Ep. 1411: Trend Following Thinking with Michael Covel on Trend Following Radio

Please enjoy my monologue Trend Following Thinking with Michael Covel on Trend Following Radio. This episode may also include great outside guests from my archive. --- I'm MICHAEL COVEL, the host of TREND FOLLOWING RADIO, and I'm proud to have delivered 10+ million podcast listens since 2012. Investments, economics, psychology, politics, decision-making, human behavior, entrepreneurship and trend following are all passionately explored and debated on my show. To start? I'd like to give you a great piece of advice you can use in your life and trading journey… cut your losses! You will find much more about that philosophy here: https://www.trendfollowing.com/trend/ You can watch a free video here: https://www.trendfollowing.com/video/ Can't get enough of this episode? You can choose from my thousand plus episodes here: https://www.trendfollowing.com/podcast My social media platforms: Twitter: @covel https://twitter.com/covel Facebook: @trendfollowing https://www.facebook.com/trendfollowing/ LinkedIn: @covel https://linkedin.com/in/covel/ Instagram: @mikecovel https://www.instagram.com/mikecovel/ Hope you enjoy my never-ending podcast conversation!

• 0:00Speaker 00

  You know, October is one of those funny months historically. Historically, shit has often hit the fan in October. Now, that's not something you can bet on, but it is something that has happened in this month. But taking a step back, and my repeat guest today goes there. How do you prepare for the unexpected? I mean, you don't wake up and have a trading system based on October. But how do you participate if things occasionally go to hell at a handbasket in October? You need a system. My guest today gets into that. I hope you enjoy.

• 0:54Speaker 00

  My guest today, a repeat guest, Mark Rosinsky. Mark is the CEO of Amphi Research and Trading. Formerly, Mark ran John W. Henry's trading firm, the classic trend following firm. Today, Mark and I discuss markets, economics, trading, psychology, and trend following. Again, I am always fortunate to be able to do this podcast, to have such smart people come on and give me a continuing education. And you're the audience of continuing education. Without any further delay from me, let's jump right in with Mark, and I hope you enjoy.

• 1:41Speaker 00

  And I'll do an intro for you in post.

• 1:43Speaker 01

  Okay.

• 1:44Speaker 00

  So I get that opportunity to practice one of the best last names in the world out there. Otherwise, any questions for me before we jump in?

• 1:53Speaker 01

  No, I appreciate your style, which is just to go with the flow kind of thing. Last night I was trying to prepare a little bit. I said, like, I'm not sure where this would go. We'll just wing it and see what happens.

• 2:06Speaker 00

  Yeah. I mean, I try to wing it, but I also, there's a method to the madness. Sometimes when you go into one of these conversations, I mean, look, you know this. If you do an interview and it's, someone's reading off a bunch of questions to you, kind of dial it in, I would dial it in. But we're looking, trying to have a conversation. That's the whole, figure out that process, right?

• 2:27Speaker 01

  It actually is harder to do it so it sounds like a conversation. It takes more work than if you say, here's a bunch of questions that I'm going to ask you, prepare for these sets of questions, and this is going to be somewhat scripted.

• 2:40Speaker 00

  You know what the work is? The work is a lifetime of just talking to people, right? For me or you. If one person out there decides they want to do a podcast, they really don't have any experience, perhaps they can reach people, they're just going to ask that list of questions. But if you talk to enough people and you meet enough people, then it's easier, right?

• 2:58Speaker 01

  Yeah. Plus, you have this, we'll call it voice for radio.

• 3:02Speaker 00

  I don't know where it came from.

• 3:04Speaker 01

  But it is catchy, because you listen to a lot of newscasters or podcasters. Their voices aren't memorable, but I probably say that if you wanted to give me a late night threatening call, I'd say, okay, Mike, I know what you, stop.

• 3:21Speaker 00

  If I had to, I could get very threatening, really. I can go to, I could dial it up, but that's not the point of the show.

• 3:28Speaker 01

  But you know what I'm talking about. You, it's just recognizable.

• 3:32Speaker 00

  Well, it's interesting, I think you might be the first person who's ever said that to me on the podcast, because how do you know if you're the person?

• 3:39Speaker 01

  Right.

• 3:40Speaker 00

  You don't, really. It's very difficult. Okay, let me, enough of me taking you around to my voice and stuff. Here's an opening salvo for you. And if we don't get out of this question, I'm happy with that. So we can get as in deep as we need to. Before we even get into any kind of great trading insights you might be able to give us, I'd like to talk some big picture macro stuff. And I think, given inflation, all the rage, we could see, I don't think it's happened yet, another Fed rate hike. Inflation is policy. That's a true statement, isn't it?

• 4:14Speaker 01

  Yes.

• 4:15Speaker 00

  Explain that to the audience. It's such a simple sounding phrase, but there's a lot behind it.

• 4:20Speaker 01

  Yep. There's a lot, there's a lot behind it. Inflation does not occur without governments allowing it to happen. By that sense, it is a policy. It is a choice. We choose to have inflation, we choose not to have inflation. In some sense, we've chosen to ensure that we don't have deflation, which then commits us to have some inflation.

• 4:45Speaker 00

  There's all kinds of reasons for this. This isn't the point of the conversation today. Generally, there are going to be political reasons, and I don't think the average person necessarily thinks about that. That's not to try and ascribe inflation to any particular power centers today. I mean, inflation has occurred at various points in time over various administrations, right and left. It is a political process, ultimately.

• 5:09Speaker 01

  Yeah, I mean, inflation helps borrowers. There's more borrowers than creditors. Immediately, it's a lot easier from a political stance to have a bias towards inflation as opposed to a bias towards deflation, which is for creditors. That in itself creates a bias. I think that generally is that if you see, let's say, in the simplest case, a 2% inflation target, no one may complain about a 2% inflation, but if you see higher unemployment, people aren't working. That may seem to be a much bigger problem than an inflation problem. I think there's a natural bias to accept that.

• 5:53Speaker 01

  There was some interesting research that was done by the Fed, by one of their economists. They actually looked and they found that there really isn't a good reason for why we even have to have 2% inflation. We could have zero. It is a policy choice. More important than just a policy choice is the problem of distortion from inflation. That's what we're really seeing now. When I say a distortion from inflation, since inflation is a general increase in prices, it's like, well, if I'm a business and I see the prices are going up, is it because there's an increased demand for my product? Is there increased demand for the inputs that I need?

• 6:38Speaker 01

  Or is it caused because there's a general increase in prices? The signaling that I usually get from prices is now distorted. You see that in companies right now. You see that there are big inventory builds. Companies are making errors because they have to make investment decisions, they have to make purchase decisions based on what they're seeing in prices. If prices are moving up because of inflation, not because of demand, that could create bad decisions. That leads to inefficient economy.

• 7:12Speaker 00

  Can we ascribe the inflation we're seeing right now, right back to the COVID response? This is spread out over two administrations, the Trump administration and the Biden administration. Can we ascribe it to the COVID response?

• 7:27Speaker 01

  I think so. I think it's fair to say is that, we'll have academics to look at this a little bit more closely. We saw that there was a pandemic. We then had a very aggressive monetary policy to help credit markets and to stabilize the economy, which was, it was a good thing. I don't think anyone would dispute that it was an important policy to implement in March 2020. The question, did it last longer than it needed to be? That's one. That creates excess money in the economy. The second, we had a number of stimulus programs on the fiscal side that increased income across the board for many people. It may have seemed to be a prudent policy.

• 8:08Speaker 01

  We certainly had the impact of reducing the effect of lockdowns. Again, is it, it's a matter of degree, is that, was it too much? Well, now, it seems as though that it was too much on our fiscal side, seeing the result of excess fiscal policy, which is higher inflation.

• 8:27Speaker 00

  We can look at the actions, Fed and fiscal, 2020, this easy money policy, and I just rewatched The Big Short recently. This is going back to 08, 09. We look at what's happening right now with inflation, and we can try to draw some connective tissue reasonably to what happened because of COVID. There was also kind of a long build of zero interest rates, easy money for a decade plus.

• 8:56Speaker 01

  There has been excess money in the system for a fairly long period of time. It's that when you look at the QE that lasted almost a decade, it was clearly excessive. Now, interestingly enough, every time we started to, or think about having a quantitative tightening or reducing our quantitative exposure, the markets reacted negatively to. There was almost a response that, oh no, we got to start, we got to get some more QE in here. You actually see that there's more than one type of inflation. This is not classroom textbook type of inflation. You have inflation in the real market, which would be the goods and services that I buy. You can also have inflation in financial markets.

• 9:41Speaker 01

  Financial markets obviously have been inflated for the last decade. Inflation is in equity prices. The inflation has been in housing prices. Financial assets could have inflation. Seriously, the people weren't buying goods and services as much. They were going out there and buying excess financial assets, bidding those financial assets up. We're seeing the result of that now. We'll say that there's more of a reckoning, we're having a revaluation of the stock market, which is the current bear market. This may continue for some while as the markets start to reevaluate themselves and find a new equilibrium.

• 10:20Speaker 00

  As you watched, let's say, March of 09 unfold until March of 2020, before the big stimulus, the big COVID stimulus, there must have been a side of you that was saying to yourself, or amongst friends in small company, oof, interest rates at zero for a decade, is there going to be a soft landing when this finally reaches its zenith? There must have been a side of you that was saying, whoa, this feels excessive. Not that you're sitting around making bets because Mark has a feeling of excessive, nor am I. We're just talking as two people analyzing what has taken place. There must have been in you a sense of this, wow, this is excessive.

• 11:02Speaker 01

  Oh. Absolutely. I'm scratching my head when you say interest rates are zero. Then you say, okay, well, what does it mean to have zero interest rates? Well, that means that there's no time value of money is that it creates investment distortions. It creates projects that were marginal projects, but if the cost of capital is so low, these projects may seem like a pretty good idea. So you say, we are going to have a day of reckoning, but at 2009, you say it's coming. But then it didn't come in 2011 or 12 or 13 or 14. It seemed so that I'm waiting and waiting. And I don't think about the great MIT economist, Roger Dornbusch.

• 11:45Speaker 01

  He said, things take longer to happen than you think they will. And then they happen faster than you thought they could. That's what we're seeing happening is that we knew that there was going to be a day of reckoning from zero interest rates. It just, it wasn't occurring as fast as what we expected. I probably would say that on some level is that I was probably more cautious in my equity purchases than I should have been in hindsight. I always say that ex ante, I'm ignorant, ex post, I'm an expert. Before the fact, it sort of seemed like, I'm not really sure what's going on here. Maybe I should be cautious. And then after the fact, you see like, oh, it was obvious. With this zero interest rate, I should have been just leveraging as much as I could in

• 12:30Speaker 01

  my equity portfolio.

• 12:32Speaker 00

  You would have needed a strategy that got you off the train at some stage of the game because a lot of people obviously are leveraged up from let's say a buy and hold perspective. But now that the, maybe the easy money spigot is not going to be here, that repricing of risk is here.

• 12:49Speaker 01

  Yeah, it is here. We're looking at margin financing, for example, for this year, it's fallen off a cliff. It's just that all the people who use cheap money to lever their equity portfolio and invest in risky stocks, they're leaving the market now. Are they a little late with a 20% bear market? They might be a little late, but we've already started seeing this at the turn of the year. Leverage is coming down. People are being more judicious about where they use leverage. Borrowing money is not a good thing now.

• 13:21Speaker 00

  Yeah, I like your phrasing, leaving the market. That sounds so academic, but I think we could also take that they're, they're now bankrupt, some of them.

• 13:29Speaker 01

  Yeah.

• 13:30Speaker 00

  They're leaving the market. That's the nicest way I've ever heard it said.

• 13:35Speaker 01

  It's almost like you're getting thrown out of a bar or whether you leave of your own accord, you're leaving the bar. The question is, is it voluntary or involuntary?

• 13:44Speaker 00

  Yeah. As we kind of think about the period post 08, 09, and this is just kind of a big, open ended question, not trying to pin it anything, just an open discussion. The rise of crypto, the rise of Bitcoin, do you think we would have seen it at three to 4% kind of regular rates, so to speak? Do you think we would have seen the rise?

• 14:06Speaker 01

  I don't think it would be as popular without a doubt. The development of blockchain and this technology would have occurred anyway. Crypto was an outlet for people to speculate in ways that could allow them a tremendous amount of leverage. They took advantage of this. If the cost of capital is close to zero, you can be able to leverage your portfolio at very little cost. People will do it. This was an outlet for them to do it better than any place else in the world. Now, when I say better than any place else, is that you were able to get more leverage than you ever thought imaginable in other markets, certainly more than in equity markets, even to some extent more than futures markets.

• 14:51Speaker 00

  Am I missing something here? Or does it feel like to me that if crypto would have taken place in the 90s, that the CFTC and the SEC would have reacted differently? There seems to have been a hands-off approach to where now, I guess it was a $3 trillion market now, under about 800 billion, I think. When you see these stories of just regular folks having their quote crypto bank accounts shut down or locked and the exchanges locking people out, all this kind of stuff. It doesn't seem like if you and I would have created crypto in the 90s, the SEC and the CFTC would have allowed this, or am I just off here?

• 15:34Speaker 01

  I have been really surprised that the unwillingness between the CFTC and the SEC, that they haven't been able to find some way in which to regulate this market, that it's still taking such a long time for them to, they're still in the process to figuring out exactly what should be the right regulation. Would it have occurred in 1990s? Hard to say because there always has been this competitive battle between the CFTC and the SEC on what they can regulate, who will be the primary regulator. We've seen this battle going on since the eighties, since the beginning of the financial futures. Would they have been better at it in 1990s? Hard to say.

• 16:18Speaker 00

  Just curious perspective. Bring it back to inflation for a moment. I think one thing it's really interesting with inflation taking off now, potentially facing a recession, that is kind of a double whammy, isn't it?

• 16:30Speaker 01

  Oh, absolutely. Especially evident with the ECB where they had interest rates on deposits at negative 50 basis points. They said, oh, we're really going to have a tough time making a decision. And they finally said, okay, we're going to get very hawkish and we're going to go up to zero interest rates on deposits. When you think about it is that it's hard to imagine that that would be considered an aggressive policy in some alternative universe. You think about that, they're in a really rock and hard place. You have a supply shock, which obviously is a relative price difference. You have inflation, you have low interest rates, you actually have potential for recession

• 17:13Speaker 01

  and then fragmentation across the different country sovereigns risks on their debt. You have almost a perfect storm of difficult policy decisions. The same with the Fed is that we know that we want to try to get ahead of this. The more we get ahead of this, the more likely we're going to lead to a hard landing in the economy. By kicking the can forward back in 2021, now we lead to bigger problems in 2022. If they started to raise interest rates earlier in 2021, I'm not saying we wouldn't be in the same problem. We would probably not have to be as aggressive in raising rates now if we started doing it in 2021, if the Fed was starting to do it in 2021.

• 17:58Speaker 00

  I'm sure you do this just naturally, instinctively from a scenario planning standpoint, not even getting to a spreadsheet, just you thinking about possibilities. I'm sure you can easily imagine US equities going down beyond 50% from their peak. Why not? It happened in 2000, 2002, it happened in 08, 09, it could easily happen again.

• 18:19Speaker 01

  Right. It's not mere speculation to say that stocks could easily go down 50%. When we say it's not speculation, we've seen it actually happen. I think that I haven't taken credit for it. There was someone who's actually started talking about that there's the Powell call as opposed to the green span put. We've always under post green span period, there was the idea that at some point the Fed would protect the stock market or financial markets by providing liquidity because at some point they're going to say it's going to go down too long. Now we have a situation and probably say, I think that they use the equity markets as a signal about how aggressive they can be on raising rates.

• 19:00Speaker 01

  If the stock market went up another 10% between now and say another fall Fed meeting, that would give them sort of carte blanche to continue to raise rates because they said like, well, financial markets are looking positive. We have some more latitude to further raise rates, which will then cap the amount of equity upside. I think we're sort of seeing Fed policy actually creating the Powell call, or we'll call it the Paul collar relative to just a green span put.

• 19:30Speaker 00

  It's a fascinating time and the inflation part is what makes it so different. If somebody was to try and think of a parallel of 08, 09 and say, okay, if I can imagine equity markets dropping 50% again, what happened to unemployment then? But we didn't have inflation then. We all saw what happened with the big corporates. Once their stock prices took a hit, they laid off everybody under the sun in 08, 09.

• 19:53Speaker 01

  Well, a number of Fed economists have said, we really just don't understand inflation. We don't understand how it gets anchored. We don't understand how it moves into expectations, into forward prices. When we look at inflationary breakeven prices in financial markets, we don't even understand how it actually works through the system. It was telling that this is the number one macro problem that we've been probably facing since we first defined what is macroeconomics. We're having hundreds of Fed economists, they're coming out admitting, they say, we really don't understand the core phenomena, which we have to try to control, which is scary.

• 20:34Speaker 00

  What's so fun to talk about you is we can have this opening half of the conversation, giving these different analysis on what's been happening. You're also a guy who has a deep trading understanding too. You and I both know this has been a very interesting year for one particular style of trading. In the middle of all this uncertainty, this volatility, this ambiguity, this complexity that Mark likes to look at, this style of trading that you and I are familiar with has done exceptionally well this year, more so than you would have expected.

• 21:09Speaker 01

  I think that the environment has been particularly favorable for our friend trend following. I think that you're seeing it across the board with a lot of the big trend following funds, they're actually been pretty good about padding themselves so back to say, well, we've made money in energy, we've made money in this market, in this market. I think you need to go back to the fundamentals is that why is this a particularly good environment for trend following? It begins with how we started our conversation. There's a lot of uncertainty in the world around us. When there's uncertainty, there's frictions. People act slower. They suffer from biases that they didn't suffer in a norm, quote unquote, normal environment.

• 21:52Speaker 01

  Because of that, prices move slower and because that you're going to lead to trends. The word that I love to use to say, what is a good environment for trend following is the word VUCA.

• 22:04Speaker 01

  They came from the US Army War College. When they're trying to explain the environment that they have to face in battle, they use the word VUCA, which is volatility, uncertainty, complexity, and ambiguity. When you have all of those together, you're in the, what Clausewitz would call the fog of war. In the fog of war, it's really hard to make fundamental forecasts. In this fog of war, in this VUCA world, it's really hard to make sense of the world and make decisions based on all the fundamental information about whether inflation is going up or is going down, what the Fed is going to do. In some sense, in that world, that's a great place where you want to say,

• 22:48Speaker 01

  let prices speak for themselves. And by letting prices speak for themselves means follow the trends, follow the price. That's your base decision. That's the base you should always start from. If the trends are going up, then that's what I should be following. If trends are going down, that's what I should be following. You can look at alternative scenarios. You could look at alternative worlds. But at the end of the day, your base should always start with looking at the trend.

• 23:17Speaker 00

  It is such a fascinating style of thinking, trading, evaluating, that when something like this year happens, you just know that this is going to do well. We've seen this, I mean, people have criticisms and say, you know, don't call it crisis sellout and all that. Generally speaking, over the decades, when these periods, these VUCA periods happen, you just get this performance during these events. And it's just an amazing strategy because it's like right at the time where so many people, friends and family often, are panicking their brains out. They're scared to death, they're losing money. You know something, you, Mark, know something that can help them.

• 24:01Speaker 00

  They really didn't want to do that before because the 6040 was there. That's what their RIA said and the brokers said. They're fine with that. Everyone's, prices are going up, I'm making money on my used cars. But then something happens.

• 24:16Speaker 01

  There's more of fundamental view is that there's some interesting research done in psychology of decision that they've actually sort of given people simple solutions to a problem and more complex. Generally, people choose the more complex solution, even though it may not be right because they think complexity in general is better. Someone who comes in with a great narrative, a great story, who talks about complexity of here's what we're going to do for your investment strategy. We do this, we do that. We have this kind of inputs. We can talk about the nuances of what data is coming in. People love that. Then the next person comes in who's maybe a trend follower and say, look, I keep it very simple. If prices are going higher, I'm a buyer.

• 25:00Speaker 01

  And if prices go lower, I'm a seller. Almost like they go, huh? What are you doing? They say, yeah, I'm following a trend. You say, really? They almost have a bias towards choosing the person as the more complex strategy. Yet in reality, is this, it's simple works. Simple can eliminate clutter, eliminate noise. Simple can be a good foundation for what you should be looking at. If I could give a perfect example, is that looking at commodities. Commodities had a great run in 2021. There started to be the narrative of commodity supercycle. We had the war in Ukraine, prices moved even higher.

• 25:41Speaker 01

  They said, we're going to have grain shortages, we're going to have energy shortages. We're running out of copper because we're going to need it for electric cars. There is this whole shortage narrative and they are presenting evidence that they would suggest a supercycle is occurring. If you look at early March, sometime in March, markets have started to decline. Corn prices are below the Ukraine invasion. Wheat prices are below the Ukraine invasion. Soybean prices are below that. Copper has fallen out of bed. Oil prices have come off their high. Now, we won't talk about European natural gas, which is out there. All of the narratives that we saw about commodities have all been wrong over the last few months now.

• 26:24Speaker 01

  On the other hand, I'm looking at my trend following models. I'm looking at this, I started seeing it's rolling over in a short-term models, rolling over in a midterm. I'm saying it's like, well, I'm not really sure what's going on here. This flies in the face of what the narrative that I'm hearing and all this evidence is talking about shortages. At the end of the day, I sort of say, yeah, but there's something going on in prices that are telling me that I should probably get short. That's going to be the better trade. Then now we're sort of getting evidence that because of recession fears, the speculative excesses in commitment and traders have declined. Actually, just following the trend was probably the right strategy as opposed to following

• 27:09Speaker 01

  the commodity narrative.

• 27:11Speaker 00

  Stealing a line from you, you're not the boss. The market situation is the boss.

• 27:16Speaker 01

  Yeah. It's almost as though that, yes, you don't control the destiny of markets. Market prices should control you. You have to just say, how do you want to be controlled or how do you want to deal with this environment? Constantly in the past, when I talk to clients, they'd say like, especially given the example of the grain markets, people would come up to me and say like, well, how do you think you're going to make money trading commodities when Cargill, General Mills, Bungee, these large grain companies have such an information advantage over you? Tell me why you're going to make money when all these other guys have a better advantage and have more knowledge than you?

• 28:00Speaker 01

  It's almost simple is that I just follow the prices and if they think prices are going down, their activity is going to start to cause prices to go down. And I'm just going to be a close follower. I'm going to be drafting behind them instead of being the first mover. I want to be the second mover. With trend following, you can be a good second mover and still make money.

• 28:21Speaker 00

  Some people that might bring up that Cargill fundamental example, General Mills, and you tell them that retort, they might nod a little bit. I mean, some are going to get it. I'm sure some people nod, maybe eventually just get out of the conversation and really don't understand what you're saying.

• 28:39Speaker 01

  That's absolutely true. It takes a while for this idea to really sink in because what you're saying is that you, with your simple strategy of being a follower, is going to perform better than the person who has the information advantage. I just can't see that.

• 28:58Speaker 00

  It goes against so many of the academic norms, the idea of expertise. It goes against all of that.

• 29:05Speaker 01

  I think most people have this, is that more information is always better than less information. Even some analysis on decision science say that that's not always true. It says that more information is not always better in terms of accuracy of forecast. More information will give you more confidence. You will feel more confident about the decision you make. That doesn't mean that it's going to be more accurate. If you say, I'm trading with the big boys or I'm trading with the person who has all of this expert knowledge, you probably say, I have more confidence that he's going to do a good job. He may not be more accurate, but the confidence will be there. And I think that that's the case is that you keep it simple.

• 29:50Speaker 01

  We don't add more complexity than it has to. We focus in on accuracy and accuracy from a trend following perspective is that I don't need to get the point to forecast right. If let's say that I think that interest rates right now are going down, I don't have to get the actual estimate right. I just have to get the direction right. I've made my job a lot simpler with trend following. I don't know where the end result is going to be. All I need to know is that I got the direction right and that's more than half the battle.

• 30:20Speaker 00

  I'm thinking of here, as you say all that, a rule of thumb, the simple heuristic of price, shout out to Gerd Gegenrenzer.

• 30:28Speaker 01

  I know you had Gerd on the show. I had lunch with him once years ago. What a great guy.

• 30:33Speaker 00

  His character, huh?

• 30:35Speaker 01

  This is sort of naturalistic decision making. He uses the term fast and frugal. I've used that a lot. I think that there is a nice marrying of science and trading when you use the idea that you want to be a fast and frugal decision maker. Markets are fast, they're constantly changing. You want to be fast, you have to make a decision quickly. Frugal meaning is that you're never going to have all the information. So you try to keep it simple. It's almost as though like if I'm trying to have a car, do you want to have a high performance car? Would you like to have a car that's relatively simple? Like you remember the old Volkswagen Beetles where you can pull up the back? You go to the back of the car, you pull up the hood in the back.

• 31:20Speaker 01

  You probably could figure out how to make this thing work if it ever broke down.

• 31:24Speaker 00

  Gerd was in a VW commercial, I believe.

• 31:27Speaker 01

  Really?

• 31:27Speaker 00

  Did you know that? Yes, he was, he was in a band, he was in a band and he's in some kind of Volkswagen commercial that you can find on YouTube. It's crazy.

• 31:38Speaker 01

  The legend continues.

• 31:41Speaker 01

  But the fast and frugal idea really makes sense. And I think Gary Klein often talks about recognition, prime decision making. You focus in on something you could recognize, then that can cause action. I'm following a set of trend models. Prices start moving above trend line. I have it on a dashboard, color coded. So what happens is that if it moves to a long position, it's popping up green. And all of a sudden, this is a look at this, I said, oh, something is catching my attention. Okay, let's turn over here. What's going on? There's something that the market is telling me that I should be paying attention to in a way that I couldn't if I'm trying to look at all the fundamental data and trying to assess what's going on there.

• 32:20Speaker 00

  When I think about the decisions, some people might not want to do anything because they've got their status quo. Okay, I'm 6040. I'm happy with that. I don't care about this other styles, these other styles that might be grounded in the philosophies that you're talking about, Mark. Some people might really be willing to try what you're talking about, but they're scared of starting and then it not working, having to take a loss or something not going their way. Also, I'm curious your view on this. You say, okay, just make a decision. Everyone's been trained so much in the modern financial thinking, make a decision, and then that's it. You don't have to make another decision. Whereas what you're talking about is really potentially a series of decisions. You don't necessarily

• 33:05Speaker 00

  get to stop. Whereas I think most people, when it comes to their money, their retirement or whatever, they just want to imagine there's one simple, one decision you have to make, and then that's it. And then you just set it and forget it. And that's not really the way the world, life, or anything really works.

• 33:21Speaker 01

  Well, getting back to our VUCA world, we move through different regimes. We have a high volatility, low volatility, and they can't set it and forget it if, let's say, we're constantly moving between regimes. No, you can be able to dial it up or dial down to say, how much do you want to set versus forget? In a very simplest case is that if you're someone who doesn't want to do a lot of trading, you don't want to do a lot of adjustments. This is the simplest case is even if you do a 200 day moving average, you look at how I should look at my 6040 portfolio versus that, you would have protected some of your wealth by the very reason is that markets started to move

• 34:02Speaker 01

  lower. It would say like, well, let's take some of the equity off the board. It might also have been occurring now for bonds too, because we had a really bad bond market for the first half of 2022. You probably say, I should increase my cash exposure. If you did that, you would have been in much better shape than if you did nothing. There are ways that you could be able to adjust this to. You say, if you want to be less aggressive, you can set a trend following program that matches your level of aggressiveness. Other people could be more aggressive and trade more often. Now, generally, what we probably find, and I think that especially in this last year, this has been a vindication of

• 34:46Speaker 01

  longer term trend following. It's a longer term trend following, sort of the classic trend following from the 80s, 90s, has actually done better than, let's say, the real fast programs that have been trying to be in and out in just a few days.

• 35:00Speaker 00

  Even though we're talking about trend following, something that I've written about, something you've written about, you're the type of person, though, that is very willing to not just be a homer. You're willing to go in, tear apart, give the counter argument for trend following. I mean, you're not just sitting here buying hook, line, and sinker. I mean, you are willing to tear it apart, so to speak, really give it the academic karate chop. I mean, there's a counter argument for any investment.

• 35:27Speaker 01

  Absolutely. When we've had a very stable environment, we didn't really have a lot of uncertainty. We didn't have a lot of volatility. We'll call it a non-VUCA world. Trend following really didn't do that well. When we think about it, we go back and we've talked about this before. I always think of trend following as a divergent strategy. It's a mean fleeing. You have to have dislocations in the market for you to make money at trend following. And if those dislocations don't occur, or if you have a very stable world, trend following may not be very attractive. It may not be very attractive for a long time. I think that people's attention spans are such that sometimes if they say, I'm

• 36:10Speaker 01

  not making money at trend following this quarter or this year, I'm abandoning this strategy. Fundamentally, you have to sort of say, what is trend following try to do? If you say it's a diversion strategy, it's trying to make money when markets are diverging from equilibriums, moving away from equilibrium. If that's not occurring, you're not going to make any money. Some would say it's long convexity. If you look at long convexity trades, if nothing's moving, you're paying for your convexity, but you're not getting anything in return for it.

• 36:40Speaker 00

  As we wind down, this is kind of a lengthy question, a little bit back to scenario thinking. Here I am, I'm in Southeast Asia today. China is right next door, all kinds of potential issues with China, potentially geopolitical, potential financial issues. There is all kinds of conversation around the world about globalization. Are we going forward or backwards? Obviously, we're bringing up VUCA today. We've been so wedded to this 6040 with all that setup there. We've been so wedded to this 6040 split, 60% equities, the 40% bonds.

• 37:19Speaker 00

  Now we've got the baby boomers saying, oh, now it's our time to finally wander into this retirement myth that we've created. They don't think it's a myth, but okay. Given with that setup that I lay out, though, also one more caveat to think back, not even think back, to Japan. I mean, it's been 30 years of equity market issues. Can you imagine a lost decade for US stocks right now, right as the baby boomers coming on the heels of a no interest income decade? It's a really interesting time. It's a time where I have a hard, I have a hard time imagining that all of a sudden smooth sailing is going to come out of this anytime soon.

• 38:03Speaker 01

  No, there are now good answers. But one thing we find is that the 6040 has really developed under the idea when we've had a negative correlation between stocks and bonds, because we've had a low inflation environment. If we move into a higher inflation regime environment, then stocks and bonds are going to be correlated, which means is that your 6040 is not going to give you the diversification you have. You're going to have volatility. That's one problem. You started out with the geopolitical issues. We are deglobalizing. You could see it now.

• 38:34Speaker 00

  What do you mean by that exactly?

• 38:36Speaker 01

  Think of it this way, is that in a globalized world, we source goods from China, we source energy from Russia, and the Middle East, we source copper from Chile. We just buy and sell across the world and we integrate ourselves to get all of the resources we need to grow the economy. Yet now, as I say, well, we need to be energy independent. What does that mean? Is it, well, we're not going to take oil from other parts of the world. Whether that happens or not is a different story, but that's the policy we like to describe. Then we say, well, we need to have, bring businesses back to the United States because, for example, solar panels. If you want to go solar, you're going to have to buy them

• 39:19Speaker 01

  from China. That means that they control the production. We're trying to become more mercantilist, focusing on creating all of our wealth inside the country, put up isolation barriers of trade. And that may not be tariffs. We try to say, how do we source all of our resources and production inside the country as opposed from other sources? This is ongoing. When you think about the Ukraine, Russian wars, that we put on a tremendous amount of sanctions, now we're seeing that world is coming apart because now we're forming new trading blocks, new groups of countries that are going to be formed coalitions that we didn't have before in a globalized world.

• 40:02Speaker 00

  My iPhone's not going to be the same price if that scenario unfolds. And all that trinket stuff I can buy on Amazon, from underwear to plastics, that stuff's going to go up in price too, if it has to be made in America.

• 40:15Speaker 01

  Right. Go back to some commodity examples, because those are always good, simple examples. It used to be that corn and soybeans were North American crops. We see what's going on in the Midwest, see what's going on in the Northern Hemisphere. That'll tell us what's going to go on. Now what we have is a tremendous amount of soybean and corn is grown in Latin America, Brazil, Argentina. It's more of a global crop. Well, what happens if, let's say, that there is a disconnect between what was happening in the Southern Hemisphere versus Northern Hemisphere? You're going to get bigger distortions in price. You're going to have more logistic problems. You could maybe have more than enough grain

• 40:57Speaker 01

  that may not be able to get to the places it needs to go to in order to be able to cause stable prices or allow for stable prices. If that can happen in grain markets, it happens in oil markets, it can happen in copper, it's going to happen in the manufacturing sector. That means that there's going to be more distortions in price around the globe. That's going to lead to more economic inefficiencies, which means that's going to hurt our way of life. I think that you talked about retirees problem. The real problem is that when you think, getting back to the inflation talk, inflation is up 8%. That means my purchasing

• 41:36Speaker 01

  power and my wealth has declined by 8%. And the question comes in, it's like, well, we're going to get inflation back down to the 2% target. But what happened to my 8% that I lost so far this year or in the last year?

• 41:51Speaker 00

  You'll get a check next year for that.

• 41:53Speaker 01

  Yeah. People have to realize the pain of inflation is that once that prices go higher, it's not like it's coming back. To get us back to the prices we had before, we're going to have to have an 8% deflation. And you talk about the politics. There's no way we're going to be able to get to see a CPI print of minus 8% in the United States. That wealth or destruction from higher inflation is gone. And that affects old people who may be on have annuities or fixed income. But it also affects younger generation. If you want to buy a new home or if you want to make any kind of savings,

• 42:37Speaker 01

  how are you going to do that if, let's say that you saw that 8% of your purchasing power has been destroyed?

• 42:42Speaker 00

  To take it back as a final point, my lengthy question there, scenario planning wise, the baby boomers. Let's say we did take a 50 or 60% total haircut on the S and P. Here we have the baby boomers entering retirement. That seems like a really dicey proposition. Now, of course, they're the wealthiest generation right now. I'm Gen X, the generations that come below me. I mean, some of these kids got nothing. They've lost all their money they had in Bitcoin or whatnot, or all the various cryptos. If the baby boomers potentially are entering retirement with equity markets taking a severe haircut, that just feels like to me, I haven't done a spreadsheet on it. I haven't scenario planned it, but just gut level to me,

• 43:26Speaker 00

  that feels like real trouble.

• 43:29Speaker 01

  It's real trouble because when you look at the scenarios, the biggest fear is that we form governments or we have electorate that becomes nationalist populist. Populism can come in many forms. What would happen if, let's say that you see all of this wealth eroded for the baby boomers, wealth is not being created for the younger generation? What are they going to do to existing governments? How are they going to respond to the current governments that we see? You're going to see that there's going to be massive upheaval, massive desire for change in fundamental policies. And those changes in fundamental policies is going to lead to more uncertainty.

• 44:12Speaker 01

  There are now sort of what we call policy uncertainty indices that you could track and follow. If uncertainty goes up, well, then it's going to make it even harder for you to make any investment decisions. We're going to be in a much more VUCA world than what we saw before. It's only going to get worse.

• 44:27Speaker 00

  What's your thought on the Japanese yen? That's just a really interesting position that their government has taken. I'd love to be able to go right now, but the country's not open. I'm dying to go up there and enjoy Japan at the cheapest I possibly could.

• 44:41Speaker 01

  They're a very innovative country. Unfortunately, it's just that they've suffered from the lost decade for almost more than three decades. I think that they're following a policy that they think would get to what they think will lead to higher growth. Again, here's the problem is that they have a major energy problem. Since they shut down their nuclear power plants that they had that were providing a tremendous amount of energy, now they're going to have to buy all this natural gas and oil. Lo and behold, all of those are priced at dollars. You talk about an energy shock that they're receiving. You can imagine if you had to purchase all of your energy resources in dollars, you have such a declining yen.

• 45:26Speaker 01

  That's an unstable equilibrium that probably cannot continue.

• 45:29Speaker 00

  Again, you know, this conversation is not about making predictions. I just look at it as two guys kind of looking at various scenarios that are unfolding, watching, talking about trends that are unfolding right now. Boy, it seems like we had to imagine smooth sailing or lots more VUCA. It seems like lots more VUCA is on the menu.

• 45:48Speaker 01

  Yeah, the problem comes in, how do you deal with that? One way you could say, well, I'm going to stay up late at night and I'm going to study more research. I'm going to sort of focus in and try to get a better understanding in the fundamentals, see if I could get ahead of this, get ahead of this uncertainty, get ahead of this complexity, try to eliminate or reduce the amount of ambiguity that we see in markets. Problem is that there are not enough hours in the day. You have to go back to saying simple is that dollar yen. I could believe that it should go higher. This doesn't seem like it's stable, but when is it going to happen? How is it going to manifest itself? Or how is it going to display? Well, the only thing I know for sure, if there is a change in this environment

• 46:32Speaker 01

  and it isn't going to continue, it's going to show up in prices. It's going to show up in trends. I know that late at night, I could either try to read a little bit more about the Japanese economy to try to understand what's going to happen with the BOJ policies or other ideas. Or I could check my screen and say, what's the price action? If the price action shows that the dollar or the yen is strengthening, I got to be more of a buyer. At the end of the day, follow that price action. Recognize those prime signals that you see from prices. Let prices speak for themselves. Let prices do the thinking for you.

• 47:09Speaker 00

  You're a calm, cool, collected guy. I could very easily imagine somebody else saying what you said in this conversation with some emotion to really strike fear of God in people. Because you have really laid out in the last hour, a way of thinking, a way of analyzing what's going on right now, that people should be concerned. It's not the good old days right now, so to speak. There's a lot going on and I think for people to just kind of put their head in the sand is not good strategy.

• 47:41Speaker 01

  No, you look at the phenomenon of the seventies or higher inflation and probably started even before that. It lasted for more than a decade. The only reason why it stopped is because we had Paul Volcker, who was willing to be politically independent, be able to have what's called the October massacre and raise rates to such levels that it's snuffed out inflation. If you look at any of the current members of the Fed or if you look at the ECB, do you see any figures that would be willing to take that kind of action to snuff out inflation and change the direction of stagflation? I hear the talk.

• 48:26Speaker 01

  I don't know if there's the will. We will see.

• 48:29Speaker 00

  Probably a great place to put a pin in it. Mark, I appreciate you giving a, what I wanted is kind of a twofold conversation. Here's the scenarios unfolding. Here's a way to go about dealing with these scenarios, which is what you're always great at doing is presenting both sides of the coin. Mark, where can we send people? I know they can find you on Twitter, but is there a website you might want to direct? People know you've got a blog that I've checked out.

• 48:52Speaker 01

  They can see my blog, which is just my last name, mripcinski.blogspot.com. You can see my latest writings. You could always reach me there. You can always reach me on Twitter or LinkedIn. Happy to talk to any of your listeners because I'm always still trying to learn. I am always a trend follower at heart. I used to say like, as we've discussed, you need to think through scenarios. You need to think about what's going on in the economy because that always helps you to sort of put context into what we're seeing in the price trends. Given context, it could keep you calm. With the right context, it also can help you build better portfolios.

• 49:32Speaker 00

  Did I surprise you today? I'm not sure if I was reading you right in some of our texts where you thought I might be too much of a trend following homer on this call. You happy that we got some context in there?

• 49:42Speaker 01

  I'm true to who I am, which is not a trending homer. I don't think you are either. I think that listening to the podcast, you want to hear alternative points of view. I think that if you talk to most of the trend followers, they've studied other strategies and concluded that trend following is the best. I don't know if there are many true trend following homers.

• 50:04Speaker 00

  Mark, cool stuff. I hope you'll join me again in the future, but I appreciate your time today.

• 50:09Speaker 01

  Great. I think it was five years since the last time we talked. I got on the podcast. Let's cut that down into half or so.

• 50:16Speaker 00

  Absolutely, sir. I appreciate it.

• 50:18Speaker 01

  Good talking to you.

• 50:25Speaker 02

  I see a time when those awake will understand how to make money in up, down, and surprise markets. Whether a new trader or experienced, college student or financial advisor, protecting against a crash or just trying to make a lot of money. Trend following offers everyone an answer in uncertain times. To get started immediately, send me an email, [email protected]. I will send you the right trend following steps to take along with my free video. But if you want to buy and hold, trust the government and trust Wall Street, this is absolutely not for you.