The Most Misunderstood Bull Market Ever | Jim Paulsen

[00:00:00] What's happened in this cycle is every known recession indicator that anyone has ever known about has been blown to some of the rates. None of them have worked. The worst sin you can do as an asset manager is lose track of the fact you're trying so hard to put your footprint of outperformance on it that you blow the other 90%.

[00:00:21] This is the only time where the Federal Reserve that I could find going back in post-war history where the Fed basically eased all the way up as inflation post-pandemic went up and that has tightened all the way down.

[00:00:34] How is it that four years into an official uninterrupted economic recovery and two years behind two years at a bull market that you ask Main Street how they're doing and they're telling you we're still stuck in the midst of one of the worst recessions in post-war history?

[00:00:50] Welcome to Excess Returns where we focus on what works over the long term in the markets. Join us as we talk about the strategies and tactics that can help you become a better long-term investor.

[00:00:59] Jack Forehand is a principal at Validia Capital Management. The opinions expressed in this podcast do not necessarily reflect the opinions of Validia Capital. No information on this podcast should be construed as investment advice. Securities discussed in the podcast may be holdings of clients of Validia Capital.

[00:01:13] Hey guys, this is Justin. In this episode of Excess Returns, Jack and I sit down with Jim Paulson, seasoned investment strategist and the author of Paulson Perspectives on Substack.

[00:01:20] Jim shares his insights on the current market and investment landscape, highlighting the key risks investors face and why he believes there's still plenty of upside left in this bull market.

[00:01:29] With his data-driven approach and knack for delivering clear and common sense explanations, Jim offers valuable perspectives for investors of all different experience levels.

[00:01:37] As always, thank you for listening. Please enjoy this discussion with Jim Paul.

[00:01:40] Hi, Jim. Thank you very much for joining us today.

[00:01:42] Hey, thanks for having me, Justin. Jack, it's a pleasure to be here.

[00:01:45] I've been following you for a number of years. I think it started probably when you were regular on CNBC, first at Wells Capital, then at Luthal Group.

[00:01:53] You've kind of moved on from your day job to some extent.

[00:01:57] But the one thing that sort of stands out to me with you is I always just felt like you were like the level-headed, steady guy in the room that never got too worked up over anything.

[00:02:11] But yet when we were in the depths of a bear market or maybe when we had over-adjuvenants, like you would oftentimes, and you still do this, kind of come in with, you know, a steady hand and sort of calmness and thoughtfulness.

[00:02:25] And I kind of always just appreciated that with your style.

[00:02:29] And I would also say that, and I have no data to back this up, and I'm not trying to just blow smoke here, but I think, you know, you were probably more accurate than most.

[00:02:39] And I think most investors probably, if they listened to you, generally speaking, would have done well and made money following your advice than, you know, some of the other guys that might be a little bit more hyperbolic, let's say.

[00:02:53] Well, I appreciate that.

[00:02:56] You know, I've been in the business over 40 years, and I'm a full believer that anyone who's been in the business for more than a cycle has a checkered past.

[00:03:07] He said, everyone always says, oh, it was right about this and that.

[00:03:11] I think everyone's missed a lot.

[00:03:12] And, you know, we talk about the big market calls, which you want to get those right.

[00:03:16] But we're making calls on all kinds of stuff every day.

[00:03:19] You think about it.

[00:03:20] We talk about the dollar.

[00:03:21] We talk about rates.

[00:03:22] We talk about the Fox and regional sectors.

[00:03:24] You're missing a lot of those along the way.

[00:03:26] I think, you know, this is a business that's compared, it's a lot more risky than the weather.

[00:03:33] A lot of forecasts are going to be missed.

[00:03:36] And it's not a business that kills you to be wrong and devastates you.

[00:03:42] You have to move on, just like anybody in the NFL or otherwise.

[00:03:47] And I've been very fortunate to get into some of my love.

[00:03:53] And part of me, I do the best I possibly can to deliver what I think.

[00:03:59] But I also realize that you're going to be wrong.

[00:04:01] Him over the forward pole.

[00:04:03] I've done okay.

[00:04:04] I have to record attack.

[00:04:06] No, that's great.

[00:04:07] And I think we wanted to mention this.

[00:04:10] Like, you know, people can follow you and get your thoughts and insights on your sub stack.

[00:04:16] I guess blog or newsletter called Pulse and Perspective.

[00:04:19] So people that are listening to this, that want to follow along with Jim's thoughts on a lot of different things, you know, go check that out.

[00:04:25] We like to make sure that our audience is supporting the people that are spending time with us and helping educate investors along the way.

[00:04:32] So there's going to be a lot of interesting thoughts with what's going on in the market today with Trump and the Federal Reserve.

[00:04:39] We're going to get into all that with you, which is going to be great.

[00:04:41] But where I want to start maybe just for a minute is a little bit more before we get to where we're going, sort of where we've been.

[00:04:49] And get your perspective on what do you think has changed the most in the markets and in the economy from when you started earlier in your career?

[00:05:01] You know, I think, and it's a great question.

[00:05:04] It's a really great question.

[00:05:05] This is 40 years ago.

[00:05:06] I'm lucky if I'll remember.

[00:05:08] Yeah.

[00:05:08] I'm kind of a cheap defense.

[00:05:10] But, you know, I just think the biggest thing is the amount of information that you have in front of you.

[00:05:17] And I'm not so sure it's better or worse.

[00:05:20] That's an open debate.

[00:05:21] But, like, when I started, we had no PCs yet, guys.

[00:05:25] I mean, you know, only certain of us oldies can remember that.

[00:05:29] There was nothing like a PC computer.

[00:05:32] We didn't even, a lot of us didn't yet.

[00:05:33] When I first started, I had Quotrons, okay?

[00:05:36] So, literally, this is true.

[00:05:38] We would work in the morning, and then when you went to lunch, you went by the local bank, put the digital clock out front, gave you a time temp, and what the Dow was doing.

[00:05:48] That's, once a day, we got a feed on what the Dow Jones was doing for the market that day.

[00:05:52] And, basically, outside of that, you know, you read annual reports, you read Wall Street research, and you're busy doing your thing.

[00:06:00] That is so different.

[00:06:02] But where people that actually have time to sit down and read a full article all the way through and, you know, and golf, the whole thing, I think is almost a rarity today.

[00:06:12] We used to read Barron's cover to cover on the weekends and all the papers.

[00:06:16] You know, it used to be a regular part of your routine, and today it's just skill, skill.

[00:06:21] It's just too much to take in.

[00:06:22] We also didn't have a lot of data to really go at.

[00:06:27] The number of economic reports released every month was maybe 50% of what we see today just on the regular weekly feeds, if that.

[00:06:35] It was kind of like two inflation reports.

[00:06:37] And, you know, it really wasn't like 80 million of each economic variable reported over and over again in different metrics.

[00:06:46] And the amount and type of information that you can take in and then also now quickly manipulate and look at.

[00:06:53] Where I started, we built a valuation model upon a spreadsheet and entered in a HP 32 recalculator with the beautiful thing, putting data stripes through it.

[00:07:04] I do remember this, but that's how, that was the really antiquated way when you look back now that we used to judge, help us to judge values in the stock.

[00:07:13] So I, it's night and day.

[00:07:16] Now, I don't know if it's better or worse because in some ways I would argue that your judgment, which I've come to appreciate over the years, is what it's all about at the end of the day.

[00:07:25] It's not about the data and about how much you read.

[00:07:29] It's just about your judgment.

[00:07:30] You know, I think that judgment needs a foundation in the base and the cost of feeding.

[00:07:37] And that's, in some sense, I think it's lost when it jumps so quickly between so much data.

[00:07:43] It takes so much great power just to figure out what you should even keep versus the star.

[00:07:49] I think a lot of time is lost in that today.

[00:07:51] So I think that's the biggest thing.

[00:07:53] I mean, there's some sub things too, Justin.

[00:07:56] You know, I think, I think the market focus was much more value oriented back then than it is today, has been.

[00:08:04] Even if you're a growth manager, you spend a lot of time on that.

[00:08:07] Today, I think we spend less because valuation rates, the ranges have been blown apart and don't work as well.

[00:08:13] And some of that overall.

[00:08:17] But I also think that the focus back then was long-term, just in general.

[00:08:22] Even short-term traders have a little longer-term focus of the markets.

[00:08:26] Today, it's so short-term.

[00:08:28] Even long-term investors are forced almost into short-term considerations, you know.

[00:08:33] So those would be the main things, I guess I'm saying.

[00:08:35] What has not changed is that at the end of the day, it is still running only about two things.

[00:08:42] It was discovered long before I came on to see it.

[00:08:45] That is doing our emotions of feeding grieve that is still dry.

[00:08:52] That's really what happens.

[00:08:54] That is what the ability to push up grieve for, to have an onslaught fall of fear, is what ultimately drives the market to, for that matter, the economy too.

[00:09:09] Tell me what you think of this.

[00:09:10] It seems like after this financial crisis, a lot, that kind of was a big point of change.

[00:09:18] Because I'm just thinking of like, stop picking to indexing or interest rates to ultra-low interest rates.

[00:09:26] I mean, we come back, obviously, with interest rates.

[00:09:28] But it seems like after the financial crisis like that, maybe pulled forward or resulted in maybe some of these structural changes in the market.

[00:09:38] And I think there's things like commission pre-trading, and that came later.

[00:09:42] But, you know, these market structure type change or changes with investors' behaviors and what they were seeking and what they were looking for.

[00:09:51] Like, that kind of seems to me like was a very pivotal time for the markets.

[00:09:57] I think, yeah, I think the post-08 crisis, you know, created a lot of different things.

[00:10:06] But I would say this, Justin, I think that's true at every point in time when you go back.

[00:10:11] There's been a number of pivotal moments that have changed, forever changed the landscape of the economy and the financial markets, including the Great Depression.

[00:10:21] You know, the wars that have broken out.

[00:10:24] In the 1960s, you know, we thought we had solved the economic cycle.

[00:10:27] All we needed was to be able to tweak it a little bit.

[00:10:30] Left and right, we weren't going to ever have a recession again.

[00:10:32] And that was truly the broad mindset that existed in the late 1960s.

[00:10:37] After, when I started in the early 80s, my mentor, my early mentor taught me that it's all about timing.

[00:10:44] It's all that matters is timing.

[00:10:46] And there was just a slew on Wall Street of nothing but timing mechanisms and indicated golden sacks, asset allocation time.

[00:10:53] The reason for that is because the market had gone nowhere for 16 years, net-net.

[00:10:58] It just went up and down, up and down, up and down, up and down.

[00:11:01] And so the only way to make money was timing.

[00:11:04] That's all anyone talked about.

[00:11:05] And then I always laugh infusively with my mentor after that because once I joined him, all it did was go up.

[00:11:13] On relentlessly, at least until 1990, 87.

[00:11:16] And my point is that I think things that that was just as dramatic of a change at that time of day.

[00:11:24] We're coming off, you know, 21% prime rates and 13% inflation and oil prices that we'd never thought any of us would see.

[00:11:37] And then the collapse of that happening.

[00:11:39] I mean, that was just as dramatic as the OA crisis was, for example.

[00:11:44] And so I think that that had a lot of insight.

[00:11:48] To your point, I would say this.

[00:11:51] I would say that the onslaught of warming ETFs, low-cost alternatives that can truly take you away from stock picking

[00:12:00] and put you in the factor sector sort of bets as opposed to individual companies, that was a huge change.

[00:12:10] I can't say we've had historically that way.

[00:12:13] And the other thing I think the Great Financial Crisis did was it took our traditional fiscal and monetary policies

[00:12:20] and ran them off the rails, and there's still no term.

[00:12:24] Even after the Great Depression, one thing is we didn't have them really officially declared.

[00:12:29] But we did get those things back on the rails.

[00:12:31] We have failed to do that since.

[00:12:34] We've gone into things, you know, ever since we introduced things like TARP and cash for clippers.

[00:12:40] And we discovered the Fed had a balance sheet.

[00:12:43] It was always zero, but now it's, you know, $4, $5, $6 trillion.

[00:12:47] And we've never been able to bring those back, I think, into ways that operate.

[00:12:50] I think that's gotten somewhat worse and worse.

[00:12:53] That is a major change.

[00:12:54] Those two big things.

[00:12:56] And certainly for investors, the ETF world is huge because it does really alter the idea

[00:13:05] when I started the business of just being solely a stock picker and really allowing yourself

[00:13:10] to be more of a factor investor, which you could have been back then, but it was much more

[00:13:16] difficulty of one.

[00:13:18] So where are we with the economy from your perspective today?

[00:13:25] Are you bullish?

[00:13:26] Are you bearish?

[00:13:27] And where do you think the biggest risks are that we can see?

[00:13:31] Of course, there's always risks out there, but in terms of inflation, you know, recession,

[00:13:37] where are you stalling right now?

[00:13:39] Well, I think the two big things that set out for me about this cycle is sort of the backwards

[00:13:51] Fed called it.

[00:13:53] And we can maybe talk about that a little later.

[00:13:56] This is the only time where the Federal Reserve that I could find going back in post-war history

[00:14:01] where the Fed basically eased all the way up as inflation post-pandemic went up and that

[00:14:06] it's tightened all the way down.

[00:14:08] And that's 180 degrees opposite what any other Fed has ever done.

[00:14:12] And that has a lot of implications for market cycle because it's kind of reversed the bull market around,

[00:14:18] at least in some of its character, over that.

[00:14:21] We can talk about that a little more.

[00:14:22] But the economy is partly a result of that.

[00:14:27] But I think that big things that stand out to me, the biggest risk always in the economy is recession.

[00:14:34] And what's happened in this cycle is every known recession indicator that anyone has ever known about

[00:14:41] has been blown to smith rates.

[00:14:44] None of them have worked.

[00:14:46] We basically, the yield curve didn't work.

[00:14:48] We had that surge in inflation 2022, didn't work.

[00:14:52] We had the leading economic indicator be negative year on year for like 20-some months, didn't work.

[00:14:58] We had M2 money supply year on year was negative for 16 consecutive months

[00:15:03] after never being negative year on year in its whole history.

[00:15:06] No recession.

[00:15:08] Of course, we had an aggressive rise in the funds rate, an aggressive rise in bond yields with it,

[00:15:14] and no recession.

[00:15:16] And there's others too.

[00:15:18] You know, the sovereign rule.

[00:15:20] My point is, is we are left rudderless at the mole

[00:15:24] because no one knows of any recession tool that they can depend upon that still work.

[00:15:31] And that's a curious situation to find us all in.

[00:15:35] And in my career, we've never had that.

[00:15:38] There's always been some tools that were still sort of working.

[00:15:40] And so that's sort of intriguing.

[00:15:42] So what I fall back on is I look at the recession risk more in terms of vulnerabilities than I do about necessarily policies and what they've been doing, more about vulnerabilities.

[00:15:54] And what are the vulnerabilities?

[00:15:55] When I'm talking about the vulnerabilities of the private sector, and I don't see a lot.

[00:16:00] I don't see a lot of vulnerabilities.

[00:16:01] If I look at the household sector, they've got debt ratios, debt-to-income ratios that have been falling since the OA crisis, to your point earlier, Justin.

[00:16:11] They peaked in U.S. history at that point.

[00:16:14] And the coming dollar sets, the ratio is now back down to its levels in the late 90s.

[00:16:18] We've never had this period of 15 years of declining debt-to-income ratios in the household.

[00:16:24] And the debt-service ratio, principal distribution payments to percent income, is down to its lowest levels recorded going back to 1980.

[00:16:33] No one's really borrowing money.

[00:16:35] Yeah, there's credit card usage because no one uses cash anymore.

[00:16:39] And, yeah, there's some auto loans in a little bit, but basically the amount of debt-to-use of outsource is way down and never really came to this part.

[00:16:48] Not only that, but their equity levels are way up.

[00:16:51] They're at net worths.

[00:16:52] And importantly than that, their liquidity is through the roof.

[00:16:56] Eagerly, liquidity, the money supply to GDP is like, I can't remember the exact numbers, 50% to 55% of GDP.

[00:17:04] It notoriously used to be for decades, you know, like 15% to 20%.

[00:17:09] But after the 08 crisis and then followed on with the pandemic, it's exploded.

[00:17:14] So there's just sloshing liquidities everywhere.

[00:17:16] I think there's $7 trillion of money market funds sitting out there right now.

[00:17:23] You know, it's almost as high as it was at the pandemic or other market bops.

[00:17:27] And that just reflects that you've got this household sector that's extremely liquid, extremely well-fitted hands, and a lot of excess capacity left in their financial acquisition.

[00:17:38] And if I look at the business sector, it's not quite as dramatic, but it's pretty close.

[00:17:42] The equity-to-debt ratio among corporations is at a post-war low.

[00:17:47] The net cash flow-to-GDP ratio in the corporate sector is not at a record high, but very close to record high in post-war history.

[00:17:55] Profits, of course, are still going up.

[00:17:57] It's something I call profit productivity.

[00:18:00] The real profit per job is almost at a record high right now.

[00:18:04] General productivity is pretty good, running around, you know, that 2.5% area.

[00:18:11] And again, their debt ratios and their liquidity of cash flows are strong.

[00:18:16] And so where is the vulnerability?

[00:18:20] Then I think the reason that this is this way is because they've had one very unique aspect, such as the pandemic.

[00:18:27] And that is there's been no recovery in Main Street confidence, really, since the pandemic.

[00:18:35] Now it was better by the pandemic and then inflation, whatever.

[00:18:38] But even after all the getting by all that, we still have consumer confidence measures that are closer to recession lows going back to 1950 than anything else.

[00:18:46] Small business confidence still almost in the toilet, one of the smallest levels going back to the 70s when they started recording it.

[00:18:52] How is it that four years into an official uninterrupted economic recovery and two years behind two years at a bull market that you ask Main Street how they're doing,

[00:19:02] and they're telling you we're still stuck in the midst of one of the worst recessions in post-war history?

[00:19:08] And that's really important because how the Main Street fields dictates what they do.

[00:19:15] And the reason they're not vulnerable, the reason they're maintaining such high levels of the couldn't be balances is because of their pessimism about the future.

[00:19:24] And to me, I think it's hard to have a recession when everyone out there, all your players, have been fully anticipating one imminently for the last three or four years, almost every day.

[00:19:38] How do you have a recession when everyone's waiting on one and fully prepared for?

[00:19:41] You have to have unpreparedness to get a recession because that is when people are out over their skis and there's something for a recession to bite on that can cause a cataclyspic disaster.

[00:19:53] I don't think we have that today.

[00:19:55] There's not animal spirits on Main Street nor in the stock market.

[00:19:59] Yeah, there's been a good stock market by some days, no doubt.

[00:20:02] But I don't see the normal animal spirits.

[00:20:04] We haven't had runaway ITOs and M&A and a lot of that crazy stuff going on.

[00:20:10] And I certainly don't see it on Main Street.

[00:20:12] And to me, I think that's the most important thing.

[00:20:17] There's one other thing I could go back to.

[00:20:18] But I think before this is over, we're going to finally resurrect confidence.

[00:20:22] And to me, that's the biggest asset still on the shelf that this new president could utilize or someone else.

[00:20:29] When you take confidence, where it's at, back up to cycle highs where it normally ends the recovery.

[00:20:36] Man, oh man, that's a wonderful.

[00:20:39] A lot of good things happen on Main Street and a lot of good things happen on Wall Street.

[00:20:42] For example, if I go back to, I think, 1952, and I look at all the months where the Consumer Confidence Index rises, month in, month out,

[00:20:51] versus all the months when it falls, month in, month out.

[00:20:53] The difference for the total return from the S&P 500 over months riding and months falling in the ambulance is something like 20.5 versus 5.5.

[00:21:04] Okay?

[00:21:05] And since we're so low on confidence, we could have a long ways to raise confidence and probably more months of rising confidence than falling confidence because it can't get a lot worse.

[00:21:15] And if you do that, that's a huge return, outsized return from the stock market, almost double its normal, if you will.

[00:21:24] And all one has to do to get there is to figure out the puzzle of how do you resurrect some confidence in this term term?

[00:21:32] And that's a whole other discussion.

[00:21:34] But to me, that's not something we generally have four years into an economic cycle, two plus years into a bull.

[00:21:40] Confidence has already resurrected by now and it hasn't done that.

[00:21:44] I also think that's why we've had a narrow stock market, one that really started very slowly and one that has left most of the market not in a real bull.

[00:21:55] Some things that should be in a bull, like high beta stocks, have had the worst bull market today of almost any, at least going back to 1990, I think I looked at.

[00:22:07] And I think that reflects the fact that a lot of people just don't look at this yet as any kind of bull cycle or economic cycle.

[00:22:16] So I'm optimistic mainly because of pessimism.

[00:22:20] So this brew left in this thing.

[00:22:22] My one qualifying area is the jobs market.

[00:22:25] If we truly are at an unemployment rate of 4%, then we probably can't grow much longer because we'll run out of labor.

[00:22:33] And when you run out of labor, you have to shut down.

[00:22:37] I don't think we're actually at 4%.

[00:22:39] I think the actual unemployment rate is higher than that.

[00:22:42] And that's why there's still capacity to grow.

[00:22:45] But if I'm wrong about that, then if we do recess tomorrow, people say, well, look at the unemployment rate's been low for years.

[00:22:52] And usually that's a sign that a recession is nearby.

[00:22:56] I'm wondering, going back to the idea of why we didn't have a recession, like it seems like I personally got this wrong.

[00:23:00] Like I was thinking there's no way the Fed's going to hike this much and we're not going to have a recession.

[00:23:04] And I remember back to when we had Bob Elliott on the podcast and he was talking about this idea that we've seen debt driven cycles our whole lives, our whole lives.

[00:23:12] And this was an income driven cycle.

[00:23:13] And like the playbook is completely different in an income driven cycle.

[00:23:17] I mean, would you agree with that?

[00:23:18] Yeah, that's kind of the point I was making is that we'd never had, you literally go back to post-World War II and look at the debt to income ratios from the Fed's flow of fund statements.

[00:23:28] And it just slowly creeps upward.

[00:23:31] Every cycle ending is a higher high in debt to income.

[00:23:35] And then you go all the way up to OA and that's been coming down ever since.

[00:23:40] And I agree with that.

[00:23:41] It's a new playbook.

[00:23:42] I think that's why a lot of these things have blown up.

[00:23:45] You know, a lot of tools have blown up because we run all those or we base all those on a chronic rising debt to income ratio, which is another way of saying a rising vulnerability ratio is what that is.

[00:23:57] And we don't have that this time around.

[00:24:00] We have not been able to go.

[00:24:02] You know, some of this is just cultural too, because when I grew up in the 70s and into the early 80s, you know, I was told early on that it takes money to make money.

[00:24:14] And indeed, my first mentor told me that, Jim, you should go borrow some money and buy some stocks.

[00:24:19] Just borrow them.

[00:24:20] He said, you got nothing to lose.

[00:24:22] If you're wrong and you go down entirely, they can't take anything away from you.

[00:24:26] You don't have anything.

[00:24:27] And he was right.

[00:24:28] I should have.

[00:24:29] I should have.

[00:24:30] Takes money to make money.

[00:24:31] And I didn't do that, but I should have in retrospect.

[00:24:36] But today's culture, if I look at some of the younger generations, I think it's very much a difference.

[00:24:41] And coming back to Justin's point earlier, that might have some of its roots in 08, that they kind of came of age right during this explosive recession cycle that we build up publicly into the worst ever in history.

[00:24:56] And that, you know, it emphasized how you could get in big trouble with debt and so forth.

[00:25:02] But there's a different attitude.

[00:25:04] Not a big attitude to borrow money, I don't think, among the younger generation than there was when I was that age.

[00:25:10] It's more of the attitude of my parents coming out of the depression.

[00:25:13] Cash on the barrel.

[00:25:15] And I think we're kind of back to that again, which in some sense makes this economy much less risky.

[00:25:21] Might not be able to grow as fast over short spurs, but less risky.

[00:25:26] And is that why, when you talked about confidence, like that's the thing I've always wondered is they've talked about like this being a kind of a vibe session.

[00:25:32] Like it's not a recession, but people feel like we're in a recession.

[00:25:35] I mean, is that, why do you think, what are the big reasons this confidence just hasn't come?

[00:25:39] I mean, I think you said it's starting to come now, but like, why is it taking so long?

[00:25:42] I think there's a host of reasons, but I think the ones I guess I'm most inclined to, I think the 24-7 news, not only that, but news that we, you know, isn't any further than a foot away from us 24-7 a day, is a new phenomenon.

[00:26:02] Like I said back when I started, we worked all morning, then you go to lunch to see what the Dow was doing.

[00:26:07] So, you know, that's, I've come from that to where, you know, I can't wait too much to keep, you know, looking on my phone.

[00:26:14] The problem with news, as we all know, just in the selling of investment research is, you know, what grabs your attention are the frightening headlines.

[00:26:25] You don't read the one that says it's sunny today.

[00:26:27] You read the one that says there's going to be a storm.

[00:26:29] And I think we get fed that on a regular basis.

[00:26:32] And with video now, the ability to transmit that, we can transmit a lot of news stories that you see.

[00:26:38] I always think that would never be a news story except someone has video on it.

[00:26:42] And that's the only reason it is.

[00:26:44] And that affects you emotionally in a different way than reading it in the New York Times or the Wall Street Journal or something with emotional video.

[00:26:52] And most of that's bad news.

[00:26:53] I think that's part of it.

[00:26:54] I think the Internet and technology is some of the issue that leads itself to greater passage.

[00:27:00] But more specifically to the cycle, I guess, I would point to, I think, I don't ever remember another cycle.

[00:27:08] We just went through a very unique pandemic cycle, which was kind of like a war with a domestic death count.

[00:27:16] Okay.

[00:27:17] Okay.

[00:27:17] And it wasn't something, you know, that affected economics and the markets tremendously greatly, but it wasn't really an economic issue.

[00:27:25] But we went through it and it was a death versus life issue for everyone in this country.

[00:27:30] I can't think of another one like that almost.

[00:27:33] Wars, people that went away to wars, but this was happening indiscriminately across the country.

[00:27:38] And I think that left its mark.

[00:27:41] I think it also caused everyone to be isolated for a period, which, you know, left to your own devices.

[00:27:47] You can dream up terrible outcomes.

[00:27:50] We kind of did it to all of us overall.

[00:27:53] And then we had this Fed response and the response of the corporate community.

[00:27:58] I don't remember.

[00:27:59] I mean, for a while there, every corporate CEO, I mean, led by Jamie Dimon would tell you every week that a recession is imminent next week.

[00:28:07] I mean, we did that.

[00:28:08] We did it all the way from 2020 until just recently almost.

[00:28:13] And so corporate CEOs would tell us that.

[00:28:15] And certainly the Fed would basically tell you that.

[00:28:18] You know, it was, you know, we had the inflation surge and everybody, and then the Fed was tightening all the way down when they should have been done tightening at the peak of inflation.

[00:28:27] They just kept tightening for two more years, which screwed up the whole cycle, if you will, too.

[00:28:33] So I think that that was some of it, the Fed sort of not tightening through enough and then tightening far too long over the case.

[00:28:42] I think that the political divide we have in this country, the blue-red divide, somewhat is a massive divide and more extreme views in this country.

[00:28:53] We don't have so much of the bell shaped anymore as we have two bells on either side.

[00:28:57] And maybe the middle's hollowed out.

[00:28:59] It is more of a volatile situation.

[00:29:02] It leads to greater pessimism, a sense that something's not right in the country, which is contributing to some of that.

[00:29:09] I also think that there's just a general disgust with the whole process, whether you're blue or red.

[00:29:14] There's just a disgust, a sense of dysfunction at work, which gives you a sense that no one's leading.

[00:29:21] We don't really have and haven't had, I think, for a while strong leaders.

[00:29:25] You know, I think about strong presidents we've had in the past.

[00:29:28] I think about Paul Volcker, strong Fed chairman, or even Sal Green-Spares.

[00:29:33] You know, we don't have that, I don't think, today.

[00:29:36] So it lends itself to greater pessimism.

[00:29:40] Those would be just some of the things I guess I'd suggest.

[00:29:44] But I think that's our huge asset.

[00:29:46] That is our huge asset.

[00:29:48] I'd much rather, from an investor standpoint, be sitting here where we are today than I would in the optimistic situation we were in in 99-2000, for example.

[00:30:03] To me, there's a whole lot more risk there.

[00:30:07] We've lost a decade, which is what we got, than the risk sitting where we are here.

[00:30:11] Because if we can get people feeling better, they have a lot of firepower left on their battle sheets and their income statements that they could use to make this thing feel awful good.

[00:30:22] You mentioned that the Fed was sort of doing the opposite of what they should have been doing throughout this whole thing.

[00:30:27] Why do you think that is?

[00:30:28] I mean, is that just the nature of the Fed that they're using backward-looking data and because this moves fast and they're using backward-looking data, they're always behind the curve?

[00:30:34] Or what do you think that was causing that?

[00:30:36] Well, to tell you the truth, I think one of the biggest mistakes we make as investors sometimes is we put too much reliance or give too much authority to the impact of our policy issues and what they do.

[00:30:51] And I think this cycle has been a fantastic example of that.

[00:30:56] Here's the Federal Reserve that literally didn't start lifting rates until 2022.

[00:31:02] And then by the time inflation peaked at 9.1%, I think the funds rate was still around 1% per quarter.

[00:31:12] Okay.

[00:31:13] But then once inflation peaked, bond yields quit going up, commodity prices rolled over, everything started coming up.

[00:31:18] Then the Fed went on a regularly regressive tightening cycle.

[00:31:22] And there's no other Fed that eased all the way up of major inflation cycles that have tightened all the way down.

[00:31:27] And the question is why?

[00:31:32] And I think it reflects the fact that our policy officials are really heavily influenced by their institutionalization.

[00:31:44] And the fiscal authority has always been that way in politics arena.

[00:31:49] And it's kind of always been the, I think, held out as the dumber policy.

[00:31:53] And the monetary policy, when I came of age with my economics degree, I came of age, the whole thing of the 70s and early 80s was that the Fed was mute.

[00:32:05] They didn't say any.

[00:32:07] There was six months after the fact, there was like a one paragraph page that went out of what they decided to do six months earlier.

[00:32:14] Nobody gave a press conference.

[00:32:16] He talked around the country or the Fed.

[00:32:17] The whole idea, the theory of the Fed was the only way the Fed could have impact was if they shocked the market, surprised the Lord.

[00:32:23] That was the thought.

[00:32:25] That's come 180 degrees.

[00:32:27] Where today's theory is, is it has to be all communicated.

[00:32:30] We don't want to shock any commercial market.

[00:32:33] We want to be fully aware of what we're going to do.

[00:32:37] But what that really tells me is we've now thrust the Fed into the political arena, into the public arena in a big way.

[00:32:44] To the boys of the world, you now have regular press conferences by Fed officials.

[00:32:50] And I fail to see the value in all of that, quite frankly.

[00:32:55] But I think the Fed, in part because of political pressure, was hesitant in the middle of a pandemic, and maybe understandably so if I was the head of the Fed, in the middle of a pandemic while people were still dying, to raise interest rates, even though inflation was.

[00:33:10] And then once they finally decided it was okay to do it, they proceeded to do it even though they didn't really need to do it.

[00:33:18] And I'll tell you why, that it didn't matter.

[00:33:21] The Fed was late tightening, late to ease, and it hasn't mattered.

[00:33:29] Stockport kept going up, economies keep going up, no recession.

[00:33:32] Who cares what the Fed did?

[00:33:34] And I think, why is that?

[00:33:36] It's because what really matters is not the institutionalized policy-efficient decisions.

[00:33:41] It's the most important policies, that that's what I call laissez-faire policies.

[00:33:46] It's what you and I decide to drive economic policies, depending on our decisions every day.

[00:33:53] It's driven by the 330 million independent economic agents.

[00:33:57] Make decisions on how much cash to hold, how much to borrow, whether to get a job, whether to find a different job.

[00:34:03] That stuff is driving policies every day, and it does it on a really good, timely basis.

[00:34:08] Now, here's the example.

[00:34:11] In that, right when the pandemic hit, the money supply shot up to like 20, 24%, something like that.

[00:34:20] Fiscal juice went up to 18%, the deficit spending is a percentage GDP.

[00:34:25] Bond yields went to a half of 1%, almost instantly in 2020.

[00:34:29] Okay.

[00:34:31] The dollar collapsed.

[00:34:33] Massive stimulus was brought to the party on the pandemic.

[00:34:38] That is what kept the recession from being deeper than it would have otherwise been, was the myth.

[00:34:44] Now, did the Fed make any decision on any of that?

[00:34:46] Zero.

[00:34:47] Zero.

[00:34:49] It was all of us that zoomed the money supply off because we all went more liquid.

[00:34:54] And bond vigilators pushed bond yields down.

[00:34:58] Well, fiscal juice went up primarily.

[00:35:01] We didn't pass much right away.

[00:35:02] Primarily, it went up right away because tax receipts went south and normal expenditures went up with greater unemployment claims.

[00:35:10] And so we had this mass stimulus that brought us out of the pandemic.

[00:35:13] And then, long before inflation peaked, all these policies started to tighten.

[00:35:17] By the time inflation peaked at 9.1% in June of 2022, the money supply year on year, real money supply, had turned negative.

[00:35:27] Okay.

[00:35:28] It was negative long before it was tightening a year or more before inflation peaked.

[00:35:32] The dollar had gone up over that period.

[00:35:35] Bond yields went up to 3.5% by the time inflation peaked, long before the Fed even started to get into the game.

[00:35:41] If fiscal juice went from plus minus 18% deficit spending to minus 3.5%.

[00:35:47] So there was, the Fed didn't tighten, but everything else did.

[00:35:53] And fortunately, it caused inflation to roll.

[00:35:56] And then, once inflation rolled over, the Fed started tightening, but everybody else started to alleviate it.

[00:36:03] Money supplies have been climbing ever since.

[00:36:05] And bond yields stopped going up and have been more sideways.

[00:36:08] And I think they would have come down again if the Fed wasn't holding rates up over that period.

[00:36:13] The dollar came down over that period.

[00:36:16] Fiscal juice went back out from 3.5% to 7.5% per spending.

[00:36:20] And so, while the Fed didn't tighten soon enough, fortunately, everybody else did.

[00:36:26] Laissez-faire did.

[00:36:27] And while the Fed kept tightening way too long, fortunately, everybody else eased.

[00:36:31] Thereby, we killed off that post-pandemic inflation and we avoided a recession.

[00:36:36] No face to the Fed.

[00:36:37] Now, that's my cost of view of it.

[00:36:40] But I think that there's much more important things going on in policies themselves that are driven by you and me outside of fiscal and monetary efficiency, if you will.

[00:36:54] And often, they're the more important aspect to keep an eye.

[00:36:58] Sorry, you got me.

[00:36:59] No, that was great.

[00:37:00] And one of the things you could definitely say, and this kind of leads into my next question, is that the long end of the curve might be a lot more important than whatever the Fed's doing in terms of the economy.

[00:37:08] One of the things you've said, and it sort of contradicts what I've heard from a lot of other people, so I thought it was really interesting to talk about, is there's this belief right now that the long end of the curve is not attractive.

[00:37:19] People will say, even if the Fed cuts like they're going to cut, if we get back to a normal yield curve, long bonds need to be where they're at or above where they're at.

[00:37:26] So there's really no reason those should come down.

[00:37:28] But I think you think the opposite.

[00:37:30] I think you think long bonds are too high right now.

[00:37:32] So can you talk about why that is?

[00:37:34] I do.

[00:37:34] Yeah, I do.

[00:37:35] I think that for a whole reason, I think one thing is that economic growth is close to 3% in real terms right now.

[00:37:43] But I think it's going to slow down to around 2%.

[00:37:45] Part of that is because of the lack of labor supply growth.

[00:37:48] And if we have any decay at all in productivity, we slow to 2% in a hurry.

[00:37:53] And I think that's a difference from the past that productivity has been really good in here.

[00:37:57] I think it's going to stay fairly good.

[00:37:59] But I don't think it's going to stay 3% good.

[00:38:01] I think it might fall back below that, maybe to 1.5 to 2-ish kind of area.

[00:38:07] And job creation slows down to 1%, which is we're pretty close to that as we speak.

[00:38:11] And I think growth slows in around 2%.

[00:38:13] That takes an edge off of inflation, if you will.

[00:38:19] But in addition to that, if I look at the excess liquidity right now of M2 money growth less non-level GDP growth, right now that's minus 3%.

[00:38:31] Okay.

[00:38:32] That's lower than about 80% of the time since 1960.

[00:38:36] That is not conducive to rising inflation.

[00:38:39] What it is conducive to is continued declines of inflation, where there's a drain of excess liquidity less than what's needed to finance non-level activity.

[00:38:48] That's what we got going on right now.

[00:38:50] So that argues for disinflation.

[00:38:53] I think in addition to that, look at what's happened with real yields now.

[00:38:57] The real bond yield and the real funds rate are just about 2%.

[00:39:00] One's a little less, one's a little more.

[00:39:02] They're sitting right around that parameter.

[00:39:04] But they've come up a lot now over the last year and a half from negative area and now zero straight up.

[00:39:12] And they've even climbed this year where the bond hasn't done much, but because inflation keeps going down, real cost of credit is going up.

[00:39:19] If I look at those, I think the real bond yield is higher right now than about 75% of the time since 2000.

[00:39:29] And the funds rate is higher than like 85% of the time since 2000.

[00:39:35] If you're going to tell me that these yields aren't too high, I think that's crazy.

[00:39:40] I think they are too high just by valuing them relative to inflation.

[00:39:45] And then I look at an indicator for inflation here because that's what's going to drive rates.

[00:39:52] If growth is going to be at 2% and inflation is going to be high, I think inflation is going to break 2% if the way it's going to buy.

[00:39:58] There's no fall into the one hands.

[00:40:00] I think that's why rates are going to turn down again.

[00:40:02] I don't think it's going to be recession, but I think we're kind of going back to where we were.

[00:40:07] Because in my view, nothing really changed for where we were.

[00:40:11] We had powerful secular disinflationary forces prior to the pandemic.

[00:40:15] What we got was a supply-side restriction globally that caused a huge supply shortage, spiked pricing for a while.

[00:40:23] And then once that was alleviated, we're going back to where we were.

[00:40:26] And that's bad secular demographics, okay, lack, much less debt usage than we used to use, much greater global competition than we used to have back in the 1970s.

[00:40:39] A sector no longer led by autos where sticker prices go up every year, but a deflationary sector called tech.

[00:40:46] The secular forces of disinflation are still there.

[00:40:49] And I think that's where we're headed back to.

[00:40:51] But I think inflation is what's going to bring it down.

[00:40:54] The modern-day prices are already off 30%.

[00:40:56] I'm still kind of turning downward.

[00:40:58] I think that excess liquidity is negative, so that's a downward draft.

[00:41:03] I think that real yields are high.

[00:41:06] That's a downward draft.

[00:41:07] And then my last one I threw out is that we used this back with great worth in the 70s, even in the 80s.

[00:41:13] But if you look at a ratio of capacity utilization to the U.S. dollar, it would be a great inflation indicator with some lead time.

[00:41:23] The tighter the faster utilization got, when there wasn't much more ability to expand your operations further, and or the weaker the dollar got, because the weak dollar would bring more demand towards U.S. product.

[00:41:39] So if you've got a weak dollar and high factory utilization rates, then that would be a very inflationary-biased economy.

[00:41:47] We're having just the opposite of that.

[00:41:49] What we've seen is the dollar has gone up.

[00:41:51] The real dollar in particular has gone up a lot.

[00:41:53] At the same time, factory utilization has come down.

[00:41:56] And so I think we still have very much a disinflationary economy.

[00:42:00] And the surprise next year will be that—one last point.

[00:42:06] I think the main reason that bond yields have backed up in here is not because of the truck trade.

[00:42:14] It's not because of bond vigilantes enforcing fiscal discipline.

[00:42:19] It's for one big main reason, and that is economic momentum improved.

[00:42:24] Economic surprises were on September—mid-September, economic city group economic surprise index was like minus 45.

[00:42:32] Now it's plus 45 or something we have vicinity.

[00:42:35] And that surge of economic momentum has caused bond yields to go from 360 to 450-ish, basically.

[00:42:43] But once the economic momentum fades into the new year, which I think it will, not that it's going to die, but just fade, then bond yields will be able to come down again a little bit.

[00:42:53] And if inflation starts to drop below 2%, I think that's going to cause a run-on rate.

[00:42:58] So I could be really wrong in that.

[00:43:00] It won't be the first time, but that's kind of where I am.

[00:43:04] And how about the equity market?

[00:43:05] I would think with what you've talked about with disinflation, what you've talked about with confidence being low, but probably coming up in the future,

[00:43:10] I would think you'd probably be pretty optimistic.

[00:43:12] Is that right?

[00:43:13] Yeah, I think the one thing about the equity market—you start, I think, with this.

[00:43:18] I think we've been in the secular bowl since 08, 09.

[00:43:23] And what I mean by that is this is the third secular bowl really since World War II.

[00:43:28] We've basically—the secular bowl, that doesn't mean they have to keep going this way,

[00:43:31] but basically you have 10 years of terribleness and then 20 years of bowl.

[00:43:38] And we had 40 to 50 went nowhere, which was crappy.

[00:43:43] And then 50s and 60s were always straight up.

[00:43:46] Then 10 years in the 70s, you were crappy.

[00:43:48] And then the 80s and 90s went straight up.

[00:43:50] Then 10 years in 2000, it was crappy.

[00:43:52] And then ever since 09, we just shoot straight up.

[00:43:55] And so where are we in that cycle?

[00:43:57] Well, we still have about—you know, if it goes to the run course, to make 20 years, we're about 13 through, 14 through.

[00:44:05] So we've got five, six more years if it runs that same cycle.

[00:44:08] Now, it won't.

[00:44:09] Nothing runs exactly.

[00:44:10] It doesn't mean—a secular bowl doesn't mean you don't have bear markets.

[00:44:14] We've had—since 10.

[00:44:16] Not many, but we certainly haven't.

[00:44:18] We certainly have questions.

[00:44:19] But I do think we're still in a secular bowl.

[00:44:21] And that does have to do with these low-term sentiment calls, mainstream pessimism and optimism.

[00:44:28] I mean, after World War II, there was a lot of pessimism.

[00:44:31] After the high inflation 70s, there was a lot of pessimism.

[00:44:34] After dot-com, followed by the OA crisis, there were a lot of pessimism.

[00:44:41] And then what we do is slowly resurrect it.

[00:44:44] We get 20 years of bowl, most of which happens when everyone's still expecting the bear.

[00:44:49] And so it's important to realize, I think we're still in that.

[00:44:52] We're in a longer term sort of that.

[00:44:53] But next year, you know, what do you get?

[00:44:55] I think, you know, we're probably due here for another 10% correction at some point.

[00:45:01] I've never been that great at predicting those.

[00:45:05] I do try really hard to try to get right on 20% plus moves on the downside.

[00:45:12] But a lot of times, anything short of that, I don't do a lot with.

[00:45:16] Because you've got to really be a good timer to get those.

[00:45:20] Let's say you have a 10% correction.

[00:45:22] You've got it.

[00:45:23] You've got it.

[00:45:23] Let's say you miss the start of it by 4%.

[00:45:26] Then you miss, you don't quite get in at the right moment, miss the first 4% of the upside.

[00:45:31] Why did you even bob it?

[00:45:33] I mean, because you've basically got enough of that.

[00:45:35] Well, you've got to be so right to get a 10% correction to do much with it.

[00:45:40] I think the bad thing you can do is you sell out.

[00:45:43] Maybe you hit it just right.

[00:45:45] And you get out right at the top.

[00:45:47] And then it goes down 10 and you convince yourself it's going down another 10.

[00:45:52] And by the time you, you know, you just never get back in again.

[00:45:55] And I think that's a chronic problem that we all have, you know, probably failed at at the time, at least in small ways.

[00:46:02] And I think we're due for correction.

[00:46:04] It might be we have one here because of this rate hike that we've had just recently of bond yields backing up.

[00:46:11] And because of the intensity of how people now think it's bond vigilantes and fiscal, you know, and all these other issues.

[00:46:17] And that a lot of people are talking about 5% in 10 years and there's a lot of fear.

[00:46:22] So maybe often what ends those cycles in part is a pullback in the stock market.

[00:46:27] And maybe we do get one of those for a period of time.

[00:46:30] But I'm not going to bet a lot on it.

[00:46:33] I also thought it was interesting that we had August, September, October, and everyone's always the worst seasonal months of the year.

[00:46:39] Everybody's expecting a sell-off and then a good three-year-end.

[00:46:43] And I wonder if it almost happens the other way around where it went up.

[00:46:46] And then in a good seasonal period, it has some struggle.

[00:46:50] But I still think next year is going to be good overall.

[00:46:54] I think it's going to be a broader market because the Fed is easing.

[00:46:58] And I think one of the reasons it was so narrow is because the Fed basically tightened the entire bull market.

[00:47:04] One of the things that makes it broader, I think, is an easing in monetary policy.

[00:47:08] And I think that will improve.

[00:47:12] But there's so much positive force still coming at this.

[00:47:14] The biggest one is pessimism or cautiousness on Main Street.

[00:47:18] And I would argue still on wall as well.

[00:47:21] But also, disinflation, if you get that, the returns are something like for the months it goes down versus the months it goes up.

[00:47:28] It's like 14.5% versus 9.5% on disinflation versus inflation.

[00:47:34] If I look at money growth, which is rising from low levels, but that rising monthly money growth is something like 14.5% return versus 2.8% when it's contract.

[00:47:46] So we've got that going.

[00:47:47] Confidence, I mentioned earlier, when it goes up versus it goes down, makes a big difference.

[00:47:53] Profits, by all likelihood, are still climbing higher.

[00:47:55] I think we'll continue to do that.

[00:48:00] Valuations are certainly high by long-term historical standards.

[00:48:04] But I've kind of lost my respect for valuation.

[00:48:07] I'm not sure what to use.

[00:48:08] And that's a whole different story.

[00:48:10] But I just think the amount of positive force that we got going into this with disinflation, rising liquidity, pessimism, rising profitability in an economy that's driven by a productivity-inducing sector.

[00:48:31] I think we're going to see greater optimism before the real risk of a bear is there.

[00:48:36] That's my take, at least.

[00:48:38] Yeah, you're losing your respect for some of these valuation metrics is where I want to go next before I hand it back to Justin.

[00:48:42] Because you had a really good post on Paulson's Perspectives about the idea of the Shiller PE.

[00:48:47] And you see that paraded around all the time now as a reason to be bearish.

[00:48:51] The Shiller PE is so high.

[00:48:52] And you talked about how maybe we have to adjust that Shiller PE in terms of how we think about it.

[00:48:57] So can you talk about that?

[00:48:58] Yeah.

[00:48:59] You know that it's not just the Shiller.

[00:49:01] If you look at the Shiller, you look at the trailing PE, and you can't really look at the – you can, but the forward PE's tip, because it only goes back to 1990, basically.

[00:49:12] But if you look at trailing 12-month of the Shiller PE or, you know, priced of trailing five-year trail earnings, whatever you want to look, they all have similar style.

[00:49:22] You go back to 1870, 1870 to 1990, and the valuation range of the United States stock market was very state.

[00:49:31] It was basically from 7 to 21 times earnings like clockwork.

[00:49:36] And when I started in the business, we used that dramatic.

[00:49:39] I remember writing in 1986 that if, you know, if the PE gets to 20, sell.

[00:49:46] Well, the PE got to 20 in 1987.

[00:49:48] And it was just like clockwork.

[00:49:50] It never violated very stable range.

[00:49:53] Then it just blew apart, starting with early 1990s.

[00:49:57] And I think on the Shiller, I can't give the exact numbers, but like the Shiller PE ratio has been above that previous range.

[00:50:04] If I go 7 to 20 times earnings or whatever, like 90% of the time since the middle 90s.

[00:50:10] Like for 30 years, it's been chronically above the entire range.

[00:50:14] It used to be from 1870 to 1890.

[00:50:17] Same thing with the trailing PE mold.

[00:50:19] They've just not only just been a little out of bounds, they've been way out of bounds, and they've stayed persistently higher.

[00:50:25] So after about three or four decades, you've got to ask yourself, is something different going on here?

[00:50:33] Because, you know, people that are saying, well, it's overvalued compared to the last 50 years or whatever, they're right by the data.

[00:50:40] But it's kind of meaningless in some regard because they've almost always been overvalued for much of the last three decades, almost all the time.

[00:50:51] And so then you come to, you know, why is that?

[00:50:54] What are the different things going on?

[00:50:55] And there's a number of things that could be contributed to it.

[00:50:58] One of them is, is that prior to World War II, the United States had recession half the time.

[00:51:05] Since 1980, we've had recession less than 10% of the time.

[00:51:09] Well, let's face it.

[00:51:10] If you have recession, you know, 20% of the time they used to have recession, then you can pay a high remodable on vids.

[00:51:19] And I think that's part of it.

[00:51:20] We just don't have recessions as frequent as we used to have.

[00:51:24] And let's face it, that's the biggest equity market risk is that event.

[00:51:28] Secondly, the market has become a lot more liquid, no doubt about it.

[00:51:32] I mean, even when I started, there wasn't nearly as many people that knew about it, involved in it one way or another.

[00:51:38] And certainly not only in the United States, but just globally, it's become a massive liquid market.

[00:51:45] And we all know about liquidity.

[00:51:46] When it goes down, we get greater volatility and goes up.

[00:51:49] That's made a huge difference over that period of time.

[00:51:54] We also have very much gone from an industrial cyclical-based economy at stock market, reflecting that, to basically a growth-oriented, unit growth-oriented, high-unit growth-oriented tech-based economy.

[00:52:09] We turned our cyclical-based stocks we could invest into basically what's more stable unit growth, if you will.

[00:52:19] As we all know, growth stocks receive higher valuations than value stocks.

[00:52:23] So we get a lot of that.

[00:52:26] So I think those are all reasons for it.

[00:52:29] One of the, I think, one of the big things that is discounted we're still learning about, and what I think you refer to, I talk about a little bit, is that I think we're also being radically affected by our technology here.

[00:52:44] And we are the unadulterated leader of this tech boom that's been going on now at least for 40 years, probably at least to 30.

[00:52:54] And the U.S. has been at the leadership of that at least since 1999.

[00:52:57] Maybe you could already, Japan was earlier, but the U.S. has dominated since then.

[00:53:02] I think it's made a dramatic difference.

[00:53:04] This is not what we've done in the recent decades.

[00:53:08] We haven't created the automobile or the airplane that basically does the same thing today it did 120 years ago when it was first invented.

[00:53:17] I mean, the auto still runs up four rubber tires and goes down the road and gets you some plane.

[00:53:22] That's not what we do.

[00:53:23] These things are revolutionizing innovations.

[00:53:26] Innovations that are doing things that we didn't even know existed before they were invented.

[00:53:32] That you just can't imagine.

[00:53:34] And not only that, but the companies that did it initially, those companies, IBM or whatever, they're doing something completely different today.

[00:53:43] They're no longer just producing the automobile forevermore.

[00:53:45] They're doing something completely different.

[00:53:47] So this is really dynamic innovation that I don't know if the modern world, and I just mean the United States since it's been in existence, has seen innovation like this.

[00:53:57] And how do you, one thing I would ask on valuations, how do you value a company like NVIDIA or Amazon when it first comes out?

[00:54:08] A company that when you look at it today, when it first comes out, won't even be doing anything remotely close to what it's doing today five years from now or 10 years from now.

[00:54:16] It will be doing something completely new and different.

[00:54:20] I don't know how people even think they could put a value on that.

[00:54:23] And I think it's kind of silly that we try to do that to some degree.

[00:54:27] But I think what I'm getting at is I think it's fundamentally changed relationships that directly affect the valuation of securities.

[00:54:36] And I'll just give you one example.

[00:54:38] If I look at what I call profit productivity, you're not going to find this in the Econ 101 textbooks already, Faye.

[00:54:44] It's just a figure of mine that's probably drank too much coffee one day and went there.

[00:54:51] But what I take was a ratio of U.S. corporate profits adjusted for inflation and divided by the level of employment in the United States.

[00:54:59] So to me, that's real profit per job.

[00:55:03] And to me, that's the ultimate in productivity for profits.

[00:55:08] If you can make $1 on every job and then you suddenly make $2 on every job, that's profit productivity.

[00:55:16] That's my definition.

[00:55:17] There's output per hour and there's all that, but that's profit per day.

[00:55:19] And what does a corporation care more about?

[00:55:21] Yeah, that's pretty much the number one bit.

[00:55:23] What do you and I as stock investors care most about?

[00:55:26] Mostly that.

[00:55:27] I want profit productivity.

[00:55:29] Well, if I look at that, this ratio, I can only get the data back to 1950, but this ratio has been state range-bound from 1950 until the early 90s.

[00:55:41] It was sideways movement.

[00:55:43] It was very close with valuations, but it was range-bound.

[00:55:47] And then since the early 90s, it has exploded.

[00:55:49] I can't give you the exact numbers right now off the top of my head, but I think it's gone up three or fourfold just since 90 after being range-bound for decades.

[00:55:57] And that is the exact same moment with the valuation range of the global stock market, mainly the U.S. stock market, has also gone up over that same time period.

[00:56:08] So I think if something's delivering four times the profit productivity you used to deliver, you probably are willing to pay a higher valuation for.

[00:56:18] And I guess my point is it's hard to prove it, but I think technology itself has radically altered how you might value companies, if you will, in the stock market.

[00:56:36] It's not—it's just a fundamental shift after so many decades kind of being on the industrial line and just doing the same thing.

[00:56:47] If you can get workers to produce two or three or four times as much as they used to in bottom line results, that really changes.

[00:56:56] You know, one of the things people are worried about in this country is lack of demographic growth.

[00:57:00] I am too.

[00:57:01] You know, we don't have enough labor supply grow.

[00:57:05] Then if that demographic goes to zero, then you can only grow so fast, right, in the economy.

[00:57:12] And I thought that, yeah, I kind of still think that's probably right.

[00:57:16] But I'm kind of wondering if the capital demographics, not the labor, but the capital demographics of the mirror are so unique and so bust and so out there compared to anywhere else in the world.

[00:57:30] Could the U.S. deal with a flat labor supply grow?

[00:57:34] It's still grow at a decent rate because our capital demographics are so dynamic.

[00:57:39] And it's this type of stuff that might already be showing up in, you know, in evaluation overall.

[00:57:50] Just give you a couple more things.

[00:57:51] If I look at the relative performance of tech stocks going back to 1950, and I push that series forward by three years, and then I look at the share of the U.S. GDP to world GDP, they are very closely related.

[00:58:09] So tech runs with that.

[00:58:12] When we have one, over the next three years, the U.S. dominates global growth.

[00:58:17] And right now, I think we're probably headed to that.

[00:58:22] You also see a close relationship between what tech stocks do on a relative basis and what happens to old-style output per hour over the upcoming four years.

[00:58:34] So I think tech's affecting a lot of things, and it's not surprising that it would also affect valuation.

[00:58:40] Bottom line is, I don't know what to do with valuation.

[00:58:43] I grew up in a value stock shop.

[00:58:46] That's where I started.

[00:58:48] Value was king.

[00:58:49] That's all I focused on.

[00:58:50] And the thought was, I've, over the years, done a lot more with different shops.

[00:58:55] And so, but it hurts me not to have some kind of value range or feel.

[00:59:01] I'm not sure I do.

[00:59:02] I don't pay that much attention to it as much as I'm used to.

[00:59:06] And surely when it goes down, some will say, well, value would have told you that.

[00:59:09] And I'm sure it will because values have been high until three decades, and every time it goes down, that's what they point to.

[00:59:15] But there's a lot of time in between where it still goes out when the values are high too.

[00:59:20] And so I think we're catching, I think we're in the process of catching up of new ways to value these unbelievably innovative companies.

[00:59:31] We're not there yet in doing that.

[00:59:34] Jim, it just so happens that we're having you on the day that NVIDIA report earnings.

[00:59:40] And I'm sitting here refreshing the screen, thinking we could do a real-time breakdown of what they're going to deliver.

[00:59:47] But we might not get to it.

[00:59:48] So I don't know.

[00:59:49] We'll have to see.

[00:59:50] It's going to be pretty crazy.

[00:59:52] But this has been great.

[00:59:54] Thank you very much.

[00:59:55] We have two standard closing questions we like to ask all of our guests.

[00:59:58] If you have a few more minutes for us.

[01:00:01] And the first is, what is something that you believe about investing that you think the majority of your peers would disagree with you on?

[01:00:12] Well, I talked about one of them earlier.

[01:00:18] Just that I think that policy officials, monetary fiscal policy officials maybe are nearly as important as we think.

[01:00:30] That other important drivers should work.

[01:00:32] But mainly just the independent decisions being made by laissez-faire, if you will.

[01:00:40] And I think that's what people miss.

[01:00:42] They spend far too much time wondering whether the Fed's going to cut or not or what tax policy is going to pass.

[01:00:49] And I think while they're doing that, a lot of economic policy is being implemented every day, every hour, and week.

[01:00:55] And that's probably more important in driving things a little bit.

[01:01:01] I think the other thing I talked about was valuation losing its import, which I think most people think on going there with that.

[01:01:12] And then I'd also maybe just say, too, that in many ways, I think Main Street sentiment, cultural sentiment, what I call it, is far more important for investors than Wall Street sentiment.

[01:01:26] We have a lot of bull bear indicators and that kind of stuff.

[01:01:29] But I think what the real potential or risk of a stock market a lot more often has to do with culture sentiment on Main Street.

[01:01:37] I guess those would be the truth made, I'd say.

[01:01:40] It's great.

[01:01:41] And the last one is, based on your experience in the markets, what's the one lesson that you would teach your average investor?

[01:01:49] Oh, that's a great question.

[01:01:53] I think the biggest thing, maybe it's not nothing new, but it's just true to me that, you know, as a professional asset manager for many years,

[01:02:04] the reality is, I think we impact just a small core part of acre-level material material.

[01:02:13] I mean, probably less than 10% of the total result is going to be due to our decision if we add value.

[01:02:22] We're talking 10% or less that we add, truthfully.

[01:02:25] Because the reality is, you take in a pot of assets and the vast majority of it is already spoken for.

[01:02:33] It has to be this much diversified.

[01:02:36] It has to be here, here, and here.

[01:02:38] And then you're really only playing with the last little bit of it as your bet overlay on top of it.

[01:02:45] And I guess, Mike, I really kind of believe that, that we're just adding a little bit on the end.

[01:02:50] And the worst sin you can do as an asset manager is lose track of the fact you're trying so hard to put your footprint of outperformance on it,

[01:03:00] that you blow the other 90%.

[01:03:02] And that is, you know, you get too bearish, whatever, or too bullish and, you know, get it too aggressive or too conservative.

[01:03:12] Probably more, you can get yourself too bearish and you miss out on the way most of us make most of our money.

[01:03:19] That is, we're just there.

[01:03:21] You're just in.

[01:03:22] You're just along for the ride.

[01:03:25] Because again, the markets go up 10% a year over time.

[01:03:30] We might add 1% to that maybe if we're good or whatever, lucky or whatever.

[01:03:35] But we don't want to lose track of the fact that it's the biggest part, just the market itself, not us, that makes that.

[01:03:42] The only other thing I'd say is, is that you realize that it's okay to be wrong in this business.

[01:03:52] It really is.

[01:03:53] If you're not, well, ever, which I, the only way I can think you can't be wrong is, is that you're basically a closet indexed.

[01:04:02] That you sell yourself as an active manager, but you'll closet index you because the way you're never wrong is you never take a bet.

[01:04:09] You're always just indexed.

[01:04:12] And if that's the case, you won't ever run it before, but you really won't ever add any value for the client as well.

[01:04:20] And so the only way to add value is to take risk.

[01:04:24] And that means whenever you take risk on a regular basis, you're going to do wrong sometimes.

[01:04:28] And I think that's okay.

[01:04:30] That's okay to realize.

[01:04:31] It's okay to tell your clients.

[01:04:33] I guess those are the things I'd say.

[01:04:36] And most of those are words from humbling experiences myself.

[01:04:42] Well, thank you very much, Jim.

[01:04:45] We've really enjoyed this conversation and our audience will too.

[01:04:47] So really appreciate your time.

[01:04:48] Thank you.

[01:04:49] Thanks so much for having me, guys.

[01:04:50] Great to meet you.

[01:04:51] This is Justin again.

[01:04:51] Thanks so much for tuning into this episode of XS Returns.

[01:04:55] You can follow Jack on Twitter at PracticalQuant and follow me on Twitter at JJCarbono.

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[01:05:08] We appreciate it.