:45 --> 16:27:59

Peter Boockvar: you can actually encourage more foreign selling if the US dollar were to fall in any pronounced fashion. And by front-loading T-bill issuance to pay for it, you are kind of cornering Kevin Warsh.

16:27:59 --> 16:28:04

Peter Boockvar: to be able to respond to potentially still high inflation, because.

16:28:04 --> 16:28:15

Peter Boockvar: now the U.S. government’s balance sheet is even tethered closer to what the Fed does with the Fed funds rate in terms of the cost of interest.

16:28:15 --> 16:28:17

Peter Boockvar: So…

16:28:17 --> 16:28:20

Peter Boockvar: They’re in a really tight box here.

16:28:20 --> 16:28:26

Peter Boockvar: And so, I was surprised by what he did, and let’s take it one step further.

16:28:27 --> 16:28:30

Peter Boockvar: You know, Kevin… uh, Kevin… uh, Scott…

16:28:30 --> 16:28:34

Peter Boockvar: not Warsh, but Scott Bassett, even though Kevin worked.

16:28:34 --> 16:28:36

Peter Boockvar: Uh, with Truck and Mill, all together.

16:28:34 --> 16:28:39

Harry Melandri: They, they are, they are both all together. This is Drucker Miller’s team.

16:28:37 --> 16:28:39

Peter Boockvar: Yeah.

16:28:39 --> 16:28:47

Peter Boockvar: Exactly. So, and interesting, getting to Larry Lindsay. Larry Lindsay went to college with Stan Drucken. Um, so, um.

16:28:39 --> 16:28:40

Harry Melandri: Bye.

16:28:47 --> 16:28:53

Peter Boockvar: Now, if Dustin was trading, and he said, you know what, I’m gonna go short the 10-year at a 4-3 quarter yield.

16:28:54 --> 16:28:55

Peter Boockvar: And.

16:28:55 --> 16:29:02

Peter Boockvar: He made this big global announcement, and we had a rally that then reversed itself.

16:29:02 --> 16:29:08

Peter Boockvar: as a trader, he may say, you know, this trade’s not gonna work out, I’m gonna cut my losses, I’m gonna get out now.

16:29:08 --> 16:29:11

Peter Boockvar: But as an institutional government official.

16:29:11 --> 16:29:15

Peter Boockvar: What do you do when something doesn’t work? You do more of it.

16:29:15 --> 16:29:28

Peter Boockvar: So today on CNBC, they got word from the Treasury that they may use the Treasury general account and the money that’s sitting there in order to finance the buyback of these long term treasuries.

16:29:27 --> 16:29:30

Harry Melandri: I just think it’s…

16:29:28 --> 16:29:29

Peter Boockvar: Okay.

16:29:29 --> 16:29:33

Peter Boockvar: Okay, fine. So they do it, and… but what happens when that’s done?

16:29:33 --> 16:29:46

Peter Boockvar: You know, the market is always looking to when you’re done. And they say, okay, what happens next? It’s like foreign exchange intervention. And it’s the same thing when the Fed did QE1 and QE2.

16:29:37 --> 16:29:39

Harry Melandri: Yeah.

16:29:46 --> 16:30:02

Peter Boockvar: After QE one, well, actually during QE one, interestingly enough, they did it because they wanted to lower long term interest rates. But ironically, long term interest rates actually went up because the market was responding to the re the perceived reflationary, policy of QE.

16:30:03 --> 16:30:11

Peter Boockvar: Then the Fed is done with QE because they told us when the end date was. Two weeks later, stock market begins to fall 20%.

16:30:11 --> 16:30:21

Peter Boockvar: QE2, interest rates actually go up rather than down. Two weeks after they’re done, the stock market has a correction. And that’s why QE3 was QE infinity.

16:30:21 --> 16:30:26

Peter Boockvar: Because Bernanke didn’t want to give an endpoint because of the experiences of the prior two.

16:30:26 --> 16:30:29

Peter Boockvar: So here we are with Scott Besson.

16:30:29 --> 16:30:32

Peter Boockvar: The market’s gonna sniff out when you’re done.

16:30:32 --> 16:30:45

Peter Boockvar: It’s gonna sniff out when you’re out of ammo. And unlike the Fed, you don’t have a printing press. So, I don’t know where this is gonna go. Um, I think this is a dangerous fight he has picked.

16:30:45 --> 16:30:48

Peter Boockvar: I have respect for him as a market guy.

16:30:48 --> 16:30:52

Peter Boockvar: But I’m not sure about this one.

16:30:51 --> 16:30:55

Harry Melandri: I’m totally with you on this. It’s…

16:30:55 --> 16:31:12

Harry Melandri: Good tactics, bad strategy. He’s gone into a fight, and if he keeps on scaling it up, it just gets uglier and uglier. So he’d be best off, you know, trying it, it doesn’t work, walking away. But doubling up and doubling up again, everyone who’s traded knows where that goes.

16:31:12 --> 16:31:21

Harry Melandri: You don’t do that. Um, I think he thinks he’s got a bigger stick than everybody else because he’s US Treasury, but I don’t know if that’s really true.

16:31:19 --> 16:31:24

Peter Boockvar: Yeah, I think that was probably his initial reaction, but…

16:31:24 --> 16:31:28

Peter Boockvar: Um, I’m wondering after he takes a deep breath, he realizes, oh boy, what did I just do?

16:31:28 --> 16:31:29

Harry Melandri: Right.

16:31:30 --> 16:31:40

Harry Melandri: Um, and I think the underlying problem is that nobody needs 30-year duration. That point of the curve just doesn’t have the demand.

16:31:40 --> 16:31:57

Harry Melandri: Compared to the past, for various reasons, maybe equities of the new bonds, or something that you could. You could go through a bunch of different arguments about funding ratios on pension funds. But there just isn’t the underlying subscription for it. And the same is true for long, real yields. Long, real yields are very high. It’s not.

16:31:56 --> 16:31:58

Peter Boockvar: Yep.

16:31:57 --> 16:32:09

Harry Melandri: It’s not an inflation expectation problem. You’d think it might be, with some of the things going on in oil product markets. It’s real yields. Which then leads me to the follow-up question. This is a segue. Um…

16:32:09 --> 16:32:16

Harry Melandri: So, one of my core axioms is that we’re in a period of global capital scarcity.

16:32:16 --> 16:32:31

Harry Melandri: Um, I have a feeling you agree that there’s this… there’s a shortage of, uh… not a shortage of global securities, but a pro… a shortage of global underlying productive capital stock for what we need to do.

16:32:31 --> 16:32:34

Harry Melandri: And that’s what’s dominating.

16:32:34 --> 16:32:37

Harry Melandri: you know, capital markets.

16:32:38 --> 16:32:39

Peter Boockvar: Well…

16:32:39 --> 16:32:43

Peter Boockvar: You can also flip that and say…

16:32:44 --> 16:32:47

Peter Boockvar: We have an excessive supply.

16:32:47 --> 16:32:49

Peter Boockvar: of…

16:32:50 --> 16:32:51

Peter Boockvar: Well…

16:32:53 --> 16:32:56

Peter Boockvar: The demand for AI.

16:32:56 --> 16:32:59

Peter Boockvar: and the Capitol building that’s going on there.

16:32:59 --> 16:33:01

Peter Boockvar: Um…

16:33:01 --> 16:33:04

Peter Boockvar: You know, that’s voracious.

16:33:03 --> 16:33:07

Harry Melandri: That’s like one and a half percent of US GDP, if not more.

16:33:07 --> 16:33:08

Peter Boockvar: Well…

16:33:09 --> 16:33:18

Peter Boockvar: I’ve seen stats where CapEx relative to AI all in is as much as 3.5% of US GDP.

16:33:18 --> 16:33:21

Peter Boockvar: And let me just get a chart here for a second.

16:33:22 --> 16:33:28

Peter Boockvar: My friend Luke Grohman got this from Bloomberg, and I don’t know if you can see this, okay?

16:33:30 --> 16:33:32

Peter Boockvar: The large bar is…

16:33:32 --> 16:33:34

Peter Boockvar: AI.

16:33:34 --> 16:33:36

Harry Melandri: Yeah, that’s three and a half points.

16:33:34 --> 16:33:37

Peter Boockvar: And you can see how it dwarfs.

16:33:37 --> 16:33:40

Peter Boockvar: railroads, dwarfs.

16:33:40 --> 16:33:43

Peter Boockvar: Fiber optics and telecom dwarfs.

16:33:43 --> 16:33:45

Peter Boockvar: Canals.

16:33:45 --> 16:33:48

Peter Boockvar: Dwarfs highways and electrification.

16:33:49 --> 16:34:02

Peter Boockvar: So, that level of spend, now, you know, there’s an argument that it’s crowding out governments, but you can also flip that and say, well, governments have been crowding out the private sector for a while, and ever more so now. Um…

16:34:03 --> 16:34:12

Peter Boockvar: There is a… we can say there’s a dearth of capital, but you can also say, well, capital is being overwhelmed by that supply.

16:34:13 --> 16:34:26

Peter Boockvar: And that we’re getting swamped and swimming in too much supply that’s just overwhelmed, you know, the demand for, uh, um, you know, or have overwhelmed the ability for the private sector to provide all that capital.

16:34:26 --> 16:34:37

Harry Melandri: Yes, yes, which is driving yields higher. And the curious thing is it has yet to push equity markets down, but it really should have done.

16:34:37 --> 16:34:56

Harry Melandri: Uh, because the guys doing the capex had been enormous buyers of their own stock, and therefore, they’d been enormous suppliers of equity capital to the equity markets. You get… you get your money back, you gotta put it somewhere, you’re gonna put it back into other stocks.

16:34:56 --> 16:34:59

Harry Melandri: So it’s you’d think.

16:34:58 --> 16:35:04

Peter Boockvar: To an extent, to an extent, because a lot of the buybacks was just offsetting option dilution.

16:35:04 --> 16:35:05

Harry Melandri: Sure.

16:35:05 --> 16:35:14

Peter Boockvar: And just wanted to add one thing, Harry, because we can’t have a discussion about the fixed income markets without talking about Japan.

16:35:05 --> 16:35:07

Harry Melandri: Um, so…

16:35:14 --> 16:35:15

Harry Melandri: Hmm.

16:35:14 --> 16:35:28

Peter Boockvar: Um, the Bank of Japan was the architect of modern-day QE, was the architect of modern-day zero rates, and then obviously was taken to negative, and interest rate suppression around the world.

16:35:28 --> 16:35:29

Peter Boockvar: And…

16:35:29 --> 16:35:33

Peter Boockvar: They… it is completely reversing there.

16:35:33 --> 16:35:34

Peter Boockvar: So…

16:35:34 --> 16:35:40

Peter Boockvar: Scott Bessent is not just pushing back against the US Treasury market.

16:35:40 --> 16:35:46

Peter Boockvar: He’s also pushing back against the GDP market because what happens there doesn’t stay there.

16:35:46 --> 16:35:52

Peter Boockvar: The flows and the and the behavior and the rising rates there flows through the rest of the world.

16:35:52 --> 16:35:57

Peter Boockvar: So Scott Besson is actually fighting two enormous markets.

16:35:57 --> 16:36:02

Peter Boockvar: And that is an even tougher fight to have.

16:36:02 --> 16:36:16

Peter Boockvar: And we know that, you know, you got long-end rates in Japan that are approaching 4%. Uh, the BOJ is about to raise rates in September and likely follow through thereafter. And, uh, I draw a direct line.

16:36:16 --> 16:36:21

Peter Boockvar: And from there to US and European yields.

16:36:21 --> 16:36:22

Harry Melandri: Yeah.

16:36:21 --> 16:36:23

Peter Boockvar: Um, in terms of its influence.

16:36:23 --> 16:36:27

Harry Melandri: So, does Besant want to wake a dollar?

16:36:27 --> 16:36:31

Harry Melandri: Or do Besant and Walsh want to weak a dollar?

16:36:28 --> 16:36:30

Peter Boockvar: Um…

16:36:30 --> 16:36:32

Peter Boockvar: I think…

16:36:32 --> 16:36:35

Peter Boockvar: I think they want a stable dollar.

16:36:35 --> 16:36:45

Peter Boockvar: I don’t think they want any more strength in the dollar. I think wanting a weaker currency is a dangerous game to play, especially when you’re talking about.

16:36:45 --> 16:36:49

Peter Boockvar: a U.S. economy that still imports.

16:36:49 --> 16:37:00

Peter Boockvar: or I should say, as a percentage of our imports, is 40% is intermediate-term goods. You know, it’s very simplistic to say, okay, a weaker dollar will help U.S. manufacturing.

16:37:00 --> 16:37:10

Peter Boockvar: Well, yeah, but, you know, 40% of our imports go into making that finished product, and we’re still reliant overseas for that stuff.

16:37:10 --> 16:37:14

Peter Boockvar: So, um, I think what…

16:37:14 --> 16:37:21

Peter Boockvar: a central bank governor and chairman should want, a treasury secretary, what they want is a stable dollar.

16:37:21 --> 16:37:36

Peter Boockvar: But by getting too aggressive here with the yield curve risks an unstable dollar. And that would actually be a negative, particularly when you’re still hugely reliant, as I said earlier, on foreign investment in the US being as big as it is.

16:37:36 --> 16:37:40

Peter Boockvar: And with the US being the largest debtor nation in the world.

16:37:36 --> 16:37:38

Harry Melandri: You know…

16:37:39 --> 16:37:50

Harry Melandri: Yeah, I asked the question because it’s not like the US yield curve is the only place, Scott, Mr. Bessent was intervening.

16:37:50 --> 16:37:52

Harry Melandri: um…

16:37:52 --> 16:38:01

Harry Melandri: there was a Euro-Yen intervention, which, you know, shocked a few journalists. Lots of things have shocked a few journalists recently, and I think that’s probably a net good thing.

16:38:01 --> 16:38:16

Harry Melandri: Um, but if you really wanted the yen to take the pressure off the yen and the yen to appreciate, you need higher Japanese rates. But if you have high enough Japanese rates, you’re going to pull Japanese capital.

16:38:16 --> 16:38:18

Harry Melandri: capital out of US markets.

16:38:18 --> 16:38:22

Harry Melandri: So, you know, careful what you wish for.

16:38:19 --> 16:38:21

Peter Boockvar: Yep. Um, and…

16:38:21 --> 16:38:39

Peter Boockvar: Yeah. And Japan is the third largest creditor nation in the world. And they’re the largest foreign holder of US treasuries at about $1.1 trillion. So something I mentioned earlier is that on one hand, Bessent does not want the Japanese to sell their treasuries.

16:38:39 --> 16:38:41

Peter Boockvar: to finance their own intervention.

16:38:41 --> 16:38:45

Peter Boockvar: But if you end up getting a much weaker dollar.

16:38:45 --> 16:38:56

Peter Boockvar: and rates continue to go up in Japan, well, that Japanese investor is going to take money home and buy JGBs and not have to deal with hedging their currency risk.

16:38:56 --> 16:38:58

Peter Boockvar: So, an unhedged…

16:38:58 --> 16:39:10

Peter Boockvar: foreign investor in the U.S. market pays a lot of attention to the direction of the U.S. dollar and their own currency, so any notable changes there could matter a lot.

16:39:10 --> 16:39:12

Peter Boockvar: that’s why I get to the point where.

16:39:10 --> 16:39:11

Harry Melandri: So…

16:39:13 --> 16:39:20

Peter Boockvar: Besant wants a stable currency, not necessarily a pronounced weak one or a pronounced strong one.

16:39:19 --> 16:39:30

Harry Melandri: Well, I don’t… you can’t observe what people want. You can only observe the public statements and what’s consistent. I mean…

16:39:30 --> 16:39:37

Harry Melandri: It does occur to me that if you had a very rapid repricing of the dollar which stopped, that would be ideal.

16:39:37 --> 16:39:40

Harry Melandri: Of course, it would be ideal if I lost 20 pounds as well.

16:39:40 --> 16:39:47

Harry Melandri: Um, these things don’t really work out in the ideal way most of the time, in my experience.

16:39:48 --> 16:39:51

Harry Melandri: Okay, so how…

16:39:51 --> 16:39:54

Harry Melandri: How are you coping with this?

16:39:55 --> 16:40:02

Peter Boockvar: So, from an investment standpoint, um, my best idea and how we’re…

16:40:02 --> 16:40:11

Peter Boockvar: currently positioned in one of the, uh, the portfolios that I manage is, I think we’re in a full-fledged commodity bull market.

16:40:11 --> 16:40:18

Peter Boockvar: Uh, that bull market really took off last year in precious metals and industrial metals.

16:40:18 --> 16:40:25

Peter Boockvar: Precious metals have had a correction, but are now rallying, and industrial metals, particularly copper, have taken off again.

16:40:25 --> 16:40:31

Peter Boockvar: That, of course, was joined by energy stocks with, obviously, the war.

16:40:31 --> 16:40:43

Peter Boockvar: Uh, certainly on the product side. And I do think we’re in the midst of, uh, an aggrable market. Uh, on the day we’re taping this, corn prices spiked to a multi-year high.

16:40:43 --> 16:40:52

Peter Boockvar: Uh, we’re playing ag through the fertilizer stocks, and, uh, I think this is a, uh, a multi-year theme. Um…

16:40:46 --> 16:40:47

Harry Melandri: Hmm.

16:40:52 --> 16:40:56

Peter Boockvar: Also, and you can consider maybe commodities sort of an anti.

16:40:56 --> 16:41:08

Peter Boockvar: AI trade, in the sense… in some respects, but it’s also… could be partly an AI trade in another. You can’t build a data center without copper. You need natural gas to power it.

16:41:05 --> 16:41:06

Harry Melandri: Yep.

16:41:08 --> 16:41:23

Peter Boockvar: But I do think that, you know, commodities relative to stocks have been rather depressed for a bunch of years, and it’s time for some outperformance in commodities relative to equities. And one of my other favorite groups is sort of the.

16:41:23 --> 16:41:39

Peter Boockvar: The the exact opposite of of the AI trade. And that’s consumer staple stocks like those in the food business and consumer products like Kimberly-Clark, for example, stock that we own, that are all left for dead, cheap valuations.

16:41:39 --> 16:41:51

Peter Boockvar: really generous dividend yields, and I think they’ve absorbed a lot of the business headwinds in terms of volume declines and reduced pricing power.

16:41:51 --> 16:41:56

Peter Boockvar: And that, the stocks reflect a lot of those challenges. So.

16:41:56 --> 16:42:06

Peter Boockvar: I do… and also, I’m in the camp that the U.S. dollar, uh, is going to roll over, and, uh, I’m bullish on emerging market local currency bonds.

16:42:06 --> 16:42:14

Peter Boockvar: Uh, pretty bullish on international stocks, denominated, obviously, in foreign currencies. So, uh, a combination of these things.

16:42:14 --> 16:42:19

Harry Melandri: So forgive me, which emerging market local currencies do you like?

16:42:19 --> 16:42:31

Peter Boockvar: So we’re long an ETF that happens to be long Brazil, Mexico, China, um, Thailand, you know, some of those would be, uh, some of the holdings, India, Singapore.

16:42:32 --> 16:42:34

Harry Melandri: You know that.

16:42:32 --> 16:42:38

Peter Boockvar: Even though Singapore is not really emerging market, but sometimes it ends up in these things.

16:42:35 --> 16:42:49

Harry Melandri: Ah, Taiwan’s not really an emerging… Taiwan’s not an emerging market either. It’s 10% of most… Taiwan Semiconductor can be up to 10% of an emerging market portfolio. It’s absurd. It makes me giggle. Um…

16:42:41 --> 16:42:42

Peter Boockvar: Right.

16:42:46 --> 16:42:48

Peter Boockvar: Yeah, exactly.

16:42:49 --> 16:43:00

Harry Melandri: I… I know that real… I… I own, uh, Peso, Mex Peso. Um, I… last time I checked, it was… I don’t know, I’ve forgotten, but I thought 400 to 500 basis points of extra carry.

16:43:00 --> 16:43:01

Harry Melandri: Um…

16:43:01 --> 16:43:05

Harry Melandri: I own Brl as well.

16:43:05 --> 16:43:14

Harry Melandri: Uh, both, uh, in futures and in other things, um, simply because these are monster real yields, and I just don’t think those are bad economies.

16:43:12 --> 16:43:15

Peter Boockvar: Yeah, in Brazil, it’s like 10%.

16:43:15 --> 16:43:17

Harry Melandri: Yeah, um…

16:43:17 --> 16:43:28

Harry Melandri: the… I… and I’ve got calls on the grains. Now, I’ve got calls on the grains, because I’m looking at the disaster, which is the Ukraine-Russia war.

16:43:28 --> 16:43:37

Harry Melandri: And also, the story is about, um, a Super El Nino, which, for some reason, I want to keep saying Super Mario, and I’ve got a… got a…

16:43:37 --> 16:43:44

Harry Melandri: intervene with my cellar. No, it’s Super El Nino, Mario’s cousin. That’s it.

16:43:44 --> 16:43:51

Harry Melandri: But all of these… talk about perfect storms. There’s no… Ukrainian grain may not come out at all.

16:43:51 --> 16:44:10

Harry Melandri: the Russians are blowing up ships heading towards the Ukrainian ports with drones in retaliation for their oil product getting out. And I had thought crude was likely to benefit, but actually it looks like the problem is oil product. If you look at the difference between Marathon.

16:44:10 --> 16:44:16

Harry Melandri: And any oil major. Marathon is absolute, you know, the specialist refinery stocks are.

16:44:16 --> 16:44:23

Harry Melandri: crushing it. The scale of this move is terrifying, because, you know, you need diesel to harvest crops.

16:44:23 --> 16:44:25

Harry Melandri: So the.

16:44:25 --> 16:44:33

Harry Melandri: I don’t know, I’ve got convexity in these areas, because I see the same thing I think you’re seeing.

16:44:33 --> 16:44:38

Harry Melandri: You don’t know… it’s the elasticity of the curves which is the real question.

16:44:38 --> 16:44:43

Harry Melandri: Uh, it could be that we double, in which case God knows how many people die.

16:44:43 --> 16:44:46

Harry Melandri: It could be that we’re up 10%.

16:44:46 --> 16:44:49

Harry Melandri: Um, I don’t know, because I don’t know how steep the.

16:44:50 --> 16:44:54

Harry Melandri: supply and demand curves are, but we’re about to find out.

16:44:54 --> 16:44:58

Harry Melandri: So the thing’s really, you know, super concerning.

16:44:57 --> 16:45:13

Peter Boockvar: Uh, I agree. And, uh, also, you know, there’s some chatter that, uh, at least in corn, that, uh, US, the, the yields may not be as much as expected. Now, coming into this, uh, planting season, farmers had their fertilizer.

16:44:58 --> 16:44:59

Harry Melandri: I’m.

16:45:13 --> 16:45:19

Peter Boockvar: But because of the big sharp rise in particularly phosphate prices and nitrogen.

16:45:19 --> 16:45:34

Peter Boockvar: Um, the latter part of the season, in terms of fertilizer applications, may be a lot less as they preserve what they have, and you can be sure for the following, uh, planting season next spring, um, that it’s probably gonna be.

16:45:25 --> 16:45:27

Harry Melandri: Yeah.

16:45:34 --> 16:45:38

Peter Boockvar: Um, not as robust, unless…

16:45:38 --> 16:45:53

Peter Boockvar: Farmer income improves dramatically from here, which I think at some point it will, but that’s going to be through higher crop prices. So, um, there’s going to be some yield degradation here, uh, from this big short rise in, in fertilizer prices in the.

16:45:53 --> 16:45:56

Peter Boockvar: Lessened use of it as a result.

16:45:55 --> 16:46:09

Harry Melandri: Yeah, you’d have guessed. I can’t work out how big these effects are, but the sign on them all points in the same direction. I didn’t think it was that grains had moved that much yet.

16:46:09 --> 16:46:11

Harry Melandri: Um…

16:46:09 --> 16:46:12

Peter Boockvar: Well, we’ll look at a chart of corn today.

16:46:12 --> 16:46:25

Harry Melandri: Okay, so it probably is a nice clean breakout somewhere. I think I was looking more at wheat because corn wasn’t so close to it, but that would just make wheat, sorry, meat prices even higher.

16:46:25 --> 16:46:29

Harry Melandri: I mean, the beef prices in the US are crazy high.

16:46:29 --> 16:46:37

Peter Boockvar: Yeah, which Trump is trying to alleviate through allowing more imports. But yeah, we’ll see what happens with that.

16:46:30 --> 16:46:31

Harry Melandri: Um, so…

16:46:36 --> 16:46:38

Harry Melandri: Yeah.

16:46:38 --> 16:46:48

Harry Melandri: Um, on the dollar, so you… you took an interesting stance, which is they don’t want a weaker dollar, they want a more… a strong… a sound dollar.

16:46:48 --> 16:46:51

Harry Melandri: But that you’re betting against it.

16:46:50 --> 16:46:55

Peter Boockvar: I am. Well, I think…

16:46:51 --> 16:46:52

Harry Melandri: Talk me through that.

16:46:55 --> 16:46:59

Peter Boockvar: We’re in a new multipolar world.

16:46:59 --> 16:47:01

Peter Boockvar: where…

16:47:02 --> 16:47:12

Peter Boockvar: Helped by the tariffs, um, foreigners, foreign countries, foreign companies want to diversify their.

16:47:12 --> 16:47:18

Peter Boockvar: supply chains, their trade flows, they’re in their capital flows. I mean, you just look at…

16:47:18 --> 16:47:29

Peter Boockvar: you know, the trade discussion blow up between the US and Canada, you know, Canada now is waking up every single day, and this started last year, of how do I reduce my…

16:47:29 --> 16:47:41

Peter Boockvar: reliance on the U.S. I need to cut some trade deals with other countries. And every country in the world is trying to do this, um, because we are now an unreliable partner, and we’re still dominant.

16:47:41 --> 16:47:50

Peter Boockvar: We’re still the largest economy, everyone’s gonna wanna play with us and trade with us, but I do think that between diversifying capital flows.

16:47:50 --> 16:47:59

Peter Boockvar: Gold, a beneficiary of that, from that perspective, diversifying supply chains and trade flows, you know, over time, that’s gonna be…

16:47:59 --> 16:48:14

Peter Boockvar: Dollar negative. You know, Scott Bassin talked about, uh, going all out on Iranian sanctions, and that if you violate them, you’ll get kicked off the, uh, the, the, the US payment system, SWIFT. Well, that’s why China is developing their own payment system.

16:48:15 --> 16:48:19

Peter Boockvar: Um, China wants to pay for things in their own currency.

16:48:19 --> 16:48:20

Harry Melandri: Yeah. Okay.

16:48:19 --> 16:48:25

Peter Boockvar: And there are plenty of countries that are willing to take that currency, and any balance of payments will settle in gold.

16:48:25 --> 16:48:32

Peter Boockvar: Uh, and anybody who takes that gold can always liquefy that gold, uh, at the Shanghai Gold Exchange, or in Hong Kong.

16:48:32 --> 16:48:35

Peter Boockvar: Um, and to get that money back out.

16:48:35 --> 16:48:47

Peter Boockvar: So now this is more evolutionary. It’s not an event. It’s a process. But I think over time, this is all sort of dollar negative.

16:48:47 --> 16:48:56

Peter Boockvar: That’s why, that’s why I’m, you know, still plenty of US dollars and dollar exposure for sure, but just having some diversification in non-dollar assets.

16:48:56 --> 16:49:05

Harry Melandri: I think that’s right. You see people… this argument, it’s kind of a weird, silly argument where people.

16:49:05 --> 16:49:12

Harry Melandri: Say that the dollar… there’s no replacement for the dollar as a dominant global reserve currency, which is completely true.

16:49:12 --> 16:49:24

Harry Melandri: But that’s not the same way, same thing as saying that people won’t diversify away from the dollar. That’s perfectly, those two statements are perfectly consistent with each other.

16:49:23 --> 16:49:25

Peter Boockvar: Yeah, I think it was…

16:49:24 --> 16:49:27

Harry Melandri: You can go from 70% dollar.

16:49:27 --> 16:49:29

Peter Boockvar: Yeah, exactly.

16:49:27 --> 16:49:29

Harry Melandri: Sorry, Pete.

16:49:30 --> 16:49:32

Harry Melandri: Um, and so that, that…

16:49:30 --> 16:49:39

Peter Boockvar: Yeah. Twenty five years ago, I think, the dollar was seventy, seventy five percent of of central bank reserves, and now it’s down to, in the fifties.

16:49:40 --> 16:49:45

Peter Boockvar: Dollar’s still the reserve currency, it’s still dominant, but, you know, that’s a pretty notable.

16:49:40 --> 16:49:41

Harry Melandri: Yeah.

16:49:45 --> 16:49:48

Peter Boockvar: Uh, fall. And, and now…

16:49:46 --> 16:49:49

Harry Melandri: Erosion, yeah.

16:49:48 --> 16:49:54

Peter Boockvar: Yeah, gold is a bigger holding than U.S. Treasuries in central bank balance sheets in the aggregate.

16:49:53 --> 16:50:08

Harry Melandri: You know, someone explained, I didn’t bother checking this and I really should check more, but you know, I’ve got this lazy problem and it’s, it’s tough to overcome. The, the, the increase in gold on central bank balance sheets is almost all appreciation.

16:50:08 --> 16:50:15

Harry Melandri: There’s almost… there’s been very few purchases. There’s only a couple of countries that have been purchasing gold.

16:50:15 --> 16:50:17

Harry Melandri: And China’s one of them.

16:50:16 --> 16:50:25

Peter Boockvar: China’s bought an enormous amount of gold. Russia, up until recently selling, has been an enormous buyer. Kazakhstan, Poland, Saudi, um…

16:50:17 --> 16:50:18

Harry Melandri: Lovely.

16:50:25 --> 16:50:28

Peter Boockvar: There has been real tonnage.

16:50:28 --> 16:50:37

Peter Boockvar: This is not just price appreciation. This is tonnage. And you see it from the World Gold Council. They report the tons being bought.

16:50:37 --> 16:50:54

Peter Boockvar: You know, for four years in a row, I think we’re 3 or 4 years in a row, more than 1000 tons were bought post 2022 and, 2026. It slowed down because it was a big, drop off in Q1, but a huge rebound in Q2. But, you know, that’s measuring tonnage.

16:50:56 --> 16:51:08

Harry Melandri: Uh, interesting, so my basic facts were wrong. I’ll go double-check it. Um, yeah, I think you’re right, though, but your key point is, if you use the dollar as a weapon.

16:51:08 --> 16:51:15

Harry Melandri: Don’t be surprised if people try and reduce their vulnerability to that weapon.

16:51:15 --> 16:51:26

Peter Boockvar: I mean, Mark Carney… sorry to interrupt, Harry. Mark Carney was this tree-hugging environmentalist, and now he’s the biggest proponent of pipelines.

16:51:17 --> 16:51:19

Harry Melandri: No, you didn’t.

16:51:26 --> 16:51:32

Peter Boockvar: on the western part of British Columbia to get their oil over to Asia.

16:51:31 --> 16:51:35

Harry Melandri: But they have to do that, though. Yeah.

16:51:32 --> 16:51:37

Peter Boockvar: He’s… of course they do, but I’m saying he’s this fossil fuel fan.

16:51:37 --> 16:51:39

Peter Boockvar: Because he was forced to be that.

16:51:39 --> 16:51:53

Harry Melandri: Yeah, that’s right. That’s exactly right. And this way, they’re not price tak… at the moment, they’re a US… they’re a passive price taker of whatever the US will pay them. If they get an export terminal open, they can open it to competition.

16:51:53 --> 16:52:01

Harry Melandri: Um, and then they can, you know, change the, the, you know, the situation. So, yeah, they’re bound to do that, and the US is bound to do their best to stop it.

16:52:02 --> 16:52:04

Harry Melandri: That’s kind of how that will go.

16:52:04 --> 16:52:06

Harry Melandri: Um…

16:52:06 --> 16:52:12

Harry Melandri: Peter, thank you so much for talking us through your views. Fascinating.

16:52:12 --> 16:52:22

Harry Melandri: Um, I don’t think I disagree with you in any one point. Um, I think I’m just… I just have a conspiracy overlay on top of it. That’s the main difference.

16:52:22 --> 16:52:25

Harry Melandri: But, uh, it was good to see you again.

16:52:23 --> 16:52:24

Peter Boockvar: Yep.

16:52:24 --> 16:52:29

Peter Boockvar: Yeah, you too, Harry. I appreciate the invite and enjoy the conversation.

16:52:29 --> 16:52:38

Harry Melandri: I hope so. I hope so. My wife says that she never enjoys conversations with me, but that, you know, that may be all sorts of other things that cause that.

16:52:37 --> 16:52:41

Peter Boockvar: Well, maybe that’s why you have a podcast, because it gives you a chance to talk to other people.

16:52:40 --> 16:52:44

Harry Melandri: That’s right, you haven’t immediately run away.

16:52:44 --> 16:52:49

Harry Melandri: That’s right. It was a pleasure. I hope to see you again soon.

16:52:48 --> 16:52:50

Peter Boockvar: Yep, same here. Thanks.

16:52:55 --> 16:53:00

Harry Melandri: And now you can be frank. How was that? Was that okay?

16:52:59 --> 16:53:02

Peter Boockvar: Yeah, that was a lot of fun, Harry.

16:53:01 --> 16:53:09

Harry Melandri: Good. I’m glad. I try to be funny. I should warn people there’s a risk of dad humor.

16:53:02 --> 16:53:05

Peter Boockvar: Yeah, enjoyed it. Yeah.

16:53:09 --> 16:53:11

Harry Melandri: Um, there’s a…

16:53:09 --> 16:53:14

Peter Boockvar: Yeah, no, it was good. It was good. Yeah, I appreciate it. Thanks so much.

16:53:11 --> 16:53:13

Harry Melandri: Good point.

Anna Wong
I wanted to point out the obvious. Anna Wong is an excellent economist and does exceptional work. She is also a Republican, and my guess is that she is ambitious. Nothing I have mentioned is a sin, although I suspect being an economist is innately questionable, like being a arms dealer or an Argentinian soccer player. The point is that all these facts suggest that she should have an excellent relationship with the Administration. That’s certainly what I read between the lines of her pieces: I think I detect what we used to call “access”. I just wanted to point out that it’s usually worth paying close attention to people who have good access, and that I suspect she will go far.

El Nino
You are already aware that I’m a very boring person. On the very rare occasion that I am invited to a party, you can be assured of finding me in the kitchen, surrounded by a few irate people who took offense at some unreasonable sweeping generalization I made. Its my nature. My recent obsession is thinking through the implications of a potential Super El Nino, that could be on the cards. It’s one of the reasons why I owned cocoa calls (I recently sold the futures resulting from that exercise, but I am hoping to have a chance to get back in). It’s also one of the reasons why I am long of grain calls. I would probably be better off owning DBA. Has some coffee and cocoa exposure because it is a general agriculture fund

Now to be clear I do not know that we will have a Super El Nino next year. But I did come across this forecast a while ago (h/t Sean Hackett), and I have had time to ponder the consequences of this kind of supply shock. They are not pretty.

Now let’s remember a few other small details. First, there is a war in the Straits of Hormuz which adversely affected the global application of fertilizers. Second, there is a war between Russia and Ukraine which has now resulted both in diesel shortages in Russia (we need diesel for farm machinery) and the closure by the Russian military of Ukrainian ports. Both Russia and Ukraine are usually very important grain exporters. None of this bodes well for the stability of 3^rd world governments, nor does it bode well for poor people in the developed world who are currently experiencing falling real wages. The demand-elasticity of food is generally considered quite low. So, the price impact of a Super El Nine might be expected to be quite large. None of this constitutes proof that we will have a “Super El Nino”, but I remember being told that fortune favors the prepared mind. Or was it the bold? Either way, I would suggest that none of this is particularly good news. In fact, like a lot of bad news, its also bad for bonds. There has, of late, been a lot of bad news for bonds, which might be explain the increasing lengths the US Treasury Secretary is going to support long end US Treasuries. I can’t help but think that this latest measure is just another finger in the dike. Just too many bond sellers and not enough bond buyers at these yields.

However, what I am more interested in is WHY they are so cheap. I know I shouldn’t look gift horses in the mouth, but I am a very cynical person. I like to understand why markets are being so generous as to offer little old me “a generational buying opportunity”.

Part of my reticence is that I am already long of $200k of 30year TIPs, which I bought at 2.75%, thinking that cheap, and a “good long-term investment”. And that 25bps is not exactly inconsequential. I am down about 18% on my purchases because long TIPs have big durations. So why am I getting another “generational buying opportunity”, and will I have an even better buying opportunity in a year’s time? At the risk of ruining the piece by mistiming the punchline, I think the answer to the first question is the combination of deteriorating availability of global capital, coupled with the AI buildout/bubble conditions in the US. The answer to the second question is while this situation persists, real yields will remain elevated and TIPs yields remain stubbornly high if not higher. Let me explain.

Why should you care about TIPs?

Well, the first best answer is you shouldn’t. They are about 5% of the US fixed income universe, and they are incredibly illiquid. Trading costs are much higher, and for big asset managers it’s pretty expensive to trade in and out. Desks have limited ability to get in and out of positions (outside of auctions), and big durations and the need to front liquidity to clients means marginal desks with marginal flows are on a hiding to nothing. A horrible market to trade.

However, TIPs have two massive advantages for investors. First, they allow bond investors to take positions in real yields and avoid CPI exposure. TIPs can reduce your exposure to inflation. As someone already flirting with retirement, solving the problem of transferring present consumption reliably into the future is very important to me. Ideally, I would like to be able to swap current consumption for future consumption in a way which a) gives me some “vig” for foregoing present consumption, but also b) reliably returns my principle. Since TIPs are US government instruments issued in US dollars I should be able to plan to receive par x (the change in the CPI) dollars with will have roughly the same buying power with close to absolute certainty. I don’t even need to invoke the law of large numbers. Lets call this “the retirement problem” cos that’s the problem that I and every person who wants to retire needs to solve.

I am so old, I can remember when this was considered a pretty tricky problem. People were living longer, and real yields were very low. At various points in the 00s, the market refused to pay you for foregoing consumption today, and future consumption traded at a premium to spot. To put it in more prosaic terms, long real yields were negative. Back then, pension funds liabilities often exceeded their assets. They were technically bust, but out of good manners, no one made a fuss about it. We all just assumed “something would come up” as my wife often says. She’s a very optimistic person.

But something did! Equities (particularly US equities) have done shockingly well, and bond yields are now much higher. This means that pension funds are no longer insolvent. Hurray! We might not have to pretend to own cats when buying cat food after all!

Which is why I don’t understand why US pension funds aren’t buying long TIPs hand over fist right now. Pension fund managers could sell some equities, buy long TIPs and lock in a 3% real return for their investors. Since US real GDP growth is of the order of 3% over the last few hundred years, that seems pretty much par.

Period Annualized real GDP growth

1947–2025 3.11%

1980–2025 2.68%

2000–2025 2.13%

1995–2025 2.49%

I mean you might do better in the medium term, but to do so you would need atypically high levels of profit growth. Usually that only happens when total factor productivity growth is unusually high. Particularly if you limit future immigration and therefore population growth. I can see why AI might do precisely that but its the future, and the future is inherently uncertain.

There is another way in which returns in the stock market might outpace 3% real returns over an extended period. The labor share of GDP could continue to fall, while the profit share of GDP could continue to rise. This is also entirely consistent with the AI story and is pretty much the argument I hear among AI buildout optimists, although they don’t express it this way. The labor share of GDP hit a new low of 56.8% back in 2023.

The profit share hit a new high of 9.2% in 2024, which by some strange coincidence, is pretty close to the 8.9% profit share in 1929.

I run through all this cos I want to show how in the long run, TIPs should be a very good way of limiting exposure to high and increasing levels of public sector indebtedness which will increasingly be difficult to sustain without far higher levels of unanticipated inflation.

Higher levels of unanticipated inflation will erode away the debt, which is a feature for the debtor, but a bug for the creditor. But owning TIPs or equities mitigates much of the damage. Naturally government will have an incentive to suppress published inflation, and we all know how effective the right incentives can be! So maybe the average CPI index will not fully compensate you. It’s also worth noting that our personal CPI basket might diverge quite a way from the average CPI basket (mine has a much higher weight for chocolate). But under almost all reasonable scenarios TIPs will deliver an unspectacular but entirely reliable retirement for investors.

Except nobody cares.

So why are North American pension funds NOT buying TIPs hand over fist right now? Why is the dog not barking?

Well one possible answer might be that they believe productivity growth will continue to grow at exceptionally high rates for the foreseeable future. In which case equities will do very well and much better than 3% real. Another might be that they think that AI will force the profit share of GDP still higher over time (same). Another might be that they can see the risk of longer-term inflation and that they don’t trust the CPI to fully capture inflation (you don’t get the 3% real but less). They might think TIPs will get cheaper because the US government is producing a LOT of debt and an unsustainable amount of that debt is issued at the short end (you do get the 3% real, but if you wait you will get 3.5%). None of these arguments are exclusive. You could think that all of the above are currently in play, although the latter is an overshooting argument and if true would suggest a sudden snap back is a possibility.

It’s also worth noting that the TIPs is very small and very illiquid. Pension funds couldn’t possibly do any size at current yields without moving the market against themselves. So, maybe they think there is no point trying?

I give all of these possibilities some credence, except for the last because I really don’t think markets leave pennies on the ground, even if said pennies won’t move the dial. But the thought I can’t shake is that the unattractiveness of TIPs is itself an index of the strength of the current bubble psychology. The TIPs market was specifically created to mirror pension funds liabilities: am asset class specifically created to directly address investor needs. And the very investors who might look at it and say, “thanks very much!” are instead saying “only fools would buy 30-year real yields at 3%. Yeah, probably!

If the past is any guide to the future, pension funds will one day look back wistfully at 3% real yields but only when they lose faith in equities. And that won’t happen until equities start falling. Right now that doesn’t seem to be imminent. That said, watching recent events in Korea, maybe it’s not that far away either.

From JPM AM’s Guide to Markets

Many years ago I studied economics at an old British college that benefited enormously from Henry VIII's desire to remarry. This was a mistake (on my part, not Henry Tudor’s) because everyone thinks they understand economics, regardless of whether they wasted time studying it. We might all be better off if no one studied economics but focused instead on plumbing, or masonry, or even analytic philosophy. I cut my losses after 4-5 years of study but foolishly compounded the error by taking a job at the Bank of England, where my first job was being the briefing analyst for the UK delegation to the IMF. In fact, one “claim to fame” was that one of the UK Treasury officials I briefed was a chap called Jeremy Heywood.

In those days, Heywood (who subsequently rose to become Tony Blair’s Principal Private Secretary and David Cameron’s Cabinet Secretary) liked to wear a brown leather jacket on his periodic visits to the Old Lady from Washington. Relative to Treasury officials, he was the epitome of cool, although one might adjust for the competition. He smoked (as did I back then), which at the time only made him seem cooler.

It was in this role that I first came across the term “burden sharing” as used in the official sector. In the context of the IFIs, “burden sharing” refers to a mechanism for distributing the economic or financial costs of a given policy. Free markets provide an explicit mechanism for allocating costs: price. But when there isn’t a market, we have to devise a mechanism. This can be controversial.

Consider, for example, the traffic associated with playing soccer matches around Foxborough. The extra traffic associated with the World Cup matches is a cost borne by residents. However, hotels and bars in the nearby cities of Boston and Providence have benefited enormously. Overall, the US benefited enormously from hosting the World Cup, even if the suburbs around the grounds had to put up with gridlock and drunken Scots on game days. It turns out that Bostonians consider drunk Scots charming: the English fans were less popular. Burdens are seldom shared equitably.

I mention this because the AI buildout requires vast amounts of capital, electricity, equipment, construction capacity and skilled labour. The same is true of the substantial increases in spending on traditional infrastructure and defence. The very first lesson they taught us in that dismal fenland town was that economics is concerned with the allocation of scarce resources. Although these investments may eventually raise productivity, future gains will not cover today’s economic costs. The economy must make room for them now or aggregate supply will be insufficient to meet aggregate demand.

This piece is primarily concerned with how the US capital markets deal with the stresses caused by the combination of increasing public deficits and private infrastructure spending, but I could easily have widened the discussion. We could discuss the way the economic burdens are shared between US households. Working households that do not own a lot of equities and did not lock their mortgages at the lows of 2020 have experienced a significant deterioration in their economic circumstances. It was interesting to look at the BLS CPI data and see the different inflation rates experienced by different income cohorts. Or we could have discussed how the burden is shared internationally, with terms of trade shifts benefiting defence, energy and semiconductor producers. The point being that pretty much all policy has “distributive effects” even if macro-types often obscure them. And that’s true of both fiscal and monetary policy.

So back to who will pick up the tab in US capital markets?

One possible answer is bondholders. Inflation erodes the real value of fixed coupons and principal, enabling borrowers to repay creditors with dollars that are worth less than expected. In the 1970s, unexpected inflation may have imposed cumulative losses on holders of US federal debt equal to roughly 6–7 per cent of one year’s GDP, although bond investors got all that back and more in the 1980s. Prior to Warsh’s recent relative hawkishness, long-end yields had been selling off, pressured by higher headline inflation associated with higher energy prices. Bondholders don’t want to hold assets which decline in value. So, one could think of Warsh’s hawkishness as a promise that this will not happen again. The Fed’s recent hawkishness also alleviated the pressure on the dollar, and one might argue that makes sense in the same frame: higher levels of uncompensated dollar inflation are a great reason to own fewer dollars. Whatever the other demands on America’s resources, investors in longer US Treasuries will not be required to finance them through an inflation tax. While the Fed did not raise rates, it adopted a markedly tougher stance on inflation. It also reduced the extent of its forward guidance, which had the effect of increasing uncertainty about the future path of policy.

Sceptics might ask how this helps Warsh make progress in his broader objectives? Well, one possibility is that it’s embarrassing to be seen reversing course. Of course, central bankers change their mind all the time, and that’s an entirely sensible thing to do, but no one enjoys being proved wrong quickly, and it certainly doesn’t add to the prestige of a central banker. Central banker prestige can be thought of as a type of magic pixie dust. It allows central bankers to say “transient” or “trust me bro” without being laughed at. At least for a while.

Warsh tells us that he has other perfectly good reasons. If markets are to be useful predictors of policy rates, they should focus directly on macro and not the Fed’s reaction function. This is precisely what I would expect a good economist to argue. Not because it is true (it might be) but because an economist’s job is always to justify his master’s preferred policy. I’m far too cynical to believe that rationalisation, even though it’s perfectly reasonable. It’s possible, and indeed some might plausibly say that the Fed and markets have become trapped in a self-referential feedback loop, where the Fed looks at market pricing to infer economic and financial conditions, and the market then prices assets based on Fed statements based on current pricing. Still, even if the argument has merit, it clearly benefits Warsh and the WH to maintain maximum policy flexibility and being the cynical sort, I struggle to believe that the primary rationale is more efficient price discovery.

Regardless of his motives, Warsh’s renewed hawkishness did ease the pressure on the long end, at least for a while. And he did so with talk, which is always much cheaper than action. The test of Warsh’s hawkishness will come when defending price stability actually costs something: perhaps weaker growth, falling asset prices or higher unemployment. And we might be getting quite close to that test today.

FOMC meeting: tactics vs strategy

I can’t help you very much with the meeting. I do think there is a solid chance Warsh will take the opportunity to hike rates, but I think that’s already priced. That’s because there are all sorts of tactical advantages to doing so, even if you agree with me that there is little to no longer-term threat from inflation. I happen to think that it’s inevitable that we will experience another short-term bump in inflation, but I also doubt that it will cause any further “de-anchoring” of inflation expectations or “second round effects”. If Warsh’s FOMC hikes, it will be at least partially from tactical considerations: a chance to burnish his hawkish credentials and demonstrate both his independence from the WH and his collegiality with his FOMC colleagues. Doing so now means Warsh can point to the proximity of November at the next meeting, giving him more time to assess conditions.

As I said above, the inflation justification is certainly not beyond dispute. Energy and supply-chain shocks can generate nonlinear price effects, and Warsh and Co may feel compelled to demonstrate their “credibility” before expectations become unanchored. But current market and business inflation expectations really do not point to an imminent inflation spiral. Labour markets do not exhibit pricing power: if they did, real wages would be going up rather than down. Framed in burden-sharing language, a hike blesses the decline in real wages and leans policy towards more of it. Wages and consumption should come down to create the space for datacenters to be built without even more inflation.

But there is also an important question about instruments. Sometimes Central bankers have to think about the longer game, and this might be one of those moments for Warsh. Warsh has previously argued that the Fed should rely less on the policy rate and reduce the size or duration of its balance sheet. And it’s a sensible longer-term objective. Do you really want the Fed to be in the business of allocating capital? Instead of raising short rates, the central bank could allow more long-term Treasury risk to return to private markets, which would probably require higher risk premiums at the long end. I doubt Warsh will focus his attention on the balance sheet at this point, but I can see how a tactical increase in policy rates now could set the scene for further reductions in the balance sheet going forward, allowing Warsh to subsequently trade lower policy rates for removing balance sheet accommodation at the long end.

That might look like a less damaging form of tightening, but really it simply changes where the pressure appears, or rather, who bears the burden. More of the pressure is brought to bear at the long end of the curve rather than the short end. Corporates borrow at the long end, and there might be some natural justice in that, given it is corporates, and particularly hyperscalers, who are driving the demand for datacenters. There is a sense in which raising the borrowing costs associated with building datacenters is more “efficient” because that is one of the proximate causes of the current uptick in inflation.

Higher long rates don’t only affect hyperscaler borrowing costs. They also impact new mortgage borrowers. Using monetary policy to control inflation has already resulted in an important burden-sharing effect. Older generations who had locked in low rates have much lower housing costs than first-time buyers. And there are important distributional effects in markets. When the Fed holds fewer government securities, private investors must hold more. Banks, money funds, insurers, pensions, hedge funds and households must devote additional capital and balance-sheet capacity to financing the government.

Treasuries then compete more directly with private borrowers. The federal government will still be funded and so will the largest and most profitable technology companies. The leading AI-adjacent businesses possess cash flow, collateral and direct access to capital markets. The vulnerable borrower is small business: the low-profitability business, the highly leveraged borrower, the small company dependent on bank credit, the commercial-property owner facing refinancing, or the speculative firm whose business model required cheap money. The analogy I prefer is kids playing musical chairs. When one chair is removed, usually there is a chair for most of the nimble kids. Sadly, sometimes it’s the slightly overweight kid with slow reactions that’s out of luck when a chair gets removed. These borrowers cannot compel markets to fund them. As Treasury supply absorbs more private capital and high policy rates raise the return available on safe assets, lenders become more selective. Spreads will widen (further), covenants tighten, and marginal borrowers lose access altogether. Protecting the government bond market will place additional stress on the rest of the capital markets. But

This is the burden-sharing implication of moving intermediation from the Fed’s balance sheet to private balance sheets. The central bank reduces its own footprint, but private institutions must decide which claims deserve the scarce capital that remains. They are likely to prefer Treasuries and highly profitable businesses, like the AI incumbents, over weaker private borrowers. But there is another important allocative implication: we use long rates to discount long-term cashflows. Tech companies are generally considered growth stocks, and growth stocks are much more sensitive to long-term discount factors. Whatever the discounted value of long-dated cashflows, they will be worth much less when long rates are higher, and discount factors are lower. Long-dated cashflows have counterintuitively high durations, which explains why I have lost so much money on the 30-year TIPs I bought at the seemingly cheap 2.75%. They now trade at 3%. It’s probably a great investment, but it’s definitely been a crappy trade.

Higher short rates could have a perverse allocative effect. I doubt higher rates will do much to slow the AI buildout because its largest sponsors can finance investment internally. Instead, tightening will suppress housing, small businesses, conventional investment and labour demand, thereby releasing resources for AI. So, one might view Warsh’s approach as deciding which sectors must retreat to make room for the AI buildout.

Nor is it certain that higher rates work as they conventionally do in a heavily indebted economy. Higher rates will act to increase government interest expenditure and increase income received by holders of interest-bearing assets. The winners from higher rates are unlikely to consume their winnings. They will put that cash back into markets, which, if you were trying to increase US savings rates, would actually be beneficial! At high levels of debt, the economy may behave less like the familiar Taylor-rule model and more like a system in which higher rates themselves sustain nominal income and fiscal expansion. I think of this as Warren Mosler’s observation, but if you went back a bit further you might think of it as Irving Fisher’s. And maybe we are now in a Fisherian world, where the Fed can’t really influence the level of real interest rates. Those are now being bid up globally. All the Fed can do is set the nominal rate.

Bottom line

Let’s say the FOMC does hike rates (probably fairly priced at a 35% shot). I suspect the long end will rally, and reasonable observers will frame the rally as driven by a perceived “policy mistake” or potentially as reversing the previous policy mistake. But you could equally describe it as a conscious decision to protect long rates at the expense of the short end and all the borrowers who have no choice but to borrow at the short end. Value stocks, small businesses, midcaps, multifamily owners financed at the 5-year point, or Business Development Corporations and leveraged balance sheets in general will be the losers. Growth stocks and longer duration bonds will be the winners.

It’s ironic really. Even if Warsh decides to start the process of getting the Fed away from picking winners and losers in capital markets, that inevitably involves picking new winners and losers. And that’s because, as much as we macro types try and obscure it, policy always involves winners and losers.

We also touched on another interesting piece.

Groundbreaker

The Second Derivative: Why No One Understands the AI Boom

Ask a portfolio manager what caused the 2008 mortgage crisis and you will hear a tidy causal chain: lax underwriting produced loans that should never have been made, home prices crashed, borrowers found themselves underwater, they defaulted, and the securities written on top of those loans detonated…

Read more

2 months ago · 1106 likes · 109 comments · Groundbreaker

If you had to read just one, I would suggest the 2nd derivative piece because a) calculus b) the Mike Green piece is harder and longer, although it is fun seeing how Wrigglesworth managed to piss Mike off by being both wrong and rude with it.

Transcript

Lightly edited for clarity and readability. Filler, repetition and technical setup have been removed; meaning has been preserved.

Harry Melandri

Today I’m speaking with Chris Poch, founder and CEO of Prometheum Advisors. Chris has spent more than 40 years advising some of the world’s most successful families and helping shape the wealth-management industry itself. He has built and led wealth-management groups at Smith Barney, Citigroup and Bessemer Trust - firms known for serving complex, multigenerational clients with institutional-level sophistication. Chris has had a significant influence on how private wealth management is practiced at the highest levels.

Harry Melandri

The last time we spoke, we discussed one of his books, Money and Meaning: What I’ve Learned from Advising the Very Wealthy. It was a useful conversation about the deeper questions surrounding wealth: not only how to build it, but how to align it with values, family and a life of purpose. Most importantly, Chris is a lovely guy who shows no visible irritation at my dumb questions. Chris, thank you so much for joining me today. How’s it going?

Chris Poch

Harry, it’s a pleasure to be here. I’m doing great, thank you very much.

Harry Melandri

I reached out because I wanted to discuss your recent Forbes article, ‘How Could AI Impact Retirement Planning? Considerations for Investors’ 401(k) Strategies.’ I also hope to spend some time on how your thinking has evolved and what you make of markets and investing today. I have one thing in common with Richard Nixon: I’m dreadful at small talk. So let’s dive in.

Chris Poch

Let’s go.

Harry Melandri

So... Can you explain the thesis in the piece you published for Forbes?

Chris Poch

Yeah, thanks, Harry. So, it’s,... I don’t know how... novel it is, but I think a lot of people are putting this together. as most people know, there is a narrative out there that with the advent of AI we will be able to at some point in potentially the very near future. Take an individual, and maybe take a couple blood samples, and then put it through some sort of analyzer where a very sophisticated algorithm will be able to determine or detect some of the genetic challenges that each of us have as an individual. And then theoretically overlay our challenges with the known medical sciences and potentially concoct some sort of pharmacological solution that will be very tailored to the individual as opposed to people who are like me. in a greater class. And the theory is that this potentially could identify problems earlier, treat us earlier, treat us better individually. So that’s the narrative out there. There’s a Wall Street Journal article just over the weekend that suggests maybe that’s not coming fast enough. for Wall Street’s timetable, but that actually opens a different discussion we’ll get into. However. if we are able to use the benefits of AI to help each of us, or all of us collectively live longer. We need a plan to live longer, and as it relates to retirement plans, the average person. at some of the largest custodians have the majority of their retirement plans or 401(k). Plans specifically invested in target date funds. Now, most of your audience will know target date funds are a. basically a mutual fund option, or it’s a default option, actually, where the participant says, I am X age, and I plan to retire in Y number of years. What happens is when you get to that year, the asset allocation, which is originally set based upon basically. time horizon, and if you’re younger, it might have 95% stocks, but as you get older, it reduces the amount of stocks, and maybe the riskier stocks get peeled out. But ultimately, you get to your retirement age, and the mutual fund companies have basically 50% in stocks, and. 45% in bonds. Some of the more aggressive ones are a little bit more. Some of the more conservative ones could be as little as less than 10% stocks. What does this mean? Well, if we do live longer, and our life expectancy at age 65 goes from, 20 years to 30 years to 40 years. Who knows what it might be? The question becomes, do you have the right asset allocation in your retirement funds post 65 or whatever it is? And a lot of people really don’t know what that asset allocation is. They just sort of think, well, this is, this is a big company. They’re doing the right thing, and maybe they are, but if you have a 50-50 rate of return, and let’s just say that, gets you... these are random numbers, 6% rate of return,... versus a 70 30, which might get 7.5% rate of return, or something with a higher equity exposure. The difference could be only a few $100,000 for some people, but it could be millions of dollars for other people. And this is an example of just a retirement plan. concept where we have some pretty good data from some pretty big sources that are reliable, that have been studied over the last many years. And unless people know about it, they may not do anything about it. And so that’s the essence of the article.

Harry Melandri

Yeah, I think the longevity,... I’m an old geezer, and at some point in my career I was involved in fixed income asset management.... And we all of us got the longevity assumption wrong. And that resulted in a huge bid for duration., a few guys got that one right, but a lot of people got it wrong. It meant that we saw very aggressive asset liability management flows, where. Pension funds were desperate to try and catch up with those duration bogeys that they were behind., and,, eventually it all worked out, mostly because stocks did well enough to take out... to take away the problem. But it wasn’t the only place where we saw that longevity assumption we got. We got that longevity assumption wrong, and it had like big collateral effects. I think if you look at the big cities, big, popular cities like New York or San Francisco or La.... We had a certain rate in which people would leave those towns and go off to the suburbs or go off to safer places because they were considered dangerous. In the early nineties they weren’t dangerous, but they were considered dangerous. And all that flow out of those cities stopped., partly because they were safe, perceived as safer, perceived as better for kids. perceived as better for schools., but also because people just lived a lot longer. So if you had a townhouse in Carroll Gardens, or...... the Upper West Side, you just never left it. You say they’re an extra 20 years compared to the people who had that townhouse before you., it’s had a huge effect squeezing those real estate markets. Anyway, blather on about it. But the point I’m trying to make is simply that. Longevity assumptions pop up all over the place in asset markets and have a huge difference.

Chris Poch

Yeah, just to that point, if you think about,, whether it’s Taft-Hartley plans or any sort of defined benefit plan that has,. not a whole lot of cushion. They typically are a little bit more conservatively allocated, which typically is a little bit more fixed income oriented. So the asset allocation may have only been, 55, 57, 58% stocks. And,, the bond market generally for a long time did come down, so that sort of saved people’s bacon. But,, it,, it penalized the equity participation by a point and a half, two points, whatever it was., so it is interesting understanding the longevity element of it. Will people live this long? And if there’s a, the liability tables, the insurance,, tables are all backwards looking, but,. If you if you get that wrong. and you’re an individual, you’re in big trouble. If the city or the state or the county gets it wrong, the taxpayer’s in trouble, that, may or may not impact you. So, anyway, it’s a big deal, and so it’s just something I thought would be worth putting up.

Harry Melandri

Yeah. How much evidence is there that we’re seeing that longevity effect in play? Is there any evidence for it at the moment, or is it all anecdotal?

Chris Poch

I think it’s all anecdotal. you can’t, you can’t prove life expectancy extension until after it happened. So this might be the magic of AI, the pixie dust that’s being sprinkled on all of us, assuming that these.

Chris Poch

Probable solutions are gonna happen much faster than,, they’re capable of happening. But, there is,, in order to do these combinations,, there’s gonna be a lot of science, and of course, there’s gonna be a lot of doubters, and there’s gonna be a lot of economic interests that are gonna wanna slow things down, so... I don’t know if it’s going to happen. I don’t know when it’s going to happen, but I do believe that if we have the supercomputers and the speed and the compute power, science is probably going to get there faster than many of us expected., whether or not we’ll be able to get,, targeted applications,, the timing of that is, who knows?

Harry Melandri

Well, I’ve been struck by some of the anecdotes I’ve seen as well. I’m sure you have, otherwise you wouldn’t have written this. But one of the anecdotes I came across was about AIs looking at radiological pictures, X-rays., and, or MRIs, and flagging up,, tumors early. tumors, among other things. You can see how... This could easily,.... A lot of... we could have a lot of early interventions and things which have taken lives., and... but that doesn’t necessarily guarantee. quality of life. So there’s like a second order effect. People who spend money in retirement. are usually healthy people, aren’t they? So if we’re just extending life and people aren’t doing very much, they’re watching TV, like my kids., in a way., so just watch. We’re all watching screens. We don’t need as much money. The returns issue will be smaller. So... We don’t have a definitive thing, we have to guess a little bit.

Chris Poch

Well, I guess for my case, it’s guessing a lot. I really, this is all above my pay grade as to whether or not it’s going to happen or when it’s going to happen. But I do think it’s worth pointing out that most people don’t realize that a target date fund is a 50-50 allocation. And, back in the day when we started, you and I, it was, a 60-40 allocation was the magic solution. And then it sort of drifted up and maybe it was 70-30. And, whether it’s 80-20 or maybe it’s 100% perpetual Bitcoin futures, I have no idea. The point, I think, is that if we really take a look at what our expected life is individually when we hit whatever this retirement date is, my guess is, most people shouldn’t be at a 50, 50, 50% stocks. My guess is most reasonably healthy people and people with affluence generally tend to be a little healthier, for better or worse. It’s just a fact. that you’re probably going to live an extra, 5, 7, 10 years beyond whatever the tables say, everything else being equal. And therefore, should you have your retirement assets, whether it’s inside a, a rollover or anything else, should it be as conservative or 50, as 50-50, or. Should it maybe be something north of that, 75% stocks? I don’t know. The cycles obviously will drive a little bit of that, but having the perspective that maybe a big chunk of your retirement savings are, underexposed to growth. That’s really the primary point.

Harry Melandri

So, and another thing, so I was always pondering this, and I was doing my homework and reading through your piece,. There was a certain irony. I was on a conference call just this morning. And this is a regular call that I have with some buddies. Some of us are older than others. Believe it or not. I’m 1 of the younger ones on the call, which I think is bad sign. But.

Chris Poch

Was it,, was it a dial-up phone? Is that how you guys...

Harry Melandri

It could so easily have been, but no, we’ve managed to adapt to modern technology like Zoom.. Dumb. But yeah, one of the things that struck me about that cool. was that,, so usually there are bulls on the call, and the bulls are always bullish., there are bears on the call, and the bears are always bearish., and then there are some guys who are more flexible-minded., less, or perhaps more optimistic, or less optimistic, I’m not sure,, by disposition., but this call was unusual, because everyone was bearish. And I don’t know if I’m bearish, but I’m open to those arguments. But I was really struck. the bears are always bearish. but a lot of the bulls had switched. And the message that I was getting from people was... so, it’s obviously a bubble. The bubble, it’s an earnings bubble, probably., but that bubble will eventually burst, and what we don’t know is whether that’s a 30% drawdown or a 60% drawdown.... Now there’s a counter argument to this, which is if you don’t know when it bursts, it could be it could burst from a further 30, 40% higher and it would not be unprecedented. So generally speaking, like I’m at my minimum equity allocation right now. And my minimum is 30, and that’s because I’m wrong. I’m often wrong. And I don’t want to be any less long than 30%. Because that’s, like, about as low as it gets. So I just thought it was an irony about a longer-term argument. pointing towards a longer position in equities, just when some shorter-term arguments might point to some shorter... less long positions in equities., what would you say to... to me in how to reconcile those two?

Chris Poch

I think we all sort of cluster our thoughts around certain parts and that dominates our thoughts. And so what I would say is I think certainly there’s exposure, there’s risk, price risk in many parts of the economy., the economy and some of the stock prices specifically,. However, there’s a couple things that are overriding that make me constructive. And frankly, I’m probably towards the long end that the more heavily weighted in stocks, although you might gather from some of our comments now and. before, is that,, I’m relatively cautious for what I believe to be as a conservative investor, looking for the lower risk,, way to get to whatever the conclusion is. So.. 1st thing I don’t know if it’s true, but I go by this principle that stock prices are driven by liquidity, then growth and value. and the primary element is the government is still spending money supplies is increasing assets, give or take, are sort of the same. And so in an aggregate basis, the asset values are going up. So, that’s sort of my underlying premise., I don’t know whether you call inflation, CPI growth, what have you. It does feel like things are more expensive, which means asset prices are going up. in some parts of the economy. I do think that there’s price risk, in the tech part of the stock market for all the reasons that everybody knows., I don’t think there’s collapse risk, if you’ve got these,, hyperscalers and all these people that were, they were hugely Castro positive, and now the CapEx is sucking up everything, and it’s anticipated they’re gonna go 30% negative or something. it’s not unheard of that. People just don’t spend the Capex, regardless what their commitments are. They go, during difficult times, they say, sue me so.

Harry Melandri

Go ahead.

Chris Poch

I think that these cash positive machines, these great companies, we know that have made commitments, whether or not they actually spend them. I think that will give them some sort of, cushion for a quota collapse. Secondly. I believe in whether it’s a Donald Trump put or the Fed put or whatever, I believe that at some point if it all hits the fan, in times where we saw a 30% market drawdown, I don’t think we’re ever going to get close to a 30% market drawdown until a current administration, the current administration. steps in and, quote, saves the market. You and I are both old enough, I started in 1983, God forbid me to tell you the truth, but I was there for 87, where the market went down 22.7% in one day. And so people talk about the greatest crash they ever... I was kind of rare there, in one day., but we go back to COVID, when the market just crashed, dramatically in one day, and the Fed came out, I don’t know, that afternoon, and said, we’re gonna buy everything. we’re gonna buy corporate bonds, we’re gonna buy ETFs, we’re gonna buy everything. And I don’t remember what the S&P was up, but, like, the Dow was, like, 5,000 points that day. And so I think that is going to happen. If we get into some crisis mode, I think we’re going to have a bailout. So as far as the economy goes, I think it’s going to move around. And we’ve seen, we’ve talked about different things. I think there are parts of the economy that really individual industries and some specific companies that are going to. They’re in really good business models. They have unique products and services that will compound over the long term and., the prices are gonna bounce around a little bit up and down, but I’m trying to stay away from the things that I think have a significant price risk, anything that has liquidity risk. And,, we’re focusing on things with great balance sheets that have long-term. potential. So that’s sort of the overall Mac review. And this is what, in our opinion, families of multi-generational perspectives want. They want these compounders where you can hold them through cycles because they’ve got financial stability. Because they’re good businesses, they’ve got loyal customers, the prices are gonna bounce around a little bit up and down, but if they... if they tend to, have an upward slope on that chart, then we’re gonna own them long-term.

Harry Melandri

Yeah, I... with you on this, I think, which is that... I’m. I struggle to believe equities can oscillate within a range of return on equity. I think something like between six and 12% and six is a low estimate. Returns on equities never usually get below eight, I think.... And so I. generally speaking, you want to have an investment which is returning something, because money goes down in value, and... stocks return something. I’m just not good enough to pick the... one or two years out of 12 to 15, where they go down a lot., and so I want to be exposed at,, beta, generally speaking., and my... frankly, my stock picking is woeful at the best of times. So I do my best to pick some sectors that I think have a tailwind. But generally speaking, robust businesses that are not going to go bust do a lot better than me. And that’s that’s what I really want to keep exposure to. However, I say that, and I can also see that we might be around the time, somewhere near one of those corrections, and I wrote some pieces, and one of the things I said in the piece I wrote was. I’m pretty sure we’re in a bubble. And that’s why I haven’t sold anything yet. Well, I haven’t sold any more. because I’m. in my experience, whenever you’re in a bubble, they just keep going,, to the point where everybody believes they have to... it capitulates to the view, and it’s around then that they tip over., it doesn’t seem to me that everyone’s capitulated to that view. I’m. You sent me 2 other links. And I think you wanted to talk about them. One was. On passive investing, and it kind of segues nicely with the,, the... the target date funds, which is one iteration of passive investing. There was a Mike Green did a piece over the weekend., and I read the piece. Boy, he was ****** at Robin Wigglesworth., and I can see why, as well. Wigglesworth was incredibly rude., fatuous is a rude... is a really rude thing to say about somebody else’s analysis, so we shouldn’t be surprised that green-bristled. as much as he did. For what little my opinions were, I thought Mike had a point.

Chris Poch

Yep.

Harry Melandri

Passive flows can drag markets a long way away from underlying values.

Chris Poch

Yeah, to that point, Harry, that sort of is the reason why you’re still long where you are and my basic premise. about generally staying long in something, and that famous quote about, markets can stay irrational much longer than you can stay liquid. So, I think what Mike did a great job, and he’s just such a brainiac, and always about a third of whatever he writes is above. My,, my pay grade. I have to take my shoes off to do the math., in general, basically in this article, he talks about,. Active management doesn’t prove that a lot of the people are stupid. It just proves that regardless of how good you are, regardless of how good active management is, the flows have just pulled money out of this, and it makes people who are looking for. idiosyncratic opportunities probably just suffer unfairly. So and I think his conclusion, which is right, which is, this is not going to stop until it stops, and then it will stop, and then it potentially we could have, a tariff tantrum, or 19, or excuse me. 2022 all over again when it turns really fast. And it amazes me that people, a lot of people, particularly not professional, have forgotten all about 2022, when Netflix was down 75, and Tesla was down 75, and the Nasdaq. 100 was down 38 and bonds were down, you pick at 13, 18. It all hit the fan. The only thing that did okay was energy. Now, there were some specific things, but energy tends to trade counter cyclical to. So I think Mike Green’s article is really good, and it.

Chris Poch

I think having someone like you, or hopefully someone like me, being able to explain how.. a thoughtful approach to investment management over a multi-year period where you can ride out these known anticipated shock waves,, and also understand the mechanics behind this,, and that it... this... this incessant bid towards the largest cap companies not reinforcing their value. It’s just reinforcing their current state.

Harry Melandri

Yeah, no, I was chatting earlier today with Julian,, an old colleague of mine. And as part of that conference call, and we were talking about. the internal correlations within the S. And P. 500 versus the volatility of the S. And P. 500 and. Stock correlations are about as low as they’ve ever been. So, which facilitates,, higher levels of gross risk-taking, because you get more portfolio diversification effects., and this kind of thing can reverse quite quickly, and all correlations can suddenly go to one. in a quick, in a hurry. And it. It does support Mike Green’s argument. Another way of looking, or the inverse of Mike Green’s argument. is there are, we are bubbly, that we have a reinforcing mechanism which has helped certain stocks get very expensive. Now there’s a counter, which is most of the time., stock prices... flows don’t pull values that much out of kilter. So most of the time, that’s true. But I don’t know whether we’re in an exceptional period when. the scale of these passive flows is such that we have got a big misvaluation within the market. Not the overall level, but the relative valuation of different things., how likely is that? does that tally with what you’re thinking?

Chris Poch

I guess what I would say is our guess, and it’s truly a guess, is that there will be a rotation. There will be some fly in the ointment or some disclosed thing that’ll come up in S1. it’ll be like a WeWorks S1 where they’re, doing multiples of community or some bogus term like that. And it will take the air out of the narrative. And so I think that will happen and that will cause a rotation. It will say, okay, we had expected these things to compound. at this rate for a long time, and then that compounding level, whether it’s due to heavy Capex, or whatever the whatever the change is, will change the narrative, and the narrative will say, Okay, this is more of a Capex trade. So the earnings aren’t going to be as high if the earnings not going to be high, or the rate of the growth of the earnings. then we’re going to compress the PE from, infinite to whatever. And then you’ve got places like the memory chips, the announcement in South Korea, $800 billion. Of course, it takes 5 years to happen, but all of a sudden, there ends up being. a student body left type of movement, and people, shift out. I think that,, that’s likely to happen. And, you’re seeing some of these old. old-world companies like Coca-Cola up 20% year-to-date, and Nvidia’s up, like, 3 or whatever. So, of course, don’t ask about the last 5 years, but I think that there’s gonna be rotation. I don’t think there’s gonna be a collapse. And that’s,... that’s what our guess is when it happens. No idea. Will it happen likely what’ll cause it? I’ve got some thoughts, but they’re just guesses. Our primary goal is not to be really wrong. And just,.

Chris Poch

If we’re we’re not really wrong, we’re going to end up being just fine over time.

Harry Melandri

Yeah. As my friend Corvin says, the thing about stocks is they go up., and, yeah, he, he’s right., and, he’s a, a physicist, a PhD physicist,, and he does like to get to the nub of the issue.

Chris Poch

He’s right. He’s right.

Harry Melandri

And yeah, I think he’s got... that’s the basic point, isn’t it? And of course, it’s very irritating to us Bond guys. And the thing about bonds is they don’t go up. They mean revert, generally speaking.

Chris Poch

Well, and then, if you’re in the corporate... if you’re in the corporate thing, there’s only one thing that could happen overnight, and that’s bad news. you never have some massive upgrade overnight by a rating agency. You just have a, default of some unknown proportion. So,, I used to work at one of the big firms up in New York, and...

Harry Melandri

That’s right. That’s right.

Chris Poch

One of my buddies was a credit analyst, and he learned very fast. The reason why Solomon made so much money is they went, they went overnight. They were short overnight. That’s what happened. That’s what they did.

Harry Melandri

Yes, yes, I... yeah., I’m gonna just briefly circle back,, proving you completely wrong when you said I’m good at knitting together issues.... And I’m gonna... how have... you’ve talked about the longevity point with others. How well received was this? What’s the general feedback you’ve had on the longevity tailwind that AI might imply for. equities.

Chris Poch

The general feedback has been, yeah, I already knew that. So I’m not so sure that this was that. innovative. And it’s not necessarily something that anybody’s going to write about, because it’s not that exciting. But when you talk to an average person, and you say something like, well, do you have a target date fund? It’s like, well, I’m not sure. Yeah, I think I do. Or even a younger person who.

Harry Melandri

Bye.

Chris Poch

Signs up, well, what did you do? Well, the default option was a target date fund, and I just click the box, or, and the default option is for an employer. And they say, okay, how’s that invested? No idea. I think it’s growth. I looked at it. I’m not really sure. So,, I, I don’t know that this,.

Harry Melandri

Oh, it’s almost definitely... depends on your age, right? You kind of know how it’s invested by how old you are.

Chris Poch

Well, but people don’t know that, Harry. that’s what I’m saying. The average person’s, well, it’s invested and it should be for someone who’s going to retire at X number of years. Well, what does that mean? The answer, I have no idea. So what I would say is,, we will start. distributing this because it only published recently, not as some sort of Aha! But as a conversation starter, and I think honestly, it’s a it’s a decent piece that people would say, Oh, that that’s interesting. It’s not gonna. not gonna make them rich or change their lifestyle,, but I think it’s... it’s,, worth a conversation, so...

Harry Melandri

It’s, it’s definitely worth a conversation, and a good block of my career was defined by how important. getting the longevity assumption right was, and people didn’t get it right. As a result, they missed out on some huge moves across the board. And I think it’s easy to downplay like quite often. The important thing to understand about markets is kind of simple. And kind of slow moving. And,, the guys who win are the guys who see the simple, slow-moving point, and can sit still., effect, in a... can just sit with it for long enough.

Chris Poch

So let me let me just play off of this, because.

Chris Poch

I’ve been in the business a long time, as have you, but what I find is people right now, they say, of course, I’m invested in the triple Qs, and I’m this and that, and of course, I’ve got the tech fund, and. Right now, people don’t need to be reminded in the stock market. But what will happen is there will be a correction. And if it lasts more than six months, people will start leaking out. their 401(k)s will be 211Ks. And then they’ll say, I’m getting close to retirement age, right?

Harry Melandri

Hmm.

Chris Poch

And I can’t afford to be any more exposed to the markets right now. We, had a situation like this, and somebody called up and said, get me out,. And that’s always the exact wrong time to do it, right? And you’ll remember, you get these buffer funds, you get these downside protection funds, and the insurance products, and they all proliferate right after there’s been some sort of meaningful downdraft.

Harry Melandri

Hmm.

Chris Poch

And it’s the greatest time to put together, these structured notes and these products. you’re putting eight points in these jumbo things and the dealers are making a skillion dollars. And it’s the, person who is undereducated, who doesn’t understand this. They time it exactly wrong, and that’s when I get, impassioned about this message. So right now, I’m not... I’m not expecting a whole big,... expansion, because there’s so much drumbeat about, taking risk, being in the markets, trade, do Kalshi, predicts, all this sort of stuff. So, it’s not that big of a deal right now. after a difficult market. That’s, when I get up on the soapbox and try to say, listen to me. So hopefully this will help some people over the long term.

Harry Melandri

So, Chris, it’s funny you mentioned Kalshi., because if you were to ask me to give you an anecdotal indicator of proximity to some market dislocation move or the next big correction, I’d say retail participation. It’s the best proxy. But when we’re getting closer to a market dislocation,, call it the Shoeshine Boy Index, if you like. Something like... and one of the ironies here is that Mike Green’s fur... simplify asset management. They, one of their core philosophies is embedding convexity in non convex products. So they’ll, they’ll, they’ll buy options on, they’ll, they’ll find a cheap way of getting along as options so that you’ll have an outperformance on your bond fund. if the market moves sufficiently, and if it doesn’t, you’ll underperform., so they’re, they’re embedding, so Mike is talking about the degree of passive, a kind of reflexivity of passive flows. Because to some degree, it’s part of his bread and butter. To some degree, I think he’s right that there is a reflexive passive problem. And you can, I saw the other day Jeremy Grantham on a video with CNBC and people were abusing him on the video. Joe Kernan was, was saying you’ve been wrong for whatever. And I thought to myself, that is the indicator that Grantham is about to be right. When you get naked abuse on CNBC, that’s a positive sign that maybe we’re in the early stages of it. So... What do you think is an indicator, or what’s... is there anything out there that makes you think, oh god, we’re getting kind of close to some sort of correction?

Chris Poch

Well, so, well, let’s just talk specifics. Of course, none of this is the investment advice, but if you take a look at,. what’s making the AI trade work. And it’s for the last several years, it’s been the more money you spent on CapEx, the more you were rewarded for getting in front of this trade. And it was a winner take all. You had to have the most to squash out the competition. And. And so that has been the continued drumbeat. The question about the longevity of the Gpus and Cpus. What have you that was there? And then you went from, you needed chips to you needed. energy. You needed data centers. And now it’s you need water. But I think what’s happening is the rate of the pricing of these big commitments. there’s an estimate out there that there’s 2.1 trillion dollars worth of. future cash flows that are being securitized to, raise money in order to build data centers and other things. And half of that’s coming from, Anthropic and OpenAI, and Anthropic. appears to be the winner that has an 80% enterprise customer base and their cash burns. Modest is under 10% as opposed to open AI, which is, 60% consumer. And they’re burning through cash faster than a. Drunk sailor on Friday night. And so, that’s happening, and then everything’s okay as long as the music doesn’t, stop. And what appears is, like that,, one of my favorite movies is that movie Margin Call, and the, Jeremy Irons is asking, the rocket science stat guy saying, so the music stopped, and he said, no, right now the music is slowing.

Chris Poch

But if it stops, it’d be orders of magnitude worse. And what you see is, the marks of the. of OpenAI and what it’s being priced, as long as that next bid is higher, it works until it’s not higher. And right now, we’re seeing that the relative increase is slowing. and their, best partner, Microsoft, is backing away from, putting long-term commitments into OpenAI, and they’re doing other things. And they’ve had, insight into. OpenAI’s books, from the start, if you will. And I’m wondering... why is it that Sam Altman decided he had to cut prices? What is it that he saw? Why is it that he just volunteered 5% of the company, the Us. Government., why did, they push the,, the IPO till next year? I guess that’s called the S one. And,, you can’t make it up on, CNBC. You actually have to have the lawyers. Okay. Whatever the statements are. And I think my guess. I don’t know. is that,, it didn’t read as well as he had hoped, and maybe some of the challenges in the customer concentration might be there. So, the question is, what might happen? Well. if half of the 2.1 trillion dollars is committed by anthropic and open AI and the anthropic, the debt that’s being raised to build whatever it is to spend whatever it is on anthropic is sort of like at the credit rating of the under underlying guarantors. That’s money good, quote. But the open AI, it’s like, might run out. They might run out of cash in a few years., that could be a big rug pull. And... is it gonna happen? I have no idea. is it conjecture? Certainly conjecture. But,, I......

Harry Melandri

Yeah.

Chris Poch

I believe in AI, I believe all this stuff’s gonna come, I believe it’s in national security, I believe the data centers have to be built, I believe they’re gonna be in the United States, I think there’s certain geographies that are more preferable.

Harry Melandri

Oh, we just learned why data centers need to be in the United States. So because of that situation in the Gulf.

Chris Poch

Well. Yeah, there’s... we’ve been writing about a lot of these things for a long time, and you and I have had offline conversations about some of these things. So, we have these strong beliefs, which ends up in our portfolios, but... What might happen? That might be it. Does that mean that these hyperscalers are going to collapse? Absolutely not., but it might slow things down. So, I do think that,, there’s gonna be some rotation, there always is, and you have to be aware that it’s likely to happen, what parts, and protect yourself against it, but... In my opinion, for people that are, investing for 5, 10 years, 15, 20 years. you need to have. You need to have ownership exposure. So that’s. I hope I answered that question. I don’t know. I don’t know what path I went down.

Harry Melandri

No, I think you did. Yeah, no, I think you did.... One of the things that I found a little weird as I was thinking about what you were talking about, and some of these points, plus some of the second. Yeah, you sent me that link. You sent me the link to the second order. Derivative. paper, which I thought was fascinating, by the way., is that there are weird connections between these subjects. So, for example, passive investing,... and,, target date funds., if you were to look at what’s in a target date fund, I will bet you. But there’s an awful lot of software and AI related credits that these, these guys would’ve hoovered that stuff up because they were desperately looking for a hundred beeps over whatever their bogey is to hit that target date allocation to fixed income, which is very large.

Chris Poch

Absolutely.

Harry Melandri

So there’s one connection to this mess, or to the potential mess., there. And then another thought that occurred to me was a... there’s another solution to the problem you highlighted about, growth. due to excess longevity, which is buying annuities. If you... if you have... if you’re... now, for a high net worth individual, annuities are not a particularly smart product.

Harry Melandri

But for ordinary people, annuity is a good product. I look at annuities and I think, yeah, it’s not a bad idea, I should park a certain amount of money. And then I think, except for the 300 beeps I’m giving away immediately, and the lack of liquidity. But it’s not,. there’s a case, and my wife is probably betting on my longevity not being too great. I can imagine, right? Except, then I look at who the annuity providers are. And the annuity providers in many cases are connected to private credit firms. There are some very big annuity participants who are linked to the private credit boom., and who therefore have been swallowing up another big block of some of these pieces of paper that we wonder about whether there’s a problem with them in the future. So, I just think it’s weird how circular. Some of this. And of course, that circularity itself reminds me of some other classic market dislocations I’ve seen in the past, like the. com one, 2001, like the Russia crisis., and also, like, the GFC. Where there’s some weird circularities there. So I don’t know, I don’t know if I’m trying to connect too many dots and getting a weird shape, go, look, it’s a UFO. What are you? Am I being nuts here?

Chris Poch

No, I don’t think so. Again, if you go back in history, things should know the same, but they often rhyme. few people probably remember what the S&L crisis was, but it was when Continental Illinois, sort of collapsed, and that had never happened. And then there was a series of,, home loans that all sort of got called, and then it ended up in the RTC, and... That was kind of part of the Drexel Burnham blow up, and they started feeding it out. You mentioned the Russian crisis, and a lot of people probably I don’t know. The Russian crisis I’m thinking about was when the Soviet Union devalued their own currency by 90% overnight, and anybody who got, was part of that trade was absolutely hammered.

Chris Poch

A lot of... not a lot of people, some people went out of business, but,, and a lot of people didn’t even know it happened. But, the... the GFC,, this piece that we were talking about. If you...

Harry Melandri

The second order derivative piece.

Chris Poch

Second order is, it’s it’s sort of. It’s not so much that. Yes, bad loans are made, and people couldn’t pay their houses, and there was, fraud. And what have you? But that was I was just writing today, and something else where, sort of.

Harry Melandri

Yeah.

Chris Poch

Using that as an example, it wasn’t... it wasn’t the fact, loans were going up, house prices were going up, but it was the rate of change of the... they weren’t decelerating, but they just weren’t going up as much, and that triggered, that particular crisis. So. it’s always different, but I do think that there are some similarities to just pulling into. the private credit element,. Talk about a circular business there that these guys are really all in the same business of not being forced to mark their own book down. So they’re supportive of, buying loans from each other, and, reconverting them as pick loans, or whatever. With the,, with the insurance companies, with life insurance, or it’s the annuities. The inside baseball story is the reinsurance companies that pop up to buy this paper, which they own the insurance company. They originate the private credit. They do all the finagling there. They pull out economic opportunity out of all these things. They dump it into an insurance company. They reinsure it. in Bermuda, and it’s all done, with papered correctly. So it’s legal. What have you? And then what happens is it gets marketed on TV or someplace where people have no id, and they’re buying stuff, and they’re buying the highest yield product because it looks safe. And maybe it has a good am best rating. I don’t know. But sometimes these guys go through the lunch and learns and give out golf ***** or whatever it takes to get people to push this stuff. So this is where I get really a lot of energy around doing the right thing for people long term. term for the right reasons. And,, sometimes I know I’m just screaming into the wind,, but at this, but that’s okay., and those are the things we want to protect our clients against. Yes, our clients don’t buy annuities for the reasons you mentioned.

Harry Melandri

Hmm.

Chris Poch

But I think we should, I think it’s a social obligation to identify the risks that are inherent in the market and also recognize the incentives of the people that are promoting certain parts of it. And whether or not their incentives are aligned with the ultimate buyer is sometimes not. Not the case.

Harry Melandri

Yeah, I think this is what’s a unique selling point, value proposition, whatever the phrase is. If you’ve been around markets a long time, you see recurring patterns. And I think you and I know if you’re like, I think your ethos is you understand rule number one, equities go up. It’s kind of important to bear that in mind.

Chris Poch

I thought you were going to say, don’t lose money.

Harry Melandri

Well, on a 20-year view, not losing money is being invested.

Chris Poch

Right. Right, right. Absolutely.

Harry Melandri

Now, which equities go up? That can change. So, having exposure is important. But I think I see... there’s a bunch of things I’m seeing now which remind me of things I’ve seen in the past. And the fact that I’m not shorting equities is because I can also remember. That it takes an awful long time for the bad thing to gestate and to, to come out. And you point out that there really... there usually is a lever the authorities can pull to delay it. to the point where it’s more convenient., and... I’ve watched a whole bunch of levers being pulled recently, and marveled at the imagination of some of these guys. Bill Pulte is pulling some really interesting levers right now.... Mr. Bessent and Mr. Walsh. are both Soros graduates. They have a good idea, and I noticed, by the way. that Druckenmiller’s Duquesne family office. Was long over, I think, is it XLF, which is a banking ETF?

Chris Poch

I didn’t see it, but it wouldn’t surprise me.

Harry Melandri

If I... he had a... something like a 3 or 4% position in XLF, and it’s up! It’s up from where they did nothing for ages, but now it’s up., and the... the 2 and 2 that I was putting together to get 5. was that the. policy, the speeches that Walsh has given and other officials have given. were pointed to. The reduction of the Fed’s balance sheet as being a longer term objective and a quite a sensible objective because most people would prefer the Fed not to make long-term investments on behalf of us and for credit to be directed by the private sector, generally speaking. The private sector is better at directing credit than the public sector. I don’t think that’s particularly controversial., and that means bank balance sheets are gonna have to expand if the Fed’s balance sheet’s gonna have to contract., otherwise there’ll be, like musical chairs, there’ll be kids who don’t have seats, there’ll be assets that don’t have buy.

Chris Poch

Well, yeah, but you remember last year, like 15 months ago, that was the Fed policy statement and where they were heading and some of the gradual easing. And I posited that maybe that was some of the extra cash to absorb some of the private credit problems that might occur. So I totally agree with your premise., and I, if you, not, this is total nerd out, but if you actually listen and read some of these releases and studies that come out of, San Francisco and St. Louis and occasionally Atlanta,, San Francisco in particular., they float these ideas, like a year or two before it might be needed. And so, I could be, grasping at straws or what have you, but I read, I find five bear markets in every two that occur.

Harry Melandri

Mmhm. Yep, yep.

Chris Poch

But these are the kinds of things that I think are happening. And it’s funny, a lot of people criticize how stupid people are at the Fed. They’re actually not that stupid. They’re actually pretty gosh darn smart. And so there’s a lot of times there’s a reason for some of the things they’re doing. And sometimes it’s a year or two in advance. Sometimes it’s late.

Harry Melandri

Yeah.

Chris Poch

But I totally agree with what you’re saying.

Harry Melandri

The Ben Bernanke, appointment to Ben Bernanke, I think is a classic example of that point. Those who are familiar with what Ben Bernanke had written his PhDs on and his research agenda. He was an expert in what you do to avoid systemic collapse. When you had a bubble that burst and suddenly that guy comes out of Princeton and is shoved onto the into the fed as a governor. Two years later, he becomes FOMC chair. the idea that was a coincidence is absurd.

Chris Poch

Now,.

Harry Melandri

They understood what was going on. They understood what they had to cover for.

Chris Poch

And I think, Dalio, that 30-minute video he did, The Economic Machine, explaining the beautiful deleveraging and what have you. This essentially was a love letter to Bernanke, and what he did so.

Harry Melandri

Right. He phoned a runway and they knew they might have a runway that needed to be phoned. And I’m quoting Tim Geithner there with this rather controversial comments. Before we run out of time, I just wanted to touch on that paper you highlighted with.

Chris Poch

Interesting.

Harry Melandri

The second derivative point. Because that paper framed the AI boom as. more as having more similarities to a real estate boom.

Chris Poch

Yep.

Harry Melandri

Than a technology boom, a productivity announcement., but there’s a... a friend of mine and,, somebody who’s been very kind to me and helped out,.

Chris Poch

Yep.

Harry Melandri

Barry Knapp writes, he writes on Substack as well, and he’s an equity strategist. So Barry tells me that if you want to predict equities, the best indicator is not the first derivative of earnings, but the second derivative. that when the. Acceleration in earnings disappears. That’s when you should start to look out, and he argues that we’re about to see earnings growth slow. quite dramatically. Sorry, not earnings growth. Earnings growth will continue to rise for a while, just like the article that you passed on to me. And I should, just for people listening, I should read out the title., it’s from a guy,,, with a website called Groundbreaker, and it’s the second derivative, why no one understands the AI boom. And if I have any sense, I’ll post links to these in the video,, posts so that you can look at these papers themselves. What Barry told me was that if you look at the hyperscalers and the investments in AI, the investments are huge, but they’re not accelerating anymore. The peak of the increase in investment has passed, and we’re now in a phase where we’re decelerating. So the growth in AI spending. is coming down. AI spending is still positive. And it’s still growing, but it’s growing at a slower rate. And he thinks that we’ve already reached the point where we’ve peaked in these things. And now the question is, when does it roll over? Doesn’t mean it rolls over immediately. But it opens a question up for him. I thought that was fascinating that those two papers, Barry made that point and the paper you forwarded made that point, a similar point, anyway.

Chris Poch

Yeah, I thought that article was. was very good, and gave a little bit more perspective than perhaps I’d put specific facts to. It was. It was the conclusion that we’ve drawn, and the way in which we position our own portfolios. So that was gratifying. And maybe it’s,. someone in search of a confirmation bias. But I think the,... it’s, as you said, and as Barry said. It’s a it’s always a second derivative, and it’s even more so these days, as the time horizons of the vast bulk of the money that moves the markets and securities. Prices is so short that nobody cares about,. Even sometimes it’s not. the first derivative, it’s just beating out the dark pool guy,, with the algo trades, or, trying to guess,. how the next index is going to, be repositioned. So,, fundamentals kind of don’t matter to most of the participants. But, this is the difference between your time horizon, and if you are, if you are an investor that is investing for many years. And you want to be able to buy something of quality and financial stability. That’s going to withstand, financial recessions and what have you. And in search of a compounding wealth accumulation, you need to know what these short-term things are. And so where’s the money coming out of? What’s, where’s the big vacuum, the sucking sound? And is there anything worth? wild,, buying there, and where’s it going, and when might that,, when that... when might that momentum stop? So, that’s how we look at things, and I thought that particular piece was,, extremely, extremely good.

Harry Melandri

It really was. Chris, thank you so much for joining me. We’ve been talking for an hour. We should do it again. But I figure that whoever’s on the treadmill listening to this is probably reaching. Yes.

Chris Poch

It’s taking a shower now.

Harry Melandri

They’re reaching the point of exhaustion and they’d really like to get a smoothie. So we should probably call it quits. Thank you so much. As ever, fascinating.

Chris Poch

Yeah. It’s always a pleasure, Harry. Thanks for having me on. I look forward to doing it again soon.

Harry Melandri

It’s full stuff. Big save.

Chris Poch

Take care. Bye-bye.

Harry Melandri

How did that feel, Chris?

Chris Poch

Oh, great. You’re a terrific host. You ask good questions. You bring the conversation where it needs to go. It’s really, it’s easy to do this with you.

Harry Melandri

You’re covering me with butter, mate. Relax, you should... I need abuse. I don’t... I shift... I shift uneasily.

Chris Poch

The fact that you’re only 30% in stocks right now is abuse enough.

Harry Melandri

Okay, yeah, that’s true. And I’ll tell you what I have got, which is, I’ve got, it’s both self-flagellation. But really fascinating to watch. It’s a bit like watching one of those car crashes on a freeway. I saw one the other day, and I was going at 30 miles an hour, as was all the traffic. This is Massachusetts driving. And I just watched a guy turn into a big truck. and have the back end of his car ripped off. at 25 miles an hour. And I thought about it, watched it, and thought, what? We need to get out of here before the giant traffic jam that’s about to form. Off I went. So I have some tips. I have some long tips,, and I look at them, and they’ve just touched a new low. And... the question is, how is everything going to blow up? I think it’s because bond yields are going to break to the highs, and it will snap everything. It’s not inflation, by the way. Break-evens have come back down.... it’s real yields that are still rising. Now, it could be... my, broader hypothesis is that nobody wants real yields, because, there’s so much... there’s so much money to be made in stocks. But on a 20-year view, the reason why I have these stupid-ass things and lost so much money on them. It’s ‘cause I figured that, two and a half to two and three quarter percent is pretty good on a 20-year view, and that’ll do. And it saves me having to pick stocks.

Chris Poch

Yeah, but you got to trust the government to set the right bogey. So. therein, that’s where I sort of think there’s at least 100 basis points between, whatever rate the Fed sets and reality. So that’s...

Harry Melandri

So that’s one point, and there’s another point, which is they could be lying about the inflation rate, and I think they are, by at least 100 beeps.

Chris Poch

Well, yeah. Thank you. Well, you think about it, it’s,, all the COLAs are tied to the published rates, and, they redefine it, and... And,. Ruben introduced this whole, the tips,, right, because he knew what was happening. he just transferred the risk back onto the, onto the taxpayer, the buyer, the tips, whatever. So, anyway,, I’m not a fixed income guy. I’ve always felt this, the fixed income guys are infinitely smarter than the equity guys like me.

Harry Melandri

Mm-hmm. Oh, you mean fixed income guys can do arithmetic? Yes, it’s true. I’m good at arithmetic. I also noticed that over the last 30 years, the people who made really good money in markets were all equity guys.

Chris Poch

Thank you. No doubt about it. Ah, let’s say the traders, the traders of the big firms in,, in fixed income and commodity have done okay, right?

Harry Melandri

So how clever are you? Alright. Sometimes, sometimes. But,, I worked with a guy called Ian Wace,, early in my career on the equity side. Ian Wace is the Wace of Marshall Wace.

Chris Poch

Sometimes, okay.

Harry Melandri

And what Ian Wace taught me, incidentally. was insider trading. There is no better way of making money in stocks. You need to do that. Anyway. But,, I should let you get on, because I know you’ve got a real business to run, and I’ve got kids to pick up from whatever activity they’re up to., it was great talking. I spoke to Maggie,, and I did,, recommend you, and she knows you., so you and her, she... your name was not, like, a mystery to her.

Chris Poch

I like her. I like what she does. I think this would be a good test pilot if...

Harry Melandri

And...

Chris Poch

Her audience. wants a narrative like this.

Harry Melandri

What, though, half an hour is short, right? It’s hard to fit anything into half an hour. You’ve got to carefully think of the message. So I think she wanted me to check what the subject was and where she wants to go. And she gets to cherry pick what I do because she does me favors.

Chris Poch

Yeah, but I would love to do it if it works for her.

Harry Melandri

So... Absolutely. So I did, I did flag it up, and she did say, sure, can you do it first, and let me take a look at what you do?

Harry Melandri

And I’ll decide whether it suits my audience. Anyway.

Chris Poch

Great. So, love to have the transcript when you have it, because I want to send it... I want to send it through compliance.

Harry Melandri

So.

Chris Poch

Okay, terrific. All right. Thanks, Harry. Good to catch. See you. Bye.

Summary

· Credit conditions have visibly tightened. Just look at private credit

· I am struck by how many highly cash generative corporate names are locking up financing just as government borrowing is also increasing

· What do Google, SpaceX and Anthropic know that we don’t?

So, by now I think I think anyone reading this (yes, both of you!) knows that I think we are in a bubble, but that I didn’t think that meant one should sell stocks at current levels. Being in a bubble and that bubble bursting are two very different things, and it’s just too early to say the bubble has popped.

However, recent price action says I should reconsider or at least think a little harder about what is happening. How would one know when a bubble might be in the early stages of bursting? What might we expect to see?

Let me lay out my understanding of the situation.

We are in a bubble. It’s not a valuation bubble, but an earnings bubble. The earnings bubble has been “enabled” by fiscal policy, and tax incentives, but it’s an unambiguous real economic stimulus driven by slightly more ambiguous government policy. CapEx is driving GDP higher, even as 90% of consumers are struggling with lower real wages (the other 10% are doing fine either because they are invested in the right stocks or are working in fields which deliver the AI build out. There is a sense in which it’s a good thing that real wages are falling, because it reduces aggregate demand (at the margin) reducing the inflationary pressure caused by AI infrastructure spending.

US stocks have priced the buildout of AI infrastructure, and I have little or no doubt that infrastructure will be built. I do have questions about how revenue generative AI will prove to be in the near to medium term, but I don’t think that’s a near term threat to risk asset prices. We can all choose to suspend our disbelief a while longer.

However, the demands of that AI build out, when combined with the demands of increased military spending, but also the costs of climate change (if you don’t believe the latter is a factor, look at Florida or Texas real estate markets) mean that the demand for capital is very high, while savings rates are very low.

Liquidity and capital are getting tighter

It is increasingly clear that there are also a lot of current demands on both available liquidity and capital. It’s important to distinguish between liquidity and capital: liquidity is within the gift of the Fed. The Fed can manufacture more of it. And if you have been watching bank supervisory regulatory reform, you can very clearly see that that’s precisely what the Fed has been doing. It’s been expanding the capacity of the banking system to lend. But that’s only a necessary condition. It’s not sufficient because the banks with the capacity to lend, might not like the terms they are currently being offered. For the banking system to be expanding its balance sheet, it needs it to be profitable. And some loans really don’t make a lot of sense.

Consider Softbank, for example. Apparently, they couldn’t use their OpenAI position (supposedly worth $852bn to get a measly $6bn loan! Bank loan officers can be so hard to please.

Liquidity is what is needed to own or buy the already issued securities of the US public and private sector. Capital would be the goods and services necessary to build out real economy objects such as the AI infrastructure. Liquidity is not capital and capital is not liquidity. We are seeing lots of signs that liquidity is tightening. One example is Google’s $85bn sale of stock. It’s not the stock sale per se, which suggests that liquidity is tightening, but rather that a company which had previously generated A LOT of cash (and then lent that cash back to markets via buybacks) has now switched to locking cash up. One presumes they made that switch because they looked at their plans and current conditions and decided now is a good time to do so. The AI buildout requires so much capital that even massively cash generative companies can’t fund the spending internally, and for the first time in decades are prepared to sell the stock they had been busy buying back.

Of course, it’s easy to understand why it makes sense. They are selling near all-time highs, ahead of very high financing needs and by doing so they are shoring up their credit rating and cheapening the cost of all the bonds they want to sell. But it is still striking given the last time they sold stock was in their IPO in 2004! It’s also striking that the company isn’t done: they plan on selling another $40bn in $Q3. And it seems to me unlikely that they will be alone in this.

There are other indices of the demand for both capital and liquidity. We know that demand for lower quality credit instruments (CLOs or BDC issues) could be better, even if Blue Owl or Apollo tell us things are fine. Yes, banks do have funds to lend, but if they banks wanted these kinds of exposures, they would already have them. Banks generally prefer good collateral, with impeccable liquidity, which is why repo exposures have increased quickly.

Governments and tech companies are raising unprecedented amounts of cash, and the combination is pushing up real yields. I know because I own some TIPs, although I appear to be in a very “exclusive” group: this is one of the bonds I own. I did a great job of buying low; however, the bonds have not managed to rally at all. Real yields remain stubbornly high which I would argue tells you a lot about the availability of capital, and a bit about liquidity conditions. Worth remembering that if US growth is lower than 2.72% (at time of writing) then US indebtedness will increase unless future budgets produce a primary deficit. Someone might want to make this point to Congress, but I doubt they will be thanked for it.

SpaceX

And it’s against that backdrop that the SpaceX and Anthropic IPOs are taking place. SpaceX is raising $75bn in the IPO. None of that is going to its current stockholders. Investors have done fantastically well in SpaceX: it was one of the most sought-after PE opportunities of the last decade and has had no problem raising funds since its launch in 2008. One presumes that those PE investors will celebrate the IPO, but they will still be subject to lock ups. It’s not a 180-day blanket ban, but a staggered lock up where 20% of the restricted shares may be sold after SpaceX’s Q2 earnings release and a further 10% when the stock trades at least 30% above the IPO price. There are more bells and whistles but it’s not worth going into it other than to note that the remaining shares will be free to trade in 180 days. In the case of Anthropic, we still don’t know much about the listing but given Anthropic just raised $65bn in a series H with a $965bn post-money valuation(!), it wouldn’t be weird if most of that cash was going to Anthropic and not its investors. And that matters. If it was going to investors, it would ultimately be recycled back into securities markets, like a financial version of the water cycle. But it’s going to the companies who will spend it on real goods and services, helping to boost already increasing levels of inflation. Yay!

Why am I telling you this? Well because these issues will probably be incredibly popular with retail investors. I think the kind of investors who bought $Tesla or $PCT, or Bitcoin, or Quantum Computing stocks, “meme stock investors”, are going all in on SpaceX and Anthropic. They are betting on the “inevitable future” and have done very well from their past bets on the “inevitable future”. How do I know this? Well, I don’t know it. All I have is anecdotal evidence, and as we all know, the plural of anecdote is not data. But the anecdotal evidence is certainly there. One could, arguably, think of the situation as Elon and friends raiding the capital markets of the speculative capital employed in “meme stocks”. Stripping it out to fund his investment plans (and compensation package).

The “yesterday” in question was June 10^th

I bought a new minivan recently (yes, I know). The nice young man who was there to sell me a 10y Toyota extended warranty (at 3x the best price, according to Copilot) told me he was going “all in” on SpaceX. He made a passionate case that it was the future. I’m sure he is right.

Many informed retail investors know SpaceX and have long complained about being shut out of private equity—much as I have regretted having access to it (please remind me not to do that again). Now they are selling existing meme-stock holdings to make room for SpaceX. In a world of Andurils and Palantirs, SpaceX is the “One Ring”: a meme stock powerful enough to rule over the rest, draining markets of their liquidity and knocking down a bunch of meme stock names. I noticed $PCT was also raising money and issuing new shares. Its managers seem to have received the same memo: now is the time to raise cash. Tomorrow, it may be much harder to get.

Reminiscences of a Stock Operator is a book most professional traders of my vintage (aged like balsamic) have read. If you haven’t, you should. There is a section in the book which talks about the Panic of 1907 and compares the situation at the “Money Post” of the New York stock exchange to a mouse in a bell jar suffocating as the air is slowly being pumped out of it. Of course, what is described was the crash which prompted the setting up of the Federal Reserve System. I asked ChatGPT (paid version) if it could find the section. It could, as could Gemini (free version).

I also asked Copilot.

I mention all this because I think rising bond yields have the potential to cause absolute havoc in risk asset markets. There is a pyramid of debts out there and still rising demand for additional funds. Eventually someone is not going to be able to get the money they need at a price they can afford. In this I think I see eye to eye with Ruchir Sharma. For those with good eyes.

Be very careful with “meme stocks”. There is no telling what they are really worth when the bell jar runs out of air.

We get into the weeds about what’s been driving gold and silver, and why those trends have legs.

Why has gold been in a bull market?
Is it still a bull market, and if so, what’s driving the current correction?
Why are the physical PM markets in crisis?
Counterfeit Gold.

Hmmm.

I did say that, but that wasn’t really the central message I would have chosen. In an ideal world, we might have focused a bit more on why I am relatively bullish equities, but also inflation breakevens and energy, while bearish bonds. But in an ideal world, I would be 20lbs lighter and have a full head of hair. The point is not that equities are cheap or low risk. Rather, it’s that this “regime” or environment can be dreadful for both bonds and consumers, but at the same time pretty good for companies and returns on equities.

It might help if I step through the arguments.

Not your typical Boomer cyclical playbook

There is a case for why things might be a little different this time around. I was reading a recent BofA Flow Show, where Mr Hartnett pointed out that the performance of both US stocks and gold is curiously consistent with very rare “big stuff”.

The Flow Show in question, “Living in a Material World” also included this chart, which makes a decent case for being long basic materials.

Mr Hartnett’s observation helps with the “how will I know?” question (H/t Whitney Houston). Lots of analysts have outlined hypotheses that boil down to the contention that we are living through unusually “interesting times”. Russell Napier is a great example. Pippa Malmgren (lovely lady) has also outlined what one might describe as a big hypothesis, and MI2 (RIP) made aligned points and (broadly) agreed with both.

Hartnett points out that recent price action is supportive of this hypothesis. Something “big” does seem to be afoot: monetary, fiscal, geopolitical, or, as I suspect, all three. They tend to be fellow travellers. Big trends do not preclude big cycles, but I do think these trends will persist. We should expect more global arm-wrestling rather than less. It’s just not a very cooperative global environment.

One of the “big” things currently afoot is accelerating inflation. You will remember when we were told the Covid inflation wave was “transient”. And it was. In much the same way, the inflation surge caused by the constriction of the Straits of Hormuz will also be transient. And in the same way, when the current inflation subsides, holders of bonds will still have suffered an uncompensated and unrecoverable loss in purchasing power. Sometimes bad things happen to good asset classes!

I would argue that this uncompensated loss in purchasing power is a significant part of the story behind equities’ counterintuitive resilience. We saw something similar in the early stages of the Weimar hyperinflation. To be clear, I am not suggesting we should expect hyperinflation in the US (quite the opposite, but we will get to that). The point is the balance sheet channel. This paper suggested that the erosion of the value of corporate debt was a substantial tailwind for German stocks through the period of accelerating inflation, and it certainly doesn’t require hyperinflation for this “channel” to boost equity values. In a sense, the debt-inflation “channel” could also be thought of as a reduction in effective real interest rates for existing debts, which several commentators have noted.

Other factors which have also supported equities. The two I would single out are the AI capex boom and the fiscal support and incentives for investment spending that were embedded in the IRA and the OBBB. The combination has been an unambiguous boost to the earnings of all the companies involved in the AI buildout. In fact, “earnings have grown so strongly that it’s hard to call it a bubble”. Hard for others, maybe, but not for me. If you really try, it’s possible to discern something bubbly about the current earnings rally. Back in 2000, the earnings of companies involved in the internet buildout were also extremely strong (Cisco, for example), but that didn’t mean that the stock market rally was entirely fundamental. Earnings and subsequent projected earnings can be extremely subject to “animal spirits” particularly when the flows support the rally, as they do now. Extrapolating front-loaded, temporary earnings boosts can do miraculous things to stock prices, particularly when flows are supportive. Passive flows, related to demographics, and company buybacks can have magnified effects courtesy of Gabaix-Koijen-style inelastic equity supply.

The AI Buildout – when you see a bubble, buy it!

It is inescapable that the AI buildout has been a massive factor in global stock markets: just look at the Kospi. I think of the AI buildout as “central planning with American characteristics”, to paraphrase Deng Xiaoping in 1982. When we look at which stocks have performed recently, it’s obvious: most of the rally has been driven by energy stocks and those exposed to the AI buildout (it’s worth noting the considerable overlap between those sets). These factors have driven earnings growth, although there is probably a bit of hidden leverage in the whole system, given some of the circular financing arrangements one reads about. Some have suggested that we are in a “bubble”, but I don’t see how that argues for selling stocks. In my experience, the worst thing you can do is sell stocks when you first notice a possible bubble. Bubbles seem, as a rule, to last way longer than those who identify them think they will.

Besides, “bubble” is quite pejorative. People use it to imply something unnatural or erroneous. But history suggests that bubbles are often just a side effect of how the US gets its strategic imperatives achieved. Public incentives, private capital and speculative enthusiasm combine to drive huge amounts of money and talent into crucial sectors. Sometimes too much capital goes in, but boom and bust has proven a very effective way of getting a job done quickly.

Of course, none of this ensures that all investors make money. So perhaps the idea is that one should remain long, but with a good understanding of exactly where the exits are. In this, I seem to take a similar view to Andy Constan.

If the AI buildout ultimately disappoints in terms of long-term productivity growth, some debt and equity investors (us) will have disappointing returns. Schumpeterian “Creative Destruction” doesn’t rule out malinvestment. But until the time comes, it’s a mistake to decide that risk assets will go no further. We travel in hope, and I really don’t think anyone outside of China would prefer China to dominate AI. Where there is a political will, there is usually a way. The US public and private sectors are hellbent on winning the AI race and for good, existential reasons. And that’s why I don’t really think US policy will reverse any time soon. If US policymakers must choose between a bigger deficit and Chinese dominance of the key industries of the 21st century, I think the answer is obvious.

It’s also destabilising to be uninvested in the middle of a bubble. Think of Isaac Newton’s trading of the South Sea Bubble. That said, when I sold equities because of the start of the Iran war, I did so from my pension accounts. I have since bought them back, but in the form of futures through my IB account, which facilitates a rapid getaway should one prove necessary! It also means I will pay taxes upfront on any gains.

We do need to find the resources for our infrastructure and military spending. Some of it will come from allies. Some may come from vassals. But given the shift in US-China relations, and given that our allies will also need to spend more on military and infrastructure, it does seem like a lot of it will have to come from us! And I am unclear why that picture would reverse anytime soon.

That is why the macro picture matters. Bonds selling off alongside equities rallying is not contradictory. They are two sides of the same regime. Equities, especially US equities, are the cleanest dirty shirt: nominal claims on nominal economic activity, beneficiaries of capex, passive flows and buybacks. Bonds, by contrast, are being punished by inflation risk, fiscal risk, global arm-wrestling and the possibility that resource scarcity is becoming structural rather than cyclical. If this deteriorates further, bonds are poised to be the next big story. And that is a global problem, not just a US Treasury problem.

To reconcile current price action, we need to hold two true but superficially inconsistent ideas in our heads simultaneously: that overall financial conditions are supportive of risk asset pricing, even while the Hormuz blockage is doing cumulative damage to the global real economy and the solvency of the G20. The scale of damage is non-linear and increases with the length of the disruption to trade flows. In addition, there is no rapidly available or affordable military option. Some things are simply not possible, regardless of how powerful a country is. I relied on Mr Mercogliano's video here, which I think made some salient points in summarising the status quo.

If resolution is not just around the corner, it is hard to see G20 solvency improving soon. Iran has imposed a terms-of-trade deterioration on a swathe of Asian and European economies. Everyone wants this over, but the IRGC may believe that forcing the best deal it can now is its best chance of survival. Some damage already seems baked into the cake.

The Fed

Market pricing has recently moved to price hikes rather than the cuts it had been pricing a few months back. I am amused by the idea that we have simply had too many “negative supply shocks”. For me, this is the type of logic which makes it hard to see the woods for the trees. I prefer to think of the Straits as less of a supply shock (although you certainly can think of it that way) and as more of a cumulative deterioration of the solvency of every net energy importer. Central banks can choose to restrict aggregate demand in response to that, but it won’t add even one molecule of energy to these supply chains. The truth is that there’s a series of hard central banking decisions to make, and the guy who is going to make them isn’t in the job yet. I would always take the dovish side of a rate bet with this Fed. That’s always going to be their lean. Why push rates to levels which will hurt real estate and investment, just to discipline a labour market which appears to have little to no pricing power? In other words, the Fed may choose not to tighten policy, but to allow the long end to tighten financial conditions for it.

30 Year Yields

Inflation

This doesn’t mean I am relaxed about inflation. If you do the analysis, there is every reason to think headline CPI will continue to surprise to the upside, even if with a rapid, peaceful resolution in the Gulf. I think short-dated breakevens are cheap. 1y inflation swaps are around 3% while 2y is around 2.84% which implies 1y1y fwd inflation swaps are 2.68%. That might be about right, but if one believes Jeff Currie (rather than Robin Brooks), it’s quite a risky bet with little upside and lots of downside.

Oil prices may have peaked, but tight inventories of crude and oil products (and byproducts) will continue to put pressure on global supply chains.

Headline inflation risks at these levels are far from symmetrical, even ignoring the risk of further military escalation down the line. We have had a few rather fearsome inflation prints recently, reflecting the points made above, but the market remains quite sanguine overall. While flows through the Straits are restricted, US headline CPI (and global CPI) will continue to accelerate, but if anything, the market perception of inflation risks has declined. As I said above, we can view this as a central banking reaction function question, but I think this misses the point. It’s equally a terms-of-trade shock on a scale much larger than the terms-of-trade shock we experienced in the 1970s. If anything, the market is non-linearly sanguine about where things might end up. So, if the question is whether inflation will surprise to the upside in the short term (over the next 6 months), my answer is yes. If the question is whether that inflation will persist or result in a wage-price spiral, I think the answer is probably not unless we have the kind of fiscal policy which would permit it. But none of this has put me off short positions in government bonds. We have just experienced a major erosion of solvency among oil importers: governments won’t be able to stop the short-term increase in inflation, but they could choose to preemptively tighten policy to reassure bond investors. My bet is that we will need even higher yields to force the FOMC to do that, but those rate hikes would probably be pointless: sacrifices to appease the bond market vigilantes. Perhaps vigilantes require “a hanging” every now and then to placate them?

Who pays for the strategic shift?

Earlier in the piece, I suggested I was dismissive of inflation risks (“Not that I am suggesting we should expect hyperinflation in the US (in fact quite the opposite”, and yet here I am suggesting that inflation risks are skewed higher. How to reconcile?

Well, while I do think headline CPI risks are skewed higher (core won’t be much better) over the next six months, I don’t think we set up for a rerun of the 70s, yet (although with the right subsequent policy choices we might get there eventually). Higher CPI prints won’t result in a wage-price spiral without much more “cowbell”. For a wage-price spiral (also known as “second-round effects” in the Eurozone), you need labour to have some market power. In current conditions, it’s the corporate sector which has the market power, not its employees. Labour is a price taker. Naturally, there are exceptions to the rule. I’m sure AI specialists are doing very well, as are workers who build data centres. But I feel on safe ground suggesting that neither labour, nor low-end consumers can do much about their deteriorating terms of trade and that this is true across the developed world.

Falling real wages don’t point to labour having the kind of collective bargaining power to force wages higher in aggregate. And there is plenty of evidence from corporate results that the consumer staples sector is already in recession.

Looking to the end, US savings rates necessarily must rise simply because we no longer welcome Chinese recycled savings (the converse of their currency and current account manipulation). There are two ways to increase domestic savings: We can reduce domestic consumption and/or government spending, or we can increase productivity growth. One imagines ultimately US savings will rise through a combination of both. The operative word is ultimately, because right now, US savings rates appear to be decreasing, not increasing. I imagine that consumer debt might be helping to smooth the consumption adjustment.

You could argue that 90% of consumers are already in a recession. This is already increasing savings rates because the top 10% of consumers have a much higher propensity to save. So, one might argue that if current trends in income distribution continue, the problem of insufficient domestic saving will eventually cure itself. However, this solution might not be socially or politically acceptable. Barraud notes that as consumption becomes more concentrated in higher income groups, it probably becomes more closely linked to equity or real estate prices: so, a correction in asset prices could catalyse a correction in consumption. For the purposes of generating greater domestic savings this would work just fine, except one might suspect that any reduction in domestic consumption might be offset by further increases in public sector deficits. The alternative would be a recession and the stock market correcting lower. Of course, if equities correct (or worse), global investor appetites for bonds will pick up. But absent that kind of equity selloff, those familiar with Warsh’s speeches will expect a bias towards letting bond markets tighten for the Fed, and (at the margin) reducing the balance sheet when the opportunity arises. This would have the merit of helping generate the savings the US needs, while also putting the banking system in charge of financing the necessary strategic shifts. After all, do you really want government picking your winners? In this imagined future, the long end will take a fair amount of the strain, and the US Treasury will try to offset that by managing the supply of duration, while its central banking partner will keep short rates as low as consistent with policy priorities.

Ultimately, in the absence of a productivity miracle (which I can’t rule out given that’s the whole point of the AI build-out), US consumption will have to trend lower over the next decade, with the savings redirected into strategic priorities: defence, AI, reshoring supply chains, clean energy, quantum computing, semiconductors, etc. My guess is that that adjustment is unlikely to be painless, but there is absolutely no sense in jumping the gun. Let’s not copy Isaac Newton. The sectors which are performing right now are US strategic priorities. So why fight it? Own the beneficiaries of the strategic shift, avoid the victims, but sit near the exit. When the wind changes direction, you might need to make a very quick exit.

There is no clear consensus regarding which side is favored by the passage of time. I see that Robin Brooks (I don’t mean to single out Mr. Brooks) believes that time is on the US’ side, while I and my ex-MI2 colleague Julian, think that time probably favors the Iranians. But I think it’s important to be precise in one’s language: when I say time is on Iran’s side, I mean that the harms to the global economy are likely to become unacceptably high for the WH before Iran experiences costs which would compel its capitulation. Robin (among others) explains that the blockade will do significant damage to Iran’s economy. He also makes the point that should wells be shut in, they will experience long term damage. I suspect that both observations are correct, but I note that neither constitutes evidence (let alone proof) that the IRGC will be forced to capitulate before the US or its allies. I am overweight because of a weakness of character: I can withstand anything except mild discomfort. Iran has suffered significant economic harm for some time. It really isn’t clear that it has reached the point where its civil society will revolt or the IRGC will collapse. However, we have reached the point where the Australian PM is boasting that he has secured two additional tankers of diesel. As the WSJ put it, “Iranians will suffer hardship”…. “But their pain tolerance threshold is higher.” Or as Richard Haass said, “the US might not be in the driver’s seat here”.

Of course, the harm experienced by the global economy will depend on the extent to which global supply is restricted by the blockade of the Straits. I suspect we will know whether Robin and Andreas or Julian and I are right quite soon, so it’s hardly worth arguing about. That said, I remain fascinated by the combination of higher equity prices and higher oil and oil product prices. Last week, I speculated about how this might be possible and this week I would like to share some observations Barry Knapp was kind enough to make when I asked him. First, Barry pointed out that a bottom-up analysis of higher energy prices might suggest 80% of the S&P500 could arguably benefit from higher oil prices. Higher energy prices strengthen onshoring advantages for US industrials; Energy and materials constitute 15% of the S&P. Utilities (10%) are beneficiaries and higher energy prices help support the infrastructure build out for AI (Tech and Comms ~45%). Earnings have been broadly supportive, and while you could argue that they are backward looking, it’s hard for underweight managers to sell stocks which are beating their estimates. Let’s not forget that the Trump administration has incentivized CapEx at the same time as Big Tech is building out the AI infrastructure. The numbers involved are highly significant.

I had talked about fiscal being supportive (and it was in Q1) although not massively so. That said, there is an extra $100bn of military spending in the mix. Monetary conditions are also very supportive. M2 growth has been about 5% p.a. - and given recent supervisory relief it’s easy to imagine velocity has stretched to accommodate higher energy prices. You can see monetary accommodation in margin lending too (not that that fills me with confidence). Perhaps more significant for markets are the dollar swap lines the US has provided for Gulf allies. These are dollar loans (collateralized by local currencies) which ease the financial pressure on the financially stricken Gulf. It means the “Gulfies” won’t be forced sellers of US stocks, bonds and gold. In fact, some link it with the UAE’s exit from OPEC. Either way, advancing dollar swap lines is hardly neutral for the global dollar balance sheet. Bessent is accommodating the squeeze on global dollar financing caused by the war. So there are micro and macro reasons for the US equity rally.

I have studied enough economics to have a healthy skepticism about how far economics can help to understand the direction the world is heading in. In most cases, economists are there to provide reasons for a policy which has already been decided on. I think it’s now self-evident that the US “nomenklatura”, its political and intellectual leadership, has decided that globalization has gone too far. It is a bipartisan consensus: Jake Sullivan and Brian Deese explained why the previous administration came to the same conclusion. We can’t have the supply chains for our most essential systems and processes in the hands of potential/actual adversaries. And since markets won’t effect this policy shift without external guidance, we need to offer a little help to the invisible hand via industrial policy.

But there are wider implications of this policy shift. Reindustrialization and leadership require access to essential resources on favorable terms. One could arguably generalize the US interventions in Venezuela into a more general strategic framework of increased resource competition among great powers reflecting China’s increasing global footprint. Think of it as the commercial corollary of the same pressures underlying the Thucydides Trap. Great Powers are, almost by definition, in competition for preferential access to global resources. You could reframe it as arm-wrestling to influence terms of trade between those powers. Some of you might argue that governments do not do this: that it was just a happy accident that Trump removing Maduro from power resulted in China’s access to cheap resources in Venezuela being ended.

If you were thinking along these lines, you might view the US intervention against Iran in the same way. Were the US to be successful in both interventions, the result would have been a further extension of the dollar system in countries which are blessed (or cursed) with significant natural resources. Iran is estimated to have between 7-10% of the world’s critical mineral resources, which is sort of crazy to think about. Curiously enough, Ukraine is also similarly blessed (as is Russia, and the DRC).

Reshoring US industrial capacity is necessarily intensive on both physical and financial resources. We will need to deploy quite a lot of capital. Sadly, if you no longer want to be friends with certain large trade surplus countries, you may have trouble persuading them to reinvest their current account surpluses in your financial markets. Indeed, you might simply refuse to take their money other than on the most advantageous terms! If we can’t rely on the kindness of strangers for the necessary capital, where can we get it? The answer is “friends and family”! We will encourage investment from allies while discouraging investment from “adversaries” (definitions may vary). We and our allies will provide the necessary capital. Provided they don’t have to rebuild their war-torn infrastructure.

It’s against this “framework” that I wanted to highlight some of Kevin Warsh’s recent comments in his confirmation hearing in front of the Senate Banking Committee. The committee voted 13–11 along party lines to advance his nomination to the full Senate.

Long time readers will have an idea what I think Warsh is about, and his comments to the Senate Banking Committee remained entirely consistent with my past observations. Warsh signaled an intent to chart a significant departure from the “Powell era,” focusing on what I would characterize as two pillars:

Balance Sheet Reduction: He criticized the Fed’s $6.6 trillion balance sheet, arguing that the era of “easy money” and massive asset purchases must end. He intends to aggressively shrink the balance sheet to return the Fed to its “core mandate.” Given this view of the balance sheet use, it’s unsurprising that he expressed a preference for using rates as the primary tool for monetary policy.

Dovish Pivot on AI: Many have characterized Warsh as a “hawk” on inflation. I think that was just Warsh positioning himself as a Republican central banker. Now that he has achieved the nomination, it’s not so surprising (at least to me) that he suggests that artificial intelligence could drive a massive productivity boom, implying that this might allow for lower interest rates without triggering inflation. As Ferguson dryly notes, “a view that aligns with current administration goals”.

Fed Independence

Unsurprisingly, Warsh was asked several questions regarding his views on Fed Independence. Readers may also remember that the notion of Fed Independence irks me, for much the same reason as the notion of the Easter Bunny, or of Santa Claus. Santa is particularly irritating as he (she? it?) is the proximate cause of several long, sleepless Xmas Eves spent desperately searching for batteries or assembling railway locomotives and Barbie Playhouses. With respect to the latter, the only surprise was that it didn’t require foundations. There were “sharp questions” regarding his relationship with the White House. Warsh repeatedly stated that the Fed must remain “strictly independent”. This is true in much the same way that I am on a “strict diet”. Liz Warren’s use of “sock puppet” seemed a little cruel: what President would install a Fed Chair whose views sharply diverged from the WH’s? I exchanged views with several well-informed Fed watchers who suggested that the “Tillis Roadblock” would ultimately be resolved. One persuasive argument was that one shouldn’t expect regional Presidents to focus too much on principle, given this was likely the best job they would ever have. That said, there is an anecdote circulating which is a reminder that the stakes remain high. The story is that Warsh ran into Powell providentially, and extended his hand to Powell saying, “Nothing personal Jerome”. Powell was reported to have said “Of course its personal – they are trying to put me in jail!” before walking away.

I raise all this because the bigger question is how US strategic objectives can be financed. I have already suggested that preferred solution is “friends and family”. Sadly, the US’ allies are in much the same boat as the US. Everyone needs to spend more on defense and infrastructure. This means that the US savings rate has further to rise. We will need higher real rates (potentially much higher) to discourage current consumption/encourage saving otherwise “onshoring” will take a very long time. And one essential component of that is a well-functioning US financial system. Real rates have been rising, and the yield curve has been steepening, but the curve remains at least 100bps too flat for smaller banks to generate a healthy return on equity. When Warsh says that the Fed balance sheet should shrink, he is implicitly saying that short rates will likely be lower and the curve likely steeper than in the recent past. I have previously noted Mr. Druckenmiller must have a very good sense of the thinking of both Mr. Warsh and Mr. Bessent because both are ex-colleagues.

Druckenmiller doesn’t seem to have sold any of his XLF yet.

P.S.

Sometimes readers ask me what I am doing.

I had added energy stocks (US) and lightened risk positions. I had even taken some “homeopathic” shorts. The shorts are now gone (cos I was wrong) but the energy longs remain. I remain chronically underweight relative to any rational equity allocation (~30%). I have never gotten rid of my Uranium and Rare Earth plays, and I retain my enthusiasm for Latam equities (EWZ, EWW) and currencies. I’m quite heavily invested in LATAM (oh oh!) because I also have some residual risk in Argentina debt (most of it has now gone) and in Caracas real estate (pray for me!) I still own gold miners although not silver miners: I consider myself under invested in gold too and plan to add again when the charts look better.

I tell you this because some readers occasionally ask me for my thoughts but also because it’s always worth asking both what people think and what they do!

Mike K pointed out that we have conditioned investors to respect FOMO and buy dips. We have trained systematics and algos to buy dips. Which amounts to arguing that a bull mentality has been imprinted on the market. Bear markets happen, but market psychology can stretch leads and lags.

Either way around, I find myself asking why I am not long risk? And I already know the answer. It’s cos such dreadful things are happening in the Mid East. But it turns out that that could be a complete head fake. Markets don’t care about risks when there is net buying, which is why I suspect the driver is in part positive fiscal flows and policy measures (like GSE buying their own paper). Nothing makes markets go up more reliably than flow.

And if this diagnosis is correct, why wouldn’t it melt up (before any subsequent melts down)? A day like today where oil futures and stocks are both up is suggestive. Think about what would happen when/if we do reach a deal? Will it all be in the price (buy the rumor), or will we simply melt up?

Iranian tactics are actually very simple. Maintain a choke hold on global oil flows while threatening tat-4-tat strikes on Gulf oil infrastructure if Iranian infrastructure is targeted. So, while they cannot defend their own infrastructure from strikes, they appear able to impose symmetric (if not higher) costs on US allies in the Gulf, with collateral effects in the rest of the world. An example of this was when Israel hit some of Iran’s South Pars gas field infrastructure, the Iranians retaliated by striking Qatar’s Ras Laffan Industrial facility impacting Qatari LNG production (and two KSA refineries). It was reported that Qatar lost 17% of its LNG export capacity. Perhaps an even better example of their tit-4-tat tactic was the retaliatory strike on part of the Jubail Industrial City which is (was?) responsible for 7% of KSA GDP. That strike followed strikes on Iran’s Assaluyeh petrochemical plants. The Jubail strike took place overnight on April 6^th/7^th. The US-Iran ceasefire (two-week truce) was announced on April 7^th and came into effect on the April 8^th.

By restricting flows of energy out of the Gulf, Iran has created an enormous disruption in global energy flows. However, that disruption involves something like a 6 to 10-week lag. As such it is only beginning to manifest. Some of the last ships to have left the Gulf, are only just reaching their destinations now. The point is the global energy trade should be thought of as a flow, and there has been a significant interruption in that flow. I am told that refineries usually keep between a month and two months feedstock in inventory. I’m also told (H/T Ann T) that there was significant slack within the US, and that that slack is now being utilized to mitigate the disruption to global supplies. That mitigation might amount to maybe 2mn bpd of oil and oil products, and that has stretched timelines for when product shortages become acute. That said, other industries may not have had the same amount of unused capacity: such as with methanol, helium, urea, or sulfuric acid. We will inevitably experience significant supply chain disruption: that’s baked in the cake. The question is how long and deep that disruption will be. If we achieve some kind of negotiated peace deal soon, then the extent of the value-destruction will be minimized. If we don’t, then we might see another round of tit-4-tat infrastructure destruction, with all that implies for global supply chains.

But while I still believe all this is true, this piece has a different focus. In the absence of any meaningful overlap between US and IRGC positions, I had assumed that this war would drag on till harms were significant enough to force one side to capitulate. But then I made the mistake of assuming that this kind of catastrophic supply chain/energy shock would be negative for earnings (probably) and therefore negative for stocks (nope!). I do think there will eventually be a deal, and it might look a bit like this as Barak Ravid’s tweets seem to point the way to the eventual structure of that deal. I assume we will get to a deal because it’s the most rational course. That said, there are still some serious potential risks to this assessment. Both sides have “tooled up” again in an effort to encourage the other to show flexibility in negotiations.

One of the big advantages of trading is that there is a very simply way of determining who is wrong and who is right. In this, trading is very different to say, theology, politics or “investing”. You might consider this paradoxical, because “investing” almost definitionally implies some kind of rational process. But it is precisely because rational “processes” take time to prove out that it becomes tricky to keep score. You must factor in the inevitability of “drawdowns” with any rational “process” and so you need time to evaluate the process (or investor). This leads us to the concept of “conviction”. Conviction can be defined as a firmly held belief or opinion, and if you wanted to quantify it as applied to investing, you might do so with reference to the scale of the short-term losses you were willing to accept because you remain perfectly convinced that the market is wrong. If your process always works, then it will usually be a mistake to unwind a trade for a loss. Ultimately the market will come round to your point of view. After all, you are “right”.

When I was young, I was “blessed” with plenty of “conviction”. There were plenty of times, when I disagreed with others but was not in the slightest bit worried because I had “conviction”. I “knew” I was right. Of course, I knew no such thing. I was just too stupid to understand that what I thought was superior understanding was usually just inferior logic. But as I got a bit older, I started asking myself inconvenient questions about “conviction”. Do others have “convictions” too? If so, how might I recognize when I was right, and they were wrong? Another formative experience was a game of 3-card brag in a North London minicab office (what’s a “minicab office” grandad?). I won the then unthinkable sum of GBP5, but I couldn’t shake the dreadful realization that I could just as easily have lost - it’s the good hands that are the most dangerous. If he really did say it, Mark Twain’s “It Ain’t What You Don’t Know That Gets You Into Trouble. It’s What You Know for Sure That Just Ain’t So” is an excellent expression of this. And then there is the St. Petersburg Paradox which serves to remind us that the market can remain irrational for far longer than we can remain solvent (or under-briefed).

So, for several reasons, I am now deficient in “conviction”. In some ways it’s a handicap, because it makes it far more difficult to make very big, life-changing bets. However, it does have certain advantages, not the least of which is that my wife can (usually) sleep at night. I tend not to “bet the farm” on any one hand, no matter how good it is. I think I am generally more right (righter?) than not, but I have yet to come across any trade where I want to bet the house, let alone the farm.

I was bullish energy and bearish equities because of events in the Straits. I pared down my risk positions (early) and took on long energy bets. None of those trades is onside right now. I doubted the Iranians could consider opening the Straits without at least trying to give the US a bloody nose. In fact, Araghchi clearly felt there was some advantage in opening the Straits a few days ago. That advantage might have been to present Iran as rational actors who are open to a deal, heading off some rather more costly alternatives for all sides. Regardless, my wife is deeply unimpressed. She now wants Corvin to manage her money.

But the question I want to focus on is how did I get something so important, so terribly wrong? I ask this question not just because I am a miserable, self-hating pessimist (although if the cap fits) but because diagnosis is often the first step to cure. I think there is a huge amount of value in trying to understand why the US equity market might be trading new highs.

Is it fiscal policy?

My first observation is that trading new ATHs makes no sense if the only thing that has changed was the war between Iran and the US/Israel. Removing a sizable negative (war and the closure of the Straits) shouldn’t drive equities higher, all else equal. The net effect of the war was to destroy a meaningful amount of global productive energy infrastructure and reduce global output. Of course, we did also increase the supply of USTs and Israeli government bonds, and I would imagine the same is true of Iranian public debt, although it’s not a figure I have to hand. I don’t think it controversial to say that while relief rally makes sense, new all-time highs don’t, other than because (as Corvin reminds me) stocks generally go up.

My first guess was that it was fiscal, which we know from Covid can be astonishingly effective in driving asset bull markets. The Hutchins Fiscal Impulse measure tells us that Q1 added 2.06% of GDP annualized, which is the largest positive fiscal impulse since Q1 2021.

This fiscal impetus is now behind us, but its effects on financial markets are probably still feeding through. Over the last few weeks TGA flows have added to liquidity, but it’s tax week and there is now a lot of money piling up in the TGA. Even more potential ammo for risk markets.

There is another fiscal line item that might be worth breaking out. US debt service payments are now approaching the single largest component in the US deficit. Treasury interest rate payments will have a very high propensity to find their way into securities markets, simply because they will be disproportionately held by those with very low propensities to consume. Given Federal Debt to GDP is now over 120%, higher rates result in a meaningful flow of dollars from the government sector to the private sector. The Treasury’s monthly budget data showed $519bn in interest payments in the 6 months to March 2026, 6.1% higher than the prior year. Debt service is now reportedly a bigger component than military spending although we should probably check again in a few weeks, given the cost of Tomahawks and Patriot interceptors.

This fiscal explanation doesn’t sit well with me: it’s unsatisfying because the rally doesn’t quite match up to the fiscal impulse. If you superimposed charts of the two, they wouldn’t align well. Earnings have been ok, albeit that the upward revisions which have accommodated the rally do appear highly concentrated (the Energy and Technology sectors). Consumers do not appear to be ok: metrics of consumer discretionary spending continue to be poor. Unsurprising given wages are barely keeping pace with measured inflation. Food and energy inflation is hard to substitute away from, so the impact of higher inflation is hitting the less affluent harder than the averages suggest. Perhaps the most indicative diagnostic is that bonds have been soft. The rates market has been busy pricing-out Fed rate cuts and pricing in some half-hearted hikes. Personally, I will believe in a hawkish Fed when I see one, but this is simply an acknowledgement that inflation will be higher this year. I agree that the CPI inflation we see is likely to be transient, but I can’t help but notice the regular opportunities to speak about “transient” inflation since 2019. 3% really does seem to be the new 2%, and it’s not immediately obvious why 4% won’t end up being the new 3%. It will end up being up to Warsh. But the broader point is still valid. Overall, fiscal policy has accommodated higher earnings (via higher investment and energy costs) even if it was not sufficient to boost consumer sentiment.

I think you know that I think lower global trade necessarily implies lower global capital flows, and that in those circumstances, the US (among others) will have to adjust to an environment of scarce global savings, and deteriorating terms of trade. If this is correct, it would not be surprising that the market value of some past accumulated claims on global savings might be haircut. US debt service is now a meaningful flow into US assets markets. And US spending is likely to continue to surprise to the high side given spiralling military spending. Perhaps the best way to make sense of what we are seeing is to frame it as another leg of the “debasement trade”: hence the rotation out of bonds into equities. By debasement trade, I mean a shift in investor preferences towards inflation-resistant assets over inflation-vulnerable assets. If this hypothesis is right, commodity prices will continue to climb, as would stocks with pricing power. Bonds, not so much. One way or another we are going to have to generate far more domestic savings than we have in the recent past. Put another way, the US (and the rest of the G10) will not be able to rely on the kindness of current account surplus strangers to fund their deficits at reasonable rates. Savings rates will rise in the US or deficits will have to fall (unlikely!). The question is how much real rates need to rise to persuade Americans to save?

There is a school of thought that a “strategic defeat” for the US in Iran would mean a weaker dollar. Don’t ask me what the definition of strategic defeat is, although I did notice the visit of the Taiwanese KMT leader to Beijing. What I do think is that recent events have added a lot of supply to US Treasury markets and not done much to increase demand. Foreigners want US equities, not the bonds. Gulf Kingdoms (and Iran) will want to rebuild their damaged infrastructure rather than buy more USTs. In the absence of a US recession, real yields do seem to be stuck above 2.5%. That’s going to make Warsh’s job a lot harder. In the meantime, sit back, keep your position sizes manageable and enjoy the top-quality trolling!

I think it’s obvious that Yogi Berra was a genius, which is why I do my best to learn from his particular brand of distilled wisdom. To remind you, he was responsible for gems like “You can observe a lot by watching” and “The future ain’t what it used to be”. Not to mention my own personal favourite, “Always go to other people’s funerals; otherwise they won’t go to yours”.

But last week, the Berra wisdom that I found myself reflecting on was “It’s deja vu all over again”. I suppose some of that might simply reflect my advanced years: you get to a certain age, and pretty much anything is likely to remind you of something. I wish I could draw a comparison with Proust’s Madeleines, but I think we both know that what I am experiencing has more in common with Pavlov’s Bell: I was thinking about bond yields and the way they have recently jumped on higher energy prices.

Berra explained that “It’s déjà vu all over again” was prompted by Mickey Mantle and Roger Maris repeatedly hitting back-to-back home runs in the Yankees’ seasons in the early 1960s. My current sense of deja vu relates to the macro set-up around 2006-08. In 2005, Ben Bernanke explained to us why US bond yields were so low and why it wasn’t his fault. The problem was a global savings glut, and there wasn’t much he could do about other countries’ desire to run current account surpluses, which “arithmetically forced” the US to run big current account deficits, whether US policymakers liked it or not (they did).

By June 29^th, 2006, Bernanke had raised rates 17 times in a row, from 1% to 5.25%. From 2004 to 2006, the Bernanke FOMC did what it thought would tighten financial conditions appropriately to help throttle back the overheating economy. At the time, the question was “why wasn’t it working and should the Fed do still more”? My memory is that when you asked Fed officials these questions, they noted that monetary policy operates with “long and variable lags” and that they needed to exercise judgment on the appropriate level of policy rates. They didn’t control the 10y rate, but a bit like the old saying, if you set policy rates at the appropriate level, hearts, minds and even 10y yields will eventually follow.

Then, in 2007, energy and food prices started to spike globally. When I say energy and food, I should really just say energy, because it was high energy prices that were the proximate cause of higher food prices. Of course, certain policies like biofuel mandates didn’t exactly help (by 2008, almost 30% of US corn crops were being used to make ethanol), but the underlying problem was higher oil prices, which then caused key agricultural inputs like fertiliser to head higher.

Why is it always Iran?

By July of 2008, oil prices had further spiked due to tensions in the Straits of Hormuz/Trump (depending on who wins the current conflict). Iran test-fired its new Shahab-3 missile, which supposedly prompted fears of potential strikes which might cause the closure of the Straits. Oil prices spiked to almost $147 before coming off the highs.

But by July 14^th, the story wasn’t oil prices anymore: it was the US mortgage markets. You could argue that this was the exact moment that the “Oil Story” died. As soon as the government had to step in to save the mortgage giants, the market recognised the gravity of the credit problems and that the banking system itself was threatened. Oil prices began a $100-per-barrel slide that didn’t stop until December”.

One way of framing these events is that the prevailing narrative shifted from focusing on inflation concerns to credit concerns. Credit problems associated with weak mortgage origination had always been there, but the danger only became manifest when we moved into recession, because fully employed people generally pay their mortgages. Back in 2008, US financial conditions tightened very quickly, and that (in a rather disastrously reflexive way) resulted in further tightening in US financial conditions. Higher bond yields finally did the trick in killing the speculative bubble in housing, and we only found out that a lot of homeowners really couldn’t afford their mortgages once a lot of houses hit the market at the same time. I wouldn’t want to exaggerate how bad loan origination standards had been, but they had been lax, and that was a contributory factor to the GFC. However, the subsequent recession delivered the “coup de grâce” to US housing markets and investors in certain US housing-related bonds.

But we could frame these issues slightly differently and argue that it was the combination of higher oil prices and the associated increase in bond yields that caused the material tightening in financial conditions. This catalysed the vicious circle of asset price declines, further tightening in credit conditions and further asset price declines. It’s obvious how higher bond yields might adversely impact credit conditions. US government bonds are a benchmark asset, and a lot of bank capital is parked in bonds. Moreover, bond yields are a direct input into most financial conditions indices. But it’s less intuitive that high oil prices might have a similar impact on financing conditions. Energy costs increase necessary working capital: if oil prices double, working capital floating on the high seas needs to double too. And if shipping times/distances also lengthen, that also increases financing requirements: you need the money for longer. Similarly, if refineries or petrochemical plants can’t get enough feedstock to run, they won’t generate the cash flow necessary to service debts. So, this mechanism doesn’t just operate through our expectations of the path of policy rates. It can also operate directly on the financing channels that industry and commerce require to function. And from thence to the real economy. There is evidence that it’s entirely consensus to expect a very weak consumer (see chart below), but the recent rise in real yields suggests that no one really expects a recession, at least not yet.

Energy is embedded in the price of pretty much everything we consume. Back in 2008, energy was about 10% of the US economy and 15% of the S&P500. Right now, it’s about 6% of the US economy and 4.5% of stocks, so one might reasonably argue that it will have a smaller effect. One counterargument is that it’s 6% that’s embedded everywhere in our supply and distribution chains, and with very limited scope for substitution. So, the impact on macro variables or financing needs is direct and unavoidable. Another argument might be that it isn’t the direct impact but the (unfortunate) timing. Financial conditions are already tightening, as they were back in 2008.

This time around, CRE and credit markets seem much more vulnerable than residential housing. Also, US GSIB banks are very well capitalised and getting more headroom on capital all the time. Still, just because you have capital available, that doesn’t mean you extend it on any old terms to the competitors who have been eating your lunch for the last 17 years, just cos they are in a tough spot. Overall, I don’t think that this is as inconvenient a moment as July ‘08 for a marked tightening in financial conditions, but shouldn’t we give it a little time? 10-year yields have risen about 50bps from recent lows so far, which won’t have improved the mood in private credit markets, where the entirely predictable epidemic of “gating” is well underway. There is anecdotal evidence that corporate loan facilities are being drawn down globally to ensure financing is in place, partly because private markets look less reliable and partly because companies simply need the cash. It’s perfectly respectable to argue that the implied default rates implicit in current pricing of BDC equity tranches will turn out to be overly negative, but it seems beside the point right now if investors would like to sell but cannot. Shadow bank portfolios are being re-marked by lenders, and borrowers are being asked to put up additional margin. That’s a run on the bank, not a credit event, but bitter experience doesn’t make me want to rush to buy assets during the early stages of a bank run. There are reasons to question the valuations of CRE, private credit, and private equity funds, and risk appetites seem to be, at least temporarily, fully sated. It’s been a long time since I have heard the phrase “cash is king”, but it comes back in fashion when forced liquidations begin to raise the prospect of fire sales.

Of course, if the closure of the Straits of Hormuz is a week away from being lifted, I have done you all a disservice by exaggerating the risks, and I will glumly consider the money I could have made if only I had been brave enough to buy the dip. But thus far, I don’t see any evidence that meaningful amounts of helium, fertiliser, or LNG are likely to move through to Asian markets within the next week or two. And that might be enough to set in motion a further marked tightening in financial conditions. In the words of the genius, it ain’t over till it’s over.

Regular readers of TFTD will remember that I have a problem with pomposity. It’s one of my recurring issues, like finding a minimally acceptable hairstyle or portion control. The latter two are unlikely to impact readers’ quality of life (although Raoul Pal did once tell me that I had “a face for radio”), but the pomposity might. So, consider this a pomposity “advisory”.

Despite my daughter’s disbelief, I have read the Peloponnesian War twice, and I suspect I would probably enjoy reading it again with the benefit of additional age. Thucydides has an engaging prose style, and the subject, the war between Sparta and Athens and their respective allies, is about as universal as a historical subject can get. One of the most remarkable sections of the book is a purported dialogue between the people of Melos, who claimed neutrality in the conflict between Athens and Sparta, and the representatives of Athens, who demanded their submission. The Athenians issued an ultimatum: surrender or be destroyed, and argued that power rather than morality governs the relations between states. For the Athenians, common sense only demanded the Melians’ submission - “The strong do what they can, and the weak suffer what they must.” The Melians’ argument was based on moral right, and that Athenian cruelty and injustice would ultimately harm their cause. The Melians rejected the Athenian ultimatum, and were subsequently besieged, defeated and destroyed: the Melian men were all killed, while the women and children were enslaved. The ancient world was no place for woke losers.

Melos was destroyed in 416BC. Within a year or so, Athens sent an expeditionary force to Sicily to assist Segesta, a Sicilian City at war with Syracuse. Some might argue this was a pretext, and the real Athenian motive was imperial expansion. My reading is that it had a perfect storm of causes: imperial ambition, Athenian domestic politics, strategic incompetence, and hubris, of course. Whatever the reasons, the Athenian expedition against Syracuse was a disaster which ended Athenian power. By 413BC, the fleet was destroyed in Syracuse’s harbour, and the twin commanders were both captured and executed, while their men were imprisoned in the quarries where most died.

Why am I telling you about what is literally ancient history? Well, because I am dumb enough to think I see parallels today. The Athenians underestimated both their opponents and the risks and difficulties associated with long supply lines. Domestic political calculation may have played a part in the Alcibiades decisions. Most of all, the Athenians simply couldn’t conceive of losing a naval engagement against Syracuse, but then made the mistake of engaging them on their terms, in a manner that they had prepared for. A confined naval environment (the great harbour of Syracuse), which limited their ability to manoeuvre, and which favoured the tactical adjustments the locals had made to neutralise Athenian naval strengths.

Of course, I can never resist a classical analogy, but the news flow certainly jogged my memory. What possible use would the US military strategists have for a Marine Expeditionary Unit in the Gulf? One suggestion is that the Marines might seize small islands off the Iranian coast, like Kharg. It’s been suggested that this might serve as a bargaining chip or be used to set up air defence to protect shipping. Personally, I think it must be a crude bluff. While I concede that the US Marines are an incredible fighting force, taking and holding an island within tube artillery range of the Iranian coast just seems like a very bad idea. The only positive thing I have to say about the idea is that it’s not as daft as trying to land a 20k-strong force on the Iranian mainland to ensure freedom of passage of the Straits. I mention this only because I have heard smart, well-informed people discuss this possibility. You can see why the circumstances have folk like Kucinch agitated.

The essence of the question is whether US military power can overcome Iranian geography, preparation and asymmetric warfare. It’s quite possible that it can. But having spent way too long watching the Russia-Ukraine war, I have learned to be very careful about my military assumptions. Warfare is constantly evolving, and there have been some huge changes over the last 4 years. Cormac McCarthy nails it when he says, “even in the contest between man and steer, the issue is not certain”. And if THIS issue is not certain, then I’m not sure I want to take as much market risk. An extended closure of the Straits of Hormuz will wreak absolute havoc on global markets.

As a rough rule of thumb, we have about a 1-month supply at global refineries. The US and allies are doing what they can with their strategic oil reserves, but that will not significantly alter current oil consumption trajectories. For example, the US has announced it will release the SPR. There is currently about 415mn barrels stored, but the bottom 20% of the storage can’t be used. So, the 172mn barrels that are being released are not far off from all that can be released. The total release is about 2.3% of annual US consumption. North America is roughly self-sufficient in oil, but the US exports around 5mn a day. In a crisis, it’s not impossible to imagine the US restricting exports. Kevin Hassett told us on March 15^th that it would take 4-6 weeks to complete the mission. Let’s assume that completing the mission is synonymous with the Straits being reopened (arguable), but at what flow rate? How much damage will be done to critical energy-exporting infrastructure between starting the mission and ending it? And how long will it take for logistics to be reoptimized and ramped back up? We can already see that current production rates in the region are slowing because of storage limitations.

Despite the many differences of opinion, I think both sides agree on several things. Neither thinks Iranian civilian casualties should be a significant factor in their decision-making. Both think they can achieve a strategic victory, and both are aware they will experience enormous costs in defeat. If the Iranians lose, the odds are that the country will experience a fate quite similar to Syria. It’s very easy to make the case that this war is existential for the regime and its leaders. If the US loses, it will cede control of global energy markets to the Islamic Republic. As a result, neither side is likely to back down. Trump might choose to declare victory, but I struggle to see how that alone will reopen the Straits. So, I do not dismiss the possibility of an extended period in which flow through the Straits is restricted, and I am struck by others who see what I see. Closing the Straits has a serious impact on global supply chains. The impact on global logistics is significant, and the Houthis may make things worse by reclosing the Straits of Mandab. Oil products are critical for many industrial products and processes. Jet fuel supplies are already very tight in Asia. Between 15% (phosphates) to 30% (urea) of global fertiliser capacity is in the Gulf. Inventories of natural gas are low in Asia, and Qatar is also a critical producer (33% of global supply) of helium for semiconductor production, and sulfuric acid, used in refining metals. Finally, the food supply of the Gulf itself is very much in doubt. All these factors mean that time itself is of the essence. The longer traffic through the Straits remains restricted, the more economic damage that results.

There is talk of using a convoy system to restore some flows of oil through the Straits, but that would only partially alleviate the problem. There are limits on the number of available ships and ammunition to defend the naval escorts from drones. At its narrowest point, the Straits are effectively only 9km wide: that’s a turkey shoot. And there is currently little evidence that the WH can cobble together a “coalition of the willing”.

So, while the Straits are closed, the global economy will be slowly “choked out” over A roughly 6-week time frame. Clearly, this is not a benign prospect, even if you believed Trump’s “escalate to deescalate” policy was likely to be ultimately successful. Now consider circumstances through the frame of the scarce global savings hypothesis. Destroying the region’s infrastructure will dramatically worsen the shortage of global capital. Gulf states have been significant suppliers of capital to the world, recycling the revenues from resource sales. Now they will look to liquidate some proportion of their accumulated portfolio to fund defence and eventual reconstruction. That’s quite a swing in the balance between the demand and supply of assets. We ought to remember that global claims on capital are not the same as capital. Capital is the stuff being destroyed. Claims on capital are the securities issued against the stuff being destroyed. One might be forgiven for wondering if the value of claims on capital might be adversely affected.

But what makes me particularly concerned is that this is happening just as we can see the outlines of a nascent credit crunch forming. I was early on this hypothesis: so early, one might reasonably describe me as wrong. But just as a stopped clock is right twice a day, investors do seem to have reached the same conclusion I reached: that Business Development Corporations will be gated and that private credit (particularly cov-lite) is an example of adverse selection in markets. What’s more, there seems to be a general consensus forming that valuations in private credit might not be reliable. The phrase “SAASpocalcapse” entering the lexicon is a bit of a giveaway in this regard. Reasonable people might (and do) argue that senior tranches of the SAAS credit stack couldn’t possibly be impaired, even if the equity is. But the valuation of those senior tranches of the credit stack can fall significantly if their current lenders demand more margin, while the current owners of the various structures (BDCs, structured credits) seek liquidity before they are gated. I am not litigating the ultimate value of these assets, but rather several other underappreciated problems, such as whether we might see “fire-sales” in the near future. And, while private wealth managers might be prepared to make margin loans against well-performing structured notes, they probably feel differently about gated funds. THAT’S why the timing and scale of this supply chain interruption might be so important. Oil supply interruptions cause a short-term price level effect, but if prices remain elevated, they represent a massive drag on real final economic activity, simply because petrochemicals are the fundamental building blocks of modern life. In other words, we may find ourselves on the brink of recession.

And all this against the backdrop of a Fed which is currently engaged in a high-stakes game of chicken between the incumbent departing central bank Chair, and the Presidential nominee who won’t be confirmed by the Senate Subcommittee until the threat of prosecution of Powell is lifted. In the circumstances, it’s not entirely surprising that there are reports that some people are considering “end-of-days” scenarios. When things get this serious, my instinct is to retreat to the safe haven of comedy. We never know exactly what is coming at us, and Pete Hegseth’s prayer group may well get their wish. I know that I sometimes find comfort in religion. Let’s all hope I have this one completely wrong.

“USS Lincoln, the second largest ship in the United States’ Atlantic fleet. We are accompanied by three destroyers, three cruisers and numerous support vessels. I demand that YOU change your course 15 degrees north, that’s one five degrees north, or countermeasures will be undertaken to ensure the safety of this ship.

Canadians: This is a lighthouse. Your call”

What brings the story to mind is the current conflict between Iran and what is currently the US and Israel, but which could widen to include US-allied countries like the UK, and neighbouring Gulf States. I will return to whether it will widen later. The conflict brings the old joke to mind because Iran’s geography is a crucial factor in the analysis. One might argue that Iran is the lighthouse from the joke. The Houthis have already demonstrated that while we can remove their ability to refine fuel or connect to the internet, we can’t prevent them from launching missiles and drones on ships transiting their straits. It’s just very hard for naval assets to open straits. Always was. The bar chart from the FT below shows that the Straits of Hormuz are not completely closed. But traffic is very much reduced.

If you want to ensure freedom of passage, you need to have boots on the ground, and that’s not a small thing to do in Yemen. The logistics of it are very difficult, and the Houthis are extremely adept soldiers. It’s an even bigger thing to do in Iran. Iran is extremely mountainous: one might think of it as a natural fortress. It’s also big, with a big young population. So, it’s not obvious how either Strait will be reopened soon. And the duration of the closure really does matter. Global logistics are stressed when ships can’t take the shortest routes. Stressed global logistics means higher costs. More importantly, the Gulf states are entirely dependent on imports for critical supplies (like food).

Most importantly, there are limits to available oil storage. Once the gulf producers run out of storage, there won’t be many alternatives to shutting in production, which tends to reduce the productive potential of oil wells. I’m told production has already been reduced to reflect storage constraints.

Given all this, I am surprised at how well markets have taken recent events – at least so far. Friday’s more negative price action might be at least partially attributable to the Non-Farm Payrolls number. That said, you can’t attribute the spike in oil prices to NFP, so perhaps my negativity is starting to become contagious. Markets had been treating events as marginally negative for fixed income, but probably associated with the deterioration of the fiscal position: refunding IEEPA tariffs and the obvious impact of the current war on the budget. 5-year breakevens have hardly budged, which suggests that markets see elevated energy prices as “transient”. Is there a point where the market-related pain becomes significant to the Administration? Might we be getting closer to that point?

I am a negative person but try as I might, I struggle to discern a credible theory of victory. The idea seems to be that the application of external pressure on the regime, through both air power and decapitation strikes against its leadership. This will create conditions which might facilitate regime change. The problem with this theory of victory is that (so far) there is no evidence that it is working. Part of the problem might be the double-edged (forgive me!) nature of “decapitation strikes”. While we might have quite an unfavourable view of Khamenei, that might not be true of the global population of Shia Muslims: Khamenei might have been more popular than the supporters of regime change expected. Some Shia Muslims may discern parallels between the killing of a Shia religious leader during Ramadan along with several of his family members, and the death of Ali and the subsequent slaughter of his family and followers at the Battle of Karbala. Perhaps this was intentional, or perhaps it was cultural. Either way, one might argue that the decapitation strikes have perversely strengthened popular support for the Islamic Republic.

What concerns me most is when I think of this from the point of view of the Iranian regime; their strategic choices are now very limited. Stephen Wertheim articulated my worst fears very well: if they capitulate to Trump, their situation will remain perilous. There is no obvious end in sight to the sanctions regime, the threat of constant air attacks, or domestic subversion efforts. The Assad regime ultimately fell because of the economic pressure that the US imposed on it. There is a solid chance of the same playbook ultimately being effective against the Iranian theocracy. So, what incentive does the current regime have to compromise if compromise is ultimately defeat? Wertheim talks about them needing to give Trump a “bloody nose”, if they can. Sun Tsu speaks of giving a surrounded army a way of escape, “to make him believe that there is a road to safety, and thus prevent his fighting with the courage of despair”. One might argue that we have removed any alternative from the regime’s choices.

This might explain Iran’s willingness to escalate. In the past, oil infrastructure was out of bounds (probably for fear of tit for tat attacks). Theories of military victory are very clear: our primary objective is to obtain air superiority or even dominance over Iran. Doing so is a first step to attrit the military and civilian infrastructure and ultimately eliminate the threat to Tel Aviv and the Gulf States. And maybe we can achieve air supremacy, although we do not appear to be there yet. The problem is that even air supremacy would not mean the rapid suppression of missile launches. And if we can’t suppress missile launches, the odds of being able to open the Straits seem very low. Iran is doing its best to resist, and by blocking the Straits (both of them), it has started a clock which will ultimately cause enormous global economic pain.

So how does this end? Why would the Iranians climb down unless they can reach a credible accord with Trump? How can they do that? What are Trump’s incentives and pressure points? And let’s not forget this is not happening in a vacuum. There is a war in Ukraine, and oil prices have shot up: springtime for Putin and Russia.

What’s more, for those of you of a nervous disposition, the scary scenario is the potential interaction of the developing crisis in private credit (which smells a lot more like a bank run than a credit issue to me - the distinction is about how far prices can fall, versus what the ultimate recovery value might be) and the economic problem that an extended closure of the Straits would cause. Still, I told you I was a pessimist. Optimists see these things quite differently.

This is reportedly Vladimir Goldschmit attempting to hypnotise a chicken, 1923. Turns out he was doing it all wrong. Story of my life.

As is true for many things that I do, I have started this Substack for me. I wish altruism part of it, but it really isn’t true. That’s not to say that I don’t care what readers think. Quite the opposite. What I am hoping to get out of it is the following -

a) lay out my high-level “thinking” in such a way that I am forced to be honest with myself

and b) help identify inconsistencies in my thinking. With this in mind, I welcome reader feedback. I would love your thoughts, particularly your criticisms of my arguments. Don't be shy.

It’s not that I haven't written before, but generally, my work has either been unattributed or without freedom over style or content. Writing in someone else’s voice quickly becomes a chore. But at its core, there was a sense that I had things I needed to get off my chest and that writing them might help rid me of that feeling. If you have an itch and can scratch it without going against your dermatologist’s advice, why not? Let’s see where it takes us.

Why the lame title?

Titles are hard. My first thought was to use an AI to look for classical references (who doesn’t like a good classical reference?), but sadly, nothing caught my imagination. That said, I found out that the Iliad does not once mention Trojan Horses, which I am embarrassed to say I had not known. There is a brief description in the Odyssey, but much of that story comes from Virgil's Aeneid.

Then, it occurred to me to consider what I plan to write about. I don’t want to focus too much on matters tactical: I am too old and way too pretentious to focus on whether the S & P can be sold with a 10-tick stop. Not that I don’t do those trades, but rather because I don't have anything very interesting to say about them. Either they have good risk-reward, or they don’t, and the reasons I might like them often have more to do with technical analysis and less with macro analysis. Long experience has taught me that the market usually works things out well before I do and that the reasons will become clear later.

Most trading and investment decisions centre around risk-reward rather than any particular macro view. Sometimes, it can make sense to countertrade your longer-term view, although there are many good reasons why this should be done sparingly.

I want to write about macro, geopolitics, and investing (not trading) in roughly the same order. Cliff Asness points out that investing is about knowing what you know and how to use what you know to construct a better portfolio (whatever that means). In an inversion of what most people say about markets, most of what I feel confident that I know is very much about the long or the very long term. And I am less confident in the precise path we will take in arriving at those long-term outcomes.

So, this series of pieces is supposed to set out some high-level macro thinking and then dive deeply into the individual elements that make up those broader macro “scenarios”. And I hope that you, the reader, will be able to follow me in looking beyond the immediate to consider where the logic of the analysis will take us: the ultimate endgame. Hence the pretentious Latin title.

Respice finem – Consider the end.

I’m a slow learner. It’s only really with the benefit of hindsight that I have anything to say. I didn’t work anything out early enough to hit the ball out of the park, and even when I did have good ideas which turned out to be correct, I usually bet too small to make a big difference: a life of singles.

But eventually, even slow learners can offer insights into a game they studied. In my case, (to paraphrase Churchill) after I have exhausted every other possibility. The first example that comes to mind is from college. Back in the 90s, Trinity's male/female ratio was something like 2:1. Worse, Trinity was positively “blessed” with good-looking Etonians, who possessed shiny sports cars, enormous self-confidence and prose that positively dripped with disdain. I did “date” at college, but, unsurprisingly, not as much as I might have liked: par for my peer group. But like any 20-something-year-old male, I would have loved to have had a fuller “social calendar”.

In my 3^rd year at college, a friend who is now a Greek Treasury official (a thankless job) and I decided to try our luck at a Homerton college disco. Homerton was the teacher training college at Cambridge, and we had just finished our finals and had nothing better to do (well, we could have gone for another kebab and beers). So off we went to Homerton. Lo and behold, it was as if we had discovered a cheat code on a video game! For one night, we were attractive, charming and almost irresistible to the opposite sex (emphasis on the "almost"). It was a miracle, but sadly, like so many other important discoveries, I understood it too late to take advantage.

And that's the point. Sometimes, you only figure out A “cheat code” quite late in the game.

The motto of Homerton College is Respice Finem. It means “look to the end”, and is generally considered a “memento mori". It also pops up in a Tolstoy short story called "The Death of Ivan Ilyich" (perfect for the pretentious teenage goth in your life). But in this case, I use it to mean focusing on endgames: where a macro or geopolitical analysis is leading and the long-term implications of that particular analysis. And if it helps the reader with the opposite sex (it won't), then even better.

So, the lame title is cos I hope readers will

• Focus on the long-term and consider long-term risk and reward.

• Think deeply about what they know and why they know it. I am pretty sure I am gonna die, but I am just as sure that the real value of fiat money falls over time. Both are valuable insights.

• Cultivate self-discipline: know what you know and don’t know and ACT on that knowledge.

• Promote Reflection

Roadmaps?

This piece was meant to explain the rationale for the writing and lay out a rough direction of what I will write about and where the analysis is going. So here it is.

Globalisation is reversing, and with it, the free movement of capital

Global capital is flowing into US markets, a situation far from ideal for the places that are bleeding that capital. This dynamic explains much of what we are seeing in markets now. Expect efforts to slow or even reverse that flow, which will have profound implications for global risk premia.

An Age of Chaos

I’m sorry to be the one to tell you, but we live in “interesting times”. For many people, the coming decade will be disastrous for their families, friends and standard of living. If you are blessed enough to live in a quiet, prosperous part of the world, then lucky you. But we should acknowledge that we (collectively) are facing a “bump in the road” in the trend towards global progress.

The chaos which is already engulfing us is going to create new risks and new opportunities. Like all of us, I want to navigate those as well as possible.

Defence spending is going much, much higher, as are the costs associated with climate change.

With all that means for fiscal sustainability.

Governments face enormous fiscal sustainability challenges, which imply enormous burden-sharing challenges. Monetary policy cannot be independent of the environment.

This roadmap is not meant to be exhaustive. Still, it will give you an idea of where my arguments are heading: steeper curves, wider risk premia, higher real yields, and widespread and significant value destruction. Remember, “creative destruction” creates both winners AND losers and it never pays to be a loser.

I'm excited to begin a dialogue with you. Let’s keep it insightful and fun—at least as much as possible.

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