INTERVIEW: Derivatives Expert Reveals Shocking Market Risks CNBC Ignores
Summary
TLDRThe video features a far-ranging discussion between George Gammon and Mike Green on various economic and market issues. Topics covered include the risks facing tech stocks like Nvidia, the impact of demographics and declining fertility rates, challenges in the commercial real estate market, the Italianization of America leading to less risk-taking, the role of passive investing in markets, inflationary and deflationary pressures in the economy, the direction of interest rates and Fed policy, and more. There is an engaging dialogue around existing market risks and potential future scenarios.
Takeaways
- 😲 Nvidia's extraordinary growth and profitability is facilitating a potential 'bubble up' effect on the stock market
- 😵💫 Higher interest rates are reinforcing inflation by increasing government fiscal deficits rather than facilitating productive investments
- 👀 The dynamic of passive investing and positive feedback loops can cause stock prices like Nvidia to become disconnected from fundamentals
- 🤔 The constraints around energy availability may eventually limit the growth potential of companies like Nvidia that rely heavily on computation
- 😯 Government and military entities appear to be stockpiling Nvidia GPUs due to scarcity concerns around future access
- 👷♂️ Productive fiscal investments that raise living standards seem preferable to deficit spending on consumption
- 😥 The current economic environment reflects a societal shift towards self-interest over mutual benefit
- ⚖️ Achieving the right balance between inflationary and deflationary pressures poses a major policy challenge
- 😎 The direction of interest rates over the next year will likely depend on the risk of an economic slowdown or crisis
- 📉 Many companies may struggle to service debt if rates rise too quickly before they have a chance to refinance
Q & A
What are some of the main risks Mike sees to the stock market right now?
-Mike sees risks around entering a recession, seeing unemployment rise, and retirement funds beginning to reverse. He also sees risks of money 'dripping out' of the market slowly like in a China-type situation, leading to a slow bleed.
How does passive investing amplify risks in the market?
-Passive investing amplifies risks because as money flows in, it buys more of the outperforming assets like Nvidia, creating positive feedback loops and causing prices to rise rapidly without traditional checks on valuation.
What happened in the early 2000s tech bubble that shows similarities to today?
-In the early 2000s bubble, valuation was thrown out and eyeballs/users were focused on over profits, similar to today's focus on technology and future growth projections over current fundamentals.
How could a drop in Nvidia GPU prices potentially be positive?
-If Nvidia prices dropped sharply like 90%, it could make powerful GPUs much more accessible and affordable, potentially enabling new use cases and innovations.
What role do demographics play in current housing market trends?
-Demographics of retiring baby boomers combined with lower immigration and birth rates mean less population growth to drive housing demand. Also more multigenerational households forming.
How do higher interest rates reinforce inflation right now?
-Higher rates increase the government's fiscal deficit for interest payments rather than investing to increase productive capacity and lower costs.
What happens when passive money flows reverse?
-When passive money flows reverse, there are no active investors to step in and buy, leading to a liquidity crisis and rapid price declines.
Why is commercial real estate vulnerable right now?
-Appraised values for commercial properties are often coming in lower now, meaning owners need to put up cash to close refinancing loans to maintain leverage.
How could the Fed being forced to cut rates signal economic deterioration?
-If the Fed has to abandon tightening and cut rates again, it likely signals the economy has weakened enough that rate hikes are doing more harm than good.
What role could a risk-off event play in bringing 2-year yields higher?
-A risk-off event could cause credit issues leading more economic deterioration that forces the Fed to cut rates, benefiting the 2-year instrument.
Outlines
😞 Worried About Missing The Last Nuclear Shelter Before Armageddon
The opening paragraph discusses how the speaker would be willing to give every penny they have to get into the last nuclear shelter ahead of nuclear armageddon. It then transitions to mentioning economic indicators that signal an impending recession.
😲 Staggering Statistics Of Nvidia's Extraordinary Growth
This paragraph highlights the staggering growth Nvidia has experienced, including a $10 billion increase in sales without needing to increase spending on sales, general and administration. It discusses whether this growth is sustainable long-term.
😫 Concerns About Energy Limitations For Nvidia's GPU Growth
The speaker wonders if there is a limit to how much Nvidia can grow based on energy demands, given GPUs require a lot of electricity. There is uncertainty around potential constraints.
😏 Family Support Networks As Financial Safety Nets
This paragraph discusses the trend of multigenerational households as financial safety nets, using Columbia, Maine as an example where extended families live together. It also covers housing affordability issues.
🚽 Deteriorating Housing Stock Burning Cash
The discussion focuses on factors impacting housing stock in lower income rural communities, including inability to afford maintenance leading properties to fall into disrepair. This results in cash being "burned".
💸 Passive Investing Inflows Disconnected From Liquidity
This covers issues with passive investing inflows not properly accounting for differences in liquidity across assets, disproportionately impacting prices. Liquidity depends on volume and spreads rather than market capitalization.
😱 What Would You Pay For The Last Nuclear Shelter Before AI Armageddon?
The paragraph suggests Nvidia's growth could represent bubble dynamics facilitated by passive flows. It discusses the narrative around an AI armageddon where the first to AGI would pay any price to control it, like the last nuclear shelter.
🤔 US Military Potentially Hoarding GPUs It Can't Use Yet
This covers the idea that the US military may be buying and stockpiling Nvidia GPUs for future needs before they become obsolete, since GPU technology moves so rapidly. It's uncertain whether they can actually utilize them currently.
♻️ Government Deficits Offsetting Private Sector Debt Paydowns
The discussion focuses on breakdowns between government created fiat money vs private sector money creation. Government deficits can offset private sector deleveraging and burning of money needed to preserve assets.
😤 Rate Hikes Reinforcing Higher Inflation Environment
The speaker argues that current higher interest rates reinforce inflation by increasing deficits while failing to invest in new capacity and changing behaviors to solve problems.
🤨 Historical Rate Levels Tied To Nominal GDP Growth
This covers the concept that historically interest rate levels have been close to nominal GDP growth levels. If rates exceed growth substantially without capacity increases, it becomes unproductive.
⏳ Longer The Fed Delays Rate Cuts, Less It May Matter
The discussion suggests that while the Fed may cut rates in 2024 to revive things, the longer they wait the less it may matter as companies can't refinance and won't survive to the next cycle.
😃 American President Focused On Growth Could Make People Happier
The speaker suggests if an American president focused on growing the economy and living standards instead of personal enrichment, it could make people happier than the current griping about unfairness.
😴 Grinding To An Economic Halt But With Contradictory Inflation Pressures
The conclusion is that demographically and through changing priorities, the real economy is slowing substantially. But government deficits to consume rather than produce offset this deflationary pressure with inflationary pressure.
Mindmap
Keywords
💡Inflation
💡Interest rates
💡Liquidity
💡Passive investing
💡Money supply
💡Recession
💡Nvidia
💡Debt
💡Yield curve
💡Deflation
Highlights
The market has narrowed significantly to a few highly profitable tech companies leading the charge
There are similarities between current market conditions and the tech bubble in late 1990s
Passive investing amplifies price increases for stocks like Nvidia as more money flows in proportionally
There could be a bubble in AI and computing power that bursts if Nvidia overproduces and takes write downs
Higher interest rates reinforce inflation by increasing deficits and failing to invest in new capacity
Investing in young people through training and education raises quality of labor and productivity
The risk-free rate rising faster than expected puts many companies in danger of being unable to refinance
The Fed cutting rates is likely a sign the economy has already deteriorated sharply
This crisis appears less related to structural products and more to economic deterioration
Many companies simply cannot afford such large interest rate hikes to stay solvent
Global interconnectivity means a crisis in one country can spark a global banking crisis
Guest sees Fed funds rate likely around 3% in a year due to risk-off event hitting markets
TUA is a 5x leveraged ETF for gaining exposure to 2-year Treasury moves
The ideal scenario is a bull steepener with short-end rates falling
Being long TUA is advantageous if economic deterioration forces the Fed to cut rates
Transcripts
what would you pay for the last nuclear
shelter ahead of nuclear Armageddon the
answer is I would give every penny I
have to get inside that nuclear shelter
leading economic indicators coincident
economic indicators etc those are
signaling a very clear recession If the
Fed is forced to cut rates it's likely
because the economy has deteriorated
sharply what do you think the three
biggest downside risks are to the stock
market right now oh uh that it doesn't
go up um that no but that's actually a
an in-depth answer you might want to
elaborate I know well that's actually
part of that's that that unfortunately
is part of the problem right so um look
I I the the risks that I'm concerned
about is that we enter into a recession
we start to see unemployment the flows
into things like retirement funds begin
to reverse more
sharply and you know for what appears to
be no reason whatsoever we end up in
something that looks a little bit like a
China
situation where money just kind of drips
out right so it turns into effectively a
slow bleed um I think we've gotten used
to the idea that you know the market has
to crash right it's directly ahead of us
that the market is going to crash there
are unfortunately a lot of similarities
between now and late 1999 early 2000
where the market has narrowed
significantly a very few number of
extremely profitable companies are
leading the charge people will often
point to this and say well nothing like
the dot cycle you know those were all
unprofitable companies operating on a
hope and a prayer we live through that
we actually just had that experience in
2021 where we had all sorts of crazy
stuff move this feels like it's just a
much narrower version of something along
those lines where people um increasingly
we're seeing evidence that people are
basically saying oh I get the joke I
just need to buy technology right that
feels much more like the dynamic that
occurred in the aftermath of of the 1998
crash in Asia where people abandoned all
the ideas of you know I should be
invested in energy or I should be
invested in oil in uh metals or I should
be invested in you know old economy
stocks as we used to talk about
them those that gave way to a wholesale
Russian technology and we definitely are
seeing elements of that today and so you
know the the key risk is candidly that
you know an Nvidia disappoints in a way
that's not dissimilar to what we saw
with Cisco that's one of the reasons we
had such an extraordinary bid for
volatility around the Nvidia event the
the Nvidia earnings event we actually
saw more volatility stacked up into the
market for the Nvidia earnings report
than we've seen recently for Jerome
Powell's speeches for fed announcements
for CPI prints Etc like this was the
thing and fortunately for the market
Nvidia exceeded
expectations so you know a
disappointment on that and a change in
narrative I think becomes the thing we
should be watching for how does that or
how does passive play into that well
passive amplifies everything right
because the traditional way it would
work is an active manager let's just you
know let's pretend it's Kathy Wood this
is actually a good example right so the
arc investment ETF owned Nvidia shares
as the shares of Nvidia went higher she
made the discretionary decision that it
was overpriced that they were better
opportunities to invest elsewhere and as
much criticism as you may love at
somebody like Kathy Wood like that's a
normal human reaction to say well the
price has risen a lot in the absence of
anything else changing that means my
forward expected returns have to be
lower and therefore I'm going to sell
some shares creating liquidity in the
market right and providing liquidity for
those people who want to continue to
speculate and push it higher the problem
is Vanguard and black rock the passive
investors or State Street others who
play in that game there is no mechanism
for them to make that discretionary
Choice the only way they'll sell Nvidia
is if you fire them and then they will
sell in proportion to the market
capitalization but otherwise there's no
scenario under which they think the
price is too high and perversely in fact
as it goes higher in price the next
dollar that comes in buys more of Nvidia
than it does of the rest of the market
because it's outperformed the market and
so you get these positive feedback loops
that can cause prices to rise in a
manner that is again similar to the
Dynamics of 1999 where we decided to
throw valuation out the window and focus
on metrics like how many eyeballs did
you see forget how profitable you were
how many eyeballs did you see right in
the case of Nvidia like anyone looking
at their results has to say this is one
of the most extraordinary reports we've
ever seen we're seeing a company that
was already a sizable player in us
technology markets and the global
semiconductor
markets has now become one of the
fastest growing companies in history and
is expected to continue to grow but some
of the Staggering statistics that you
know come out is is that Nvidia didn't
spend any more on sales General and
administration on basically a you know
10 billion do sales jump It's really
extraordinary when you think about that
did they not have to compensate their
Salesforce Etc I mean it's it's really
something we've just never seen before
um whether that continues to be the case
I think is ultimately where the bold and
bare case rest right when we think about
something like apple which had a similar
period of growth from 2007 through 2015
with the growth of the iPhone and then
the iPhone
5 that growth was all going directly to
Consumers which is a dramatically larger
market right It's The End Market and
that growth was about half as profitable
as the video growth that is being
forecast or really has actually been
realized in the last couple of in the
last earnings report and it's expected
that that profitability is going to
continue going forward creating just you
know numbers that candidly defy the
imagination yeah yeah I did a video
earlier today that 28% of the S&P 500
gain over the last year I believe was
just strictly due to Nvidia just just
the price and people talk about the mag
seven but uh this article on Baron's
pointed out that now it's really just
the mag four right
because going down right I mean I'm look
I'm looking at markets today right and
if I look at the factors that are
working um I mean this is just one of
these crazy things right the momentum
factor is up 3%
today um while the S&P has barely moved
right it's it's you know again very very
similar in terms of its underlying
construction if I think about value
value is now down on a year to basis you
know we're all supposed to be value
investors right we supposed to be
thoughtful investors momentum strategies
are up 25% in the first two months of
the year and value is down
four right right the median stock is
down something like four to 5% I mean
this is just this is just an insane
component and by the way you talk about
nvidia's impact on the S&P 500 almost
more extreme are things like the
performance of Super Micro which it
really is just you know a company that
bu builds things that include Nvidia
chips do so they do so at relatively low
margins and their gains account for you
know the gain in super micro is the only
reason that the Russell doesn't look
absolutely awful on a year-to day
basis wow so it's it's just this uh like
this trickle down
effect it's it's not just uh Nvidia it's
it's everything trickle down or Bubble
Up
however yeah I'm not sure whether I
would call it trickle down or whether i'
highlight it as bubble up but I mean
this is this is one of these really
extraordinary situations where we just
have to ask ourselves candidly like what
is ultimately being priced in here and
and I can create all sorts of narratives
right I mean that's one of the the
Specialties that we have as human beings
is creating narratives that explain why
things behave the way that they behave
um in the case of Nvidia you know we're
we're somewhat correctly responding to
the actual fundamentals but then also
creating a story for why this is going
to continue right and um I mean the
easiest story is just that you're you're
now actually trapped in something that
resembles you know a death cage match
where the first person or the first
corporation that gets to a truly viable
artificial general intelligence
theoretically could change the world
right um and if that's the case like
what would you pay for the last nuclear
shelter ahead of nuclear Armageddon
right the answer is I would give every
penny I have to get inside that nuclear
shelter because among other things
actually maybe not pennies but certainly
scrap dollar bills right because we know
those are not going to have any real
value um in the world that comes after
that and so what you know what is the
price that is too high now I don't
actually believe that I think that you
know what we're experiencing is a bubble
that is increasingly facilitated by the
Dynamics of passive investing as I
highlighted but the narrative is
compelling right nothing is Nar is
always compelling Mike it's always
compelling there there is always a good
story that is what people get paid for
yeah I know I don't know much about AI
at all or at least kind of how it works
I've used it and whatnot but I've heard
that it uh the gpus from Nvidia take
quite a bit of energy so is there a
limit to how much Nvidia can grow based
on how much electricity we have access
to right now so I think I think the
answer is that we don't know we right we
do think that there are limits around
that both in terms of the density of
processors that can ultimately be
achieved alongside you know similar
issues um you know around the actual
availability of power but this is the
same debate that we've gotten into in
Bitcoin and everything else and the
simple simple reality is is that digital
computation is exploding in its energy
demands yeah really no different than
you know if you think about it from the
context of well this is what they eat
right and so as human populations
exploded the demand for food exploded
right the demand for human food stuffs
exploded that's why domesticated animals
outnumber wild animals now you know
roughly n you know I think it's like 95
to5 or something like that um I I would
expect that we're ultimately going to
see something very similar here where we
have to figure out if we require
artificial intelligence if we actually
require these products to to allow us to
make that next stage of productivity
gains and next stage of wealth creation
we'll figure out how to get the power
going and this is B you know that's a
net positive right let's you know take
the Bitcoin argument that like oh we're
facilitating the creation of you know um
base load power or of opportunistic
usage of stranded assets Etc so we can
access stuff at a really low cost this
is really no different it's just saying
let's start investing in Basel load
right let's figure out the best ways to
to to increase the quantity of food that
is available for our robot overlords
yeah
right right so they there could be a
constrain there if maybe a temporary
constraint but I think maybe more so
what would be the constrain uh on their
price if we go into recession because I
was going to ask you about your ideas
around the yield curve because right now
people are either ignoring the curve or
just saying that it's
dead well I think is a combination of
the two right I mean you have to
somewhat ignore it and um I I again I
think that this is a challenge I I
encourage people to go to the conference
board and take a look at their most
recent reports on leading economic
indicators right that's always a great
resource by the way and so it's the
conference board they put out a monthly
report on leading economic indicators
coincident economic indicators
etc those are signaling a very clear
recession both that we've come through
and you know that is ultimately ongoing
in terms of the depth of the draw down
in leading economic indicators and
that's even more compelling when you
consider that a about three of the 10
leading economic indicators that are
used are things like the price behavior
of the S&P 500 or credit spreads which
are very tight or various other
components right and you know it it it
has been through a record contraction
without a designation of unemployment
and the the reason I would argue that
that's happening is because we have a
very different environment than we've
had for really the past 50 years the
Baby Boomers are finally making it into
retirement right or or at least in size
and so we're seeing a collapse in the
number of workers between 55 and 65 it's
actually falling for the first time
because my generation Gen X I think
you're the same generation George yeah
yeah you know the Gen X generation who
nobody even remembers to put on you know
various poles do we even they go right
from the Millennials to the Boomers
exactly no well I mean that's all that
matters right and so you know we're this
population BST as are our children so
you know my children range in age from
19 to 23 years old and they come through
a peri you know they were all born in a
period of relative population bust in
which there was also a relatively low
level of immigration and you're seeing
that impact all sorts of things but
among the most interesting one is again
we're seeing a contraction in the 18 to
24
um uh working
population you know a contraction in the
um 55 to 64 working population and then
right in the middle there you've got the
relatively productive I know that's not
the way we normally describe them but
you've got the Millennials that are
sitting right there in the center and
they're making the transition to you
know I think the technical term is
knowing what the hell they're doing in
the workforce right right they've kind
of made it past the point that they had
too many tattoos and worked too you know
too many hour hours or too few hours
perhaps at Starbucks as a barista and
now they're suddenly turning on their
entrepreneurial juices and recognizing
that you know the world may be a
slightly different place but all that's
happening at the same time is they're
struggling with the unaffordability of
housing the lack of having children
right their the facundity or the ferti
the fertility rates have just absolutely
collapsed as something I think you've
probably heard me talk about you know is
underway which is what I call the
italianization of America right we're
we're segmenting into a population that
doesn't relocate nearly as frequently
where the advantages of staying in the
local town where your family is from
because you have preferential access to
housing or you happen to know people in
the community better and that creates a
support network for you um that allows
you to get away with all sorts of stuff
that you otherwise might not be able to
do had you decided to hop into a
conastoga wagon and make your way across
the you know Western Plains uh you know
we're suddenly looking at a situation in
which it's just safer and more
profitable to stay in the same place
and it's interesting you say that Mike
because I live in Columbia in medine y
and that's exactly how people live here
you'll you'll go down to you know one of
the strata three places a neighborhood
and you'll have a family and the
grandparents live just right across the
street and their cousins live right
across that like the whole family lives
on the entire block and they wouldn't go
anywhere else and it's their form of a
financial safety net absolutely correct
this is I mean this is what most
Americans can't fathom about places like
Europe you know if you look at Italy or
Greece you saw periods of unemployment
where um unemployment rates would hit
20% right or youth unemployment rates
would be over 50% and in many ways we
look at that from an American
perspective and say how how could that
possibly be right how could half the
people not have jobs and the answer is
well that's just the same thing as a
stay-at-home wife right I mean half the
people in the household don't have jobs
right why because you've created a
personal social safety net a familial
safety net that allows people to get
away with that type of
behavior and and there's pros and
there's cons associated with it yeah so
you think that the low unemployment rate
is due to labor force participation I
think it's a combination of low
population growth and labor force
participation right it's just just not a
it's just not reasonable to expect 75
year olds or 80 year olds to work right
although um they might have you know we
would expect to see them take various
roles that we would describe as work for
other people right the easiest one would
be well just you know provide
babysitting services for grandchildren
so that your your um you know children
or even great grandchildren uh baby
Services you know babysitting services
so that they can actually you know your
your grandchildren can now go out to
work etc right um we see this across
communities that have high degrees of
unemployment and traditional measures of
instability the family Network steps in
the extended family Network steps in as
a social safety net and again we're just
seeing extraordinary evidence that this
is the case in the United States what do
you think that means for
housing well I think it means a couple
of things right I mean if you're going
to create a multigenerational household
that house very well may never hit the
market but if it does it may very well
never find a buyer right and I'm sure
you see this again you said Columbia
Maine and that it's very similar to
Italy you know the irony is is if you go
to Italy and if you were to try to buy a
home a nicer home in a tourist
destination Tuscany or Rome or Milan or
even Naples you know you'd likely find
that that's extremely expensive but if
you go to the more rural areas of Italy
they've been under depopulation
pressures for decades and as a result
you know you have abandoned Farmhouse
properties that they are begging people
even in some City areas right some
formerly robust cities that have seen
this depopulation characteristic in
Maine by the way I think has been
experiencing depopulation in one form or
another since I think it was 1850 or
something um it's gone through waves
where it's increased and decreased but
Maine was one of the very first places
whereas you know the West Was won and
the American continent was taken over
from the Native Americans you know you
saw people in main be like well why
would I Scrabble a you know farming
existence out of this rocky soil and you
know very short growing season when I
can go to Nebraska and get Wide Open
Fields right um you know you very
rapidly found that Maine was an
unattractive place from an agricultural
standpoint it then had a turn you know
turn due to Water Resources as a bit of
a textile Factory and then you know now
it's basically tourism as I understand
it yeah I
think and LLB and boots but yeah yeah I
think the key is when we look at the
real estate market we're always looking
at inflows and outflows of population as
one of the main drivers but people also
need to realize that if their incomes
just aren't keeping up with the cost of
living you'll have the same Dynamic play
out by people moving in with one another
yes so even though the population isn't
going down there's more people per
square foot and therefore that could
increase Supply above and beyond demand
yeah I mean that's the traditional model
of of an increase in in um you know how
members per household has been a
function of the number of children but
that's actually changed right in the
past 20 years really since the global
financial crisis we've begun to see a
tremendous rise in multigenerational
households and it is meaningfully
impacting it um the other thing that I
think is really important for people to
understand is you know we talk about
home prices and we talk about how much a
home sold for we don't pay any attention
to the house that will never sell right
the decrepit abandoned house you I'm
sure you have one you know somewhere in
Columbia Maine that you drive by you're
like wow what a shame that that house
has been allowed to fall into that
disrepair well the reason why that
happens is because you know your child
leaves you don't have the younger people
there you have an older person who's on
a fixed income who just can't afford to
maintain the house or doesn't have the
physical capability to maintain the
house as the community deteriorates
around them so nobody's there to offer
the services and say hey I'll do it for
you just because and then the other
thing to remember is is that when you
have an area that has lower income and
I'm thinking about you know areas that
are forly agricultural or rural in their
construction if I'm going to buy Windows
for my home windows are sold across the
country at roughly the same price in in
institutions Like Home Depot so if I'm
in a poor Community I can't afford to
replace the window whereas if I'm in a
really wealthy community my only thought
is like wow how badly am I being screwed
by the you know semiskilled labor that's
coming to make this installation the
window itself ceases to be the issue
whereas in the rural or exurban
Community formerly agricultural or lower
income Community the actual Hardware
itself the physical window the new door
the paint can actually become real
barriers to maintaining the housing
stock and that deterioration in turn
then means that you when somebody does
want to move somewhere or move into
those communities they have to build new
and perversely that building new is
going to cost just as much in Maine if
not more because it has fewer uh you
know has less history or less uh
resources in terms of a deep building
base in terms of Labor
resources um meaning that it actually
gets even harder right and so you know
like this is what you've seen in Italy
this is what you're beginning to see in
the United States and again there there
can be Pros there can be an improvement
in quality of life and we are seeing
some evidence of that from Millennials I
will tell you as a a gen xer um you know
my wife and I are now empty nesters
we've actually sold our home we're
traveling around the country and and
debating where we want to be next and
one of the fun things to do is actually
go and look at the homes that have been
designed by Millennials in terms of
their interior design capabilities Etc
man these guys know how to live they've
got great design taste it's a heck of a
lot better than our generation had yeah
yeah it's funny I I used to uh be into
air these uh airst streams I don't know
if you know what those are I know yeah
the the trailer yeah back in 2016 17 I
had a couple of them and I was uh
remodeling them and I noticed on eBay
the people that were flipping them that
were remodeling them and flipping them
almost all were kind of millennials yes
and they they they just made him
spectacular inside really really
impressive but anyway taking a step back
here you know when we talk about the
stock market at all-time highs in the
United States people forget that the
stock market correct me if I'm wrong I
think is at all-time highs in the UK in
Germany in Japan and all three of these
uh countries are in recession absolutely
correct and so it why are those stock
markets at all-time high is it my point
is is it the same passive Dynamic at
play over there or are there different
reasons like uh bad news is good news
you know they're going to drop rates and
therefore let's just buy stocks well I
mean my argument would be that it's
largely tied to the Dynamics of passive
so if you if if you think about what
happens in the United States think about
a Target date fund right so a Target
date fund which is what people default
into when they go into when they get a
job and they get a
401k that's going to automatically put
money into to these International
markets and just like in the United
States you know where you look at an
index fund if you're putting your money
with that Index Fund there is nobody
pausing and saying is it a good
valuation is it a bad valuation should I
be buying more of this should I be
selling some of this Etc none of those
conversations happen because it's
presumed that everybody else is capable
of taking care of them but the world
that we've moved to is one in which all
of the money is now coming into passive
vehicles in fact more than 100% of the
net flows are coming into passive
Vehicles because money is Flowing out of
the active and discretionary managers
you can argue that's tied to
underperformance and but by the way I'm
the very first person to aede that
passive has outperformed active
management the question is why and
that's where a lot of my work is very
very different from the work of others
who think about passive Investments it's
it's not a function of the costs
actually the evidence for this is
remarkably clear it's not a function of
the costs it's a function of the flows
so when that money is constantly coming
in and buying things in proportion to
the market capitalization of the name
this is a very complex topic a very
difficult concept but I just want to
really try to bring it home to your
audience when you think about buying in
proportion to market capitalization you
are presuming you're making an assump
assumption that the liquidity scales
with market capitalization what matters
when you're buying or selling something
is it's liquidity and what we actually
know in academic study and empirical
study one after the other they all tell
us the exact same thing that liquidity
does not scale with market
capitalization liquidity scales with
volume and the spread between the bid
ask that ultimately determines the
profitability of Market making
operations in an individual security if
I'm Citadel Securities some of your
listeners I'm sure have heard reference
to Citadel Securities and Ken Griffin
this is not the hedge fund this is the
market making operations that have taken
over for the traditional entities that
would have existed on the New York Stock
Exchange the physical floor etc those
have all been replaced with electronic
Market making opportunities or uh market
makers but those market makers the
profitability of the money that they put
up to facilitate trading is driven not
by market capitalization but instead
volume and how why that bid ask spread
is right because every time you do a
trade you want to capture a portion of
that so assume that reduces their risk
and increases their profit it reduces
their risk and increases their profit
the more volume is the less there's a
risk that they're going to get trapped
with something the easier it is for them
themselves to act to to engage in
activity okay so here's where the
problem comes now imagine a thousand you
put ,000 into a Vanguard S&P 500 fund
that means you're going to be buying
somewhere in the neighborhood of $75
worth of Microsoft and about 25 cents
worth of Delta
Airlines right now if I actually think
about the liquidity of those two so the
market capitalization there in that
example is somewhere in the neighborhood
of 30 times differ but if I look at the
liquidity which is determined by those
factors I was talking about before the
volume
and effectively the
volatility Microsoft is only about five
times more liquid than Delta Airlines
and so perversely what that means is I'm
affecting the price of Microsoft far
more than I am the price of Delta aines
when I buy that index fund that pushes
Microsoft higher as long as money is
going in and this is true for NVIDIA or
anything else and it becomes
particularly true if you create
conditions under which the discretionary
Traders just start to throw any form of
negative reaction out of the window
because they simply can't afford to not
own those positions and so to get
somebody to sell Nvidia it's exactly you
know you you were talking about this
before you were saying you know people
ask how can I protect myself against a
fall in the S&P well the obvious answer
is you short the
S&P but that's a terrifying Prospect in
this market right and we've seen this
we've seen the number of shares that are
shorted shorted of the mag 7 has fallen
precipitously over the past couple of
years the losses in the short selling
Community have exploded and as a result
there's just not that much Capital out
there they can even fight against this
move yeah and to be clear for the
viewers what Mike is describing there
the lack of liquidity if uh if you got a
huge market cap is that's going to drive
the price a lot higher um but it's going
to drive the price a lot lower because
there isn't going to be anyone there to
buy
if you want to sell yeah I I I think
unfortunately that's you know that
that's what I refer to when I say if the
flows reverse then it really becomes a
question of who's going to step into buy
right who's the marginal buyer there's
no one there because there's no active
yeah there's no active and and and
candidly you can get to a point where
the disconnect is so huge right um you
know Nvidia I think is a really good
example of one where there's still some
debate is it worth it right is it
growing fast enough is it profit is is
it profitable enough that even on a
fundamental basis I can make a case for
it you overlay an element of fear right
I can't afford to let this thing get
away from me because how do I explain it
right think again of a Cathy wood who's
been castigated for selling Nvidia
despite the fact that she is a you know
uh an investor who's very focused on a
Future Vision sort of thing
right um but when you think about that
type of dynamic it perversely means that
there's nobody there to buy on a 5%
correction because like how do you make
the argument that Nvidia down 5% as a
generational buying opportunity down 10%
or down 20% or for that matter down 50%
does it become a generational buying
opportunity down 50% you know which
would put Nvidia Just In traditional
terms uh I'm just looking at the the PE
Ratio here you know it was down 15 50%
company yeah so so well on a forward
basis it's 33 right so if they deliver
the extraordinary results that are now
expected by the analyst Community for
the end of this year then they'll be
actually it's January 2025 earnings that
it's a 33 times you know that 100%
earnings growth if that's realized then
it'll be trading at 33
times when Apple went through a similar
process and grew by a similar amount
they ended that time period tra it 13
times right when Cisco went through
something similar it did Cisco to be
fair did not have this last year and did
not experience this extraordinary I mean
just insane level of profitability that
we're seeing out of Nvidia but part of
the reason why that happened was because
the Doom Bubble Burst they suddenly
found that they produced far more
networking equipment than anyone
actually had demand for and as a result
they took massive writeoffs and write
downs and their growth was compaired and
in the case of some competitors That
Grew even faster than Nvidia right JDS
unase grew 17 times its sales over the
course of the three years from 1998
until 2001 so a 1700% growth a far
exceeds what we saw with
Nvidia the irony is of course that that
surplus of networking equipment meant
that JDS unase was swamped with
inventory they could not sell except by
taking horrific horrific
markdowns and those horrific markdowns
are what actually enabled the finishing
of the buildout of the internet and the
Fantastic growth that we've all relied
on so I you I look at what's happening
with Nvidia and I'm like man the best
thing that could happen to answer your
question like how far could this go is
if it actually turns out that this is a
bubble and Nvidia massively overproduces
and then everything gets written down by
90% because when you've got a
$30,000 GPU
well what suddenly becomes possible if
that drops to 3,000 right right that
starts to get really interesting
although you still face some of the
constraints that you're highlighting
with the energy components Etc but the
these things don't really manifest
themselves until you're on the other
side of this type of phenomena when does
the music stop like I remember my
favorite investors Jim Rogers I've had
the opportunity to talk to him a couple
times and I love his ability to make
things very simple for people to
understand and we are talking about
bubbles we were talking about buying
panic and selling hysteria and he said
you know the reason why a bubble Fizzles
out is just because there's no more
buyers right it's pretty simple you're
the last buyer you're the sucker holding
the bag and if there's no more buyers
the only thing you got left are are
sellers so when did the buyers run out
for not just Nvidia but for Passive for
an S&P 5 00 index I mean I try to look
at it in terms of money people have to
have the money so okay they can take
100% of their income but we've got
negative real wages uh they can borrow I
guess but that's there's a limit to that
as well so when do we get to that point
where there's just no more dollars to
put into these funds to make them buy
the shares well I I think that's part of
the challenge right because when you
have the performance of something like
Nvidia perversely you can actually will
the dollars into
existence be banks will be more willing
to lend them into existence so new
dollars are created to go into that uh
stock both for the product right if the
product becomes a no-brainer absolutely
everybody has to have this then
financing is easier to find if you're
saying well you know what I'm going to
securitize or I'm going to SEC offer
this on a secured basis and the I'll
tell you what I'm going to secure this
loan by I'm going to secure this loan by
Nvidia gpus oh my God gosh that's better
than gold right you know I'm
collateralized by depreciating
semiconductors and graphic processing
units oh where do I sign up to lend to
you come on this is fantastic right but
it does feel like there's such a
shortage and there's so much demand that
that is incredibly liquid and again
we're seeing Nvidia engage in the same
Shenanigans the JDs uniface and Cisco
engaged in which is various forms of
vendor financing where they're creating
entities that are being basically
designed just to buy Nvidia chips and
figure out what to do with them whether
that's profitable anytime soon seems to
be somewhat of a secondary issue I heard
that the military the US military was
actually buying a lot of these uh gpus
and then just putting them in storage
knowing that in a year they're going to
be obsolete because of Technology but
they're doing it like just in
case and they they don't want to behind
be behind China or whoever their compe
competitors are have you heard anything
like that yeah I I I I have heard
stories like that and speaking of
operations that don't need to worry
about running on profitability the US
Army right at the top of them right um
and that's said with full respect for
our military my son's actually at the US
Naval Academy I'm I'm a big proponent
and a big supporter of military and of
uh military service in this country but
the simple reality is is that if you
have entities that are buying and
hoarding because they are are scared of
the possibility that well maybe these
gpus are like toilet paper in 2020 and
we just get enough so that we really
feel comfortable right um well that's
you know that you're you're creating the
equivalent of
hyperinflation in a small area right so
hyperinflation the examples are are
legion where you see people choose to
trade out of dollars and into Goods
because they're so it doesn't have to be
dollars just to be clear but you know
they they are so focused on the idea of
avoiding the deflation that they'll pay
any price to get the goods that they can
then just stick into storage because
well the the paper is going away right
the paper is going to be worthless and I
I I really it feels that way when you
actually look at what's happening to
Nvidia I mean to see this type of growth
on a relatively concentrated customer
base and even more so a sophisticated
customer base right I mean I like I've
got lots of problems with wearing
is trading because among other things i'
point out that about 40% of their sales
are going to about four players all of
whom are fantastically wealthy and
sophisticated buyers themselves and the
idea Google Amazon just basically the
other mag s right and so so so the idea
that you're going to end up with this
like you know you know Monopoly they can
charge whatever they want for this stuff
I just don't think it's I don't think
it's a reasonable long-term
hypothesis with one possible exception
which is you know we wake up tomorrow we
discover that AGI is here artificial
general intelligence is here and that
artificial general intelligence is then
redeployed into making itself even
faster the first person who actually
steps in and and has ownership of that
AGI is going to become the world's
wealthiest man or or woman for that
matter perhaps dog who
knows yeah but it's still at the end of
the goes back to energy that's where my
mind just reverts back to that but let's
talk about uh rates what do you think
about interest rates uh and then maybe
also the fed's balance sheet I know we
were talking about that before we hit
play do you think the fed's balance
sheet plays into potentially the stock
market being at alltime highs of that
liquidity component that we were
referring to earlier even if it's just
Janet Yellen taking the TGA from 700
down to 200 therefore you got another
500 billion in Bank Bank Reserves or I
think there's 500 in RRP maybe that goes
into Bank Reserves and the argument
there I don't buy it but the argument
would be there's more liquidity to pump
up stock
prices well I think that can definitely
be true right so so ironically I
actually put far less emphasis on the
fed's balance sheet than I do on kind of
what caused it to get there right or the
components that contributed to it um
obviously the buying of the Securities
was an important component to but far
more important and this is something we
I talked about you know in a
contemporaneous fashion so in April of
2020 I was highlighting this underlying
Dynamic that you know we lent money
freely in the paycheck Protection
Program and told people you know we'll
pay for you to keep your workers right
we'll pay for you to stay open so not
everybody loses their jobs and then
we're all trapped in a cycle of
unemployment Etc we basically bought
people jobs with the with the
subsidies um that money doesn't go away
simply because and and it well when that
money is lent it theoretically goes away
when you repay the loans but if you then
equitized the loans as we did we
basically said all right we're going to
forgive every PPP as long as at least
one person smelled something that looks
like a job somewhere along the way right
right yep so when you wipe that out now
you've actually turned it into cash as
washing around in the economy it's
effectively a a giant tax refund that
was handed out there and that money is
going to circulate until it gets
destroyed right it has to get destroyed
in one form or another it can get
destroyed through
taxes right it can get destroyed through
actual credit losses and I think there's
some interesting stuff that's developing
there as we look at the overinvestment
that may or may not be happening we
certainly are seeing it in commercial
real estate and this is just be like
just think about the dynamic imagine
you're a wealthy real estate developer
fresh off your tour as president of the
United States you decide that you need
to refinance one of your
buildings you go to refinance and the
appraisal comes back and says yeah I got
bad news for you this building is worth
$150 million less than you thought it
was worth or the last time we we we
financed it and you've paid off no debt
yeah right so the only way that we're
going to let you do a commercial real
estate loan and maintain a similar level
of Leverage is by actually saying you
know what um we need to effectively
adjust the price lower right we need
additional security and therefore the
appraisal comes in below what you would
need and in order to close that loan you
then have to show up with cash yeah
right that's actually a way that you're
destroying cash it's not like that cash
that you pay to facilitate that
refinancing is somehow or another making
it up to the next player it's actually
literally just being burned right just
let me let me explain that for people
Mike what what what we're talking about
here guys is really it's just are more
loans being created on net or more loans
being paid off that's all that's the
only thing you got to look at it so if
you got a $100 million loan well they
just created $100 million of additional
M2 but if you refy that loan and now
they say well we're only going to give
you 50 million uh well now all of a
sudden you have to come up with
additional 50 you pay that off and that
decreases M2 money supply by $50 million
right that's exactly right so you know
the the story of the huge growth in M2
money supply around covid was tied to
companies seeing the crisis emerge and
immediately responding to that by saying
oh my gosh we're going to take out as
much money as we possibly can from our
lines of credit because we lived through
this experience in 2008 where lines of
credit got pulled so let we're going to
act first right before they can tell us
we can't have the money we're going to
take the money legally but we're going
to take it um if you then have to use
that money that you've taken out to
preserve control of the assets that the
other assets that you own you own so you
know just say for example you own your
home you go to refinance that home and
the bank says yeah we can't let you do
that because it's now trading at you
know 105% of loan to value whereas
before before we were willing to
refinance you at 80 80% of loan
value so that means that that 200 that
100 that 25% I'm sorry it's just gone
right I mean literally it's exact same
thing as if you had to pay taxes Etc
people who spent a lot of time talking
about this differentiate between the two
the government created money and the
private sector created money you know
what they typically refer to it as um
Fiat money or money that is created
vertically by the government and then
the horizontal money creation is what's
coming out of the banking system that
effectively is just a way of being
flexible and expanding it in response to
supply and
demand we just haven't had one of the
you know net Supply periods in a very
very long time that's really what it
means when you see interest rates
increase is it saying there's less cash
available to meet those needs and a
portion of that cash has to go to
preserving your optionality to hold this
uh this piece of real estate and so I I
I think one of the things it's so
fascina is everybody's very focused on
this idea that there's all this cash
that's out there and then I look at a
number of asset classes and I'm like wow
they're going to be burning a lot of
cash right that's a very interesting
angle Mike and I I've never given that
any thought I always just look at the
the balance sheets involved in the
mechanics so as an example if the fed's
buying from a non Bank through the
primary dealers it's going to increase
M2 or do your point if you're drawing up
a line of credit there's more uh loans
being extended by Banks that's going to
increase M2 but then I asked myself okay
is that just an asset swap because if
you're an individual a non-bank that has
that treasury uh it's a cash asset cash
equivalent and if they're just replacing
that with savings that savings is most
likely going to be very low velocity as
well so even though M2 didn't increase
um or did increase did it really matter
because that money isn't circulating or
if the government comes in and let's say
the fed's not even involved and they
deficit so Janet Yellen issues that
treasury that is from a non-bank so she
takes that money out of M2 but then she
recirculates it back into the economy so
on net M2 is the same but the economy
has an additional asset in the form of a
treasury which you could add increases
purchasing power and I would argue
increases velocity because you're taking
M2 that's effectively savings Z Z
velocity and turning it into checking
which is much higher velocity until
eventually that goes back into savings
so but it's just a different way of
looking at the same thing yeah I mean
there there's an element of moving
across what's called high powered versus
lower powered money right um I I'm
fairly certain though that M2 actually
does include checking accounts no no it
absolutely does yeah it absolutely does
I'm just saying it that if they're
pulling if Jan elen is selling a
treasury to a non-bank entity uh most
likely that's coming out of savings
which is M2 so that's going to reduce
savings but then it's going to go to the
TGA she's going to spend it right back
out into the economy which is going to
bring M2 back up to the level where it
started but the difference there is that
velocities change because you've taken
savings and basically turned it into
checking yes I think that's fair I think
that's correct and I I again you know
when you see a government that is
running this degree of deficits yeah and
has accumulated debt to these levels in
interest rates perversely actually
become fiscal policy and this is this is
clear you know I think we have a mutual
friend in Warren Mosler who I know is
the the you know um many people who are
concerned about monetary policy will
react to the idea of modern monetary
Theory which Warren helped uh create and
facilitate from a trading standpoint
they react to it with horror right you
can't just print money into existence
that's not how money works well
unfortunately that is exactly how money
works yeah right um and what you're
complaining about is how the money is
being spent and I think that's really
critical like when you you brought this
up earlier when you talked about energy
if we were to decide to spend government
resources quintupling the quantity of
electricity that is available in the
United States and lowering the price on
it just literally writing it off in the
same way they did with the PPP loans
right like just remember what a p p p
loan was it was a gift to your neighbor
right it was just you know if you happen
to be wealthy enough that you're
employing and hiring people and those
people are going to lose their jobs
we're going to send you loans that allow
you to continue to service the the
obligation you owe to your employees
right oh and by the way you know as long
as you do this for a short period of
time you get to keep a large fraction of
that yourself somewhere in the
neighborhood of 30% or so or you could
use it to increase your 401k
contributions um you know these types of
Dynamics are playing through and and
candidly I look at our monetary policy
right now and I know everyone is going
to scream at the screen when I say this
but higher interest rates are actually
reinforcing a higher inflationary
environment right we're not building the
ca the facilities that we need to build
we're not changing our behaviors in a
way that actually will solve a lot of
these problems but what we are doing in
Spades is we're basically saying you
know oh well you know let's uh increase
the government's fiscal deficit by
another two to 3% so that we can hike
interest rates by another 2 to
3% you're not actually controlling
inflation there that should be fairly
straightforward and obvious you're just
giving more people to people who spend
less of their incomes the wealthy is
compared to the lower income but the
other thing that is ultimately happening
is is that we're failing to invest in
new capacity
right or at least lower than we
otherwise would have and so you know
we're still like I've still got a screen
open to Taiwan and China Etc to monitor
how things are going in those countries
because we're not yet building it in the
United States we're slowly starting to
but it's G to be a long time in coming I
think that takes us straight into rates
and inflation disinflation deflation so
do you want to walk us through your view
on those two topics that are obviously
critical sure so um rates have
historically the level of rates have
historically come close to something
like the level of nominal GDP growth
right and the reason for that is pretty
straightforward if in order to um buy an
asset that allows me to participate in
the economy you know I have to
spend 3% of my net wealth on it um my
question as to whether or not that's a
good idea is a question of how much can
I get out of that um you know that uh
money that I've spent in terms of
capacity development if the answer is it
turns out to be really profitable and
really positive then you've
simultaneously solved inflation and
you've potentially raised economic
outcomes for everybody that's involved
because you're creating more goods and
services what's up you're creating more
goods and services you're creating more
goods and services but if on the flip
side of that you basically use that
money to pay an already expected level
of income for older people yeah right
right and I'm not picking on older
people per se it's just that who rece
that's who receives the lineon share of
the benefits if if you're creating a
condition under which you know they're
going to receive additional money and
they've got nothing to do with it other
than spend it it's not like they need to
pay off College tuition so they have to
pay for you know uh child care for their
grandchildren and by the way I know that
some of you out there actually are in
that situation in part because we have a
widely bifurcated economy but the the
simple reality is it's not productive or
meaningfully productive to pay old
people there's an argument you can make
about it being really productive to make
investments in young people whether
that's training or that's uh general
purpose education all of those things
raise the quality of Labor that's
available in your country and positions
you to move up the value added chain in
the United States like I I would just
point out that it's relatively
straightforward we're not moving up the
value chain that much we're actually
moving back down the value chain you and
I are here talking about you know steel
and copper and um you know the prices of
um electricity n gas electricity n gas
Etc the things we think of is like the
basic accurs of life right if you're
worried about those prices that means
you're not out there self-actualizing
with fantastic you know avocado toast
that you're dining in uh you know right
on the edge of the zanz falls right like
you know like there there just is a
difference right there's a huge
difference I like and I'm not arguing
that we should be doing High-Speed Rail
and everything else but like just do
something for God's sakes go out and
actually try to build something new and
change the rules to make it easier for
people to do so if we had an American
president that legitimately came out and
said the opportunity for America is not
to be great again but to grow and raise
living standards for all Americans we're
going to have to make some hard choices
along the way we're going to conduct
ourselves in a diligent and honest
fashion as we invest to make our country
better for our
grandchildren than we were before right
I I actually think we would all be so
much happier than the current world that
we inhabit which is some variant of well
you know did you get yours I feel like I
got short changed on mine right how how
do I fix that who who do I grift how do
I convince people to let me get rich
today as compared to we all grow richer
together so do you think that's an
inflationary pressure because more
demand less stuff being produced well I
I I think the irony is is that it's
manifesting itself in that
italianization right it's meaning that
we're having fewer kids because we can't
afford them it means we can't move to
the locations that we want to move to
pursue jobs therefore we're making hard
choices on the other side right we're
choosing the relative safety and
stability of of being part of an
extended nuclear family as compared to
go west young man in a Horus grey
framework saying strike out try to get
rich give yourself your best opportunity
and oh by the way this is the 19th
century we're going to be modern and
pragmatic about it if you screw up we're
going to call this thing personal
bankruptcy or even business bankruptcy
through limited liability corporations
and you're going to get a chance to do
it again we'll give you a second chance
right I mean what an incred like just
but the the risk-taking involves um
borrowing and spending where the Italia
the Italian model is uh less borrowing
more paying off debt which means fewer
currency units which means deflationary
pressure is that that that would be the
that that would be the argument the
unfortunate reality is if you keep up
the Italian model for too long you know
as Maggie Thatcher put it very well the
problem with socialism is you run out of
other people's money yeah then you're
forced to just print more of it right
then you have then you have the
inflation and so I think that's the
unfortunate you know we we are in
between silin caribdis if we decide to
make the hard choices that allow us to
make productive outcomes there will be
pain in the form of lower employment
there will be lower corporate
profitability because there is less
consumption and there's more reduction
of the leverage components to it um on
the flip side of that you know if work
are getting paid more if we recognize
that we can't just willy-nilly ship all
of our intellectual property
overseas um you you're setting up
conditions for the labor share to
actually grow and improve the harmony
that we've experienced we you know we
had a really unique period in the United
States in the aftermath of World War II
where an incredible number of
individuals in the US economy had Direct
experience with each other in the most
difficult of conditions right and that
actually created a level of cohesion
that ultimately manifested itself in the
reforms of of civil rights it manifested
itself in a recognition that women
should have the opportunity for
self-actualization right we behaved in a
way that was largely helpful for
everybody and now we've kind of it
really does feel like we've lost sight a
lot of that and we're basically you know
marching around and pointing at things
and putting stickers on them and saying
well that's mine that's mine that's mine
nobody else gets to touch that you know
uh let's make sure the government
doesn't get its grubby hands on those
things and in the meantime we then turn
around and we're like you know can't
have the government taxing us we can't
can you believe that civil servants are
getting paid as much as they're paid and
then we wonder why corruption seems like
you know uh you know the centerpiece of
the American experience at this point
where public officials are choosing to
enrich themselves in ways that their
their predecessors couldn't even have
imagined you
know you kind of get what you you vote
for yeah so it sounds like we're
grinding to a halt from the standpoint
of the real economy uh but there's a lot
of deflationary pressures due to the
macro stuff the demographics and just
the the changing of uh what people
prioritize uh and then there's
inflationary pressures from government
deficit spending a whole heck of a lot
more and then deficit spending to
consume as opposed to
produce and that deficit form of that
defit spending takes the form of the
government borrowing because that
borrowing is no longer really available
for the
individual right I think that's actually
really important to understand what
you're really seeing going on is the
government is ultimately saying we don't
really care we can always come up with
the money to pay in our own terms
therefore we're going to do all sorts of
things that you in the broader economy
might look at and be like well I I would
definitely classify that as nice to have
not need to have
right and when you have a lot of nice to
have but not need to have nobody's
really happy right I mean any anyone I'm
sure there's members of your audience
that have discovered the underlying
phenomenon of once you have everything
you want actually want you basically
start filling your life with things that
aren't all that meaningful and nobody's
really happy in that your house is
cluttered you're like why did I buy that
you know it's like what was I thinking
what what what made me think that what
would really make make me happy we're
round ice cubes in my freezer right
um you know but like this is the world
we inhabit we all want you know 2inch
ice cubes that look fantastic in our in
our scotch glasses and round ice cubes
that optimize the surface area to melt
ratio like we're basically Romans eating
peacock tongues for all
intention Mike tell me about the
two-year where do you think that's going
to be in a year and then please tell me
about your product that you have I
believe it's uh
Tua yeah so T Tua is one of the more
interesting products that's out there it
is actually one of the very few ways
that someone who wants to gain exposure
to the directional price move in a
two-year Bond can actually do so so Tua
is a um five times leverage exposure to
the US 2-year treasury future contract
it allows you to actually create a level
of volatility that's about half that of
the US Stock Market whereas a 2-year
Bond on its normal basis has so little
volatility like it just doesn't even
matter from a from a trading standpoint
right okay um and so that's really an
important tool if you think that the FED
is going to start cutting rates do two
features to it one it'll capture the
price move and then the second component
is once the yield curve
normalizes and so the front of the curve
is less than the 2year that leverage
starts to work in your favor and it
turns into a much higher yielding
instrument and so there's some people
who are waiting for the yield to get
much higher and there's other people
like myself included that have positions
that are largely betting on the
directional move in rates as compared to
the carry characteristics of it when you
say the curve is no longer inverted are
and that gives you an extra pop is that
does that matter if it's a bull
steepener or a bare steepener I would
assume it has to be a bll steepener
right because then the uh yields are
going to go down price up well you're
going to benefit from a yield Point
whether it's a bull steepener or a bear
steepener all you care about is the
steepener component okay but from a
price Behavior standpoint you're 100%
correct if you have a bare steepener
then ultimately you're going to lose
money in the price Behavior you'll make
some of it back in terms of yield over
time okay got it so the ideal would be
uh steeper yeah the ideal is a bull
steepener particularly happening at the
front end easiest way to think about it
is just this is the the vehicle you want
to be in If the Fed is forced to cut for
any reason in the next two years right
like this is just the right place to be
and that's definitely my base case what
what's your uh view on that Mike what do
you think the two-year will be in a year
well so I think a year is probably the
right time to be thinking about that
forecast ultimately I think we'll
actually probably be in the threes but
that's because I have a relatively beish
outlook on the potential for a risk off
event particularly in credit markets to
hit
um what I'm really worried about is if I
talk to business people in the
commercial real estate space or I talk
to people in the industrial space or
even I look at something like Nvidia
which is engaging in large scale vendor
financing no different than Cisco did in
Prior Generations you know the real key
risk that you face anytime you're
engaged in levered lending of any form
uh shape or form is that the companies
that you're lending to experience
adverse economic outcomes
right it's not so much that interest
rates go up that historically has not
been a big risk the risk has been on the
fundamental deterioration right the
company's making less money because we
go into a
recession that makes servicing debt much
much harder particularly for the smaller
companies that tend to make up the high
yield space and candidly we haven't had
the opportunity or at least we had the
opportunity but we squandered it for
many of these companies particularly
those that are under the private Equity
umbrellas or other areas to have delived
themselves the speed with which the
interest rates have been hiked have
basically put us into a situation where
many many companies simply can't afford
to refinance and again it's not the
credit spread it's not the stuff that
happened in 2008 that matters it's
simply the underlying risk-free rate of
return yeah so the speed of the hike uh
ironically increases the probability uh
that the FED will have to drop yeah I
think the speed of the hike and then
ironically the longer the FED delays the
less you know what's referred to as
prophylactic Right Moving in advance
taking caution ahead of things again you
know prophylactic in in that context
also helps to explain the deterioration
our fertility rates but you know we're
not talking about something that's all
that different actually in this this
underlying phenomenon right if the FED
is forced to cut rates it's likely
because the economy has deteriorated
sharply yeah and the longer they put it
off the closer you get to the point that
it doesn't matter right so like right
now the debate is like well will the FED
cut by 50 basis points or 75 basis
points in 2024 and my reaction to that
is like who cares yeah right I mean the
companies that I'm looking at are
looking at their financing costs going
from four and a half to 5 and a half
percent to 8 n 10 11 and in many
situations they just can't afford to do
it yeah I always use the example 200 I
think it was seven uh when they started
cutting rates um and I said look just
let's assume that they would have
started cutting six months prior you
think we would have avoided the
GFC probably not I I think it would have
been hard because I think the GFC
ultimately was more about um just
fundamental errors in terms of the
construction of Structured Products
right we made assumptions about the
frequency with which people would
default on various instruments and the
biggest driver of why that mattered is
because we then built lots of large
levered structures that required those
levels of performance on the fixed
income
assets um I'm not seeing as much
evidence that that's the issue this time
around right the com the people who are
buying homes are rarely lying about
their financial condition they are
rarely planning on flipping the property
rapidly they're rare you know they're
really looking for places to live right
and so perversely this is a variant of
you know the magino line right the last
battle is almost never the one that
you're facing this time around no but
it's a banking crisis so that was a
banking crisis in the money center Banks
right when you allowed deman Brothers to
fail basically 50% of the hedge funds in
existence suddenly discovered that they
didn't have anywhere near as much cash
as they thought they had had a sizable
fraction of their cash was turned into
an unsecured claim against Leman
brothers that unsecured claim took
several years to pay out and ultimately
the recoveries were better than people
had anticipated but the simple reality
was that didn't help you then right if I
needed to make my mortgage payment and
that money didn't come in or if I was
trying to create a business and the
money doesn't come in that allows me to
make payroll then it none of it really
matters right the game is I've missed my
window of opportunity and that I think
is the real challenge we face this time
around are there tons of companies out
there that if they don't get much lower
rates really aren't going to be around
to see the next cycle yeah yeah yeah and
and then can they uh can they get credit
if rates are dropping because then you
argue that money's tight money's tight
it's not loose and that catalst for the
banking crisis it doesn't have to be
residential real estate be commercial it
could be China it could be Japan it
could be Germany it could be any of
these things because the banking system
itself so interconnected yeah no I I
think you're hitting on a really
critical point right I mean we remember
the global financial crisis because it
just happened but the resolution trust
Corp was created in the aftermath of the
1989 recession you know predicated on
the dramatic increases in interest rates
and the inability to distinguish their
deposit taking activities for the
Savings and Loan industry right they
were ultimately placed into a position
in which they had had to say okay um
we're going to have to let some of this
stuff fail that has been overbuilt that
was the condo and Northeast uh inner
city uh housing collapse that occurred
around 1990 it even hit out in
California as well although less severe
um this time around I would actually
argue that there's just so few homes
that are actually available that
perversely people are being forced into
all sorts of uncomfortable decisions
either spending more than they want to
um or choosing to live with their
parents and if they choose to live with
their parents there's a there's a
perverse Dynamic that's playing out
where people are just saying something
along the lines of well forget it I can
never buy that house I'm just going to
have to inherit my parents house so you
know what I really want a new pair of
skinny jeans because that'll make me
look really good and overcome the
objections from the young women in the
dance club who are like wait you live
with your parents and you can be like
yeah but I got skinny jeans right
so why didn't you say that at the
beginning
Mike
start the conversation with the skinny
jeans it would be helpful I'm not sure I
fit in them though
so oh Mike you're gonna be at Rebel
capitals live buddy that's awesome I I
sure appreciate it it's GNA be a
fantastic event Jeff Snyder is gonna be
there along looking forward to seeing
Jeff is he gonna shave I well the better
question is he gonna get a
haircut I they're they're actually the
same thing both involve cutting hair
yeah we'll have to see I wouldn't hold
your breath but it's be a fantastic
event so uh I can't wait to see you
there for people who want to find out
more about what you do where can they go
and then where can they go to check out
Tua uh so if you want to look up Tua you
want to understand it check out www.s
simplify us I would encourage you to
look across the range of products that
we offer simplify as an ETF firm that
was created in 2020 when the regulatory
rules changed and allowed a lot of
strategies that have traditionally been
reserved for the hedge fund world to be
brought into the ETF world that's really
what's been powering our growth it's my
background it's a lot of the rest of the
team is coming from a similar place um
if you want to uh follow either uh my my
random ramblings and writings you can
find me on Twitter atpr Plum 99 I know
you've probably got that listed on the
screen somewhere um and then I also put
out a substack called yes I give a
fig.com um it's in my Twitter profile
handle if you want to take a look there
I'm more than happy to to set up a
discounted membership George uh for your
subscribers so yeah I appreciate it Mike
and thanks again for your time it's
always a pleasure to talk thank you
George I appreciate you have me hey guys
I want to invite each and every one of
you to join me May 31st through June 2nd
in Orlando for Rebel capitalist live
this is the annual conference I do and
this year it's going to be absolutely
incredible we're have some of your
favorites there as speakers guys like
Jeff Snyder Mike Green the real estate
Kenny maroy we're gon have Robert Barnes
they're talking about freedom and
liberty even Rich Cooper is going to be
there discussing red pill issues this
event is all about giving you the Intel
The Insider information you need to not
only survive 2024 but Thrive the whole
reason I created this event was to give
you the tools you need to build the
future you deserve serve for yourself
and your family this is an event you are
not going to want to miss so to get more
information go to Rebel capitalist
live.com you can see a full list of
speakers speakers we've had in the past
you can see clips from past events and
most importantly you can get your
tickets as we get closer to the event
the tickets go up in price so you're
going to want to get those
ASAP Rebel Capital
live.com and will see you in Orlando May
31st through June 2nd
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