Predicting the Upcoming Recession | HOW TO PREPARE!

Transcript

foreign [Music] Nation welcome to the state of the nation where today we are asking the question can the FED thread the needle can the FED thread the needle between inflation and a recession we've been going on this world tour of macro it started with the banking crisis the biology bit signal followed by Arthur Hayes Ben Hunt and finally Jim Bianco and so Bank the sanction wow this is a macro episode the conversation here today is not a part of that macro World Tour today we are bringing back on ete vinic we've had him on once before he is coming equipped with a mass of Graphics slides charts to walk us through an

extremely thorough audit of the US economy the banking sector the equities Market risk assets and interest rates and inflation all in the hopes of answering can the FED thread the needle between decreasing inflation while not triggering a recession so just a snapshot this we have core inflation that is yet to turn over that thing is still up and to the right we have consumer health Running on Fumes and we have a Federal Reserve that is still increasing interest rates in the face of a banking crisis etai thinks the next three months are critical to seeing what happens next in global markets everywhere and he's going to walk us through all of the data to help us understand this picture bankless Nation this is a very very visual heavy podcast so if you have the luxury of

watching this video on YouTube or on Spotify this would be one of those episodes to do that although I do my best to articulate the charts and the vibe along the way for all the podcast listeners it would be useful to be able to watch this visually Ryan the AI is powered down for today's show it's just me but it is a fantastic guess who's in the driver's seat for this show with all the slides last thing before we get into the show are you a subscriber to bankless are you a bankless citizen why not because there are so many cool perks of being a bankless citizen in our Discord the bankless nation Discord I've got my own q a room if you want to come and chat with me and ask me questions directly and if you want this podcast but without the ads there is an ad free

RSS feed for the ad free listing experience it also comes with an extra podcast that we do after every single Monday episode just me and Ryan Raw thoughts right after we record the episode there's also the token Bible from our analyst which is our library of research of every single good token that's out there overweight underweight neutral all the research and the Catalyst it's a living document that's updated by our regular two chat analysts at bankless also if you're a bankless citizen you get 30 off of two of the permissionless conference which means that the cost of bankless Premium just pays for itself so now that I am done sharing my own products let's get right into the show with etai vinic to answer the question can the FED thread the needle but first we've got to talk about

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crypto curious user friendly not scary metamask learn is available in 10 languages with more to be added soon and it's meant to cater to a global web3 audience so are you tired of having to explain crypto Concepts to your friends go to learn.menimask.io and add metamask learn to your guides to get onboarded into the world of web 3. Baker's Nation I want to introduce you to itai vinic he is the co-founder and chief investment officer at equi an alternative investment platform that brings sophisticated investment strategies to accredited investors uh and etai has been on Bank lists once before and of course the goal of uh Equity is to make non-correlated investment strategies accessible to as many people as possible the last time we

had etai on Bank list it was December of 2022 and back then things were kind of dark I would say uh post FTX crypto hadn't recovered yet fed still looks like it was going to continue to punch Us in the stomach over and over again and so we are bringing him back on today to ask perhaps has anything changed as it relates to the FED policy to the United States economy and also perhaps our beloved risk assets as well itai welcome back to the show thank you so much for having me uh it's a pleasure to be back here like I said etai the last time we brought you on December of 2022 uh there were four main points of conversation uh four main themes that we had four main questions the first was

how did we get here here being uh wrecked at least in Risk assets but also with just High interest rates and uh no end in sight for the FED raising interest rates and then the next question is where are we now in the crypto land in the status of the United States economy the third was when do we pivot and the fourth was is this the end and at least for these last two I remember the answer being uh no this isn't the end uh but it does seem close and in the the conclusion of that episode is that you estimated some sort of pivot some sort of uh revitalization of the stock market equities uh even perhaps risk assets sometime around the

middle of 2023. so here we are in early April uh and it's about that time to start to revitalize this conversation return to this conversation uh so to start this conversation off before we get into your updated April 2023 slides is there any sort of a reflection or anything you want to say about that snapshot in time that we talked about last December um yeah I think it was really uh interesting and things have pretty much progressed um with a long expectations in a way um it's typical that bed hiking policies breaks something um we didn't know what that's something would look like at that time um but we knew it's going to go if you

recall we talked about it going from crypto world at that time FTX um and the liking into the real world and now you know we've we're Beyond svb Signature Bank um and potentially others so we've seen that leak going uh here and I think now is really the most interesting time um as you know what uh that that old quote used to say that sometimes years happen in weeks I think we're approaching uh one of those times in the economic cycle right now we are you think I think yeah I think within the balance of this year is going to be incredibly interesting as many inflection points in the macro pointing to um a really unique and 23.

okay so um before we get into again the the the updated slides that you have for us and the updated perspective that you're going to bring to the table here in this episode I just want to provide a little bit of a context for listeners about uh who you are your skill set your background and also what Equity is and why we have so many Fantastic things to look at just to provide some context for listeners so let's start with that who who are who are you etai and then also what is uh equity and what does it do yeah so I'm the CIO Chief investment officer um and co-founder here at equi um Equity is basically a digital Tech platform that enables an accredited investor uh with a relatively low dollar amount to build a diversified portfolio of many Alternatives

um various types of let's say hedge fund strategies credit strategies other things that are not necessarily correlated with the stock and bond world and I think in these type of times it's one of the uh more unique uh things you can invest in and I I I obviously I wouldn't be doing it otherwise but I think there's a greater need for diversification out side of the traditional investing world and uh the actually the way that this second show came about was I ran into to your co-founder uh and he was talking about uh just he said he said that you had some perhaps Doom and Gloom as it relates to the Federal Reserve uh so so we'll get into that as well but um can you just like give a preview of uh the

performance of of what some of these products that you have for the for and like the composition of them just so we can understand the base yeah so the broader type of equity portfolio has 13 to 15 uh Diversified Investments some of them are somewhat correlated to markets but capture a higher beta some of them are not um we initiated what we called Equity hedge in February of 2022 when we saw that correlation picked up even across managers they're not supposed to be correlated as a way to somewhat offset risk even more so in 2022 which I believe was one of the most challenging investing years um really since the Global Financial Market uh crisis in 08 our Flagship growth and income fund was slightly

positive about positive one percent with very low beta and correlation the more aggressive growth fund um was flat to maybe negative uh 40 or 50 basis points or something of that nature so um flat performance I would say in 2022 uh for the broader Flagship is something to be proud of in in a year where uh the 60 40 portfolio is down nearly 20 treasuries are down crypto is down at 70 percent gold is down like everything was down there was almost nowhere to hide so proud of that fact we also have a fund that we manage internally as well that is a tactical macro fund based on the macro calls um that that was actually up around 20 for 2022.

okay so um I don't know if I represent the archetype of bankless listeners but uh baseball sisters would definitely know that more or less 100 of my personal portfolio is crypto assets and so starting that at that base uh what is the composition of uh the if you could just amalgamate everything and maybe that's an unfair question but uh we could like do your best if you could just amalgamate everything what is the composition of some of these things that we're talking about just so we can get some context before we go into some of these charts and slides here yeah so the flagship fund is really a collection of various types of strategies so you have some small business lending on one end um you know that's backed by some collateral all the way to macro systematic uh funds that uh would trade

currencies interest rates uh things of that nature and everything in between so it's really a very Diversified uh basket of Alternatives that we really try to keep as low uh correlation to risk assets as humanly possible okay so uh the average crypto person again I would say is heavily concentrated in crypto and when we hear diversification like uh at least a decent part of many of listeners will be like oh yeah different nft collections or Bitcoin and ether in addition to like some some small caps but so we're talking about what kind of seems to be completely opposite end of the Spectrum in terms of just like what actually diversification means as in we're talking like real world traditional markets diversification

right uh and so uh and so this is like the right perspective to go into when we talk about some of these uh slides and conversations that we're about to go into correct right so one of the things that I think is is of note is that institutions uh large family offices endowments and things of the liking um since the 1980s have been moving their portfolio more and more into Alternatives and less and less into stocks and bonds and that's actually in in response to this decades-long declining interest rate environment we've been in right so interest rate peak in the ad182 you in the mid double digits on the 10-year Treasury and have been going down towards zero in 2020 now they've gone back up towards four percent but as you're getting less juice

from bonds um and also valuations have gone become very rich with that most these institutions have shifted the portfolio into alts um you know 50 all the way to 80 in some family offices and the traditional um retail investor just doesn't have access to any of those so um that's really the mission behind Equity that we thought that bringing that type of portfolio to the average investor is something that we believe the market is um is looking for yeah and when you say alts you're not meaning uh alt layer ones or crypto alt tokens right these are again uh alternative asset classes correct and particularly strategies so even even when you dig into that not all also created equal there's a huge difference between the

top five ten percent of outperformers and the bottom of the pile and there's a ton of funds out there that are just buying risk assets and charging a high fee for that so those are not the ones we're looking for we're looking for Unique strategies we're looking for differentiation we're looking for um much lower correlation than uh traditional assets so it's a big difference between I own stocks bonds and crypto and I have all these different Hedgehog strategies that each one does something totally different right okay so I hope that was helpful for bankless listeners and myself to really understand where where you're coming from and where are your expertise lies and I hope that can um just be good context for as we go through some of the these uh these conversations uh so like I said last time in December of 2020

when we had you on there there were four main questions how do we get here where are we now when do we pivot is this the end uh itai I believe you're coming to the table with four new questions so so maybe it's time to to break open the slides and we can start to talk about these high-level discussions that we're going to go through today yeah let's dig uh let's dig right in so starting this uh the topics for today uh we're going to talk a little bit about the macro environment and the overview of what led to these band collapses that we've heard about the biggest question again is do the bank failures actually make the FED pivot um as of the last few weeks at least uh it seems like the market is convinced that that is the case um we'll dig into that and see whether

or not that is true uh we'll talk about the positioning in the current economic environment sum up the future of the banking system and generally we're still going to try to answer the question of whether or not we're going to have the soft landing hard Landing or catastrophic Landing because regardless of the FED pivot that is actually going to guide the prices of risk assets even more so um there's a lot of dependency on the FED but the FED is not the only game in town okay beautiful and I remember the last conversation uh this also is where this started and ended it's soft landing hard Landing versus catastrophic Landing I think that's kind of the the overarching theme Here is can the FED spread the needle uh and so uh itai if you could

just like run back at some time to December of 2022 when we last had you on versus where we are now did the ability for the FED to thread the needle and get us to a soft Landing no recession what below Trend Trend growth that's fine uh did that needle get bigger or smaller I think their job has become incrementally more difficult um not crazily just just as a little bit but yeah so as you know things have not we had the suspicion that some things are going to crack some things have cracked but to be fair uh svb and Credit Suisse that have been on the decline for a long period of time uh are not you know are not huge issues um right now in in the economy there are

issues with the smaller banking system in general and other things like that but this is not systemic risk right now but that doesn't mean it can't develop into systemic risk later okay well so uh back in time I remember it's like uh I understood that when FTX collapsed I was like though this is not going to be the crack that they're looking for much of the people in the crypto industry are like oh the banking sector's going under it this is clearly the thing the signal that the FED needs to back off and what you're saying is like maybe that's not the case just what's the rationale for that not being the case just once more time yeah so the rationale is that inflation and employment which are the two main mandates for the FED are really what you need to watch for uh we have some slides

talking about both um but as of right now at least in employment which is a lagging indicator is still fairly strong and inflation is still high and it's much stickier than than um was predicted before in December if you recall um we talked about inflation likely becoming stickier and longer than the market expects and that's exactly how that actually played out so you can make the argument that the FED has reacted aggressively to the spanking crisis because they are looking to still fight inflation so you know it's almost like you you turn a fire uh with one bucket but then you light a fire with uh somewhere else okay beautiful all right so where did this conversation start where where are

we gonna to inject ourselves into this conversation yeah so I wanted to just talk about the wealth destruction that already took place just to give you some context of you know last time we gave a much bigger history of how did we get here I want to keep this a little bit shorter um but generally uh in total dollars so of course this is not adjusted for inflation and it's a little exaggerated for that reason but this has been the largest dollar wealth destruction um that we've seen thus far particularly because Bonds in 2022 which have traditionally been this diversifier typically uncorrelated um with other risk assets have crashed just as much as stocks and even more

um which is relatively unusual but that's because interest rates were so low and we've seen the fastest rate cycle increase since uh bulkar really in uh 1980s so massive wealth Destruction for those of us um that like these type of uh you know I I come from the startup world as well right as you run uh raise money from a VC um you know this will look very similar to the chart of Arc Investments as well and probably the chart of crypto as well um the non-profitable tech index really so non-profitable companies it's the it's the same it's the same idea as borrowing money on on some kind of interest rate because you can think of these companies as

living on a credit card when money is very cheap um they tend to do very well when money is more expensive it's a much more challenging environment post covid huge boom um 2022 huge bust the biggest problem um when you think about these types of assets is the negative negative compounding of loss so I'm going to remind everyone here that risk management is even more important um than capturing all the gains because if you lose 90 on any asset you need to make a thousand percent return in order to get your money back right you need a 10x certain if you lose 50 of your money you need to double it up you need to make a hundred percent so the net the net conclusion is that you need to avoid

losing large amounts of money when possible so just a little reminder of that so just to re-articulate that or you're saying that it is more important to preserve wealth than it is to gain wealth after you've already gained wealth I I believe so I believe so exactly for that reason so you know when you're down 76 or in in this case I think it was 90 this 20 30 40 increase is almost irrelevant because you're still down 76 percent for the top you know once you lose 90 it's very difficult to make a 10xer right certainly and I I really like this uh this chart that we're looking at uh non-profitable text uh Tech index uh and uh for those podcast listeners it

doesn't look exactly like the crypto market cap chart there's a little bit of deviation there but man you can really see it and I think what you're really saying here uh itai is that this chart in particular is like an amalgamation of the non-profitable tech sector and I mean a large amount of like what crypto resembles to be is like it only kind of works in a low interest rate environment and so this chart that I'm looking at here kind of feels just like the archetype of the long tail risk asset uh YOLO money uh kind of Paradigm that we went through both in equities market and the crypto Market in the in the uh 2021 bull market that's a funny way fun way to interpret this chart right like it's

a an archetype of all the the casino that was 2021 you're exactly right and that casino was not only confined to public markets also to private markets so to give you some ideas of what happened to Startup and Tech evaluations in the private markets series a down 50 Series B down 74 so you see down 87 so here's the up to 92 decline is just staggering and so these are companies that have already raised with this is not like an average of just like the total amount of spend these are companies that have benchmarks that we can compare to and you're saying that series devaluations which is usually the the fourth fifth uh depending on seed

rounds the fourth or fifth raise for a venture uh for a startup and that is on average just down 92 percent wow yeah so it just gives you a little bit of a magnitude of the bubble that we've seen in 2021 uh which I'll talk a little bit about more I think 2022 was not a traditional bear Market in multiple senses I think it's more of a re-rating cycle wherein the economy is still strong but valuations were just too high for the current interest rate environment they were changing so the market re-rated the question now is whether or not we're going into a traditional bear Market once the re-rading was complete or are we going to stabilize that's more or less where where I'm where I'm at I

think the re-rating part is more or less complete and so the re-rating this word I think um maybe perhaps another way to say this is that uh we should never really we shouldn't consider the 2022 decline in crypto asset prices or or asset prices in general as a bear Market you're just saying that like we should never have assumed them to have established that high in 2021 in the first place right it was like right it only made sense in the context of zero interest rates money Printing and hot money chasing assets but if you think about it in the context of longer term valuations it never made sense to begin with okay so does that mean that the question of if bear Market uh I remember asking like are we in a bear Market on on Bank lists like over and over and over again

through 2022 and then towards the end of 22 you're like oh yeah this is the bear Market but I think what you're perhaps saying is like no the question to ask that question is now not Now's the Time that is exactly right I look at the entirety of 2022 as a re-rating cycle and mainly because in normal uh generic bear markets the yield curve inverts ahead of the bear Market here um or or the yield curve starts to disinvert as you go into the bear Market that actually didn't happen uh yield curve uh massively inverted while stocks were going down but also the bond market has declined alongside with stocks so everything got re-rated um and really what we've seen over the past few weeks is some deviation in

correlation so for the first time in a while we've seen uh bonds actually rise as equities were falling correlations were starting to break with the dollar as well and the yield curve went from negative 100 grid back to minus 50 basis points all signs of a potential coming recession or bear Market um those were the classic things that were happening ahead of an actual bear market so again the the the question is you know is 2022 even a bear Market or just basically adjustment of prices to higher interest rates okay that's an interesting perspective where uh we just are coming back to reality throughout 2022 and now the big question is like okay what is the economy's reaction to that re-rating and is that reaction a bear market and what

you're saying is like some of the indications are like yeah it could be a bear Market but the economy itself remained resilient employers were still holding um you know still hiring unemployment didn't really pick up that much in 2022 um and um even though inflation was high the economy and consumer spending were still strong and GDP was positive so in the classic sense it wasn't a bear Market at all um okay um I might be getting the hint that this is slightly different now but let's keep going in in your flow of slides here yeah so bank failures um fed always breaks something every hiking cycle something breaks this is something we brought on in the last call clearly don't always know what it is

that's going to break but the takeaway here is really that once something starts happening and starts breaking it can accelerate incredibly quickly so if you go back to March uh silvergate said they will cease operations on March 8 and by March 10 svb uh is already failing um and by March 19 credit Swiss was failing so SNB the Swiss National Bank actually said I believe yesterday or the day before they were saying that it would have taken just a single more trading day for credit Swiss to completely default it um so things can accelerate quite a bit that's why we've seen this very fast

response from the fed and the SNB uh all these actions with the discount when though we're going to talk about that because I think they're actually really important to um to understand the mechanics of how these things work in the greater context of risk assets okay and so God that's scary so uh March 8th Silver Gate which was before the what we call the banking crisis just silvergate announced that it would seize operations 11 days later Credit Suisse says that it's one day away from complete failure that's right yeah the it's always crazy to see how like fast this is all like hive mind stuff right this all exists in the perception layer of humans and that can of course go as

fast as the internet these days right and and you know it's it's this explains the very aggressive uh policy response and very interestingly risk assets took that as a very bullish sign of liquidity and have been running since around March 19th um to the upside and I think one of the one of the things we really have to consider is does this actually mean that the bottom is in and liquidity is improving or not and this is just another one of these vicious bear Market rallies that suck everybody in but then it's about to make lower lows and um I'll try to answer that today cool all right let's keep on going so I think the driver of all these

things at the end of the day is just money right do you have more money or do you have less money and ultimately that impacts the pricing of most assets so 2022 and into 2023 is actually the first time that we've seen that money growth itself M2 money supply is negative in a year-over-year basis um we've seen this enormous wall of money come in out of covid which really fueled inflation and risk assets and Bitcoin and tech stocks and all these things and now we're seeing that going negative and at the same time you see that money supply here um on the top chart this is the total M2 in the United States M2 broader

definition of money supply and you can see how correlated it is with bank deposits so there's this very interesting narrative um taking place where if you have money in depository accounts the banks can't afford to pay you what the prevailing interest rate is um for various reasons uh inverted yield curve is one of them um other liabilities Etc so why are you keeping your money at the bank wouldn't you be better off putting your cash in a short-term treasury earning five percent certainly I'm taking no risk no FDIC insurance right so more people are understanding that money is moving away from Banks but clearly um the smaller banks are suffering a lot

more than the big Banks um but this is all function of the money supply itself there's just simply a decrease in the money supply as a result of the fed's quantitative tightening and really quickly on this my interpretation of this and just to correct me if I'm wrong is that um people are moving their money and we've talked about this particular theme on Bank list people are moving their money out of banks into money markets because that is where they get their yield uh Jim Bianco called this like Trad five yield farming the why this is significant is that when we take our money out of Banks and into money markets we are destroying credit because that those Banks can't lend that money out and therefore we are reducing M2 and that is a deflationary pressure on the economy is that the the meaning that we

should derive from this that's very fair uh but also into itself is declining as a result of the fed's actions data typing so in this chart you can see what's going on so what is quantitative signing is the exact opposite of quantitative easing so during the periods of the easing in 2020 2021 and really after 08 as well uh 09 through uh really 2018. um the Fed was creating money out of thin air and using that money to purchase U.S treasuries therefore increasing the amount of liquidity in the economy but what you're seeing here is that starting uh in 2022 that actually went in Reverse so instead of creating money out of thin air and buying treasuries as these Treasures

mature the FED is receiving its principle back so right if you buy a treasury you get a coupon rate and then at the end of the period you get your money back which is your principal so in this case the FED is getting their principal back from the treasury which is the money they created and they click the delete button and simply destroy it so there's just straight up less money in the economy and there's no sign of that ending and that's supposed to be the status Crow moving forward and so the idea is that for bankless listeners that weren't able to see that last slide we're seeing growth in M2 money supply over the last like four decades and now it's starting to like turn over and finally go negative for the first time ever and what you're saying itai is that that's probably going to continue is

that right that's probably going to continue uh the FED is not said that they're going to stop that but some interesting things have happened um so this is the Fed balance sheet going back to 1995. it correlates incredibly well with risk assets you see the first quantitative easing starts coming out of 08 being halted markets crashed in 2010 comes back again halted markets crash again in 2011 uh U.S credit gets downgraded August 2011 Market's down 20 kiwi comes back every time the FED needs to do a bigger and bigger QE in order to pump things up again and then the really big one happens after kovid uh basically almost doubling everything that was done up

until that point the balance sheet reaches almost 10 trillion 9 trillion and change and then the tightening starts um all this damage in the market was just during this period of tightening however over the last two weeks there has been a big jump in the fed's balance sheet as a result of the support that the FED is giving Banks to the discount window so I've heard this question asked numerous times um for many people over the last two weeks they're asking me is this basically stealth QE that's going on is the market responding to the stealth QE is crypto jumping all this on the stealth QE and is this going to continue right yes and this is of course the bank term funding program that we've talked about and the the last uh the lesson and I think most coherent answer that we got

is that technically it counts but it shouldn't be considered meaningful and it's not like the QE that we've seen before is this your interpretation as well it might yeah I I agree with that interpretation and I would even add that I think it's actually worse so I think the way I think in a way it could be um it could create further issues in the system when this actually gets paid back because it's expensive money unlike uh QE which is very cheap money um and that could create some issues so what you're seeing here in this chart um going back to 2003 is the total amount of discount window barring that's taking place this is 08.

that's covid and this is the 153 billion jump we've seen in three days just to Jack Harvard reserves and this is obviously showing up on the fed's balance sheet as it is borrowing um but this is a sign of financial stress in the system nonetheless because banks are pretty desperate that they have to do this this this Spike so uh just for the podcast listeners we have this 08 Spike which is decently large maybe two-thirds of the way up the page and also has some decent area under the curve but then it goes back down and stays flat until we see uh covid and then coven happens and it's a small Spike maybe a third of the size of the 08 Spike and then here we are today with the bank term funding program and that is a insanely vertical line all the way

up to the top of the graph which is maybe a third larger than than 2008 and what you're saying Utah is that this is a sign of distress and so maybe the the naive bull person is like this is QE here we go look how fast that thing's going up and what you're saying is like you know you'll like stamp on those breaks this is a symptom of distress and it's necessary that this Spike happens or else the banking system would collapse correct that's correct and I'll add to it as well um this is also dependent of the prevailing interest rate that that exists so if you think about it there is a lending rate which banks use to lend to each other so let's say bank number one needs money today because there's a deposit run on them they can go to bank number two and

say okay can you lend me money at this overnight rate and I'll pay you back and then they change and these Banks explain to each other all the time when these Banks don't want to lend to each other because they're worried that they may be next in a bank run for example that creates a credit problem because the whole credit Market freezes and that's the worst thing that can happen to capitalism so then the FED is the slander lender of Last Resort uh that Banks can go to uh to borrow money but this money is not cheap this money is at the around the FED fund rate so when they're borrowing this money they're actually paying five percent for it right if interest rates were zero that would have been a very different very different environment right because then you're really borrowing for nothing so who cares that's real more like QE

but at a five percent rate that's not cheap money that the banks have to carry the interest and then pay back and potentially they're only using this money to substitute for reserves so I don't know if it adds net liquidity into the system maybe for a short period of time but there will be a time where you have to either pay it back which will reduce the balance sheet or the stress gets even bigger and this is just not enough to help especially given the interest rate environment so I thought the bank term funding program was a policy to borrow from the Federal Reserve at like 10 basis points uh and and so you're telling me it's at five percent what what am I missing here well this is different this is the discount window the borrowing program is a little bit different where they uh

they pledge their treasuries and then they let them basically carry it up with without a loss so that's that's definitely more stimulative but there's also a lot of the discount window okay so the the capital that's being created as a result of the bank term funding program is not what this spike is showing here on this chart yeah the the discount window is direct borrowing from from the Fed from and out of just necessity from Banks yes and so you're saying out of necessity these banks are taking like emerging emergency credit emergency funding at the FED funds rate which is like at five percent and so they're willing to take this five percent very unfavorable rate because of how dire the situation is for for the banking sector right or at least

it was uh and I think borrowing actually declined a little bit over the last few days so the sign of stress is is dropping a little uh but it's still fairly elevated um this would happen here after Lehman uh when this Spike went up um markets actually continued to go lower uh for I think six months um until things actually calm down and the main idea behind why are banks in trouble we covered this right when they in 2020 and 2021 when there was this big spike in uh deposits at the banks that were basically getting a ton of new money creation um that was being parked at the at these Banks and these Banks basically bought

Treasures with it or 10-year treasuries and 20-year 30-year treasuries so the problem is is when rates go up bonds are inversely correlated to rates so the price of treasuries went down um kind of interesting but it happened to the FED as well so the FED holds a lot of treasuries including long data treasuries on its balance sheet so the FED 2 lost 42 billion dollars not that it matters because they're they're not a for-profit organization but they actually right this this is actually a a an interesting thing because the same thing happened in the FED as well okay so the banking crisis where all of these like long-term dated treasuries be uh went South and caused the banking crisis you're saying well the FED is also a bank they also had that on their balance

sheet they also have that problem but it's also just not a problem when it gets to the level of the FED because it doesn't matter because they can print money correct when you create your own currency it doesn't matter yeah okay it doesn't matter like but it does right it does somewhere right right defend the FED is floating this but it's just an interesting thing to uh to kind of know right okay all right so where does this conversation go next like what does this actually mean for liquidity yeah so so far markets have reacted positively to this liquidity jump um the uh this offset of quantitative tightening at least over the last two weeks markets have jumped directly in response to it and you can see how

correlated the S P 500 has been to the total net liquidity so here we take the FED balance sheet minus the treasury account minus reverse repo long story short we're just looking at all that available liquidity out there and um markets are just correlating to that almost to Perfection um it is important to see where this balance sheet is going and whether or not this discount window borrowing and what happens to the banking crisis continues to loosen Financial conditions or not we don't see this as actual quantitative using right now um but that doesn't mean that can't morph into it I know this is uh some crypto sense trick uh podcast in here so here we correlated the price of BTC versus that total fed liquidity that you

can see that really strong correlation as well okay so so you're saying that it's really really important to understand the liquidity effects of uh the current environment and uh and so what I'm saying what I'm hearing is that there is new liquidity and therefore crypto the extra sensitive Canary in the coal mine to liquidity is jumping what I'm what I was worried about hearing and what I'm not hearing and so correct me if I'm wrong is that the market is having just like this spinal reflex of oh the fat is pivoting uh in like the balance sheets going up therefore it's bullish and I don't I don't I'm not seeing any signs of that being the the market reaction and so what I'm seeing right now is like I actually kind of makes sense there's more liquidity in

the Market at least for now and so crypto assets and risk on assets are up like they would expect to be that seems all normal right right right um but then the big question is is this actual QE the answer is right it's probably not um so you know even if the banking situation improves that Banks pay back the discount window uh the FED balance sheet is gonna drop and the FED is still doing quantitative tightening at the same time which is kind of weird because you get the discount borrowing but at the same time you have quantitative tightening so there's a lot of counter factors that go into it so if I'm asked the question are we going to go into a market like 2021 that things are just up up and away I

think the answer is probably no um and we're going to have a lot more chop and volatility um as the situation kind of unfolds and that that tracks with our Jim Bianco conversation which is our most recent macro conversation where he says like everything just see like there's bearish indicators and there's bullish indicators and they all seem to kind of cancel each other out pretty damn well and so now the markets are confused and so we're just gonna gonna go flat and chop around for a bit is that uh in line with what you're saying and that's been the case by the way since about August of last year markets have just trapped around in a range and nothing really happened and a lot of money was more or less lost because people didn't know where it's going and just uh it's very risky to get chopped to a thousand

pieces in this type of environment um I do believe it's going to get resolved though um One Way or Another in the next few months one way or another no opinion on the direction of it getting resolved but you do think it's going to get resolved soon uh well I I am leaning more bearish on the resolution uh which I'll I'll dig into why so if I had to pick a direction it would be more likely bearish but anything can happen right the FED could decide to flood us with liquidity again and that basically throws everything out of the window um and to understand that you know this is one of the more liquidity sensitive sectors that I've been following for a long period of time you can look at the micro cap index um of the Russell so you can think about

this as the most liquidity sensitive stock so let's say the biggest the big stock the big names they get the liquidity first like the apples and the Amazons and Nvidia and all these things that are flying right now but there are a lot of other stocks that are much more liquidity sensitive um and typically the stock market does best when these stocks upperform um the rest of the market we're seeing a really big Divergence where the micro cap stocks didn't even didn't even Flinch on this recent move up if you go back to December of 2021 they actually topped out in November and had a big drawdown in December while markets continued upward that was a great warning indicator for the top um so this is actually giving us another

warning sign right now this is another way to think about it as you know how the market breath looks like how's liquidity looking like and for the entire year-to-date games I think s p is up about seven percent year-to-date this is how much of that value was given driven by the 15 largest stocks Apple Microsoft Google Etc and they're changing market cap and the entire rest of the stock market now that's enough this kind of feels like a similar oh this is totally different but this feels like the similar to the fact that like in the banking crisis all of these small and medium-sized Banks got worked and everything flew to safety which was the JP mortgage the big Banks is this just the same effects happening with the stock market at large yeah and it's not healthy history shows us that when a

rally in the market is very concentrated in a few names it typically doesn't hold for a long period of time um so that's just something to consider when a rally is very widespread and that means the whole economy as a whole is doing better so it's led by 300 stocks that means there's good economic environment all around the board um so that's a good sign but when only a few stocks are leading it this flight to Quality is not necessarily a good sign okay so you're adding just one more data point to the perhaps temporal nature of the recent run up in maybe crypto asset prices the recent uh perception of liquidity you're just saying like hey man there's a there's a lot of temporary indicators out there that might not stick around you know uniswap as the

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wallet but it makes chain management easy displaying your transactions in a human readable format with automatic warnings for malicious transactions or fishing websites Phantom has already saved over 20 000 users from getting scammed or hacked so get on the Phantom waitlist and be one of the first to access the multi-chain beta there's a link in the show notes or you can go to phantom.app waitlist to get access in late February let's answer your question yeah does this force a Fed pivot now is the time uh and I I'm already worried about the answer but etai now give it to me yeah so just to get this uh this idea this is not just the FED phenomena it's a global phenomena as well the ECB just raised rates 50 bips in uh March 16 and that was despite what just happened in

the market and the FED also raised rates by 25 bips after what happened to SBD so the fed and the ACB had an opportunity to make an immediate pivot already and they didn't so the question is does that actually mean that we're going to get a pivot or not you can see where rates are now uh close to five percent across the developed world after decade plus of being around zero um and the context of you know longer term history uh clearly we're not going to go back to the 1980s and right now the market seems to think that the FED pivot is imminent so what you're seeing in this graph quite an interesting graph it's called

the FED Dot Plot um this is released a few times a year uh during fomc meetings Federal Open Market Committee and what is going on here is that each member of the FED gets a DOT so that's where they vote of where interest rates are going to be in the future so that's 2023 2024 2025 so there's a lot of consensus around the dots that rates are going to be somewhere between five and a quarter and five and a half percent where most members of the fomc believe that's where things are going to land and then there's a lot more Divergence into 2024 you can see the dots are all over the place however the market is substantially below where the FED Dot

Plot is um kind of believing that rates are going to get cut drastically this year where the FED said um it is unlikely during their last meeting so it's an interesting place to be right now where Market is pricing um the FED completely pivoting and the FED is not acknowledging that as of yet so betting on the FED pivoting is somewhat um uncertain right now you can see that here too number of rate Cuts if you go back to early March uh j-pal actually made a um a speech to the Senate right before svb collapsed that week saying that we need to be more hawkish for longer and uh that that was blown off through the

window right right away um so Market seems to believe a pivot is imminent as of May and cutting is aggressive cutting is coming in and we're probably going to get cut um three four times by the end of the year okay so you're saying the market is positioned for this case correct and as with the interpretation that we can get from the fed the FED Dot Plot the uh is that those things are not necessarily lining up yeah so the FED fund Futures is pricing in a full-on pivot the yield curve as well so the yield curve got to negative 100 basis points so that's the spread between the two-year treasury the 10-year treasury um and that went for minus 100 to minus 50 which indicates that the two-year treasury has declined which means the

market is now expecting um lower rates on the two-year time Horizon and you know that is an indication of the pivot as well because the yield curve starts disinverting um when the pivot gets closer and potentially also signaling a recession here's my problem with the FED pivot narrative um okay tell me the bad news which I'll break Kyle is consistently said and you can go back and read um what he was saying in in various meetings that he's very worried about Services inflation particularly and we are we we talked about this in December as well uh we're saying look the the the um Services inflation is the stickiest part and that's the what we really need

to watch for because once that goes up it's very difficult for it to go down you know once you're uh your Barber increases their their price by five dollars it's not going back down and that continues to happen um so there's literally no evidence whatsoever of services inflation is slowing down in fact that's the dark blue here below uh it's become the largest component in inflation so inflation has come down but that has come from Energy prices and a little bit of food prices and commodity prices but Services the stickiest part is continues to go up and and looking at this chart it everything else seems to be able to flex up and down at least by just the nature of the chart and the the services is pretty linear and kind of just looks

very very like like a Straight Arrow right we've even gotten some bad news over the last two days OPEC decided to cut a million dollars of a million barrels a day of production and oil prices shot up eight or nine percent back to 80 a barrel so you're probably going to get some of the commodity inflation back in food inflation has gone back up so there's no evidence that inflation has died yet so you know all this talk about a Fed pivot I think may be a little premature until we see some real signs of either the labor market collapsing which will force the FED to stop or inflation slowing down but I just don't see it right so maybe one way to to perceive this is that like there is and maybe I'm

just learning about macro like live here there's like this part of inflation that flexes quickly and then there's this part of this uh inflation that doesn't Flex so much that maybe that's what core is uh maybe that's why we use the word that's what services is yeah so like Services is prices paid for goods and services wages things of that nature where you have the more transitory part which is Energy prices commodity prices and things that fluctuate with the market and so inflation has come down because that transitory part of inflation has come down yet the services part the stickier part is not yet responding to rise to the uh Rising interest rates that's exactly this is this and along with everything else that we've talked about is I mean maybe we're jumping to

the conclusion here but like kind of why you're saying like yo let's not get over Elite let's not make our sentiment overly bullish here right until we see inflation really coming down the risk that we're running is actually stagflation so the risk that we're running is prices remain high but the economy starts deteriorating and the FED is stuck and unable to Pivot that is kind of the worst case scenario and uh and are we heading for that scenario it's possible um Energy prices have come down goods inflation not going to stall too much about this but to your point about the pivot there's this assumption that the pivot's actually always going to be positive for risk assets but that's not even necessarily true because it depends

whether or not the pivot was too late right there's two cases if it happens right before we go into a recession or pivot happens when we're already in a recession and the FED is just late and you see these instances 1995-98 2019 in blue markets and risk assets respond positively this is measured by s p 500. but in 1989 2001 2007 we were already in a recession when the pivot happened and one year later things were substantially worse um so even this notion of whether or not a pivot happens you have to put a lens on it and say is the pivot actually happening in time or not is it too late

are we because remember monetary policy works in the lag right and so this brings us to the question uh where are we as it relates to a recession first how sure are you that we have a recession happening and if the answer is yes which I'm guessing the answer might be yes uh where are we in relation to that yeah so I think about 60 70 confidence recession is coming um very soon basically the yield curve when it starts disinverting uh tells us that it's usually within a few months already um we know we're gonna have below below Trend growth uh Now cast GDP has has come down substantially so you know I think it's a matter of of um towards the end of the year GDP

estimates are now showing one of the largest deceleration in real economic activity uh of all time when you're looking at real GDP so just for inflation and we're seeing the consumer also not being in great shape as well um so GDP estimates are um for 2023 have somewhat been revised up but the period is showing um below Trend growth so I think until we start getting real uh uh negative numbers and real unemployment figures increasing today actually was interesting because we've seen um we've seen some of the deterioration of the labor market but not enough um to tell us that that the recession is here but I think it is likely to be here soon so

that chart I think is somewhat interesting um where we've seen on one hand since September of 21 we have seen core inflation projections increasing uh and growth projection decreasing so that is potentially very stagflationary right and here's what really worries me um is the consumer right so U.S economy is very consumption based I believe about 70 of it is direct consumption and there was some positive things happening um during covid because people are actually paying credit card balances quite a bit so they're getting all this stimulus checks and unemployment

benefits and they didn't have any anything to spend them on because everything was shut down so just basically paying off these credit card balances however with inflation um being as high as it is and cost of living exploding post pandemic we're at a new cycle for credit card debt uh while credit card rates are really high and one of the issues that we're seeing is that the personal savings rate on average is far below uh pre-pandemic levels now and we've seen this big deterioration in Bank deposits which some of it could you know obviously be moving to higher rates but other um other uh explanations that there's more need for for cash and liquidity it's quite interesting here's that first

stimulus check and this is actually the second one right right right yeah so going back to that credit card outstanding debt like it's like there's a it's an upwards Trend up and to the right then we get the stimis and people pay off their credit card so there's a big dip but if you just ignore that dip and put your hand over it we're back up to the point where that line just might as well have gone straight and sadly the net effect of of rates as a result of inflation is that okay we've continued on this trend words up and up and to the right for credit and also rates are higher than they've ever been so not only is the outstanding super high the rates are also super high and then on the next slide that we're looking at we're looking at a personal savings uh and

Bank deposits at all time lows and so this is this is what you are indicating it's in like oh we're kind of on like this is the ingredients for a recession plain and simple yeah so what worries me is that if layoffs now start on mass um the cushion to tolerate those layoffs and be able to spend and keep the economy floating is so you can have Goldilocks in Reverse where people get laid off then they spend less and then more layoffs occur because you know the companies are not making as much money and margins drop and all these things can happen so that's really what worries me about that and the fact that if the FED needs to ease it needs to be now

but with inflation being where it is as sticky as it is it's just going to be very difficult for them to do it okay what what else what else other bad news do you have for us well it's interesting retail sales has has dropped uh but it's still relatively strong uh an explanation to that is obviously the cost of living is higher so people need to spend more um to do it so this is something we're watching for as again we are in a consumption uh consumer-led economy we want to watch uh how retail sales set up and labor is one of the most important factors this is one of my favorite indicators here um looking at risk asset versus the employment numbers

so the trend of employment uh putting a simple five-month moving average on it shows the turning points in a really good way I think covet's a little bit of an abbreviation because a lot of people were not really laid off because they still got money and they still spend it um but you can see here in the classic recessions um in 2000 the um softening in the labor market corresponds perfectly with um the bear market then the bull market corresponds perfectly with the rising employment again 0809 softening labor market down stock market so when that turn when that line starts turning back up you're in a persistent bull market for a very long period of time and you got this covet situation so now what I'm watching for is does unemployment start

rolling over so what I mean is this period of 2022 that's a re-rating right because technically we should be in a bull market but we're not so that's a re-rating so do we go into the real bear Market the real recession if this line starts rolling over and then you get the actual bear Market part of it and that's really what I'm watching for okay okay how what indications do we have or is that is that an impossible question to answer yeah so manufacturing is one of the first things to um go into contraction territory because that's that's sensitive and that's already fallen into contraction territory leis what we call leading economic indicators so this is multiple

indicators such as construction spending you know stock prices a lot of different things um so a recession has always happened when leis have been negative for six to eight months which we've seen now um so you can go back here in 1973 79 82 90 2000 2008 so you know it's not as bad as some of those prior recessions but it's definitely trending negative um and we also have to worry about the debt ceiling so uh you know the debt ceiling the treasury is actually spending money they don't have right now uh so that's going to be a big Showdown all all on its own and you know not to get into politics I think that it has a lot of implication on liquidity in general

um so we need to watch that pretty pretty carefully as well and how that plays out um I know we've been very U.S Centric but I wanted to touch real quick about Europe uh as well so Europe is facing dramatic inflation right now and that whole also has a big indication into um uh Global liquidity right because the ECB uh cutting rates Etc as well German food prices year over year up almost 25 CPI is exploding uh across the EU um that's really it on that uh unless you want to we want to jump a little bit about the banking again yeah I'd like to just ask like

man that was that was a bunch of like really bad indicators man uh is is that what what's the bull case what what's what's the the case that uh maybe I'm just asking for hopium if you will right but like if we take if what will be the counter argument to all of these like terrible indicators about the healthy of the economy like oh is there is there a optimistic perspective to take here yeah I mean the reality is this this is probably some of the worst broader macro I've seen in in a very long period of time um but I would say that if inflation does come down quickly because of the banking crisis we're saying is a things like that the employment number is still

holding up so jobs is really the right the right spot here retail sales and spending is still positive right so if inflation is coming down faster than expected um in the next few months and the FED is able to Pivot without spurring more inflation and unemployment doesn't increase uh or the the employment numbers stay relatively stable [Music] um then then that could be saved in time so if rates started going that is the needle that needs to be threaded that is the needle needs to be threaded that's exactly right so so what you saw in those in those two cases there where the FED pivot bullish or bearish

um you know if the FED pivot happens uh before a recession is actually starting which could happen right so if inflation comes down fast enough uh liquidity improves Etc it's extremely bullish for risk assets a year forward um so the big question is can the economy survive without going into a recession by the time the FED pivots because the FED will eventually pivot the question is does it does the FED pivot too late right and what you're saying with all these indicators about consumer spending and Bank deposits and credit cards all this kind of stuff is you're saying the economy is kind of running out of time right I I think it's more likely that

the economy will fall into a recession by the time the FED pivot they could there could be you know sometimes even in 2008 uh seven and two thousand the market ran up into the pivot with hopium as you mentioned but then when reality sinks in things deteriorate things of things have sold out so that's another that's another possibility but the real the real the real thing you have to see here is these are really the returns one year forward um and it really is about yes recession no recession if you can answer that question by the time the FED pivots you can make a very informed decision of what you want to do okay it kind of seems like everything hangs on that core inflation whether that that can start to turn over because

if that starts to turn over that to me is like the foundation for everything is it do you agree with that the FED seems to agree with you yeah so that's that's something the FED watches for but then other Factor could be employment right if employment gets really really bad even if inflation remains High the FED may still react because they have two mandates right they have price stability and full employment okay okay um what's left in this story to tell or have we circumnavigated it pretty well I think we've done pretty pretty good of a job um just to touch about the the banking system um you know the banking system is still very fragile um and we are likely to see regulation uh increase and one of the things that I

am somewhat concerned about is the so-called death of the smaller Banks and more and more money going to the too big to fail um there's other implications to it that could put stress into the economy such as commercial real estate loans um and other things like that that could that could impact the economy so a lot of these smaller and middle-sized Banks do a ton of real estate loans when it comes to office space and even retail and other things and if they fail you could see a big credit issue hitting the economy um which again is one of the reasons I think um they reacted so quickly to to svb um this is definitely something we're watching for as well so again when you think about all these things

small Banks how that plays out consolidation inflation employment and yes or no in the recession right yeah and this is a topic of conversation that we've done before we've had uh in the recent few episodes It's been the area of focus of me personally is that the long tail of banks serve the long tail of the economy and when the long tail of the economy starts become underserved that sounds it sounds like another point in like the in the recession risk in the economic uh uh contraction risk right uh and so uh I think we're seeing economic contraction risks left and right you've painted a pretty clear picture of that uh and then also um just the the fleeting nature of some of these bullet signals that some of the

the market has responded to right and so like my concern has been going into this conversation it's like is this bullishness and like uh ether is two and a half times off its floor Bitcoin is two times off its floor some risk assets and the the equities markets are really strong and my worry my concern is that this is just a spinal reflex of banking crisis oh we get the pivot all right and and over or is this just like a short-term blip of bullishness inside of a law longer term contraction because the fed the court the FED couldn't get core CPI under control right and the the decreasing inflation numbers that we've been talking about on Bank lists for the last like few months or so is actually just like a return to a mean if you will where that that base CPI That Base

inflation still very very strong so I think that's I don't feel like I have a clear answer but I don't think anyone has a clear answer as to the next few steps here no that's one of the reasons I said at the beginning of the call that I think the next few months are going to be some of the more interesting ones because I think a lot of these questions are going to get answered um 2022 was kind of the lead up to this um now clearly the market has a very strong reaction function to liquidity but is that pavlovian right because you ring the bell and the dog salivate because every time anything happened like that with the FED things went to the moon so everyone's salivating again so I don't know if it's a reaction function or not um and that's exactly what I'm what I'm

worried about as well yeah it certainly feels like we uh are at a drum roll and you can see there's somebody with uh the symbols the big symbols in the background and they're ready to smash them together we don't really know when but we know that that's coming perhaps that's a way to to illustrate the culmination of the of this episode exactly itai that was uh very just a coherence of so many different bits of information uh and this it's extremely impressive that you put all of this together uh just talk a little bit about your process for how this is such a crazy semblance of data and how do you have all this in your brain like how and how do you like put this in a coherent like report so quickly like this

yeah so we actually uh put it as a part of our asset management team uh we do this monthly um so there is a list of indicators that we track at all times uh and we have a daily meeting where we basically discuss new developments um in the macro and the economy how that relates to what we're doing or positioning our hedging so we hedge a lot depending on where where things look like so we basically put all the pieces together we followed the checklist then when you're very versed with all the different indicators that you follow it becomes almost like like a natural thing you do right wow it is extremely impressive and extremely useful I've learned a ton in this short time that we've had together itai thank you so much for guiding

through so many different parts of this economy and everything it takes to understand what's going on in macro right now I really appreciate it if people want to learn more about equity and what you do where should they go equity.com simple as that and that is eq-u-i.com correct EQ ui.com correct thank you so much etai bankless Nation you know the deal uh the next few moments are pivotal it sounds like uh we're gonna have etai back on maybe in three months after those symbols come together and crash and we understand the next few steps maybe we'll have to ask you to come back and walk us through the next steps for this economy but until then bankless Nation you know the deal risks and disclaimers ether is risky crypto is risky reacting to the FED

pivot or not pivot is also risky you can lose what you put in but we are headed west we are on the frontier it's not for everyone but we are glad you're with us on the bank this journey thanks a lot foreign