Mike Green: The Fed Overreacted to 2022's Inflation Pulse. Now what?

[00:00:00] Pierre Daillie: And welcome to Insights Capital. I’m Pierre Daillie, Managing Editor at Advisoryanalyst.com. Joining me today is Michael Green, Chief Strategist & Portfolio Manager at New York-based Simplify Asset Management. Michael was previously chief strategist and portfolio manager at Logic Capital Advisors, and has previously held senior strategist and portfolio management roles with Thiel Macro, Ice Farm Capital (seeded by Soros Fund Management), Canyon Partners, and others.

[00:00:25] He’s a prolific researcher and writer, has a huge and popular following on Twitter, where he tweets as Prof Plum 99 and Real Vision where he shares his thoughts and industry contacts in his Mike Green. In Conversation series, Michael has presented his proprietary findings focused on the ongoing shift from active management to passive approaches to audiences that include the Federal Reserve, The International Monetary Fund, the US Department of State, and dozens of other industry groups and associations.

[00:00:57] Michael Green: This is the Insight Is Capital Podcast. The views and opinions expressed in this broadcast are those of the individual guests and do not necessarily reflect the official policy or position of advisor analysts.com or of our guests.

[00:01:09] This broadcast is meant to be for informational purposes only. Nothing discussed in this broadcast is intended to be considered as advice.

[00:01:16] Pierre Daillie: Mike, it’s an honor and a privilege to have you back. Before we get started, I wanna ask you, what have you been working on lately and what’s new with

[00:01:24] Michael Green: you? Uh, well first of all, Pierre, thank you very much for having me.

[00:01:28] It’s always a pleasure to come back and chat with you. Um, so, you know, this is, this is a really interesting time period, um, cause I think that we’re seeing a combination of things that I’ve talked about in the past, uh, begin to come to fruition. We also have a really interesting economic puzzle sitting in front of us.

[00:01:50] which is this question of do we have the world’s best telegraphed recession, or is this actually spurious based on the strength that we’re seeing coming out of the employment market, et cetera. Um, you know, the quick answer is we don’t know in the fix of, I think it’s, it’s very interesting how passionate people are in every direction, right?

[00:02:13] Ranging from hyperinflation is upon us to, we have an inflationary bus ahead of us and a great depression, um, to, you know, we’re missing the opportunity of a lifetime to buy equities or idea that we’re gonna all freeze to death as global warming fails to with our lack of access to fossil fuels. So there’s just an awful lot of passion and debate that’s making its way into the market.

[00:02:43] That, in my opinion, is an interesting passion, actually not really manifesting itself in, in general. Pierre, I mean, the more interesting thing to me is, is that we see incredible correlation between Bitcoin and Tesla and Bed Bath and Beyond, and various other meme stocks, right? They’re all behaving in a very similar fashion, suggesting that this has very little to do with individual insights, right?

[00:03:09] This has much more to do with kind of the macro dynamics and the macro factors that are in play, and yet everyone is kind of convincing themselves that they’re giving in a contrarian session, and I don’t see a lot of evidence. Uh, so it’s, it, it’s a really interesting time. I’d say I’m spending more time than usual trying to dissect the data that’s coming out of, um, Western government institutions.

[00:03:35] Many years ago, I think it was probably four or five years ago, it was suggested that the, um, the right approach, uh, I forget who who suggested this, but they ended up being very prescient. , you know, the right approach was for Western investors to begin to think about things from an EM investor standpoint, right?

[00:03:52] Nobody actually pays any attention to the data that comes out of most EMS on a government basis cuz we just know it’s so deeply in don’t pension to Venezuela’s inflation numbers don’t to Greece, Greece’s employment numbers, even though they’re slightly better. Uh, we certainly don’t look to them as models of accounting probity.

[00:04:13] Um, you know, so when, when we’re trying to understand stuff in em, we have to first figure out if the data that we’re looking at is correct. And secondly, establish kind of broad shirts, right? Because right, we just don’t have the detail in the West. We have giant institutions that are built to provide that data to us and we diligently pay attention to the Bureau of Labor Statistics.

[00:04:39] Release of employment information or the Department of Energy’s release of energy data, et cetera. And the problem is, is when you inject as much volatility into the economy as we have over the past several years, the stability of those systems breaks down. And many of the modifications that were made historically to the data sets that we now see, were actually designed to basically smooth out extreme information.

[00:05:07] There were, you know, we introduce things like the birth death model in terms of US employment, precisely because we don’t want to continually restate historical data and say, oh, guess what? We actually had new businesses emerge that weren’t properly ca so we introduced something like birth death as an adjustment to that data series to try to smooth it out over time.

[00:05:28] But then when something super volatile like a coronavirus pandemic or changes in stimulus tied to, um, You know, collecting tax credits for employees or P p P benefits, et cetera. We have to expect that those data sets reflect that underlying change in the regulatory framework and that that is gonna skew all the data that we receive.

[00:05:53] Right. My sense is, is that we’re not doing a very good job of making those modifications. Right. And I can share all sorts of data around Exactly. These components can be everything ranging from, oh my gosh, there’s been a surge in, you know, um, self-employed, incorporated businesses. That’s indicative of a growing entrepreneurial surge.

[00:06:14] No, that’s not what it’s in of. Actually that trend being in 2016 when it became a requirement for Uber drivers and others who participate in the economy to actually establish tax dynamics. Right. That was a, a written component. So we see this data, it’s very clear if we actually go in and, and dig out from the data what the changes were.

[00:06:38] and how that’s impact. I’ll share a just an extreme chart that I actually been playing around with, um, today. So this is looking at the explosive growth in business applications, um, that you’ve seen, right? This is the business formation data, uh, is, um, this is the business application data that you see in the data sets that are affecting the way the birth is reported in 2021 in, um, April, may of 2021, the Biden administration produced the employee retention credit pays you up to $26,000 or employee or an incorporated business that is continuing to hire people.

[00:07:23] There’s a lot of debate around the impact of this. You look the cumulative access business applications for 2021 versus normal seasonality. I personally detect a pattern. I’m not sure if I’m the only one that can see this. , but this seems very straightforward that a lot of the data sets that we’re receiving have been influenced by these types of policy choices.

[00:07:45] Um, understandings of that is critical in my view. So this

[00:07:50] Pierre Daillie: basically shows that the businesses that were applied for, it was, it was for the incentive.

[00:07:59] Michael Green: A hundred percent. Yeah. I mean, that, that would be my interpretation of this. Yeah. Now I, I’m gonna lay it straight out there. I’m not an academic researcher.

[00:08:09] The Boston Fed has attempted to address this. They did not approach it in this, what they did. A lot of what I think are, are incorrect analyses. To me, something like this is a very straightforward way of presenting the data that illustrates exactly what I would’ve expected. That could be confirmation bias, but I don’t think so.

[00:08:28] Yeah. Not a coincidence. I, I, it would, it would be one hell of a coincidence. I didn’t use the actual term for it. Right. So that’s the sort of stuff that I’m trying to pay attention to. And unfortunately our policy makers, I think are, um, much less creative in their evaluation of, that they’re receiving. As a result.

[00:08:48] We’re hearing an awful lot of data from, um, you know, individuals like Chris Waller, you know, saying, well, everything’s fine. I think it’s great, you know, there’s no problems associated with, not be thrilled if I was wrong about the data in 2023 as I as as wrong about the data in 2023 as I was in 2021 about the inflation data.

[00:09:10] Um, cuz it’ll be super easy just to cut interest rates and fix the problems. Well again, you know, every recession, every bear market that we’ve gone through in the past couple of decade, we hear this language of the pushing on a string because it doesn’t actually work that easily. Right. So, . This is the sort of stuff I’m trying to pay a lot of attention to right now.

[00:09:32] And on top of that, of course there continue to be the dynamics of the continued growth of passive investing influence that that has on market, et cetera. So you asked me what I was working on. That’s, that’s what I’m working on these days. really trying to understand this stuff.

[00:09:47] Pierre Daillie: Yeah, I think, I think that, uh, that that’s sort of a, uh, good layup to what we are gonna talk about and, um, which is, uh, to start, uh, the economic cycle.

[00:10:00] Um, having come from the options world and having held several leading roles as an allocator of capital, you’ve become an extraordinary observer of probabilistic outcomes and you’ve become well known also for your meticulous thinking on, on markets and investment strategy. Have you come to a determination on, on whether or not the Fed is acting on poor data and secondly, You know, do you have a, a probability for when or if, or both when the Fed will, uh, if the Fed will pause or pivot, or if they’re gonna continue, um, as, as you know, as Powell Yeah.

[00:10:43] Michael Green: Along this path. Um, so a couple of quick things. One, you know, I think it’s been very interesting. You’ve seen the inflationary, uh, inflation on a shorter term time horizon. If I look at three months annualized or I look at the last six months, et cetera, the evidence is actually fairly straightforward that the inflationary pulse that had hit us before is now going away or is gone.

[00:11:06] Um, in goods in particular, we’re now looking at significant negative inflation, what’s called deflation. Um, in many types of services, we’re seeing a dramatic slowing of inflationary conditions. Rents, for example, are now down for the second conec. , um, even though they’re up significantly on a year over year basis.

[00:11:30] And what we don’t know, and I just wanna always emphasize that part, is we don’t know what’s going to happen next. But if we indeed end up in a recession, we indeed end up with the surplus appears that we’re going to have from a combination of single family homes being purchased and contracted for rental purposes and in continued and significant surge in, uh, multi-family construction as far more units, uh, relative to, uh, single-family home construction, at least on a dollar basis.

[00:12:05] Are we gonna continue down the path of those declining? It appears that the answer is very much yes. . Now the question becomes what does the Fed respond to? And so you mentioned, you know, the focus on the options market. One of the things that I tried to emphasize for people is you can use the structure of the options market to see what the market’s paying attention to.

[00:12:26] For the past several months, the market has been placing huge premiums on the C P I prints effectively saying this is what the Fed is paying attention to. We now have two consecutive months in which the CPI numbers came in, basically, you know, slightly worse actually than headline ex expectations. Yeah.

[00:12:44] But was largely discarded and the volatility on that was faded significantly. It’s becoming increasingly difficult to identify and isolate situation that cause the markets to move in a significant, um, and I I, I would just suggest that, that, you know, what that’s telling you is, is that the markets largely think the inflation story is over.

[00:13:08] Now it just becomes a question of does the Fed actually start to follow through with cuts at some point? My fear as it relates to all of this is, is that by hiking as aggressively as it did, what the Fed actually did was destroy demand. Not so much on the consumer side, but on the investment side. The evidence of that is relatively robust.

[00:13:29] There are some areas where you’re seeing event of increased expenditures, but certainly relative to what we would’ve expected, you know, rig counts are going down, not up. We’re, you know, despite the fact that everybody’s worried about an oil short, we’re seeing evidence of non-residential construction, particularly in commercial real estate, is being absolutely hammered, et cetera.

[00:13:51] The reason that I highlight that is the fear that I have is, is that the Fed has basically pushed through a solution that may contribute to deflationary conditions over the next year. , but as we emerge from the recession, ultimately expose us to the same shortages, if not worse than we had going into the re.

[00:14:12] So I think what’s unfortunately about to happen is, is that we’ve introduced volatility into the system. You see this with the extreme mo, you know, extreme levels of the interest rate index, the move, for example, they just say that, um, you know, they’ve made the problem worse. And that’s largely what you would expect, right?

[00:14:29] And if you think about the, as the person who’s supposed the weigh the punch pole, and then you add in repeated errors as they Right. Continuing to simulate in 2021 instead of reducing stimulus in the face of things like the E R C that I just highlighted, um, and now trying to slam on the brakes. In an economy that’s already slowing, all you’re doing is this increasing amplitude of the moves become a pro-cyclical volatility contributor as compared to a volatility reducer.

[00:14:58] My gut tells me we’re gonna wake up and find that. , you know, that that’s what our world looks like over the next couple of years.

[00:15:06] Pierre Daillie: So in the, in that respect, you, you’re the, and, and at the same time, the narrative, of course is that, is that the fed is, uh, that the inflation story’s over and that the Fed will turn dovish, or there’s an expectation or a hope that the Fed will, will pivot and, and become dovish.

[00:15:31] Is that likely, I mean, what is the likelihood of the Fed? Well, so that’s, that’s the way the market’s behaving, right? Yeah,

[00:15:38] Michael Green: yeah. I mean, let’s just run through the math, right. So first the Fed has to slow the hikes. Yeah. Right? And the Fed has to decide that they’re gonna stop the hikes. Then the Fed has to decide that they’re gonna reverse the hikes.

[00:15:49] And this is before we even begin discussion around Q qt, although they have indicated. that they’re now beginning to consider separating those two, that they’re willing to consider policy, uh, dispersion in terms of the underlying dynamics, right. They’ve resisted the idea of putting, you know, pressing the brake and the gas at the same time.

[00:16:11] That’s been an area that criticized, sounds like they’re starting to reconsider that, which I would consider to be a relative positive. Um, but exactly like in 2021 where there was an element we’re gonna display conviction. Right. It wasn’t quite George Bush reading my lips stuff. , you know, Powell was very much as late as November of 2021.

[00:16:35] We’re not gonna be hiking interest rates for a long time. Right. Maybe a little earlier than that. Let’s, I’m thinking the last time you said that was probably September of 2020. Yeah, man, if you listen to the Fed, you got destroyed. . Right. So what’s happening now? Well, the big difference is, is that listening to the Fed would basically involve, you know, saying, you know, I’m not gonna buy bonds.

[00:17:01] Maybe you won’t get destroyed by not buying bonds. It strikes me that if anything, that the, that the market is certainly telling you that that’s gonna be forced to respond to it. And I know anything about the history, that they’ll wait until the last possible moment and then overdo it and, and we’ll go through the whole process all over.

[00:17:20] Pierre Daillie: Well, yeah, they don’t want to be the fed that certainly doesn’t want to be too early. And, I mean, well, they’re almost always too late.

[00:17:29] Michael Green: They, they almost by definition have to be right. Yeah. They don’t, you know, they were to truly be proactive. They were to truly decide that they were going to start tightening.

[00:17:39] When, you know, people are starting to get boisterous at the party. In other words, take away the punch bowl. The political outcry would be extreme. We saw this under the Trump administration where the economy was clearly tightening. There were clearly elements of inflation beginning. We were seeing wages already start to rise, and in many ways, I just would suggest that what happened in 2020 and 2021 was an extension of that.

[00:18:03] We started the recession. We didn’t allow it to finish. We then exploded, was purchasing power. And guess what? We found out that the shortages that had begun in 20 15, 20 16, 20 17 began to manifest themselves in earnest relatively quickly. Again, I just, you know, I, I think we know that the institution itself lacks the courage to be in a truly contra, cyclical fashion.

[00:18:29] Pierre Daillie: So, uh, Mike, are we, are we actually in, in, or about to go into a recess? .

[00:18:36] Michael Green: So my analysis would suggest that we are in a recession already. All right. Um, there’s a couple of unique aspects to this recession that in many ways are almost the mirror image of the 19 s. Yeah. What I

[00:18:48] Pierre Daillie: find interesting in, in advance of our discussion is that the market seems to be on a hair trigger about what the Fed will do.

[00:19:01] And so right now the market’s behaving very positively, or has been positively, has been, you know, rallying. Um, I’m curious to know if that’s short covering, especially, you know, the behavior of tech stocks the last few days. Yep. And, um, you know, that, so all those shorts that were out there on technology are covering because of the fed sentiment.

[00:19:26] I, I certainly, I, I can’t, I have a hard time believing that it’s investors coming in and bottom fishing. Um, and you know, especially given the year that it’s been. And so the market seems to be behaving as though it expects the Fed to pause. Um, and maybe even, you know, maybe even pivot and I, you know, your, your point’s well taken too about the amount of time that it will actually take for that to happen.

[00:19:55] Even in, you know, the, if the circumstances present themselves, how long it will take for the Fed to, you know, cover each step of its actions. You know, slowing down the p, slowing down the rate hikes, stopping the rate hikes, and, and then actually instituting rate cutting, you know, how many months are we talking about?

[00:20:17] If it was to happen today, you know, if the indications came today, how long would it actually take the Fed to, to turn

[00:20:25] Michael Green: around? . Yeah, I mean, uh, the, the, the quick answer is it depends on the severity of what comes extract, right? The markets were to crash. If we were to see a severely adverse end mutation, as would respond relatively quickly, it’s very hard, yeah.

[00:20:43] To expect the fed to respond aggressively when you’re seeing, you know, metrics like financial conditions, ease, and just, you know, remember what’s incorporated in financial conditions is literally an expression of, you know, if I look at the GS model, for example, the credit spreads and the right, those are the two components that really contribute to financial conditions.

[00:21:08] Both of those, uh, you know, the VX has fallen and credit spreads have. Um, so everyone is convinced that everything is fine. I wanted to show this chart very quickly here. Yeah, please. You know, one of the things we’ll spend an awful lot of time being a is this question of. , how, how, um, and can the unemployment story, one of the things that people forget about recessions that we’ve seen recently is, is that the severity of that recession is often a function of who is trying to get into the job mark as much as it is who’s already in the job market.

[00:21:48] So the story of the 1960s and 1970s where you saw rising unemployment even in the face of inflation, that was on the back of an incredible surge in the number of possible employees coming in through B boomers, rising labor force participation for women. Um, aging of the baby boomers who were born basically starting in 1945.

[00:22:10] By 1970, they were hitting 25 years old, starting to meaningfully enter the labor force. That of course, then contributes to a rising number of entrant. The millennials were an echo boom, exactly as we described, and that. Been to hit in the aftermath of the 2008 recession, and as a result, we had all the stories about under employed millennials who were college graduates, et cetera.

[00:22:33] That’s now going away. We’re watching that dynamic retreat. Very low rates of labor force growth that has all sorts of negative implications, but it also means that unemployment will must less likely to rise to the levels that it did in the global bank crisis instead. This is probably gonna look a lot more like 1,002 thousand three rece really that started in 2001 and you know, maybe we’ll see five, 6% unemployment might pushback to that San Guin view, however, is my big fear is, is that we’re gonna lose, a lot of people are going to have a very extended period of unemployment as a result.

[00:23:15] And yeah, that unfortunately is a recurring pattern. There’s been a lot of excite. Articulating, you know, well, the layoffs that have occurred in tech, um, people have gotten hired back almost immediately. That’s inevitable at the start of the recession. Once it begins to kick in and people suddenly start saying, oh, maybe I should hold off on hiring because me business is gonna slow down.

[00:23:39] That reflexive dynamic, once that really starts again, becomes harder and harder. And the other thing to remember is, is that those technology employees tend not to be general purpose. So like I can, I can hire a gardener and they tend to be general purpose. I can hire a factory line worker or a steel worker.

[00:24:00] They tend to be, general purpose can be assigned. You know, the union would allow people to be assigned a different look, period. If I have a, you know, particular expertise in programming language and voice recognition software or, um, image recognition for Facebook. , my skills are fairly narrow and fairly defined, and my employment expectations in terms of compensation are likely quite high.

[00:24:31] Right. And the data suggests that under those conditions, what we’re most concerned about is the duration of unemployment that emerges. And that’s right in, in the aftermath that that’s, I think exactly what we’re gonna, we’re gonna see, we’ve seen every single cycle have higher and higher levels of, um, hi, you know, longer, longer period unemployment.

[00:24:54] Looks like we’re gonna do the exact same this time around. Yeah. The, the Fed

[00:24:59] Pierre Daillie: is, is basically not paying attention to all the data or not enough data. They’re not looking at, they’re not looking deeply enough at the data, and they’re acting on a very, sort of, uh, superficial, uh, set of data. They’re not understanding that they’re creating the problem.

[00:25:17] They’re creating a bigger problem than

[00:25:19] Michael Green: they’re solving. . Um, well, I think, uh, so, so I think there’s two separate components there. One, I don’t want to imply that the Fed is doing, you know, it’s not like the researchers of the Fed are intentionally doing it at Job, right? They, they’re

[00:25:33] Pierre Daillie: doing, yeah, no, they think they’re doing a great

[00:25:35] Michael Green: job, , right?

[00:25:36] They, they’re, they’re doing the best that they can and are very legitimate reasons why they could disagree with my analysis, for example. Right? Right. Um, I don’t, economics is a social science. It’s not a science. I can’t run repeated multiple experiments to test, to see what happens if I introduce the employee recovery Act under normal conditions versus both pen.

[00:26:01] There’s no way to run that experiment. Um, there’s some clever attempts at ways to do stuff like that, but you, you’re never gonna get, there’s also just a very deep fundamental difference, I think, in the way that Macroeconomists in particular approach markets in the way that I tend to approach. Um, we tend to, We, we tend to approach things from the standpoint on a macro side, as everything’s in aggregate, the workers are interchangeable.

[00:26:27] What I care about is unemployment, right. In, in, you know, all capital letters. You mentioned that you watched the Ben Hunt example. Ben Hunt is famous for using that type of dynamic. Right. You know, Bitcoin and air quotes or unemployment, you know, or it’s the economy stupid sort of stuff. Right? The performative stuff.

[00:26:47] Yeah. Right. And, and so unemployment is one of those things that is by definition perform in many ways. Cuz if you’re not unemployed, you don’t really care. Right. You care. There’s the expression, you know, it’s, it’s a recession when your a neighbor loses their job. It’s a depression when you lose your own.

[00:27:05] We all care about our own job and what’s gonna happen to us. Right, right. Um, Unemployment, as I mentioned, has unique characteristics to it. I have a very esoteric degree and a specialty in one particular area. I don’t actually expect to be frequently unemployed, but when I’m unemployed, I can be unemployed for years.

[00:27:30] Right? On the flip side of that, if I have a high school education and I work as a grocery clerk, I can expect to be unemployed a lot because various changes in purchasing patterns in any form of economic slowdown are likely going to reduce demand for my services. So I’m used to moving in and out of unemployment, but I don’t expect to be unemployed for a very long period of time.

[00:27:55] Right? Those two simple differences can have very meaningful changes in how you want to construct policy. And our economy, by and large has moved from one, and people are generally low skilled with General Apple. to their, to their education and skillset, to very specialized where the, the ladder is much more important.

[00:28:16] You screw up and destabilize that very specialized economy. The implications can actually be much worse, even as you feel protected because, you know, accumulates surplus under that model for a variety of reasons. I mean, this, again, the simplest one is if I’m getting paid a lot to be the, um, voice recognition engineer or the, um, you know, troublesome covid reporting engineer at Twitter, I’m getting paid a lot.

[00:28:48] Should theoretically save a lot of money. I can look down my nose of people who accumulate more than a couple of weeks worth of emergency funds, right? But part of that is because I recognize that the surplus that I’m accumulating is unique and very, and, and potentially required because I’ll have this long period of unemployment.

[00:29:10] we don’t tend not to take those things into consideration when we’re designing these policies. It was a very real chance that the Fed is decentralizing as the

[00:29:18] Pierre Daillie: highlighting. They’re, they’re underestimating the disinflation. That’s

[00:29:24] Michael Green: Well, they’re built, I, I, I would suggest that they’re underestimating the pressure that can be created by causing disruption in an economy with those characteristics.

[00:29:33] Interesting.

[00:29:35] Pierre Daillie: Um, I, I, I was, I, you know, I thought it was interesting when Eric Basma know you spoke to, who you spoke to recently mentioned that, you know, the economy was already in a state of disinflation just prior to the breakout of the war in the Ukraine. And that that was, uh, uh, a disruption that, that that disrupted.

[00:30:04] uh, the economy largely in the form of, in by, by introducing, uh, um, you know, as an exogenous event, a substantial amount of inflation because of the disruption that it was causing. Yep. And so I wonder, I mean now that that’s all you know, but now that the, the Ukraine conflict is pretty much baked in, I wonder, are there any other wild cards that could delay the fed from standing down or pausing and subs subsequently Cutting.

[00:30:44] Is there, is there anything in there? Like, I, I think there’s been some talk about China reopening as a potential wild card and inflationary inflation volatility, uh, wild card that could further delay. plans at the Fed if there is plans at the fed of

[00:31:04] Michael Green: pausing. Well, I, I mean the, the quick answer is if the Fed chooses to pay attention to it, then of course, yeah, yeah.

[00:31:13] If it actually occurs, then of course China at least indicates off the top of its, um, China indicates that population has significantly increased its net cash savings. Deposits are theoretically up that creates conditions under which they were to truly reopen and liberate, um, the individual members of their society to do what they wanted to do.

[00:31:40] We could very well see a surge of purchasing activity emerging from the Chinese. Um, I’m very skeptical of both that data and of the reality of that being allowed to happen, but you absolutely have to consider it. And I think Eric brings up a really, really valid point by highlighting the dynamics of crane.

[00:32:00] we almost certainly would’ve seen inflation retreat much earlier had it not been for Russia’s invasion of Ukraine. Right. I personally fail to see how Russia’s invasion of Ukraine has anything to do with US monetary policy, at least in the traditional sense. Um, and as a result, why would we react to it by hiking interest rates?

[00:32:21] I mean, let’s just let, let’s stop and think about the stupidity of this. We are in proxy war with the Ukraine and we are doing everything in our power to raise the cost of financing any activity that we’re engaged in from a government standpoint. It’s just absurd, really, is when we went into World War II high interest rates to try to slow the economy down so that we would reduce inflationary pressures cuz they absolutely existed.

[00:32:48] No, of course we did. Nor did we in World War I, nor did we in any other period in history. I mean, this is a really unique, exceptionally strange that I would. Liken in many ways to our response to Covid, where we know the right protocol for how to handle a novel infectious respiratory disease. We actually know how to do that.

[00:33:12] Yeah. You isolate the vulnerable, you protect Right. Those members of our, of the population. And you encourage everybody else to be thoughtful in going about the early lies. Nowhere in the rule books does it say you shut down the economy, because when you’re fighting a war, please find me where it says in the rule books to hike interest rate.

[00:33:30] Cuz you can.

[00:33:31] Pierre Daillie: Yeah. So Mike, if, if, if it wasn’t for, uh, the Ukraine conflict, the, you know, Russia invading the Ukraine, would inflation have, you know, would we have had inflationary volatility? Would, would the fed’s actions have been like, if it wasn’t for the war? . W what do you think, do you think that we would’ve had a bout of inflation resulting from supply chain disruptions that were already happening prior to the Ukraine conflict?

[00:34:10] I mean, would the Fed have, would the Fed have been, um, you know, given the impetus to hike if there wasn’t a war in the Ukraine? So if you, if you, if you take the war out of the picture, like it didn’t happen,

[00:34:27] how much of what, you know, how much of the, so

[00:34:29] Michael Green: first I think the counterfactual is very, like you, you’re asking me for a counterfactual. It’s really hard to see with that. Yeah. Um, the quick answer is I believe we would’ve had much less inflation, although I think that most of that has already resolved itself.

[00:34:46] Okay. So we see that in oil prices having retreated natural gas prices, for the most part it’s had a longer term impact. Europe has that Europe and Japan as well, where. For L n g. Um, with Europe, those become issues in the United States. It has some impact cuz the natural gas that was stranded in the United States is now available for corridor increasing available for the export that raised this prices for US citizens with that surplus being transferred to the Europeans, Asian and to a lesser extent, to a greater extent than energy companies.

[00:35:24] Um,

[00:35:25] Pierre Daillie: so is it is, yeah. Is it correct to say then, um, that, that your opinion is that the Fed has overreacted, completely overreacted?

[00:35:37] Michael Green: I think the Fed is completely overreacted, yes. Okay. Uh, and no, to be fair, I think yeah, the Fed, um, if I’m be. If I’m being completely fair to this, the, it had no way to overreact or underreact given the magnitude of the changes, right?

[00:35:59] Like one of the two was going to happen. Um, simply because so much volatility has been introduced, right? We had a global pandemic in which, in a totally unprecedented manner, we shut down the world’s economy. How do you respond to that? I don’t know. Yeah, , I mean, I’ll just be really straightforward. I don’t know the right way to respond to that , right?

[00:36:20] Pierre Daillie: I mean, under normal. Yeah. I mean, all on its own. Without any intervention, that would’ve been a completely deflationary bust, correct? Right. So, so there’s the over, there’s the stimulus. There’s an over stimulus response. Fiscal stimulus response, money being put into everybody’s bank accounts. Yep. Companies, companies being funded for staying open.

[00:36:49] and running their staff out of their homes, you know, the stay at home economy, all of that. Yep. Um, but to what degree, so, so, and then, so what you’re saying is that that fiscal stimulus, the over stimulus that was provided during the epidemic, um, during the pandemic was, has already, was largely working

[00:37:15] Michael Green: itself out?

[00:37:18] Uh, I mean, there’s, there’s almost no question that that is true.

[00:37:22] Pierre Daillie: Yeah. And that’s, that’s largely, that’s evidenced by the savings

[00:37:26] Michael Green: rate. Yeah, well, the collapse in the savings rate afterwards. The

[00:37:31] Pierre Daillie: collapse in the savings rate oh hundred. So basically, I mean, every, you know Americans, uh, uh, you know, uh, uh, American North American citizens aren’t sitting on bank accounts flush with cash right now.

[00:37:45] From

[00:37:45] Michael Green: that no, Americans are not sitting in bank accounts flush with cat, , . Um, there is a sub-segment of American population that is sitting on accounts flush. Definitely, it tends to be the sub-segment of the US population that was equal to profit, either through accepting P p P loans that were then forgiven or right.

[00:38:05] Taking advantage of things like the employee retention credit to radically lower their costs. We’ve seen the corporate sector and those that are tied to that benefit tremendously. Now we’re seeing the reverse side of,

[00:38:21] Pierre Daillie: so I, I, uh, one, I want to get to a a point where it feels like the market or those of us in the market, I, you know, whatever, however you want to define that.

[00:38:32] I mean, we are the market, right? And mm-hmm. , um, that we believe in the. the paradigm that bad news is good news. That we believe that a recession will lead to lower interest rates ultimately, that the, the Fed will cut in the ev you know, once they have the evidence that we’re in a full-blown recession of some kind, whether it’s a deep one or a shallow one, or mild one, um, that the Fed will cut.

[00:39:09] But the circumstances of the recession is not good news. So, so I mean, investors look at the equity market and they think automatically that, you know, if we return, if we return to a lower rate environment from the terminal rate of 5% to some lower rate, that that will be favorable for equities. Correct.

[00:39:36] Is that, is that the, the seaview. ,

[00:39:40] Michael Green: well, it’s not my view, but . Um,

[00:39:44] Pierre Daillie: but there, there, there seems to be a positive, uh, there seems to be a positive outlook from the bad news

[00:39:50] Michael Green: that I would just say that that’s a, I mean, that’s a function of narrative being developed in response to out markets of the, the Russell 2000 has not fined since thousand 20, uh, one, basically 2000, 2022.

[00:40:06] I’m sorry. Yeah. Um, it’s basically gone sideways. The many of the junk oriented companies, um, those that are heavily exposed to high yield debt, uh, have gone sideways, you know, since the start of the quote unquote bear market that we’ve experienced. Um, you know, and we’ve seen prices generally favorable and positive on a year-to-date basis.

[00:40:32] You know, just to toss simple examples out, you know, the Russell being up somewhere in the neighborhood of 7% of the year. , we have to construct a story that explains otherwise, right? We’re, we’re nihilists. That’s, I mean, that’s just the way the human brain works. We have to be able to explain why something occurred using something that looks kind of like facts.

[00:40:54] So the markets are up. We tell ourselves, oh, that’s because, you know, um, the Fed is gonna have to respond. Traits are gonna have, uh, and therefore that positive Matt,

[00:41:04] Pierre Daillie: that’s gonna relieve the pressure on the carrying costs

[00:41:07] Michael Green: of companies. Right? I, I, let me flip that on your, on, on its head for a second and say, I don’t think that has anything to do with carrying costs have continued to rise.

[00:41:15] The cost of margin has come increasingly difficult and we’re not seeing any, any evidence of a return to leverage investments in stock markets pursuing new. I wrote about this in my tier one alpha note earlier. You know, the dynamics of margin are not confirming increases that we’re seeing in the rise in securities.

[00:41:35] What is happening is, is that the increase in interest rates are no longer affecting the bond market first, gotten far enough into this process that the bond market is basically able to go sideways. All of a sudden. That means that if I’m running a portfolio that is balanced bonds and equities, I don’t have to worry about selling equities every time bonds go down and maintain the balance in my portfolio.

[00:42:00] Right. I, I just told you, there’s no fundamental signal in my model of the world , which, which yeah, understand makes me sound combination of insane and dismissive and everything else, but I simply think that’s the way the world works. If you’re an investor in a Vanguard target date fund, if at any point you call up your advisor and say, you know what?

[00:42:26] I really want to increase my allocation fees. Oh. Does it automatically. And it does it on very simple rules that are set in place already. We’ve seen all this behavior built into the response fund. And so, you know, forgive me when I’m dismissive when people say, you know, well here’s all the reasons why it’s happening.

[00:42:45] It’s like, yeah, I don’t really buy.

[00:42:48] Pierre Daillie: Yeah. So all these trades that are happening, a lot of trades that are happening in the market are programmed,

[00:42:54] Michael Green: a lot of the trades are programmed. Yeah. And then another batch of trades are forced in response to those programed trade. Right? So if I am running a short book and I happen to own a name is Thinly Trade, possibly over shorted because everyone is extremely cut, that it’s gonna go to zero, let’s call it Bath and Beyond for Right.

[00:43:18] That stock can go up 500% as I’m forced to cover into a market in which very few people are gonna sell them. . Yeah. And that’s, and we’ve seen that. We, we’ve seen exactly that. Yeah. Anyone who’s holding Tesla at 400 is not suddenly on the basis of business prospects decide to sell to you at a hundred, right?

[00:43:39] They’re like their, their their view. We’ve seen this in all the headlines over and over again. They’re like, now this is the buying opportunity of a century. Now admittedly, I don’t have any money left, but at least I’m not gonna sell my Tesla shares to you. Well, if I need to cover my Tesla shorts and nobody wants to sell to me, then what happens to Tesla prices?

[00:43:56] It goes up as Tesla prices go up. What does that cause The person who might have a little bit of extra money left 85 bucks, didn’t deploy that into Tesla at a hundred, said that I’m not selling at 125. They’re suddenly saying, see, I told you Tesla was fantastic. I’m gonna buy. And I think that largely explains the behavior we’re seeing to.

[00:44:21] Pierre Daillie: And how much of, uh, how much of the behavior of the equity market is a reaction to what looks like smart money moving in and out? It looks like, I mean, I, I’m just talking about the illusion, like when you see technology, you know, tech stocks rising the last few days, you know, off, off the bottom. Um, not the bottom, but off the bottom, uh, you know, the narrative coming out of the networks, out of the news, you know, the financial news networks is, is, oh, tech stocks are rallying today.

[00:45:01] You know, that, that somebody came in and did some buying, but they’re not necessarily identifying it as short covering because, because there was a turn in sentiment on Friday.

[00:45:14] Michael Green: Yeah, I mean, I, you know, I’d say that there’s. I trying to think of the right way to say it. We always need a story. Yeah. Human beings.

[00:45:24] Remember, for thousands of years we believed a story, some small fraction of the US population still does that. The earth was flat, it was a disk and that the sun rose in the sky because a golden God rode his chariot, you know, with fire breathing horses across the sky on a daily basis, right? Um, we believed that type of stuff for thousands of years.

[00:45:49] So for me to turn around and say to you, why are you surprised when I tell you that people make up stories for why things go up? Because it sounds dismissive to say something as absurd as the buyers were more aggressive than the sellers, right? ? Yeah. Like that just feels silly, feels that I haven’t done my homework, but that’s what actually happened.

[00:46:13] And so the aggressiveness of that buying plays in is a short being forced to cover. That’s about the most aggressive buyer that you can possibly buy. Right? Because they don’t want to do it. They don’t want to do it. They don’t want to do, oh my God, I have a options. Market maker is a very aggressive non-economic player.

[00:46:35] They could care less what the actual value of Beth and beyond is. They just wanna make sure they’re collecting the premium that you’re paying for that option. So they will Delta hedge their book on a regular basis. Stock starts going up, they’re short calls. Guess what they have to do? Buy shares. Yeah.

[00:46:53] They stop and check the 10 K of Bed Bath and Beyond and go do a field trip to the stores and say, you know, gosh, it looks like they’ve really got a fantastic surplus, fluffy Turkish towels. No, they would never do that. They’d say, damn it just Delta head. Yeah. And so that’s the behavior that is driving markets today in my analysis.

[00:47:15] Now does that mean everybody’s behaved that way? No, of course not. Super smart individuals that I know who really dedicated and hard work on the fundamentals and absolutely believe that it gives them edge over normal investor. Right, right. It’s just a question of is that edge enough to offset the costs associated with the individual security risk?

[00:47:40] The evidence is no.

[00:47:42] Pierre Daillie: So what’s your Mike having, you know, having said all that, what, what, what, cuz we didn’t, I didn’t actually ask you the question, but what is your out, what is your actual outlook for equities broadly, and are there any segments of the equity market that you do like, uh, either from a factor standpoint or sector standpoint?

[00:48:03] Michael Green: Yeah, so, so it’s interesting. I mean, I, I re, I just took off my positions in emerging markets and I’m now, um, really for the first time in my portfolio is running what I would describe as broadly a net short portfolio. I’m not totally net short. Okay. I’m skewed in that direction. More of a credit than anything else.

[00:48:25] Um, I think that we’re gonna have a meaningful profit reception most, I think that the, um, economic conditions are much worse than people think from the headline. And unfortunately for reasons that I just shared with you guys, things like, um, the change in unemployment type to entrance, I just think a lot of the data sets that the Fed is looking to, to provide them with guidance are going to lag even more severely than they have in the past.

[00:48:55] So there’s ignoring weakness in the housing market because it continues to see strength in the employment market. in the employment market, I think is, I, I think the technical term for it is just bullshit. Um, don’t think we’re actually seeing that. If we’re looking at things like full employment using the household survey, which is proven more accurate and most turning points we haven’t seen full-time employment grow at all.

[00:49:20] Right? Still sitting at 2019 levels despite the fact that the population has expanded, the labor forces, et cetera, right? The rates of unemployment while low for those with college degrees is roughly 50% higher than it was prior to going into the pandemic, and roughly doubled the level that it was going.

[00:49:37] The 2000, 2008 were second. Again, those who have college degrees tend to experience longer periods of unemployment once they become unemployed. So anything, the risks that I see around this are that we have shortages in traditional jobs that have driven unemployment for those, you know, the low skilled jobs, the line workers, et cetera.

[00:49:59] We can’t find those people. , that’s a genuine shortage. We see this in right data sets that look at the difference in what’s called the beverage curve. I’ll actually pull up a chart and show it to you guys in a second. Um, we, we have a messed up system that’s likely to lead to a two speed economy. But the ultimate answer to that is if we force this issue, we’ll end up with an economy at a lower node, effectively a lower equilibrium.

[00:50:28] Not that there really is ever equilibrium in an economy, but you know, we’ll end up in a worse place than we otherwise would, would’ve needed, and that that upsets. Yeah. There’s needless loss of human capital and human potential when those conditions emerge.

[00:50:46] Pierre Daillie: So overall, the long-term fundamentals of the economy will deteriorate to a lower to lower lows.

[00:50:55] Michael Green: Becau the policy choices we’re making now Yeah. Appear, designed to send us in that direction. or designed as the wrong term, but pure likely to send us in that direction. On the flip side of that, I’m also gonna say, so just like if you looked at the US economy in the late 19 1850s, right? So the discovery of oil at spindle top is just about to occur.

[00:51:17] We’ve suddenly discovered that there’s an alternative source of energy that we call oil versus coal or whale oil or you know, et cetera for, you know, lighting lamps, engaged in lubrication and everything else. All of that was directly ahead of us, and we would’ve looked at the economic conditions and said, oh my God, they’re terrible.

[00:51:36] They’re so terrible. We’re gonna, you know, tear terrorists ourselves, terror ourselves apart at the seams on a country basis, we’re gonna lose 600,000 people in a population that, you know, that would, that would be the equivalent, I believe today. I think the population that was about 35 million. So we’re talking somewhere around 6 million people would’ve been killed in the equivalent of the Civil War.

[00:51:57] Oh my God, this the worst thing ever followed by one of the most incredible growth stories in history. I think there’s actually something kind of interesting along those lines. I’m looking at innovations that are occurring in areas like automation, in things like, um, artificial general intelligence, or in particular these large language models, et cetera, that are suddenly introducing the prospect of force multipliers that allow individual human beings to do things that they could have never imagined doing before.

[00:52:27] Right. My wife is a teacher. I’m trying to encourage her. She works, uh, with special needs, and I’m actually trying to teach her to incorporate, encourage her to incorporate things like chat g p t into lesson planning, because for the first time, you’re looking at a situation where a kid who has a genuine learning disability actually has the potential to produce a great essay.

[00:52:48] Right. Just

[00:52:49] Pierre Daillie: by, just by a few prompts, ,

[00:52:51] Michael Green: just by prompting appropriately. Yeah. Now you have to ask yourself, what is the objective? Is the objectives taking? That has an 85 iq, and I’m not implying that IQ to the vast majority of our students, I’m just giving the example, is the objective to take the kid with an 85 IQ and turn ’em into somebody who on their own can write paper from somebody who’s the equivalent of 115 or 125 iq.

[00:53:13] Well, if that’s your objective, you’re an idiot. But suddenly I give you a tool that allows you to do it right. Go back 200 years in history. If I needed to move a very heavy metal bar, who did I need to have? I needed to have the strongest person that I could find on the unemployment line. Now, if I wanna move a really heavy metal bar, I get a crane and the person who’s sitting in the crane doesn’t have to have any physical strength whatsoever.

[00:53:41] So we’re talking about introducing those same sort of capabilities on the intellectual side that allow knowledge workers to expand dramatically, raise the output potential for everybody, and that’s what living standard increases are all about. .

[00:53:55] Pierre Daillie: Yeah. It’s a, it’s a, it’s, it’s actually, I mean, you, you know, bringing up chat g p t, it’s, it’s remarkable.

[00:54:02] I mean, what it’s able to do in terms of, you know, like for example, if you’re a student and you don’t know where to begin, you know, where you’re stymied and you don’t know where to begin, you know, writing an essay, at the very minimum, you could ask it to produce an outline for you, or, or you mean at the, and at the maximum you could ask it to write the whole thing for you and then, and then work off that.

[00:54:23] It’s, it’s a, it’s, it’s an incredible, it’s both scary and, and fascinating at the same time. Well,

[00:54:30] Michael Green: it, it, it is, it’s both scary and fascinating, but encourage you to just change your language slightly and it’s, yeah. It’s not incredible what chat g p t can do. It’s incredible what we can do with chat. What we can do with it.

[00:54:42] Exactly. Yeah. I, I, I, I think it’s really important that people embrace that. I mean, just stop and remember, you and I are roughly the same. Page 26 . Um, And, um, if, if you think back to the lament, you probably heard in grammar school and high school, it was the math teachers, oh my God, nobody’s learning math.

[00:55:07] All these kids are using these calculators or these computers we’re all totally screwed. Nobody’s gonna know how to do math. Look at the world we inhabit today. It is so math dominated. And the reason why is because we can do things we never could have imagined doing it math before because we’ve been an star brain, right?

[00:55:25] We introduced a partner in the form of the computer that is natural math, language based. It just natively, they just natively do it better than we do that the way that they are wired in a literal sense. And now all of a sudden we’re talking about introducing tools that allow us to expand the same thing, uh, from a vocabulary or communications or imagination standpoint, et cetera.

[00:55:50] You, you, a perfect example. . I don’t know where to start in my essay. Yeah, I don’t have any idea what to write about. Hey, chat, g p t. Here’s the question I’ve been asked. Can you suggest three topics? Did I cheat only in the most ridiculous sense of the word. Yeah. If I ask g p t to rewrite something for me so that it reads better, did I cheat?

[00:56:18] No. Only in the most ridiculous sense of the phrase.

[00:56:22] Pierre Daillie: Yeah. No, in reality, you, you took advantage of a tool, right? That is

[00:56:28] Michael Green: No, it’s no different. It’s, it’s no different than people looking at, you know, how we would construct the pyramids and say, yeah, but you can’t use modern technology. . Why, why would you wanna do that?

[00:56:39] Like, yeah, fine. Let’s, let’s build, rebuild the Empire State Building, you know, without using modern technology. Why? That’s

[00:56:45] Pierre Daillie: stupid. I see what you’re getting at. I mean, I think, I think the, the bottom line is that now. Our children have the opportunity to stand on the shoulders of a giant

[00:56:57] Michael Green: absolutely Christ.

[00:56:58] And by the way, that is the history of technology. Yeah. That is what technology actually means. That’s why the written word was such an extraordinary full multiplier. Right. And the introduction of movable and the expansion of the availability of the written word, and then the increase in the number of people who could use the written word, what we call literacy.

[00:57:19] All of these things define and change behaviors cuz they allow us to stand on the shoulders of giant. If I’m spending my childhood figuring out how to carve a road through the American wilderness so that Emily can transit across North America, you know, in a Conestoga wagon pulled by oxen, I’m not available to figure out how to create something like TikTok.

[00:57:41] I’m not available to figure out how to create something like a, I’m a something stupid. Uh um. emulsion blender. Well, who the hell cares about an emulsion blender? Well, if you wanna try certain types of food, if you wanna have a really creamy, butternut squash soup, yeah. You have to have an immersion blender.

[00:58:00] Have to have these things. Right. They each create their own characteristics. I, I’ve talked with, uh, my good friend Josh Wolf and I often reminisce about TV shows from our childhood. There was a TV show called Connection by James Wilton. It’s based off, based off a book, um, and turned into a series by the BBC that highlighted that all of these things build upon themselves.

[00:58:22] They’re serendipitous, and we’re just talking about a world 10 years from now where increasingly agan, this could be really cool. It’s an extraordinary thing to think about taking a kid with an 85 IQ and allowing them to write papers. The equivalent of somebody with a 1 25 I and the person with a 1 25 IQ is not gonna experience the same benefit.

[00:58:44] Right. They’re not gonna go from 1 25 to one, you know, the equivalent would be going, you know, up an additional 40 points. They’re not gonna go to 1 65, they might go to one 30. Right. And that’s huge improvement.

[00:58:58] Pierre Daillie: There’s, there’s obviously some very positive, um, you know, maybe potentially gigantic outcomes that will come of it.

[00:59:07] Um, what does that mean for the economy though?

[00:59:11] Michael Green: What’s the, well, again, it depends, right? I mean, it threw it up because we’re fighting the last battle. Um, means it’s not gonna be nearly as good. Right. But we get it. Right.

[00:59:23] Pierre Daillie: Potentially deflationary, I mean, the productivity game,

[00:59:27] Michael Green: everything is technology by definition is deflationary in some ways and inflationary in others, right?

[00:59:34] Right. Figure out a way to use copper to send electrical signals. Is that going to lower the cost of copper? No, no. Is it gonna lower the cost of meaningfully of a stamped envelope delivered over the postal server? Oh yeah. Is it gonna lower the cost of communicate? Yes. Right. So yeah, technology works in very unexpected ways, and we talk about deflation.

[01:00:01] If we don’t incorporate communications and we measure the cost of stamps, envelopes, and delivery, and the cost of copper in our , then the answer is no. It’s inflationary. If I’m properly defining it in terms of the basket of goods and services that I’m purchasing and the expansion improvement of those collapse and costs, then yeah, it’s hugely deflationary.

[01:00:25] But again, it depends what we measure. I actually just wrote a sub on exactly this. What we measure meaningfully affects the way that we think about that.

[01:00:36] Pierre Daillie: I’m gonna have to read that Mike.

[01:00:38] Michael Green: Um, yeah, you can, uh, pull it by sub. It’s linked on my Twitter profile.

[01:00:42] Pierre Daillie: So profit recession. And that profit recession, what does that ultimately mean for equities? It a neg that, that’s a, that’s a negative for equities. You’re, you’re in a, a near net short position. Yeah.

[01:00:58] Michael Green: So I mean, you’re insurance negative.

[01:01:00] I’m, I’m negative on equities for two reasons. One is, um, if we see an increase in unemployment in particular, if we see an increase in unemployment amongst those in, plus, uh, that dramatically reduces the quantity of capital that’s available to purchase marginal equities or any asset for that matter.

[01:01:20] Right. And that plays directly into my theories around passive and how that can influence Mark. The second thing that concerns me is that increasingly people are looking at the level of interest rates and. , thank you very much. That’s enough. And if we end up seeing people switch their focus on, um, we end up seeing people switch their focus away from equities and towards, um, and everything ranging from target date funds on down have increased their equity allocations over the last, if we see any reversal that that could actually be negative for equities, which is kind of the underlying model that I’m focused on.

[01:01:59] The last thing that I would would hit on exactly that dynamic, um, is this issue of, you know, what type of equities do people end up buying or what do they start to look for out equities? And it’s very hard to imagine, uh, we’re looking for the same theory of innovation and disruption that we pulled ourselves the narrative last time around.

[01:02:25] Um, suggests that more money is going to be, uh, piling into, you know, good, safe stuff and less money will be available for this sort of speculative s um, that has negative implications for everything from crypto to know, oriented venture capital, employment, et cetera. Those are all things.

[01:02:48] Pierre Daillie: Um, what’s, what’s your view on, on, uh, on fixed income?

[01:02:51] Michael Green: Uh, so the way I describe it is, is that I’m renting fixed income. I think the front of the curve is relatively attractive. Agree. Uh, bless charge just came out and said, you know, I think secular stagnation is still here. I think he’s broadly correct. Interest rates are likely to remain low. I don’t know if they’re going as low as they were before.

[01:03:09] And I, um, particularly don’t know about the backend cuz I argue that the Fed among many other dangers that it’s done has now destroyed, at least for a sub-segment of the population, the idea that bonds are an enhancement to a portfolio. increasing the number of reasons why people would want to own them.

[01:03:29] Um, so I, I do think that there’s been some meaningful structural damage that’s been done to the idea of bonds as an asset class, right? Playing a certain role in the portfolio. It just suggests to me that fixed income is less attractive on a long term basis, but on a short term basis I think would be really interesting.

[01:03:49] Pierre Daillie: Are there any specific areas of fixed income that, that you find attractive? I mean, there’s a lot of talk that this was gonna be, this could be a, a big year for fixed income. I think we’ve already seen a retracement in, in long yields. Um, from

[01:04:04] Michael Green: their, from their, yeah, so, so that’s exactly my fear is, is we’ve seen a significant retracement in the long end.

[01:04:11] Um, you know, 10 has, has gone from, you know, almost four and a half to three and a half. , does it go to two and a half? Probably. Does it go to 0.5? I find that unlikely. Do I see the two year potentially going to one or one and a yes. And so I’m much more interested in the front of the curve. I’m much more interested in the idea of a in air.

[01:04:36] Finally, I’ve resisted steepening for a very long time that ended up being the right call. Um, but you know, my, my, my basic argument would be something along the lines of, I think that we’re likely to see a rally at the front curve. So two year bonds look really interesting to me and we’ll see some participation on the, on the back, um, but I think much less.

[01:04:58] And so you’ll see the curve steeping out. So the other big position and those two combined for about 40% of the portfolios that I’m, um, are reflected in a, in a long two and a long steepen

[01:05:09] Pierre Daillie: error framework. Is there anything that we haven’t covered that we

[01:05:12] Michael Green: should have? , as I said, I think the biggest thing we should be aware of is very careful interpreting the data that you’re receiving right now.

[01:05:22] Be very aware that those who are making decisions have large macro impacts, are looking at data and presuming it’s high quality when I think it’s actually very low quality. Now, I could be wrong about that. I just wanna be clear. I don’t think I am, I think the evidence that I’ve shown is pretty compelling.

[01:05:41] Um, and so I would just encourage people to be more cautious and less willing to, uh, embrace the FOMO longer term. I, I, I, I do think a lot of critics and a lot of people were concerned about ultimate response being even more aggressive. This next time could very well be so, um, could very well be right.

[01:06:06] I’m sorry. So like, I’m trying to think through all of these dynamics, but the next stage in the process to, is, It’s an acceleration of the deflationary and recessionary by and large. I think we’ve avoided so far,

[01:06:19] Pierre Daillie: inflation’s not a linear phenomenon. It, you know, um, it doesn’t go up and then just, and then go down in a linear fashion.

[01:06:28] There, there are events and things that can happen that can cause inflation to be volatile. You know, exogenous things can happen, like, like the war in Ukraine. Um, but are, are we, you know, the idea of mmt sort of very quickly went away, you know, and, and, or yield, curve control, I guess. But, but what I want to ask you is, are we, are we sort of doomed to a, a, you know, range-bound period where, you know, inflation comes back, the fed, the fed hikes and then cuts and inflation goes away, and then the Fed, you know, , you know, we, we return back to this sort of benign low interest rate environment.

[01:07:12] And then inflation rears its ugly head again. Like it are we in for a period of, of range-bound and, you know, inflation expectations from low to high because the Fed also has a balance sheet to manage. Well, I,

[01:07:27] Michael Green: I wouldn’t put the, because the in there just say,

[01:07:30] Pierre Daillie: I think, um, or the treasury. I mean, I’m, yeah, sorry.

[01:07:33] Anyway, so, so

[01:07:34] Michael Green: a coup couple of quick things. Um, one, you know, you mentioned MT and the fact that it’s disappeared, MT has not disappeared. Mm. M t is actually true. It is the right way of describing the monetary system as we have. It’s is des as I’ve said repeatedly, MMT is descriptive of the system, but it is not prescriptive, in other words, tells you how the system is Okay.

[01:07:57] Doesn’t tell you what to do with the, that power, right? It’s the equivalent of, you know, me saying to the, to my. , here’s the ignition, here’s the gas, here’s the break, here’s the steering wheel, here’s the shifter. And then saying, okay, now drive yourself to school. like doesn’t work that way. Right? You have to actually take time learning how the system works.

[01:08:18] You have to feel your way through it, et cetera. Um, the policy arguments behind MMT were always stupid, right? Of course, debt matters. Of course. Spending money, too much money matters. It manifests itself in a variety of ways. We’ve seen the impact of spending it in stupid ways. If we hand out money to people for doing nothing, we should not be surprised that they put a strain on the supply chain by buying stuff without contributing.

[01:08:47] Right? Right. Um, on the flip side of that equation, we’re probably in the blow back mode right now where nobody wants to spend money on anything cuz they’re so afraid of what just transpired. And as a result, , we’re gonna end up in a situation that, as I pointed out, I think we could very well have even more inflation going forward as, but I think the most important thing to remember, and I’m gonna share one last chart to to finish this off, is that the underlying story is actually one of deflationary conditions relative to the world that we’ve lived.

[01:09:22] And I just wanna orient people to this chart. So the blue line is what’s called the engram or the frequency of the word commodity in English language books. Right now, commodity is a word that dates back to Latin, been around forever. And so to see this type of surge in the use of the word is actually pretty remarkable.

[01:09:42] The orange line is population growth on a percentage basis across the globe. The 20th century that we came into and have now exited. Right. Just to be very clear. Yeah. From 1900 until 2000, I’m very precise about, basically 1870 until roughly 2000, um, was a period of unprecedented population growth. Truly in the history of the world.

[01:10:11] Nothing like this ever happen. We went into the 20th century with about a billion people in the global labor force. We came out of the 20th century with about five and a half billion people on the global labor force. And remember what being in the labor force actually means. It doesn’t mean that I drive disinflation, it means that I drive consumption because the only reason I go to work is if I want more.

[01:10:35] Right? Right. So what we actually had was an uninterrupted period called the 20th century in which global wants exploded, and that was uniquely inflationary in his history. . We’re now coming out of that. If I look at the 21st century, and I use reasonable population estimate, the global labor force climbs from about five and a half billion people to about 6.2 billion people.

[01:11:01] Slightly higher than that at its peak around 2040, but ultimately begins to decline towards the backend of the century, and we actually end up in this really weird place where we have almost no population growth at all. How do you have inflation under those conditions? You don’t. Mm-hmm. , right. We go back to a world in which basically prices remain relatively stable because the quantity of a land per capita, the quantity of anything on per capita basis, basically stagnates and technology, which is deflationary, increases our ability to deliver goods and services to that finite popula.

[01:11:39] This is Japan. This is South Korea, right. This is the world that we inhabited in many ways, beginning in the 1990s, around different regions of the world, correct. . So like I have a really hard time getting that worked up about inflation in the Ben Hunt sense, except for stupid policy choices where we decide to spend money on really dumb things.

[01:12:00] And I’m gonna say, you know, the most horrific and horrible thing that I can say is, is that among those are policies offer very little benefit to our popul. I, I’ll pull, I lied. I’m gonna pull in one more chart here, , and just show this here, cuz this is, this is also part of some of the stuff we’ve been working on.

[01:12:20] Um, so this is looking at the dynamics of, um, government programs, the net cost of the program versus the age of the recipient or the age of the beneficiary ages here on the axis. Okay? The net cost is on the Y axis. You’ll notice something, things that are designed for children. Those under the age of 28 actually have a positive return to the government.

[01:12:53] They raise future tax revenues more than the spending. Adult health does absolutely nothing for us. Unemployment insurance does very, very little. Why? Because those who are unemployed are literally using it in lieu of savings that they should have accused. Right. So, right. It does. Absolutely. You know, like we can lay out this type of stuff.

[01:13:17] We can start to say, what is the intelligent way to spend the money that we have under an m t framework? That’s not what we, right. I mean, what we did was we basically jammed up. The other thing, we’re jamming up right now, by the way, New York State just announced that every single beneficiary in New York gets full nutrition.

[01:13:36] Congratulations. Among the most wasteful things you could have done, captain. So, You know, this, this is unfortunately the world that we inhabit, habit, a world where people are tend not to be very thoughtful. They tend not to, you know, try to be very quantitative. And that’s both an opportunity and, and disaster and process.

[01:13:55] Yeah. So only

[01:13:56] Pierre Daillie: the items that are in the yellow box are productive and especially the, the, the

[01:14:03] Michael Green: child benefits. Well, yes, yes and no. Right? I mean, everything follows a diminishing marginal return, right? So, so child health, probably the single best thing you can do, child education, college available children, et cetera, right?

[01:14:18] These are all things that are meaningful contributors to future benefits and future tax receipts. But if I decide that I’m going to spend an unlimited amount on every single child that’s gonna have a diminishing return, and eventually we’ll push that program up so that it is not profitable for the government.

[01:14:39] hearing out where that is, is a challenge. That’s what economics should be focused on instead of a lot of the pontificating that you’ve heard me do for the past hour, .

[01:14:49] Pierre Daillie: But the idea, it was interesting because the idea was being floated around in the campaign by y you know, about universal basic income.

[01:14:57] And you know that not that that would fall into the, that would fall into the category way up in the white side, you know, way up in the top. Correct.

[01:15:05] Michael Green: Yeah. Lot, lot, lot of money spent, not a lot of return association. Yeah. Better policy by the way, is straight from, from MM T’S originator. Warren Mosler is something along the lines of a job guarantee that says, if you want to part, you are guaranteed the ability to participate.

[01:15:24] Right. Now. Do employers like that know mm-hmm. because it means that they have to now compete for those employees with alternate programs as compared to people forced to seek employment. , which by the way, we’ve turned into a form of indentured servitude. People will need their jobs in order. Reasonably affordable healthcare, among other things, right?

[01:15:43] So, you know, we need to do a lot of work in balancing the scales. We need to improve the services that are available for children. We need to improve the services that are available for young families to encourage them. They have the opportunity to successfully raise children when we do all that sort of stuff.

[01:16:01] That’s gonna really help us a lot, Mike. He’s not doing it yet. Fascinating,

[01:16:09] Pierre Daillie: fascinating stuff. Thank you so much for your incredibly valuable time and

[01:16:15] Michael Green: well, I, I’d appreciate that You think it’s that way? I, I, I occasionally don’t feel that way, but, um, uh, thank you very much Peter. Only

[01:16:24] Pierre Daillie: you would know . What’s that?

[01:16:26] Only you would

[01:16:27] Michael Green: know . Well, I have better insights. Yeah. Um. Anyway. Th this is fantastic. I really appreci appreciate your flexibility For those who are, who, who don’t know, I had to push, uh, Pierre off from a recording earlier today. He was very generous, uh, in allowing me to reschedule so well, the feeling’s

[01:16:44] Pierre Daillie: mutual.

[01:16:44] Mike, um, thank you so much.