← Superinvestors and the Art of Worldly Wisdom
Superinvestors and the Art of Worldly Wisdom
#59: Vincent Deluard On The Paradigm Shift In Markets
01:08:17
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- [00:00]
A
This is super investors in the art of worldly wisdom. I'm Jesse Felder.
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B
I'm back to the text.
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A
This episode is brought to you by the Felder Report. For every podcast episode I record, I put up a post@thefelderreport.com podcast that features links, charts, and even full research reports discussed during the interview. So if you're not already familiar with the site, you're missing out. Go to thefelderreport.com podcast to get the full story. My guest for this episode is Vincent delaward. More than anyone else I've read, Vincent has accurately and consistently described in real time the paradigm shift that has taken place in markets in recent years and how it affects the major asset classes that matter most to investors. His macro calls on things like the trends in inflation and the economy have not only been out of consensus, they've been unusually accurate. In this discussion, Vincent shares the fundamentals of his unique approach to macro analysis and how he's putting it to best use today to make sense of the rapidly changing economic environment. So I really hope you enjoy my conversation with Vincent Delaward. Vincent, welcome to the show.
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B
Pleasure to be here.
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A
You know, it's been a long time coming. We've been talking about doing this for a few years now, and I'm really excited to finally have you on the show to do this. You know, more than anyone else that I've followed, you've done a terrific job describing the paradigm shift that's occurred in the markets over the past few years. Before we get to that, though, I've been really curious to know more about your background and how you came to this point in your career. What your what. What really got you interested in markets in the first place? And how did you decide to, I guess, study markets as a career?
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B
Well, thanks. And I've also been looking forward to this interview. I've followed your work for even longer than you have followed mine. And I. I've listened to this since the start of this part. So I'm very, very happy to be in great company on this podcast and I'm glad that you are resuming the episodes. As far as I guess everybody says I was not supposed to do this, it's kind of commonplace. But in my case, I really was not supposed to do this. I grew up in a small town in Burgundy in France, in a very middle class, teachers, family. I mean, I couldn't think of anything further away from capital markets. And yeah, life. Life has taken a strange path. I mean, I did the thing that you do In France, when you have good grades is you. You get ready to. To work for the government and generally like that. But I always had this somewhat uncommon interest for currencies. I remember as a kid I collected coins, for example. And that's one reason I hate the Euro is because I loved traveling across Europe and getting all the shillers and the liras and the drachmas and the pesetas and updating the little. In the same way American kids collect baseball cards. And I was fortunate to have parents who travel a lot. And it really got me curious about, you know, why certain things cheaper, why different countries work in a different way. And then when it came to studying, I was on. On this path towards becoming a civil servant, maybe a diplomat or something like that. And then I realized this was really not my calling. I don't know if you've ever traveled to Vienna, but if you go to Vienna, you see this beautiful city and you feel it's meant to be the capital of an empire that stretches continents, and instead it's a provincial town in a country the size of New Jersey. And I felt the same way about the French administration in the early 2000s when I. You had the infrastructure of running an empire, which we did for a long time. But. But at the end of the day, the road that I was taking was taking me to basically copy EU law into French law. And I could see the people around me were very depressed, and I thought, okay, I need to find a way out of it. Initially, I thought it was going to be diplomacy, but I got very lucky to get a scholarship to study in the US And I studied. How do people say it on the Upper west side? And I had some fantastic econ profices that really, oh, this is what I want to do. I love markets, and it didn't come out of a love for money, because this is something that's very, very far from how I grew up. But I just find markets fascinating. And I fell into it. I started reading a lot of economic history. Really, that was always my, my, my, my happy place. And I thought I wanted to do equity research. And when I graduated, a small firm based out of Sausalito, I didn't know anything about them, but they did equity research. They had macro hedge funds as client. And I thought, okay, this is what I want to do. I. I want to learn more. And this sounds like a great place. So I started this small shop. Then I went to Ned Davis Research out in Florida. Ned Davis is probably one of the most respected technical analysts now he retired obviously and he didn't have a Europe product. So he asked me to create that Europe product. I covered Europe for 10 years, which I love, but at the same time there's only so many years you can be the best analyst and return -10%. I especially because I was focused on financials, basically doing European financials between 2010, 2017 was a world of pain, but it was still very fun. Met some great people there. A lot of the best analysts from the Davies have now left and then started their own shop. For me I was recruited by Stonex, which now has become a rather large broker dealer, Fortune 100 company. At the time it was much smaller. They wanted to start global. Macro gave me carte blanche, say hey, let's see what you can do. And that allowed me to move away from Europe and talking about which bank would underperform the market the least to topics that I actually cared about. Rates, currencies, inflation and fiscal policy.
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A
Yeah, yeah. I mean, I think we've all been through those times in our career. I was a head trader and co portfolio manager of a hedge fund in the late 90s. One of the funds we ran was a short only fund through the late 90s. And it was, you know, you have an experience like that and you say okay, this is not fun and I need to figure out a different way to do this. But yeah, so you have. And Stonex is really kind of where I started reading your stuff. It seems like it's been at least five, six years now that you've been been writing and honing that you worked for a variety of different firms from, you know, individual equity research in different capacities. What is it about macro as a discipline that appeal to you?
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B
I love that it's at the intersection of everything. I think if you have a curious mind and you want to understand how the world works, you naturally gravitate towards macro. And this is not to belittle people who do traditional securities analysis. I mean I did the cfa, I teach it for a class. But I realized this is not. There's a certain type of people who are really into the accounting, the forensic, the analysis of the business. And this is a wonderful skill set to have. I just realized for me, I'm more drawn towards macro because if you want to do macro well, you have to be curious about energy policy, geopolitics, fiscal policy, even social changes.
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A
Why?
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B
I'm sure we'll talk about it. But why the 2000 and twenties different from the 2000s? What's different about this generation from the generation prior. So to meet all intersects in this world of global macro. And there's never a dull day.
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A
Absolutely. And one of the reasons I was really eager to talk to you is because the macro calls that you've made over the past few years have been uncanny. You nailed the more than transitory inflation call in 2021, no recession call in 2022, and you've been both contrarian and right in those calls, which is a lot of times a rare combination. Right. It's easy to be contrarian. It's not necessarily easy to be contrarian and Right. So I'm really curious to know more about your unique process, how it brought you to these conclusions, really, what forms the foundation of your approach to macro?
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B
Oh, thanks a lot. I've had a good share of roll calls as well, but I appreciate that you highlight the good ones on the inflation call and the no recession call. It was really, I think, my focus on fiscal policy and then part of, I think my personal experience of being a millennial in the US in the early 2010s. But let me start with the fiscal policy side. And again, that's where the economic history background really matters. I think in the past 20 to 30 years, people became overly obsessed on monetary policy. And same. There is an art to it. I'm very fortunate to work with colleague John Hills on rath at Stonex, who's probably the smartest guy you'll ever meet on, on the Fed and monetary policy. But so there's, there's a quality with. But my impression is that all this drama about the meeting, the notes, the, the dot plot is fairly new. For the longest time, monetary policy was not separate from fiscal policy. I mean, the central bankers paid the government's bill. I mean, in France it worked that way until 1974, it was just considered the same thing. And it would have been obvious to anyone before really the early 80s, that what drives money creation, aggregate demand and the economic cycle at large is the government and within the government, fiscal policy, and that monetary policy is just subservient to it. And of course, at the great inflation of the 70s, we developed, I would argue, almost a fictional world in which the two are separate and functionally they cannot be separate. I mean, that's one of the main insight of mmt, is that you cannot separate monetary from fiscal, but in practice they are. And then we almost have this ritual. Like whenever I look at a press conference, it's. It seems almost like a religious ceremony. Right. You have the grand priest that comes and the Romans, they used to open up the chicken and to read the oracle. And then you have the initiated, right? I mean to get into that room like you need to have proper credential and ask certain questions in a certain way. And it's very carefully choreographed dance. And then you have the people who oh, he changed the world. Mildly accommodative to somewhat accommodative. And that governor moved that.it really reminds me of a religious ceremony that doesn't seem to have that much bearing on reality. So instead I started focusing on a document called the Daily Treasury Statement, which is somewhat archaic document that you can find a 1995 looking web page which reports the movements of cash in and out of the treasury general account on a daily basis. So you see how much the Department of Defense paid contractors, you see how much money teachers got. And more crucially, you see how much taxes are being collected every day. And I kept thinking about why do we have all these economies, all these PAGs working on these fancy models with seasonal adjustment to model consumption, to model investment, model inventory, to model the birth death cycle for new companies. When we see in real time how much taxes are flowing in. I mean if you know taxes, you know, I mean taxes are a percent of income, you know income. If you know income, you know gdp. Now of course there's a lot more quirks to it. You know, people get paid at different days of the month, they are changing tax rates, they are sometimes some states will have a flooding and taxes won't come in time. So you do have to spend a lot of time to properly analyze this data set. But to me it's the most dense and the richest source of real data, not surveys. One thing I try to stay clear of is surveys, especially now this extremely polarized world where your opinion the economy basically is a function of the party you voted for. While with the tax collection, it's hard cash moves every day and it covers everybody. You don't need to make assumption about new companies or old companies being dead. And what I could see of course during COVID is this explosion on both sides of both the deposits and the whip role of the treasury general account. I mean I think people did not realize how much stimulus was, was flooding the system. That was huge. But then they kind of understood that fairly quickly. The the part that they did not realize is how much money was coming in. Tax collections were just on fire. And again, this is the magic of kind of inflationary growth, right? You spend money fiscal multiplier. I have money. So I spend. You have money, so you spend, you pay someone else and he spends. And we got this kind of inflation re boom coming out of COVID which to me was so obvious. And then remember at the beginning of COVID a lot of people thought this was going to be deflationary, right? We had negative oil prices, 10 year yield fell to 30 basement. Like this is insane. Like we have. We are constraining demand, controlling supply. We're breaking down supply chain, we're keeping people at home, we're paying them to stay at home. And people think this is deflationary. I mean what is wrong?
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A
Yeah, well, I appreciate that you mentioned right off the top there that it was really kind of a foundation in the historical study of economies and that kind of gave you that perspective to say hey wait, something radically changed. Something is radically changing here and people are missing the forest for the trees. You know that one thing that I theme that I've been really focused on the past few years and I know Howard Marks and a number of people have been talking about it, but it seems like many investors still don't appreciate is this idea of a sea change. You wrote recently that investors still act as if the new normal of the deflationary 2010s is right around the corner. Why do you believe that's misguided?
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B
That's a, a long answer here. Part of it is, you know, is the these cycles, right? Especially this very long cycle. I mean you have the, the stock market cycle that are you know, somewhere around 10 years and then you have the bond market cycles which at the end probably track inflation cycle and they last for very almost to the dot, 40 years. And one person I'm sure we both like is Gene Grant and he loves to observe this extraordinary cycle in yields. I'm sure you and I would agree that the low on yield was when we hit 0.3% in 2021, where probably we had about 20 trillion in in negative yielding debt at that time. So I don't think we're going to revisit that. Let's call that. So if we take that day and we go back 40 years before you'll hit exactly the Volcker peak in rates 1981, 10 year at 16 17%. So that's one mega cycle. And then you go back another 40 years and you will hit the other cycle. You would hit basically the battle of, well, Stalingrad for Europeans and then Perla Bore for the Americans, which close a four year cycle of rising yields from the low during the war and then before that you can keep going all the way. So you have these amazing recurrences in history. And I believe that the 2020, 2021 insanity was one of these turning points. Now what drives it? It's a mix, I think, between demography and then policy decisions on the demographic side. What really fed this great disinflationary cycle was the fact that we had a fantastic demographic dividend all across the West. And that demographic dividend really peaked in the 2010 when the boomers were still working and the millennials, which are kind of an echo boomer generation, if you will. The two bulges in the pyramid, millions a bit smaller, but still pretty big. So we had the two larger generation in history across all of the Western world working at the same time. And of course that is very disinflationary, right? You have a lot of people producing, people consuming. On top of that, you add all the big changes of the 90s, which were the opening up of China with a very undervalued exchange rate. 1994, the Chinese RMB is devalued a bunch of time by 80%. That brings down all emerging market currencies. Starting the peso with the Tequila crisis, then the East Asian crisis, they all fall. So Suddenly you have 1.4 billion Chinese people that were out of the global economy that are now producing at a cheap exchange rate. And then you have another 2 billion people in the emerging world that are now constrained with extremely undervalued exchange rate. And you also open up the former Soviet Union and you get access to their commodities for very cheap. So huge disinflationary shock. At the same time as we had the demographic dividend in the west, this was the driver. And that really reaches a crescendo until this era of absurdity of the late 2000 and tens when we have all these negative yielding debt. And on top of that also the policy from the 80s and 90s, and remember, policy reacts with a lag. So in the 80s 90s, we were still scarred from the great inflation of the 70s. So this is when we put in place all the decorum I talked about about the independent monetary central bank, the inflation target. There was no inflation target until the early 2000, 2000, it was just like, yeah, we're going to try to keep things stable. So we have basically a very disinflationary policy where the policymakers are fighting the previous war. When we have a big shock to demand, which is what we are in 2008, what's the reaction, especially in Europe, is To get demand further, we have austerity, a decade of austerity. So policymaking is still fighting the last war. We have all these secular changes that are feeding disinflation. And then everything switches over in the2020s. One is demography. So the boomers are retiring. That's a massive shock to Social Security and government spending. That means that we will be structurally in an era of much higher deficit. And we are seeing today that it's impossible to get the deficit. I mean, Doge lasted for like a month, right? So we have the demographic switch turned. The disinflationary tailwind of China has been so good that we can't take it anymore. That's how I understand Trump. It's like, well, we have too much cheap stuff. We need to pay more. Like the, the prices at Walmart is too low. And on some level, I am, I agree with that. You know, it's, it's. Yeah, we, you know, in Europe, we take more of an ecological take on it. Oh, like we think it's, it pollutes too much. All these cheap fashion, cheap goods, whatever. But it's the same idea. It's like there is too much of it. It's destroying societies, it's destroying our middle class. All we get at the end of the day is a bunch of cheap stuff that ends up in our garbage bin. And we need to somehow put some sand in the economic machine, because the economic machine is almost too efficient. And even in China, the Chinese population started shrinking in 2015. So China's ability to keep producing for cheaper and cheaper may be over. So these secular changes are happening at the same time as demographic changes are happening. And then on the policy, we have the exact opposite picture from the 80s and 90s, where the 80s and 90s were so obsessed with the scars of the great inflation. We had the bond market vigilantes. Remember when Clinton was elected in 1993 and people freaked out about the bond market, the deficit, what was the Clinton deficit?
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A
What a joke.
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B
The deficit was about to be a surplus. By the end of the Clinton's second term, we had a surplus. We thought we would no LONGER have even U.S. treasury debt. And people started freaking out. It's like, oh, the government is going to buy back all the debt. And then now is the exact opposite. Right. We always freak out about the risk to growth. The moment we see the slightest weakening in growth, you have a massive policy reaction. After Covid, obviously, was the most insane example. But even after, I think everybody, even Jay Power, would acknowledge that you know, they went overboard with COVID Right. It was a pandemic. It was not just Covid. We went overboard after the Russian invasion. Oh, the shock to comedy prices. We got to make sure, you know, we don't. We went overboard after the regional banking crisis. We went overboard after the SAM rule. Do you even remember the SAM recession? Right? I mean for, for like a month, some made up indicator moved above made up, moving average and then we, within a month, 50 basis point emergency rate cut. When nominal GDP was expanding at 7%, the stock market was an all time high. So we have this hypersensitivity to anything that may lower growth and conversely, I mean, we don't admit it publicly, but a disregard for inflation at the end of the day on both parties. I think for the Democrats, if you really think that Donald Trump is a threat to democracy and climate change is an apocalyptic event that will end our life as we know it in 10 years, you don't really care about the 2% target. I mean, you want to get your Green New Deal, you want to get your investment, you want to save the world. And the same is true on the Republican side. Yes, we still have the legacy decorum from the prior year, the 2% target. But at the end of the day, you see, yeah, if the Fed doesn't do what Donald Trump wants the Fed to do, he'll come out and say, I want to fire you. This tells me that we are in a new era. And in this era, growth is higher, inflation is higher, rates are higher.
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A
Yeah, it's a completely new normal from what people came to expect during the 2010s. One of the most interesting points about your inflation call, reading back through your pieces over the last couple of days. I think it was my interviewing Peter Atwater recently that kind of helped put me in the right frame of mind to kind of notice this or appreciate it, is that you point out inflation has a direct correlation to social trust and the faith people have in institutions. Right. If you look back at, you know, the early 80s, right. And Paul Volcker, he had the challenge of restoring faith in the institution. And that was when faith was at its probably lowest point. Point was it the late 70s and then the early 2000s, you have the total deification of Alan Greenspan, right on the Time magazine, you know, man of the Year, you know, given a, you know, a knighthood and, you know, whatnot. One of the drivers, I think you would suggest of inflation is this lack of social trust and falling, I guess, respect of the institutions themselves, both fiscal and, and Monetary, Yeah.
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B
And I'll give you two other anecdotes on this one. One is a, an economic study which I love. Funny experiment that they did where economists went to almost 200 countries and stayed at a public place and then and left a wallet with some money on a table. And then in the wallet there is contact information. And then they measured the likelihood of getting the wallet back and getting the wallet back with the money. And as you would expect, the Swiss are the best. I'm very pro Switzerland. I grew up next to Swiss border. But basically, if you look at the result of that study, it perfectly matches with the long term average inflation rate between these countries. The more you are able to trust a stranger to return your wallet, the less inflation you have. Which really nails down this idea that inflation is ultimately a question of trust. And the other anecdote is I travel a lot to Latin America. Sonex has a lot of business in Brazil, Mexico. And there is this almost unexplained inflation in Brazil called Cousto. Brazil you will have governments that will do everything right or at least try to do everything right. I mean, Brazil has like 14% overnight rate. They still have 7% inflation. Or the minute you see fiscal spend go a little out, well, everything sells off. And it's so much harder for policymakers there. And it's almost like there is this ghost in the wire, like this residual inflation, that policy. And I think that residual inflation at the end of the day is this lack of trust. The fact that I don't trust that the person I'm contracting with will deliver on time. I don't trust that my imports will come. I don't trust that my tax bill will be what I expect. And going back to this idea of clogs in the system of adding sand in the economic machine, that's inflationary sand. That means that you have these kind of residual structurally high inflation. And to come back to your point about the US it seems to me that this change in terms of trust, you see that Also in the US the 50s, for example, had very low inflation in the 50s because we have this very high trust. Society just won the war, people respecting big scientists. You know, everybody lived in nice little suburbs and marriage rates were high. I mean, it's kind of the cliche of the Americas of the 50s. Scientists were always right. People respected the army, the government and so forth. And then you see that trust kind of erode in the 70s, right? We have, oh, these doubts. Vietnam War. Are we the good guy? Are we the bad guys? We start to see, you know, desegregation. Of course, the desegregation itself was a great thing. But it also means that the old order starts to break down questions about our values and that leads in a way to that burst of inflation in the 70s. I think we reached some sort of a new consensus in the 80s with Reagan, with Friedman, with Thatcher, okay, we're going to do things a bit differently. We're not going back to the 80s. And then this new consensus that emerged in the 80s is probably called neoliberalism is the one that's eroding right now, that's being under attack with the rise of populism across the west and general kind of. You see the level of trust for example in Congress is extremely low in journalists, externally low, scientists even. Yeah, even science now is being questioned. So that's another manifestation of this move to an inflationary moving from a high trust society to a low trust society. Yeah.
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A
And to bring it back to the Fed in terms of confidence in our institutions. I just have to point out they've missed the inflation target now for four years and they're telling us they're not going to. They don't anticipate meeting it at any time soon. I think you would probably suggest that that's no coincidence. Right. I think you wrote Powell's true mandate is to ensure that inflation stays high enough to accommodate the treasury spend and deleverage the economy, but not so high as to start an inflationary spiral. They're trying to walk a fine line there, but it's hard to have confidence in an institution that is failing at its mandate year after year.
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B
Yeah, I think the last sub 2% inflation print was what, February of 2021. So you are too generous when, I mean it's almost five years at this point.
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A
Right, right.
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B
But yeah, listen, I mean again, this is Emerging Market Finance 101. If you're going to run a deficit of 7% of GDP, which is what the, the Big Beautiful bill has confirmed, what the CBOE every study tells you, it's, you know, 2 trillion is kind of your base case. Right. With 30 trillion economies, so that's 7% of GDP. Your population growth now in the US is close to zero, especially now that we have the border closed. So you're not getting anything there. We used to get 1 or 2% just from population growth, but that's gone. Trend growth is what economics refers to as productivity and that's been very stable in the US around 2%. So yeah, best case scenario, you're talking about real growth of 2, 3%. You run a deficit of 7. If we want to prevent the debt to GDP ratio from going parabolic, there needs to be a plug and that plug is the inflation rate. Now we're not talking about Venezuelan style inflation rate. I think from my perspective the Fed has succeeded. We've had at, I mean if you look at the past five years, the five year average inflation rate is 4%. Fantastic 4%. We grew more at 3% real over the past since COVID So 3% real plus 4% inflation gets you 7%. You can live in a 7% deficit to GDP ratio. World and many emerging markets live like that. I mean Chile has a 3% target. I mean Chile has been one of the great economic miracles. The only economic miracle in Latam, India had had a higher inflation target. There's no, I mean at the end of the day where we put the. I mean there's distributional effect. You can, some people have different preferences, but it's a political choice. It's like, okay, are we going to have more inflation or, or more inflation, more deficit or less? There's no right or wrong answer. All I'm saying is that we're moving from one to the other and unless we fix the deficit, which we won't, we will have to rely on, on inflation to plug the gap.
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A
Yeah, I'm glad you came back to the deficit. You kind of suggested that you would do that in the beginning. That fiscal is really kind of the foundational of what you look at and you've written too that most people believe the Friedman quote, inflation is a monetary phenomenon. You've suggested that really it's a fiscal phenomenon and monetary just is forced to accommodate the needs of the fiscal. So yeah, I think with where the deficit is, it's difficult to say that we've had a, you know, a 7% deficit during a time when unemployment is so low and the economy is growing is, you know, we've rarely had a weaker fiscal institution than we've had today.
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B
Yeah. And we just ran this experiment in real time and then see how the market reacted by the way. And that's the part that maybe sets me a bit apart from. I mean a lot of people have similar views on secular inflation as I do, but they tend to be quite bearish. Stocks kind of like buy gold and I mean I love gold and I'm actually quite bearish stocks right now. But put that aside for now. My view is actually this environment is actually not that bad for stocks, but it's really bad if we try to get out of it. Which is why for a brief moment we thought Trump was trying to do that. Oh my God, he's going to try to raise a trillion dollar in tariff, cut a trillion dollar with Doge. And I mean, we saw the market take a huge, huge dump the moment that happened because all that spending, of course supports the economy and supports the stock market. And we see that we are not capable of taking the pain after just how long did it last? I mean, basically the setup started in mid March. By April 15, we had to do a complete backtrack, cut the tariff, which was Trump's response to boost fiscal revenue, cut Doge, which was the attempt to cut the spending and just basically go back to the old world and announce the big beautiful bill, which is all the fiscal bells and whistles. Even more than, I mean, the amazing thing, if you follow the genealogy of that deal, he keeps betting better every time the sausage. Everybody adds a little things like oh well, what about the sold thing? Oh yeah, let's set that up. What about no tax on tips? Yes. No tax on overtime. Yes. No tax on Social Security. Why don't we add a thousand dollar checking account for every American that's born and then you end up with a bill that was supposed to reduce the deficit that actually ends up added 5.3 trillion to deficit over a decade. And that's still assuming that the tax cuts will, will expire, which of course they won't. So yeah, welcome to the fiscal age.
- [37:18]
A
Right. And so it's still kind of trending in that direction. You point out that inflation typically occurs in waves. And so it's funny to me to hear people talk about potentially another transitory wave of inflation from the tariffs, when how many transitory waves does it take to create a secular trend in inflation?
- [37:42]
B
Yeah, I get this very smart friends who are the deflationary camp and they take down the CPI and it's like, oh, Vincent, you don't understand. Okay, this is about the used car and take out the used car and the air travel and replace the shelter with the Zillow, observe rent and take the three month annualize of that and we already below 2%. I'm like, okay, first of all, I have a lot of issues with the CPR, how it's constructed, but if you have to do 10 adjustments and yeah, you can point that everything. I mean a forest is nothing but a collection of tree, a symphony is nothing but a sequence of musical notes. So I feel like a lot of these inflationists are telling me, oh, this is not music, this is just one note and then another note and then another note. Well, if you do that, that you have music. So if you have a sequence of one time adjustment in the price level, repeating very close succession, pretty much looks like secular inflation to me.
- [38:45]
A
Right. And I think one of the insightful things you've said time and time again, inflation's not going back below 2%. And I think one of the key points that you've made is inflation doesn't just go back on its own until you see real reform to restore trust in the institutions. Right. You really would need a fiscal reform, you'd need a monetary reform. You know, sort of like we saw with Volcker saying, I'm going to do whatever it takes to restore faith in this institution and in the stability of the dollar and its purchasing power. We're nowhere near any, anything like that right now, are we?
- [39:24]
B
No. And this process, it takes a lot of attempts to get it right. I mean, again, going back to Latam, I mean, look at the history of Brazil in the 80s and the 90s and the number of. So the inflation starts to heat up in Brazil in the 80s. And I mean you have very smart Brazilian economists who were there and they had the IMF backing and it took them 15 plans to get to something that barely even worked, like the Plano Royale. I mean, it kind of worked, but there's still some residual inflation in the system. You have more extreme example. I mean, what I love is from Peru where after running a hyperinflation, finally the guy just gives up and then he announces, okay, I'm going to float the currency, I'm going to kind of a mile like moment. And then he ends his speech and may God help us, you need to have a and may God help us moment. And that's what basically Trump could have done. He could have just kept doubling down and say, and may God help us. Yep, I know I'm throwing the economy into recession. And you know what, I don't care because this needs to change and we are not there. And even in terms of the personnel, the current person in charge of fighting inflation, who now sounds hawkish, is the same guy who was buying what, 50 billion of mortgage backed securities in 2021 when we had 9% inflation and home prices were up by 25%. I mean, how can you seriously say that you are committed to fighting inflation when you let that happen? Donald Trump obviously was the president in 2016. So you need kind of this renewal which we saw to some extent in the 80s you had a new kind of intellectual framework from the neo Keynesians that were dominating the 70s to the Friedman monetarist type. You had new generation of politicians with Thatcher, with Reagan. This is how you solve these issues. It may happen, but it's clearly not there yet.
- [41:33]
A
Right. And so where we stand right now, we have tariffs, highest tariffs in generations, potential for new tax cuts, and the combined effect of those is potentially another wave of inflation. You have to be living under a rock to not notice the rally in the gold price. Over the past two years we've had a negative GDP print and a falling dollar. Is this the markets screaming stagflation to us right now?
- [42:06]
B
Yeah. Or almost balance off payment crisis. I go back to if this were a large country in Latin America, we'd recognize all the signs. Oh, okay. The. So this country has run a lot of deficits and as a result it's grown faster than its neighbors. And during this growth boom it attracted a lot of money, feeding in some ways a bubble in the US was mostly in the stock market, but it spread across in other assets and foreigners are starting to question whether they want to keep funding this experiment. And now we have the government made an attempt at trying to fix the problem and, and at the first sign of difficulty it backed down and now it's doubling down. Now we see the 30 year rate is at 5% which is probably the highest since the early 2000 would be my guess. The currency is losing value, not just. Again, you mentioned gold and Bitcoin, of course. So these would be the hard assets. If you wear like a Brazil, that would be your dollar and euro. Right, the hard currencies. But we've been falling against other fiat currencies which are not much prettier. Right. We lost 10% against the euro, a bit more against the yen. The Asian currencies seem to be having almost a reverse currency crisis in Asia. Back in the late 90s all the Asian currencies were falling together. I think we've seen the exact opposite. The Taiwanese dollar is the canner in the coal mine. They're just going to lift all these Asian currencies, which really just reflects the fact that money is moving from the US back to where it came from, which is the surplus countries of Asia. So yeah, it's a typical balance of payment cr. And yeah, they can last for a while. And the way to end them is I think we still have some cards up our sleeves. I'm not saying this, you know, I'm not saying oh, the dollar is going to go down and that's real reserve currency. And tenure is going to go to 20% overnight. And no, we have plenty of things we can do. We can sell more debt to our banks, for example. Maybe we can, we are very powerful country. We have allies, we can squeeze. We, we can probably force the Germans, the Japanese, the Koreans to buy a bond. So my impression is, because it's almost like an EM crisis that's happening to the world hegemon. So in typical em, it's constrained because they're not serious people. At the end of the day, if Colombia does something stupid, the peso will fall to zero, investors will leave and they'll be bled on the street because the US is the world government. We can draw this out for so much longer than people think. And I still think throwing it out face.
- [44:53]
A
Yeah, you've, I'm glad you kind of framed it in that, in that respect, because it does. There, there have been a lot of people talking about potential for a debt crisis and worried about the treasury market and these types of things. Paul Tudor Jones, Stan Druckenmiller, Ray Dalio. I mean everybody's, everybody's out there publicly talking about it. You, you have made a very interesting parallel to, you know, in terms of taking a historical perspective. There are a lot of parallels to the early 1970s. I think one in particular that is interesting to me is the Nixon shock. 1971, we had a run on gold by foreign central banks and the way that Volcker and Nixon decided to deal with it was 10% across the board tariffs, followed by negotiations to devalue the dollar versus major trading partners. To me it just sounds like, is this 1971 all over again again?
- [45:54]
B
There's definitely some echoes there when people talk about the, the Margo Accord or that, you know, Steven Miron paper, A Guide to Restructuring the Global Training System, which is amazing. Everybody should reread that, that paper because it's, it's very smart, it's very, very convincing. My, my, my concern with that, that, that, that, that parallel is, I, I, I'm not sure that we can pull that off. I think that we destroy a lot of goodwill. I mean, if the plan of the administration was to do the Stephen Mirren playbook, we should, maybe it was not such a good idea to piss off everybody that then would need to get around the table. And we're kind of the bearer of bad news in the same way. In 1971 we told him, sorry, the goal that you thought you could redeem a $35 an ounce, right? Yeah, it's probably gonna be, you know, 600. I'm sorry, guys. You know, that's a. You know, when you have to tell people that, at least you, you should probably start by apologizing instead of insulting them. Yeah, so that's, that's one of my concern. But yeah, it's very similar. And it, again, it happens for the same reason. I mean, if you go back to, again, economic history, all these debates about all that comes from using a national currency as a world reserve currency, and you could see at the Bretton news conference, Keynes, who had seen the experience of England, who basically had gone bankrupt by being the world reserve currency in the 20s and the 30s and destroyed its economy, is warning the Americans, guys, don't do that. It's not going to work out. We need to have some sort of a neutral asset to settle global trading balances and a process, process that we correct these imbalances. Otherwise it'll just grow over time and they'll never correct. That's Trifan's dilemma. The issue of the world reserve currency has to constantly run deficits so that the other countries can trade within each other. So 71, same problem. Right. The US has moved from surplus to deficit. European Japanese are loaded with dollar reserves and they start wanting to redeem at the promised exchange rate. I mean, the French even said. Sent a French navy military boat in New York to ask for their gold.
- [48:12]
A
Right.
- [48:13]
B
Now, at the time, the goal. The goal had, you know, that, that was when France was a real country and of course the German wanted to imitate us. And that's when the Americans. That's too much. And then we had. I think it's a. It's called a weekend Three days in Bretton Woods. I don't know if you read it. It's. It's a great book about basically that, that moment when Nix Volker was in there.
- [48:39]
A
Three days at Camp David, right? Yeah, Terrific book. I just read it.
- [48:44]
B
Exactly. So. And you can see how decision making. And then boom, we changed the system overnight. I'm a little skeptical that we have the same level of talent. And it was brutal. And it was very brutal for the world, especially for the US but it was still well executed. I'm worried that we don't quite have the same level of talent. And also just at the time, the US was still about 50% of world GDP. It was like, it's going to be so much harder to pull this out now because we're weaker. And also we pissed off Everybody, right.
- [49:26]
A
So you know, we face this, you know, challenging environment where you know, the, you know, and I guess the parallel, parallel there would be, you know, obviously central banks aren't redeeming dollars for gold. But you know, China's essentially been doing that and saying we want to own less Treasuries and more gold. You know, we're unlikely to go back to the deflationary 2010s. Just too much has changed I guess. Let's kind of pivot the discussion then to what does this mean for investors? What is the risk of sticking to the old playbook that works worked during the disinflationary environment really from the early 80s until 2020. And what does the new playbook look like for investors?
- [50:13]
B
Well, I mean for the risk in some ways we can turn to 70s to see what happened.
- [50:18]
A
Right?
- [50:18]
B
I mean if you kept your intact portfolio from the late 60s which was a bunch of long term treasuries at, at 2.5% yield and then the max 7 of the time, which were.
- [50:35]
A
The.
- [50:35]
B
Nifty 50s at a PE of 50, by the end of the decade your Treasuries in real term had lost probably 50% of the value. The Nifty 50 were probably a little bit better because they paid a dividend. Maybe I'd have to check the real return of the S&P 500 for the 70s. It was probably not that negative, but that multiple went from 100 in some cases to probably 10 by the end of the decade. And throughout you had also something that you did not expect, which is both stocks and bonds selling at the same time. So the diversification benefit that you expected from having a balanced portfolio when non existent, you diversified your equity risk to more risk. Because the main risk in this inflationary era is know that at some point the central bank wakes up, the bond regionalities wake up, cost of capital goes up and stocks and bonds fall together. And I don't think we're there yet. I think it's quite far from that point. But that's the main risk and the main implication from this era really has to be with duration and bonds and really taking that down to almost zero.
- [51:51]
A
Well, you've said that. I think in a couple of your reports you've suggested your favorite inflation trade is long tips, short tlt. Maybe you could just explain, I mean obviously that's the opposite of what worked so great during that post GFC environment. Maybe you could just explain your thinking here. How does that trade work? Why is it a good trade for that type of inflationary environment.
- [52:17]
B
So what it does is effectively it's a breakeven trade that makes it available for retail investors. That it's a weird thing as far as I know. I don't think there's a break even ETF in the US which seems very odd because you have so many ETFs for so many stupid things. And I would think that a simple way for investors to invest to protect their portfolio against secular inflation is to do a break even trade. Now in a breakeven trade you buy a tip. A tip is a Treasury issued by the US Government whose coupon and principle reset set every quarter based on the level of inflation. So the more inflation you have, the more principal and coupon you're going to get. That's the long leg of the trade. And then on the short leg you sell a regular Treasuries with a fixed coupon. Now how do you make money with that trade? Well, right now there's some carry income, which is great because your tips with inflation adjustment pay you more than what you have to pay to short the treasury. So that that gives you a little bit of income, which is always a good thing. And then more importantly you make money if realized inflation, which is what's going to show up in the TIPS is higher than expected inflation, which is the inflation that's priced in at the time when you bought the treasury, the fixed leg. And if you did that since COVID it's gone up by, it looks like a bond. I don't know if you have a Bloomberg terminal, but Bloomberg has a 10 year break even index and it's, it's fantastic, it's boring. It goes up by 7% a year. It's negatively correlated to stocks, which is what you want. In an era where I think it's going to be so much harder to find diversification, it provides a little bit of income. So that to me is the anchor in the portfolio, the old anchor, the long term Treasuries has been unanchored, just swinging violently and maybe even may force the port to sink. So you need to find a new anchor. And that would be if I had a long term pension from like Portfol, I would have a big position in break even. You can add some gold, Bitcoin if that's your thing, to hedge against. What I think is a major risk, which is that eventually this right now moderate inflation era, we keep running the experiment and then things start to really go haywire.
- [54:41]
A
Yeah, I think that's one of the things that a lot of People miss right now is that they believe owning 100% financial assets, stocks and bonds, they're diversified and there's no allocation to any kind of real asset assets or anything like that. But turning to the equity market, energy, the energy sector is usually one of the best performing in a stagflationary environment. You recently wrote that the energy sector might be the only compelling opportunity in an otherwise overvalued market. What makes energy attractive to you right now?
- [55:16]
B
Because it's really the only sector that still prices a recession. And I remain of the view that part of that kind of new secular environment is an environment where we won't have recession. And we had so many recessions. I mean I think that thesis has been born. Remember when Bloomberg said there's 100% chance of recession in 2023 when it was sure that the Russia war. We call a recession a regional valley bank, the samru. Now we had the tariff recession. And I mean this is the. The sixth imaginary recession since the start of COVID And the equity market in general has been much better at the bond market at dismissing this crap. Like we've seen, you know, time and again the bond market. Oh, pricing like 10 cuts, long teams and then equities, they're fine, 24 times earnings. I'm cool. So you had the bond market that was pricing depression and you had the equity market that was pricing like a late 90s bullion. Yeah, more often than not the equity market was right. There was one exception within the equity market was energy and oil prices. Every time we had the ration fear, we saw oil prices collapse. When I think the 50s with the OPEC announcement and then the multiple energy sector stocks is horrible. I mean it's. This is like 7 times free cash flow on really high quality name, low leverage, low production cost. So within the equity space, this is the only asset that trades like. Trades like a recession is on the corner.
- [57:00]
A
And it's like a. I think the lowest share of the S and P the the sector right now that it's.
- [57:06]
B
Probably smaller than Nvidia. Right. I mean the entire probably is.
- [57:11]
A
Right.
- [57:11]
B
Maybe it got a little smaller in the March of 2020 when prices were negative. But it's.
- [57:16]
A
Yeah, there's also. There's also a macro thesis here too. I think you've suggested that, you know, deglobalization may paradoxically increase energy consumption. So you know, if we are going into a re. Industrialization, a reshoring of production and things and new fiscal impulse overseas, you know, to kind of make up for These, you know, the shocks to trade, you know, that be bullish for energy over the longer term.
- [57:44]
B
Yeah, absolutely. And that's part, part of it is sort of this growth story. I, I think Americans don't appreciate enough the, the significance of what's happening in Asia and Europe when it comes to investment and, and consumption in China. We don't really see it at this central level, I think because they keep their cards closed during negotiation. But at the, at the low anyway, a lot of the policy at local level level, China has no choice but to rebalance oil consumption. So that will mean people will take more trips, that will mean people will buy more vehicles. So I expect this oil consumption of the Asian region to be much higher also just because the currency is higher. That reverse currency crisis in Taiwan, in Japan, these are islands that import 100% of energy needs. Suddenly they're 15% richer. So we'll see I think a boost to global demand in Asia mostly from the consumer side. And then in Europe it's coming from, from the deficits. I mean biggest. When you talk about this change in era, Europe is always a little late on everything. And within Europe, Germany is always later, I mean usually starting. But Germany finally got rid of the whole like Merkel Schroeder mentality of you know, debt grace cutting the deficit. And, and, and the new Chancellor Merce just said I'm going to blow a trillion dollar. I'm going to build an army from scratch. Yeah, army, you know, building an army from scratch that consumes a lot of oil. So that's part of that. And then the last part you indicate is kind of funny experiment I made I chat GPT. I think I used a pear. Oh yeah, A pair. Like what consumes more oil? Getting a pear from Argentina or from Oregon. And I mean I'm in California, right. And these are two climates where you grow a lot of pairs and it takes, consumes more oil to send a pair from, from, from Portland, Oregon to San Francisco because you, you take the, the Highway 5, if you, you know what I'm talking about than it does to ship it from Argentina because yeah, fuel sea traffic is very efficient, right. You, you can put a lot of pairs you're floating so you don't, you don't need to spend a lot, expend a lot of energy to. We have this very efficient global supply chain. So as we bring back production we may have this paradoxical world where the energy needs of the world are actually higher in large part because yeah, the world economy is less efficient.
- [60:18]
A
Fascinating. This has been a fantastic discussion. It's everything that I've hoped it would be. Talking about this new environment. I have kind of one question for you. Left, that's kind of out of left field. Part of the podcast. The name of this podcast, the Art of Worldly Wisdom, comes from a Charlie Munger speech in which he preached the value of bringing a breadth of knowledge, more than a depth of the knowledge, to any given discipline. It's really a case for trying to be more of a Renaissance man than a specialist. Is there any hobby or sport or just an area of interest that you have that you believe has added to your ability as an analyst or your ability to kind of look through and find kind of insightful things in your research? Research.
- [61:06]
B
Yeah. I mean, it goes back to growing up in rural France in, In the, in the 80s and 90s and being a good student. And, you know, my parents wanted to get me in a good class, you know, public school, local. And so at the time you, you did Latin and that, that was the. France is very egalitarian country, so we cannot, you know, discriminate, but we have all these hidden. So, oh, that. This is Latin kids, you know, you know, they're going to be the kids like me who are, you know, get good grades and have glasses. And because of that, I, I ended up, you know, we would learn the grammar by, by translating, you know, Seneca, Epictetus, this a lot of the kind of Stoician philosopher. And at the time I was, I was bored to death and I, I was just, you know, trying to understand like, the, the grammar. But it was fantastic. I mean, it gave me an exposure. And then as I aged, you know, my, my 40s, going back to it, I was like, this is. There's so much wisdom and, and, and I think some of that translates into, into portfolio management. I think that the, the. The values of patients not being emotional, of analyzing. Analyzing thing rationally seeing the world for what it is or not, not getting swayed by the latest new fad. I think it really translates and it's also good on a. Almost like, yeah, soul, spiritual level, if you will, to, to meet the challenges in life. And I, I don't know, I see it on my kids. I, I don't know how to. I, My, my impression is that the US System does not, not give this exposure to philosophy, religion. And I, I'm thinking of various ways I can do it because I think it's really important as, as life becomes complicated. You really need that anchor.
- [63:10]
A
Yeah. Yeah. I actually went to a a prep school and in seventh and eighth grade we. We. Our foreign language was. Was Latin. And there are times when I'm playing Jeopardy or something and I go, oh, I know that, you know, it stuck with me. But recently I went back and. And read Mar Marelius's Meditations and it's just fantastic. I mean, is there something that a book or specific philosopher that you think would be, you know, is resonated with you?
- [63:39]
B
Well, I think for the. The easiest one to get into is a meditation about Marcus Rayus. When you mentioned. Because first is very short and second, what a figure. Right. I mean he. The guy is the emperor of Rome. He has to deal with. With the plague revolution and then he still takes the time and it's so perfectly distilled. You can just open every day read a page. So I think that's the easiest to get into it. The one I remember from my days was Seneca letters to Lucilius, which kind of an old man giving advice. I think Lucilius is one of his nephew who's the governor. And it brings some of that worldly wisdom. But they are definitely, you know, what a. You know, when people talk about the philosophic king, I mean this is Marcus Aurelius really is that figure. Like, what are the odds? The man at the head of the greatest construction in human history was also such a profoundly enlightened man in that he took the time to. I think at the time, no, they didn't have to do it in stone. Right. I guess they had people already. But you know that we got that, that message that you can actually talk.
- [64:57]
A
Right.
- [64:58]
B
Hear him, hear him speak and be quite intimate. Like he will describe what happens in his days. Oh, I don't want to get out of bed. It's so annoying. He reads as insane. Like it's insane that we can relate to someone who was the emperor of Rome 2,000 years ago.
- [65:13]
A
It's. Yeah. Truly timeless insights. Vincent, I know there are going to be a ton of people that are going to want to follow your work. I highly recommend it. How. How can people kind of, I guess stay up to date with. With what you're working on and your ideas?
- [65:28]
B
So the, the best thing of course is to be a client of Stonex and then we do have a lot of clients. Oddly enough, not everyone at so next follows my work. So if you trade with Sonex and we have big presence in commodities in future in options, just ask your sales rep. Hey, can I get Vincent's work? Not everybody gets it actually it's probably just a small percentage of our clients get it at this point. So that's the best way for people who do not trade with Stonex. We have a newsletter that I write every week, which is the one that you've been receiving, that can be purchased separately. It can certainly be trialed by everybody. If you go on the trail. Twitter, my, my handle is at Vincent. V I N C N T D E L U A R D I believe on my profile there's a pin tweet with a link where you can get the trial. And of course, you know, follow me on Twitter messages. I, before we started, I mentioned that you, you're the one who got me on the, on the drugs. I, I, I don't know how, but, you know, I followed a handful of people, including you, and then you retweeted something that I said, and then, oh, something happened. I got more followers. I got into it and I found that to be fantastic. Like, I've met so many brilliant people and not just like, investors or economists. Like, even, even, like just some, some teacher in Ohio will like. We'll have a fantastic conversation about the cti. I mean, it's really amazing. And it's, and it's free. So please use Twitter and then podcasts. I hope to keep doing these because I greatly enjoy them.
- [67:12]
A
Well, yeah, there are literally a handful of, you know, I could probably count them on three hands. You know, Twitter accounts that I follow religiously, and yours is one of them. So I recommend everybody check out Vincent there and if you can read his work on Stonex, it's fantastic. Vincent, this has been wonderful. I really appreciate your time. Thank you so much for doing in this.
- [67:33]
B
It was awesome. Thank you. No south da 142.
- [68:03]
A
Remember, for notes and links related to this episode, including Vincent's most recent research report, visit thefelderreport. Com podcast. Thanks for listening and I'll see you on the financial road less traveled.