#1259 Darius Dale on How Markets Are Reacting To Global Conflict

Darius Dale is the founder & CEO of 42Macro. In this conversation, we talk about their Weather Model, economy & financial market conditions, how US fiscal policy reacts to conflicts around the world, and how investors can think through various outcomes. ======================= Trust and Will has simplified the process of creating and managing your will or trust online. They leverage a data-driven, design-first approach and amazing customer support to help you protect your legacy from the comfort of your home starting at just $159. Sign up today for 10% off using ⁠⁠⁠⁠⁠⁠⁠⁠⁠https://trustandwill.com/pomp⁠⁠⁠⁠⁠⁠⁠⁠ ======================= Get Better Crypto Data: Do you want faster, easier crypto data? Sign up for Velo Data, a new product that we have been working on to solve this problem: ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠velowaitlist.com⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠ ======================= Pomp writes a daily letter to over 250,000+ investors about business, technology, and finance. He breaks down complex topics into easy-to-understand language while sharing opinions on various aspects of each industry. You can subscribe at https://pomp.substack.com/

Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.

• 0:02Anthony Pompliano?

  What's up everyone? This is Anthony Pompliano. Many of you know me as Pomp. You're listening to the Pomp Podcast, which is my effort to find the most interesting people in the world and sit with them for hours while I ask questions in an effort to learn. So it would mean the world to me if you would subscribe to the show on your favorite audio platform, watch episodes on YouTube, and tell your friends and family about the podcast. My goal is to help millions learn from the world's most interesting people. So let's get into today's episode. The following episode is with Darius Dale, the founder and CEO of 42 Macro. In this conversation, we talk about their weather model and exactly what it's showing us is the start of Q4. Where are we as an economy? Where are we with financial markets? And what should we expect? At the end of the conversation,

• 0:47Anthony Pompliano?

  we also dig into how financial markets and things like the fiscal policy in the United States react to certain conflicts around the world, including Russia, Ukraine, and now the conflict in Israel. These conversations always help me learn more about financial markets, the economy, and how investors can think through the various outcomes that are possible whenever uncertainty presents itself on a global stage. Darius is one of my favorite people to talk to, and this conversation does not let down at all. So here's my conversation with Darius Dale.

• 1:16Speaker 01

  Anthony Pompliano runs Pomp Investments. All views of him and the guests on his podcast are solely their opinions and do not reflect the opinions of Pomp Investments. You should not treat any opinion expressed by Pomp or his guests as a specific inducement to make a particular investment or follow a particular strategy, but only as an expression of his personal opinion. This podcast is for informational purposes only.

• 1:40Anthony Pompliano?

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• 3:09Anthony Pompliano?

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• 3:53Anthony Pompliano?

  All right, guys. Bang, bang. I've got Darius here with me. Darius, I thought a great place to start Q4 in this conversation is the weather model that you all put together. It should give us a sense of where we are in markets and potentially where we're headed. What exactly is this model saying that you guys have constructed?

• 4:07Speaker 02

  Yeah, absolutely. Thanks for having me again. Always a pleasure. So I'll start in terms of explaining what the hell this thing is. This is one of the most powerful tools we've built at 42 macro to sort of help us understand and really manage our position sizing around the various asset classes. And so I thought it would be helpful to kind of run down each of the 10 principal components of macro and how they are independently contributing to each of those weather model signals that you're seeing there in the middle of the page. So we'll start with the top left. We have growth is accelerating here in the US economy on a trend basis. Is expected to trend lower over the next 12 months, at least according to consensus Wall Street estimates. When you look at inflation, it's been trending lower, is expected to trend lower over the next 12 months, albeit although we may see some surprises

• 4:51Speaker 02

  thrown into the wrench here on Wednesday in terms of PPI and CPI on Thursday. And in terms of employment, the unemployment rate is trending higher. It's expected to trend higher over the next 12 months. In terms of sales and earnings growth estimates for the S and P, sales growth are trending lower and earnings growth estimates are trending higher. In terms of fiscal policy, the sovereign fiscal balance as a percentage GDP has been trending lower, i.e. the budget deficit is getting wider. That minus 8.5% there in terms of the previous value was a record non-war, non-recession budget deficit in the US economy. Despite the, you know, the fiscal profligacy that we continue to see down in DC, the US dollar is trending higher on a real effective exchange rate basis, and that's been weighing on liquidity as we can see in the top right.

• 5:34Speaker 02

  So if you look at our 42 macro net liquidity model, which is the Fed balance sheet minus the Treasury General Account and the Reverse Super facility balance, that number's been trending lower. Our global liquidity proxy is also trending lower. That balances the global central bank balance sheet plus global broad money supply plus global FX reserves minus gold. In terms of credit, we're also seeing private sector liquidity trend lower as well. So credit growth is trending lower both domestically and globally. If you look at interest rates, benchmark policy rates are trending higher globally. The two-year anomaly yield spread relative to that benchmark policy rate is trending lower and is a negative value. So not only do investors expect the Fed to start cutting in terms of the short to intermediate term time horizon, that number has actually gotten lower in recent months.

• 6:17Speaker 02

  Lastly, we aggregate positioning across the US dollar, US rates, commodities and equities. And in terms of the dollar, it's all the major currencies and gold. And right now, the dollar is at an extreme bullish signal in terms of its aggregated positioning. US rates, US treasuries are at an extreme bearish signal, as are commodities. And equities are finally neutral and have been for a little bit of a while, but primarily they've been bearish throughout 2023.

• 6:39Anthony Pompliano?

  Now, I see in the model that you have conviction medium. And help people understand, like, what would change your conviction from medium to high in this scenario?

• 6:48Speaker 02

  Yeah, so that's a great question. So right now, we are in a Goldilocks regime. If you focus on those top two, top left two boxes where we have growth and inflation, which help us identify what the bottom up grid regime is in the US economy. Right now, we are in Goldilocks because growth is accelerating and inflation is decelerating on a realized basis. The reason it's a medium conviction Goldilocks regime is because only one of those components is actually confirming the current trend, i.e. inflation is expected to continue trending low over the next 12 months. Whereas growth is expected to inflect lower at some point in the next 12 months and trend lower. And so that's where we get a medium conviction. It would be high conviction if both growth and inflation estimates were confirming the current trend.

• 7:28Speaker 02

  It would be a low conviction regime if growth and inflation estimates were disconfirming the current trend. So right now, you know, that medium conviction Goldilocks regime is likely headed to something that looks like a low conviction and potentially even a full regime change. And we would expect it to change in Q4 because we don't expect growth. At least our other models are suggesting that growth is likely to inflect lower and decelerate. So we could very much be in a high conviction deflation regime at some point in the next three to four months, maybe with a cup of coffee and inflation, but we'll see.

• 8:01Anthony Pompliano?

  Now, one of the big stories, obviously, going into Q4 that no one expected at the end of Q3 is the conflict that's happening in Israel. When you see geopolitical conflict like this kickoff, we saw obviously Russia, Ukraine. Now we're seeing this in Israel. What are the things investors should be paying attention to? Are there specific metrics or certain parts of the market that you immediately say, if I want to understand the impact on financial markets, I go check X?

• 8:28Speaker 02

  Yeah, great question. So I'll start in terms of the leading edge of that process. It's going to come through market-based signals and ultimately find its way into sort of more economic data signals like the ones that we just discussed here. So I'll start with the market signals and then I'll end with the economic signals. Market signaling, you always want to be measuring for regime change, particularly when you're coming off of a risk on regime as if, as we were for primarily, really since going back to April, we've been in a risk on regime. We are now flirting with a risk off regime. We'll see if it holds here. But if we do transition to risk off regime, what that ultimately means is that the trend in volatility is going to be rising across asset classes. You're going to see things like credit spreads breakout. You're going to see things like the move index, currency volatility start to break out. You're going to see dollar strength.

• 9:13Speaker 02

  And ultimately, you're likely to see an inverse correlation between stocks and bonds, particularly if it's a real, you know, kind of negative risk off a market event, although that's not always the case. But generally speaking, that's kind of, um, that's kind of what we experienced for the past few decades. In terms of the economic signals, it's everything that we're talking about on this page. So we, as talking heads, we as investors, people who spend all day on Twitter and listening to podcasts, we're all listening for things that ultimately are represented here on this page on in terms of our weather model. You know, there's nothing more important as an investor to identify what the trends are in growth, inflation, employment, profits, policy, credit, interest rates, positioning. These are the things that you need to make sure you're paying attention to day after day, week after week, month after month as an investor.

• 9:59Speaker 02

  And right now, the current constellation of those signals, which each contribute independently to each of those asset class projections in the middle of the page are saying, hey, look, you should, as an investor, expect below normal returns for the stock market over the next three months. You should expect normal returns to the bond market over the next three months, normal returns to the US dollar over the next three months, and below normal returns for commodities and Bitcoin over the next three months, at least according to how all these major contributing factors to asset market dispersion are currently aligned.

• 10:31Anthony Pompliano?

  When you see this specific region, it's a little bit different, I think, than obviously Russia, Ukraine, where Russia and the Ukraine region is responsible for tons of oil, tons of natural gas, wheat, you know, you can kind of go through all these commodities and very, very heavy trading partner, not only for the United States, but other areas around the world. Israel has importance for other reasons, right? They don't necessarily have massive exports of these commodities. Does that change some of the way that investors should look at this, or maybe even the way that markets will move because it may have geopolitical importance, but it doesn't necessarily have the commodity importance that the Russia-Ukraine region had?

• 11:13Speaker 02

  Yeah, that's a great question. So in isolation, Israel does not have the importance as it relates to commodities, but in in terms of the geopolitical importance, it's much higher than Ukraine. We are official partners and, you know, with with the country like Israel in terms of US. So it's very easy to see the US dragged into a proxy war, much more so than you could expect that that outcome to occur in terms of Ukraine and NATO. And one final thing I'll say on the in terms of this current conflict in Israel, obviously the the real the real risk here is that Iran is somehow, you know, pulling the strings here. They've they've obviously been really denied any involvement in the terrorist attack. This is this past weekend. But if it comes out in future, you know, in subsequent months, we could also see Iranian barrels of crude taken off the market. We could see anyone

• 11:58Speaker 02

  who's friendly with Iran going forward in terms of sanctions, see their crude incrementally taken off the market. And that's those are things that could obviously weigh on on the energy supply. And one final thing I'll say on energy supply is that we are in a much more precarious position now as investors and human beings in terms of where we are in terms of the energy supply relative to where we were when Putin invaded Ukraine. And the reason I say that is because we are now at record production for the US economy on record efficiency in terms of crude oil production. You know, we have almost the lowest rig count we've ever seen, even though we're at the highest level of production that we've ever seen. Moreover, we are, you know, we're basically back at 1970 type levels of the SPR inventories, you know, with obviously President Biden.

• 12:40Speaker 02

  You know, basically cutting that thing more in more than in half in in, you know, last year when they were buying boats ahead of the midterm. So, you know, there's not a lot of interest, you know, the incremental barrels of crude oil are going to be very difficult to obtain. If we get into a situation over the next few weeks and months where we are in fact, taking barrels of incremental barrels of supply offline from sanctions or otherwise.

• 13:03Anthony Pompliano?

  Now, my last question is Paul Tudor Jones recently went on CNBC and he was talking about this may be the most stressful, complex geopolitical threat environment that we have seen. We have Russia, Ukraine, we now have Israel. And likely at some point, we will have China, Taiwan as well. And his point was not only is it complex and obviously going to be very difficult. We need leadership and kind of all the things that are necessary for solutions. But it is happening at the exact same time that the United States is fiscally in the worst, you know, situation that it has been in in years, if not decades. How does the impact of our response end up leading to national debt?

• 13:43Anthony Pompliano?

  Interest rate decisions by the central bank, you know, some of these things that people may not immediately connect from an investment standpoint. But it's very obvious seeing even just Russia, Ukraine, there's going to be impacts on debt, interest rate decisions, et cetera.

• 13:56Speaker 02

  Yeah, a hundred percent. That's a fantastic question, my friend. You always you always ask the best questions, man. So I'll start by saying the reason Paul Tudor Jones hasn't seen an environment like this is because the last environment that we had like this was the previous fourth turn. We are currently in a fourth turning and based on the work from my former colleague Neil Howe and his former partner Bill Strauss, I would say Darius Del, forty two macro is probably the number three person on that list of leading the charge on fourth turning research across the globe. I would certainly put myself up there in that category. We know that things like total war are very high probability in a fourth turning. Not just total war here in the U. S. But total war globally, we've seen that on several occasions. We also know that the sovereign budget balance tends to deteriorate sharply in fourth turnings.

• 14:41Speaker 02

  We also know that as a function of that, we tend to see a big spike in sovereign debt. And so what's very likely is that as we continue to find ourselves engaged in these proxy wars. And maybe even in our own war, physical war, total war here in terms of the US, you know, we're going to be China, Taiwan, or some other thing that that's yet to be foreseen. We know where the budget deficit and debt are going, and it and I'd say very much take the over on CBO projections. Take the over on Paul Tudor Jones projections, take the over on anyone's projections. Because unless they've seen the empirical analysis that we put out in our most recent macro scouting reports about the fourth turning. They have no idea where this is all headed, and it's ultimately headed to a place that's going to take.

• 15:20Speaker 02

  US policy to a level that we have not seen as it relates to, you know, the the financial repression and the currency debasement. That many Bitcoiners and many folks who watch your program, you know, kind of expect. I would say expect way more based on the empirical analysis that we've that we've that we've performed in that in this particular topic. So. PTJ is right. It's going to get worse, unfortunately. We have probably another decade at least of this, of these types of dynamics deteriorating from here. You know, in terms of the, you know, the work, the most recent book that my former colleague on the house put out in terms of the fourth turning is here. And the one thing I'll say is that as an investor. This is going to be a very difficult time to manage risk, and there's going to be more volatility. We ultimately know.

• 16:01Speaker 02

  Bitcoin is going to go through the moon. Stock market is going to go through the moon as a function of the policy response. To monetize these sovereign debts and deficits, but it's going to be a very volatile, bumpy ride. And if you don't have a. You know, macro risk manager or someone who's good at actually, you know, managing risk in financial markets to help you take advantage of those big moves, then God bless.

• 16:21Anthony Pompliano?

  That makes a lot of sense to me. Where can we see people to find you on the internet or learn more about forty two macro?

• 16:25Speaker 02

  Yeah, I mean, at the bare minimum, definitely come check out our fourth turning analysis. I think a lot of what we do. Is probably over the head for your median, you know, audience member. But at the bare minimum, I think everyone in the world needs to see that like forty slides of information. In terms of the empirical deep dive study that we put out the fourth turning. So I highly recommend everyone definitely check out our most recent. A couple of macros guiding reports and then obviously the forty two macro dot com is our website. Definitely check me out on Twitter as well. Darius Dale forty two is my handle.

• 16:53Anthony Pompliano?

  Amazing. Darius, as always, I learn something new every single time. So I appreciate it. We'll talk again soon.

• 16:58Speaker 02

  Appreciate your time. Thank you, brother.