#1226 Darius Dale | Wall Street Is Calling The Fed's Bluff?!

Darius Dale is the founder & CEO of 42Macro. In this conversation, we talk about the S&P 500, bitcoin, consumer spending, manufacturing, capacity utilization, and what will the Fed do with interest rates later this year? ======================= 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. Darius Dale is the founder and CEO of 42 Macro. In this conversation, we talk about the S&P 500, Bitcoin, consumer spending, manufacturing, capacity utilization, and what the heck is the Fed going to do later this year when it comes to interest rates?

• 0:46Anthony Pompliano?

  I always enjoy talking to Darius and I hope that you guys enjoy this conversation. I learned a lot and I think you will too. Here is my conversation with Darius Dale. Before we get into this episode, I also want to tell you about a brand new product called Velo. Velo is faster, easier crypto data. Everyone in the industry is always looking for, what's the price? What's going on on the exchanges? Where are assets flowing or not flowing? How is things like open interest and derivatives actually playing out in the market? Well, that's where Velo comes in. It's faster and easier crypto data. You can go to velowaitlist.com today. Myself and a couple of friends, we invested in the business, we're advising the founder, and we think it's pretty cool. This one is something that

• 1:30Anthony Pompliano?

  keeps me informed on a daily basis, so you should check them out at velowaitlist.com. That's V-E-L-O waitlist.com.

• 1:39Speaker 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.

• 2:02Anthony Pompliano?

  All right, guys. Bang, bang. I've got Darius back. Darius, a great place for us to start this conversation is around consumer spending. We just got the numbers for June and does it look good or does it look bad? What are the consumers doing?

• 2:13Speaker 02

  Looks great, man. It's great to see you, man. So it was something we've been talking about for almost a year now, going back to last August, which is the concept of the US economy remaining resilient, you know, kind of amidst all this kind of recession fear. You know, we've seen consumer spending, as you mentioned, accelerated in June. We got the June retail sales stated this morning at 8:30. And on a headline basis, we accelerated to 4.6% on a three-month annualized basis. That's the highest print we've seen in four months on a control group basis. So this is excluding gas station retail sales, you know, building materials like Home Depot, et cetera, is what they kind of call core retail sales that feeds directly into consumer spending. That number accelerated to 6.1% on a three-month annualized basis, highest number we've seen since June.

• 2:57Speaker 02

  And part of the reason we're seeing such a big pickup in retail sales broadly is we're having, you know, pretty sizable increase in auto sales. Right? We had auto sales accelerate to 23% plus three-month annualized, highest number we've seen in three months. So, you know, this goes very much in line with what we've seen out of the real PC data in recent months, which is the US consumers remaining resilient. And part of the reason they're remaining resilient, there's kind of two key reasons. Their balance sheets are very healthy and the labor market remains quite robust.

• 3:24Anthony Pompliano?

  So when we see the consumer continuing to be strong, on the flip side, we're seeing manufacturing and capacity utilization actually decreasing?

• 3:33Speaker 02

  Yeah, absolutely. So in the second chart, we show that on the first top panel there, we show industrial production. So the broadest hard data measure of, you know, kind of manufacturing we have here in the US economy. And that number decelerated on a three-month annualized basis to 1.6%. That's the lowest print I think we've seen in three or four months. And we saw capacity utilization number tick down to 78.9%. That's the lowest print we've seen in capacity utilization, which is the total share of our productive capacity that we're actually actively using to make goods is the lowest number we've seen since October of 2021. But, you know, there's a reason why I'm not too concerned about the manufacturing side of the economy from the production standpoint. And it goes to the next chart and the next chart where we show retail inventories.

• 4:16Speaker 02

  So in this chart, we show the year supply of retail inventories as a ratio of total good spending. So, you know, Total amount of retail inventories that we have. And then we extrapolate that on in terms of, you know, the annual consumption numbers and right around. We are currently at 1.5 years supply of retail inventories. Now that number's rebounded significantly off the lows that we achieved in the kind of late 2021. But as you can see, we are still structurally depressed with respect to the longer term time series. We're actually lower in terms of the year's supply of retail inventories than we were at the depths of the great financial crisis. At the depths of the great recession in 2009. So this gives me confidence that we may be on the precipice of a fresh inventory cycle.

• 4:58Anthony Pompliano?

  Now, when we talk about manufacturing, we also see that there's some leading indicators here where you think that there's a potential bottoming. Explain a little bit about kind of what a bottoming would mean and why there's leading indicators and which ones you pay attention to. And maybe which ones you're ignoring.

• 5:13Speaker 02

  Yeah, absolutely. So kind of the best leading indicator for the broader manufacturing cycle here in the US economy. And really almost by extension, global economy or not necessarily the global economy, but certainly for the US economy is the ISM manufacturing PMI. We're all familiar with that statistic. It's, you know, widely followed, one of the most widely followed economic indicators out there with data going all the way back to the late 1940s. And so in this chart here where we show the red line is the headline ISM manufacturing PMI. And as you can see in the most recent month, the June data we got earlier this month, it's ticked down to 46.0. That was a fresh cycle low in the ISM manufacturing PMI. But what we also see is the blue line in this chart, which is a short term leading indicator, kind of like a three to six month leading indicator

• 5:55Speaker 02

  for the ISM manufacturing PMI, which is the spread between the ISM manufacturing new orders PMI and the ISM manufacturing inventories PMI. That number is a leading indicator for the red line. And that number is bottomed to kind of like eight in the second half of last year, minus eight, rather, in the second half of last year. And it's bounced, you know, stages cyclical rebound to plus two. So that's to suggest that, you know, we're probably going to see it bounce in the coming months in ISM manufacturing PMI to, you know, somewhere right around 50 ish or thereabouts. You know, nothing pretty, you know, nothing that looks like a raging, you know, fresh bull market in terms of the economy. But certainly that's something that looks like it could be supportive at the margins of, you know, this kind of equity bull market that we continue to see and participate in.

• 6:38Anthony Pompliano?

  So the next slide that you have here is the aggregated cross asset positioning. You have the latest and then you go back to October of 2022 and you compare. I'm not smart, but I see that the pink bars, there was lots of cash or I'm sorry, there was no cash. And then now there's lots of cash. Explain what's going on in these two comparisons.

• 6:58Speaker 02

  Yeah, absolutely. So, uh, very complicated chart. So let me take it and just explain it in layman's terms. What I'm showing here is the sort of, um, the investor positioning on an aggregated basis across asset classes. And then I'm showing it on a percentile raking, you know, with the, the longer term time series relative to each of those, uh, longer term time series. And there's a couple of key takeaways. As you can see, investor positioning in equities is only in the 18th percentile of data going all the way back to 1998. Um, and that's actually lower than it was in the lows of October, which means investors have actually gotten more bearish since October, since the lows of October. Um, and you see, you rightly called out that cash component, that pink bar there.

• 7:38Speaker 02

  Um, and we show it on a year of your rate of change and then take that year of your rate of change time series and manipulate it into a percentile time series. And so the current year of your rate of change of money market fund exposure, I think it's somewhere around up like, you know, 19 or something. So those ish percent, don't quote me on that, but somewhere in that area code, that, that plus 19 ish percent in that area code is in the 82nd percentile of data going all the way back to, I want to say the eighties, um, in terms of, um, in terms of, uh, the, the year of your rate of change of money market fund exposures. And obviously it's well up from where we were in the October 22 lows. And so what we've seen here is that there, the institutional investor community has broadly sort of fought this tape. You know, it's really not just institutional investors, it also includes retail investors as well.

• 8:22Speaker 02

  Again, we're, we're showing the underlying time series for the US equities, US rates, US dollar commodities is the non-commercial net length as a percent of total open interest. Um, and the futures and options market, so that also includes retail investors as well. So what the key takeaway of this slide is, is that Investors have been fighting the tape. They have not gotten that longer into this rally. They've actually gotten that shorter and have raised cash into this rally, which, you know, if you thought a recession was going to materialize, you know, kind of in the first half of 2023, which was the consensus expectation heading into 2020, heading into the year, we were very much pushing against that. We were extremely on the other side of that expectation since dating back to last fall. You know, investors have been, you know, kind of wrong footed in terms of expecting the recession

• 9:07Speaker 02

  to materialize in the very near term. And that's in our view, part of the reason we continue to see this, you know, massive institutional performance chase in the equity market. Because again, the recession just didn't show up on time. And as a function of the recession not showing up on time, what we've replaced in the general narrative amongst investors in terms of recession discussions, we've replaced those discussions with soft landing discussions. Right? All of the immaculate disinflation that we've seen has contributed to rising soft landing expectations. Those rising soft landing expectations have caused investors to, you know, reassign or re-rate, you know, equity, you know, equity multiples. It's causing investors to kind of, you know, support, you know, earning or analysts to support earnings expectations, particularly as we look into 2024.

• 9:50Speaker 02

  And so this is something, this is process in our view is likely to continue into the second half of the year.

• 9:55Anthony Pompliano?

  Now you've got one more chart here that shows S and P 500 Bitcoin. What is this telling us?

• 10:01Speaker 02

  Yeah, absolutely. So this is a multi-factor correlation study. So we're trying to do in this analysis, again, these last couple of charts we put in our daily lead off morning note in our weekly around the horn here to help investors understand, you know, the positioning cycle and what's driving asset markets. So on the chart to the left, what I'm showing is the one day percentage change correlation between the S and B 500 and various macro factors as indicated by the, by the indicators listed below. And so, you know, you know, at any given time, what can be driving the asset market, the S and P is cyclical growth expectations, structural growth expectations, cyclical inflation expectations, structural inflation expectations, the terminal Fed funds rate, the floor Fed funds rate, the US dollar liquidity or global liquidity.

• 10:43Speaker 02

  And what we see now is the light blue bars, the trailing three month correlation, the thing that's most driven. The S and P of the last few months are cyclical growth expectations and to a positive degree, i.e. as investors have gotten more positive, more sanguine on the on the economy from a cyclical standpoint, the S and P has risen. And what we see is Bitcoin, what's driving Bitcoin, that's the chart on the right, it's not the same in terms of, you know, it's often not the same, quite frankly. So we always lump risk assets in this broader bucket, but the reality is a lot of times there is divergence, you know, in asset markets. We've seen that in multiple, you know, multiple Bitcoin cycles. And so what's driving Bitcoin right now, the most on a trending basis, are structural growth expectations and on an inverse basis. And so what it means is that,

• 11:26Speaker 02

  right now, the equity market is celebrating the rise of soft landing expectations, or at the bare minimum, the delaying of recession expectations relative to that misguided consensus that we called out at the beginning of the year. Meanwhile, Bitcoin is actually cheering on the potentiality for having a recession, right? Bitcoin wants the recession, because ultimately, what it means is that we're going to have a Fed and other central banks globally capitulate into supplying the market with that sort of unencumbered linear recovery in liquidity that, you know, so many are hoping for, and we ultimately see coming down the pike in 2024. Now, we're, I'm already out there on the tape saying, I think Bitcoin will close 2024 north of 100,000. You and I talked about this going back to this winter. I think there's a rocky path to getting

• 12:09Speaker 02

  towards that. But ultimately, I think the investors in the in the crypto market have their eyes on the prize as relates to what's ultimately going to cause, you know, the central banks to give us the kind of liquidity that we need to get Bitcoin, you know, from 30ish thousand to to north of 100,000 by the end of next year.

• 12:25Anthony Pompliano?

  So I have two other questions for you. The first is, the Fed is going to make a decision, should they continue to raise rates? Should they pause? Should they maybe cut through the end of this year? The consumer is strong. There's some other data points maybe that are concerning. What do you think that they're going to do? And maybe what data points support either direction?

• 12:42Speaker 03

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• 13:06Speaker 02

  Yeah, so if I were the Fed, the Fed has the liberty to wait, right? We've seen a significant amount of immaculate disinflation, even surprising to ourselves. I mean, we were calling for transitory Goldilocks and going back to January with citing the immaculate disinflation that we were observing and likely continue observing. But it's surprised even us to the downside in terms of how much disinflation we've actually we've actually achieved in this business cycle. And so if I were the Fed, you know, if I were the Fed, this is not what I think the Fed will do. I think they will hike interest rates next week, next Wednesday. But in our view, that should probably be it because you're talking about taking the Fed Funds Rate to five and a quarter, five and a half percent, you know, that corridor. And ultimately, what it ultimately means is that we're probably going to finally get

• 13:51Speaker 02

  the policy rate into restrictive territory from the perspective of nominal GDP, from the perspective of nominal employee compensation, which means they probably don't have to go much further. They can just afford to sit on their hands and wait and allow, you know, the long and variable lags of monetary pilfer to tighten and catch up to the broader economy. They will catch up to the broader economy. We're still on the tape in expecting a recession that's likely to start in Q4 of this year or Q1 of next year. We've been, we've had that view since November of last year when we performed our yield curve analysis. And so, you know, that, that, that view hasn't changed. And so ultimately, we still believe that those long and variable lags will start to manifest, you know, kind of again, late 2023, early 2024, Q4, Q1 is kind of our expectation there.

• 14:36Speaker 02

  It may take a little bit longer, it may take a little bit, actually, we don't think it's going to take shorter. You know, we think we have a high degree of conviction that we're not going to see a recession commence in Q3. And if anything, if you think about the shape of that distribution, whether the modal outcome, you know, the highest peak of the distribution is a recession that starts in Q4 of this year or Q1 of next year. The second highest part of that distribution, the second highest peak would be a recession that starts later than that or significantly delayed so much that investors start to believe in the soft landing scenario. I think it's of the very low probability that we actually walk into a recession in Q3 of this year. Part of the reason for that Is that we're actually probably going to see a significant rebound in that inventory cycle, you know, going back to the trust we just discussed about the inventory cycle.

• 15:19Speaker 02

  If you look at inventories in terms of their contribution to real GDP growth over the last four quarters, on average, real inventories have shaved off nearly 100 basis points from GDP on average over the last four quarters. Yet we're talking about a consumer that is actually accelerating its spending on goods while it's maintaining its spending on services. And so ultimately, we may be, you know, kind of on the precipice of a fresh inventory cycle. Now, it may not be like a true bottomed out, you know, recession level, you know, start of a new business cycle, inventory cycle, but it could be a mini inventory cycle that delays recession even further, again, relative to those consensus expectations, which I would argue, you know, since the last, you know, kind of last couple of months, they have kind of morphed towards more of the soft landing camp or at the bare minimum delay

• 16:04Speaker 02

  recession camp. You know, a lot of what's been, you know, a lot of, a lot of the process of consensus being wrong footed on that view has been priced in. We think it still has a little bit further to go, though.

• 16:14Anthony Pompliano?

  Last question for you is, are you doing anything differently right now with the portfolio compared to what you were doing earlier this year?

• 16:20Speaker 02

  Uh, no. So, I mean, we run a, we run a, we implemented a systematic loan only process in January of this year. Thank God we did that because we, we, you recall, we came into the year, first couple of weeks of the year, we were raging bears, despite having the view that the recession would take not till Q4, Q1 of this year to, to materialize. And part of the reason we're raging bears because we thought inflation would prove, even though we had that, you know, that we, no, so we subsequently adopted the immaculate disinflation view, but prior to adopting that, the first couple of weeks of January, we thought inflation was going to prove stickier than it has ultimately shown to be throughout the first half of this year. Fortuitously, we were able to make that, you know, intellectual pivot, you know, going back to mid-January, when we implemented transitory Goldilocks citing the immaculate disinflation process that we continue to observe.

• 17:05Speaker 02

  So, nothing has changed from that perspective in terms of running this systematic loan only portfolio approach. One thing I call out is, you know, we're at 83% of our max exposure to equities in that process currently. We are at 0% of our max exposure to fixed income in that. Process and that's due to what we call our bottom up risk management overlay. And we're also at 0% of our max exposure to macro asset classes. Again, due to our bottom up risk management overlay and what we call macros crypto commodities and currencies and volatility are those macro asset classes. So you know, the, the, the process is this has it has, it has had us, you know, pretty long stocks for a while. And it's likely to continue having us pretty long stocks for a while because I don't really see anything coming down the pike in the very near term.

• 17:49Speaker 02

  That's going to derail, you know, this rise in cyclical growth expectations that's driving the equity market higher. Eventually, you know, we will see those cyclical growth expectations peter out and kind of give way to something more draconian, but that could be, you know, one, two, perhaps as long as three quarters away.

• 18:04Anthony Pompliano?

  Where can we send people to find you on the internet or find more about 42 macro?

• 18:08Speaker 02

  Always a pleasure, man. So thanks again for having us. Come check us out at 42macro.com. Put out a bunch of research for institutional investors and high net worth retail investors. I mean, we have a ton of crypto clients as well because obviously as you probably figured out, if you're watching this program, you need to know macro, you need to do macro really well to do crypto really well. So hopefully folks come check us out. And then obviously follow me on Twitter at 42macroweather and we have our private Twitter 42macrowhere, but that's exclusively for 42 macro members.

• 18:34Anthony Pompliano?

  Awesome. Thank you so much for doing this. I always enjoy it. I always learn. We'll definitely do it again.

• 18:38Speaker 02

  Absolutely, brother. I see you next time. Cheers.