We're excited to share today's guest's take on the markets – especially following his April 2020 appearance on the show when the market was clawing its way back up from its March 23 bottom.
This week, Dan welcomes back Mitchel Krause to Stansberry Investor Hour. Mitchel is the managing principal, chief commercial officer, and founder of Other Side Asset Management, an investment firm focused on capital preservation, risk management, and transparency. A 20-plus-year veteran of the financial services industry, he has served as first vice president at Stifel and Ryan Beck & Co.
Mitchel was last on the show in April 2020... not long before Federal Reserve Chair Jerome Powell admitted the central bank had "crossed a lot of red lines" with its aggressive emergency measures during the pandemic. Today, Mitchel says, "Every time I look, the data is different and it looks worse"... from bubbles popping in crypto, housing, equities, and U.S. Treasurys to the negative wealth effects of consumer spending tanking and inventories rising. And he's wondering just what the Fed might do next...
You're seeing it in all the data, and yet Wall Street's estimates haven't come down nearly enough for Q4 or Q1 of next year. So this will continue for probably the next three-plus quarters. [...]
We're probably closer to still a top than watching this all bottom out. The question becomes what red lines are crossed in order to try to possibly save this. That's the risk every central banker essentially tries to plan something... We'll pivot if we need to pivot from our positions.
Mitchel also believes we're currently in a "disinflationary investing regime." He says you should analyze "how the markets are looking at things" rather than relying on backward-looking metrics like the Fed-favorite Consumer Price Index. And instead of readily believing the headlines, he urges listeners to demand more evidence, more data, and do their own research.
Furthermore, Mitchel says you should "prepare yourself for another two or three quarters of what you've just seen" and make capital preservation your No. 1 goal right now. He also warns against falling into the trap of trying to time the market bottom. Lastly, Dan picks Mitchel's brain about positioning, especially since he "has never talked to anyone holding 70%-plus cash."
Managing Principal and CCO of Other Side Asset Management
Mitchel Krause is the founder, managing principal, and chief commercial officer of North Carolina-based Other Side Asset Management. He began his career in finance at Ryan Beck & Co.'s Private Client group, where he focused on bank stocks and municipal bonds as well as first- and second-step mutual savings bank conversions. Mitchel then transitioned to a hybrid institutional sales and sales trading position in the Bank Services group. There, he handled corporate buybacks (including 10b5-1 plans), trading, and exercising cashless options for executives. He also participated in numerous syndicated deals and capital raises, primarily in the small- and mid-cap-bank stock arena, and served as first vice president at Stifel.
After witnessing firsthand the emotional reactions from retail investors and brokers during the dot-com bubble and the 2008 to 2009 financial crisis, Mitchel stepped away from his role at Stifel to focus on individual investors. He founded Other Side Asset Management to educate and empower folks on the "Other Side" of the investing story that most Wall Street firms overlook.
Dan Ferris: Hello, and welcome to the Stansberry Investor Hour. I'm your host, Dan Ferris. I'm also the editor of Extreme Value, published by Stansberry Research.
Corey McLaughlin: I'm Corey McLaughlin, editor of the Stansberry Digest. Today, Dan talks with Mitchel Krause, Founder of Other Side Asset Management.
Dan Ferris: And there's no mailbag this week, but you can always write to us at [email protected] or call the listener feedback line at 800-381-2357. Tell us what's on your mind, hear your voice on the show. For our opening rant this week, we'll talk about oil, the United Nations, and investors going to cash like it's 2020 again. That and more right now on the Stansberry Investor Hour.
Oil has once again gotten into the headlines. Oil's in the headlines. It's just going to stay there, I think, for a couple of years because OPEC+, OPEC plus Russia, has decided to cut production 2 million barrels a day... and the U.S. hates it, of course, and WTI is like $90 and the international numbers – Brent crude, Bonny Light – all that stuff is mid-$90s... $94, $95, $96, whatever. So here we are with $90 oil. And I don't know. Like a little while ago, I wanted to be short oil, right?
Corey McLaughlin: Me too.
Dan Ferris: Yeah, but –
Corey McLaughlin: I think there was a debate on whether it was going to go down a lot because of a recession or now we're back in the camp of "will it go higher because of a supply crunch?"
Dan Ferris: Right. So I think the fundamental dynamic here, I don't think it's changed. It's always been, you know, the green movement, the environmental movement's assault based on climate change or whatever and the whole anti-fossil-fuels thing. It's always been that underlying a reluctance to invest in new production. But then wham you hit it with a war in Europe and that just sort of lit a match on it so we get a spike and then, ugh, there actually was an opportunity to short which of course we both missed probably. And now, I think, I don't think you can be short on that recession thing although if it happens, not a surprise. If we get back to $60 or something in a recession or $50 or whatever, not a surprise. Nothing would surprise me but I think that fundamental dynamic stays in place because people still seem to hate fossil fuels.
Corey McLaughlin: Right, and normally you would expect oil prices to be correlated with like expectations for economic growth or slowdown, but it's just not right now. Very recently it had been over the summer. So I wrote a little bit about this week because Matt Weinschenk, our director of research, wrote about it in Portfolio Solutions about how oil prices and energy stocks have been uncorrelated to the broader market recently.
Dan Ferris: Nice, yeah.
Corey McLaughlin: Yeah. So I think what you're saying all plays into that into the performance we're seeing it.
Dan Ferris: Yeah, so I don't want to do anything but look at oil companies and figure out which one I want to own next. That's all I want to do. I don't want to sit here and try to second guess it because I think I know – like you say, it's economically sensitive. We think a recession's coming, whatever. That means a lot less to me than the fundamental under the actual oil market which I think is bullish, and it's bullish like – I don't know. I can't say "indefinitely" because it's so highly cyclical, but, you know, I can't see the end of it right now. Put it that way. I can't see anybody backing – truly backing off from this anti-fossil fuels thing. So here we are. Got to be long oil, I think.
There's another thing that's absurd that I have written about in my latest Stansberry Digest that I have to talk about because it's so absurd. It's one thing that we get an analyst from Morgan Stanley saying, "Oh, the Fed's got to pivot soon. They've got to do it. You know, they're causing too much damage." Whatever. It's one thing if we get an article like that on Bloomberg or something, but it's another thing entirely if we get yet a third type of sort status quo keeper institution, the United Nations, actually opining on U.S. monetary policy and saying that the Fed is going to break the world. They're going to cause untold economic damage. They even put some number on it like $360 billion of global income that's not going to be there if they don't turn around and pivot. I thought this was absurd. I just can't fathom the U.N. opining on monetary policy.
Corey McLaughlin: It was unexpected when I saw it this year, I mean, this week, but it was in their annual report. It was attached to this U.N. agency's annual report so they've obviously been thinking about it for a while. To be honest, I guess they should if you're representing every country in the U.N. and developing nations and obviously a stronger dollar is hurting them. But for the U.N. to be telling the Federal Reserve essentially – and it wasn't just the Fed. They said basically other central banks, too, what they should be doing, I mean, shows you just where we are as a world right now.
Dan Ferris: Yeah, I think the U.N. is like they're an absurd organization. They should be like, you know, when the Khmer Rouge took over in Cambodia, they should have been like, "Oh my god, these people are genocidal maniacs." Instead they like recognized the regime. They thought it was OK. They downplayed the human rights stuff. I was like you're joking. And they do that. There are many examples of them doing things like that. You know, it's like everybody's included even the murderers and rapists. Everybody is welcome. It just makes no sense to me whatsoever. And then for them to sort of, I don't know, pick up on this and think that their opinion matters at all, it's just kind of –
Corey McLaughlin: I don't think it does anybody any good either to have an agency like the U.N. –
Dan Ferris: Right.
Corey McLaughlin: – questioning central banks. I mean, we question central banks, fine... but if you're the U.N., that's a little different because I actually think they're right when one of the quotes from it was "Any belief that central banks will be able to bring down prices by relying on higher interest rates without generating a recession is an imprudent gamble" is what they said.
Dan Ferris: Yeah.
Corey McLaughlin: I actually think that's right.
Dan Ferris: Admitted, yes. Admittedly. Absolutely.
Corey McLaughlin: But still, what good does this do? I don't really know.
Dan Ferris: Yeah, you know, keep it to yourself. We all know the situation. We all know exactly what's going on. They raise rates too high, well, the economy tanks. They keep them too low for too long, mph, inflation picks back up. Actually, it picks back up, it's still up so. It's a difficult thing, but the Fed also created this mess itself just by existing, you know? None of these status quo keepers say, "Hmm, maybe the Fed shouldn't exist."
Corey McLaughlin: Right.
Dan Ferris: Maybe we shouldn't have –
Corey McLaughlin: Yeah, let's just get rid of the Fed.
Dan Ferris: That's right.
Corey McLaughlin: If they said that, it'd be like, all right, I'm on board.
Dan Ferris: I'm on board, yes, absolutely, so.
Corey McLaughlin: Let's come up with a new idea.
Dan Ferris: Yeah. So who can blame all this higher oil prices and higher interest rates and everybody concerned about everything, who can blame investors according to BoA says, "Investors are fleeing to cash like it's 2020." And they say, "Cash sees biggest weekly inflows since April 2020. Like is this my contrarian moment because so far the mistake has been not being bearish enough.
Corey McLaughlin: Right. So far if you've been paying attention to all those sentiment indicators where people say, "Oh, everybody is so bearish," it's been for a good reason so far.
Dan Ferris: Yeah, they've been right.
Corey McLaughlin: They've been right. You know, usually you look at that as a – in a bull market, you would look at that as a contrarian indicator and say if you're bullish and people are bearish, then yeah, that's a contrarian, a good contrarian indicator."
Dan Ferris: Right.
Corey McLaughlin: But in a bear market, if everybody is bearish, I don't know what that means. I mean –
Dan Ferris: That means they're selling, right?
Corey McLaughlin: That means they're selling, and you see it in the performance of everybody selling. If there's more downside ahead in the market and people are going to cash now, great for them. The time to really have gone to cash would have been in January/February or last year even when tech stocks were peaking.
Dan Ferris: Right, November, right? So yeah.
Corey McLaughlin: So yeah. I mean, this could be a contrarian signal as far as maybe we're close to that capitulation moment. But still, I don't know, it doesn't feel that way.
Dan Ferris: So what's your sense? Let's say we're there. This is a moment of capitulation.
Corey McLaughlin: I don't think right now is –
Dan Ferris: Let's just say we are, hypothetically, right? So I'm going to give you two choices: rip-snorting bear market rally, still a bear market or bottom, over, new bull market? Those are your choices. Which one do you like?
Corey McLaughlin: Oh, I like the bear market rally –
Dan Ferris: Yeah, rip snorting –
Corey McLaughlin: – till proven otherwise.
Dan Ferris: Exactly. And you know, we do get these up days that are like 2%, 3%, 4%, even 5% not too long ago. And like people have seemed to have forgotten, like during bear markets, the market doesn't just crash down. It crashes up, too. This is normal. This is all normal bear market stuff.
Corey McLaughlin: Yeah, I think most people who maybe haven't lived through a bear market or paid close attention to one don't understand that. I know I didn't, but now the rallies in bear markets are some of the biggest rallies you'll ever see. That's why they catch a lot of people off guard and fool a lot of people, I think.
Dan Ferris: Yes. So go online and Google like, you know, largest one-day moves of the Nasdaq and it will take you somewhere that will show you the biggest up days. You know, even like double digits, 10% or more, they were all in a bear market before the bottom. So, you know, there's not a lot of data points there, but that –
Corey McLaughlin: The closer to the bottom you get, the bigger the rallies tend to get, if I'm correct.
Dan Ferris: Exactly. And my theory there is of course the market, it needs to work harder to lure you back in before it cuts you off at the knees again, I think.
Corey McLaughlin: Yeah, it just keeps fooling people the whole way down until nobody cares anymore. I mean, I think we've both written that. When it's the actual bottom, people won't want to be touching stocks at all.
Dan Ferris: No, they won't and that's how you'll know. Like there won't be anybody talking about like this is the bottom. You know, stocks are cheap. They might say stocks are cheap, but, you know, they're not going to want to buy them. I totally agree. You know, the conversation will basically be over at that point and then that's when Corey and Dan will say, "Hey, did you see how cheap so-and-so is?" I think you can do that in Europe right now, but with all the stuff that's still basically at, depending on what metrics you use, at the 1929 highs, right? So the other mega bubble, you know, it's just –
Corey McLaughlin: The valuations, they're still way up there, and yet earning season coming up and a lot of people don't believe that that has been priced in yet.
Dan Ferris: I made fun of Morgan Stanley, but even that guy, Mike Wilson from Morgan Stanley says, "Yeah, the Fed has to pivot." But he says, "It's probably not going to matter. Earnings recession is coming. We can't avoid it." So yep, I think we're all in agreement there. Anyway, there's not a lot to make me feel – there's like nothing to really make me feel bullish yet. And I want there to be. I want to be the contrarian, right? I want to be the guy that says, "Yeah, you can buy now." But I don't know. Maybe I've missed it. Maybe I haven't, but I'm just not there yet.
Corey McLaughlin: Me neither, yeah. I think bear markets will make you question things, but you got to just kind of stick with your plan and know your goals and go from there.
Dan Ferris: And for me, it's like the problem is all of these things, like there are certain indicators like momentum indicators. Jason Goepfert at SentimenTrader publishes this stuff and some of it, every now and then he'll publish a really a bullish-looking one. But I'm like, "Well, biggest mega-bubble ever," you know, the bear market of the biggest mega-bubble ever, of course, those things are going to hit records, right? We're recalibrating those records, I think. So even though truly bearish stuff in market action, price-action volume, it just doesn't fire me up the way it used to. All right, I think that's enough of that. I think we've gotten the message across that, you know, we're trying hard to be – well, we're not trying especially hard to be bullish, but we can't do it yet. We are just not there, and I think this is a good moment to introduce our guest. He is one of the very few people who did go to cash. He's got an incredible amount of cash in his portfolio, so we have to talk to him at this moment. So let's do that right now. Let's talk with Mitch Krause. Let's do it right now.
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All right, our interview today is someone who was with us about two-and-a-half years ago in April of 2020... and he's back again. Mitchel Krause from Other Side Asset Management. Mitch, welcome back to the show. Really happy to have you back here.
Mitchel Krause: Thanks, Dan. Thanks for having me. I greatly appreciate it.
Dan Ferris: Yes. So let's talk a little bit about back then in April 2020.
Mitchel Krause: All right.
Dan Ferris: Things had just started turning up, right? The bottom was, what, March 23?
Mitchel Krause: So the bottom was March 23, yep. Things started collapsing on February 19. We recorded sometime early March, but the episode didn't come out until April 9. So there was a lot of things that transpired that we really didn't get a chance to talk about based upon the timing of the release, yeah, yeah.
Dan Ferris: Interesting. So let's rewind. Let's give you a chance to cover this stuff. I mean, a lot of what happened – well, first of all, let's give credit where it's due. Like, you know, stuff happened that you were basically talking about at the time, right, so.
Mitchel Krause: At the time, yes. Things were happening. If you removed coronavirus from the equation, you had both growth and inflation rolling over at the time. That would pose for a typical disinflationary investing regime, and we could explore a bunch of different things. Hedgeye coined it a disinflationary regime and they named the four different regimes as their quads. But at the same time, that led for a disinflationary investment regime and things started to topple. Currently, we are in a disinflationary investing regime, and I'm sure we'll talk about this a lot more, but let's talk about back then because what we started talking about – and we had just mentioned – I left you off with a couple different things.
The one thing for all listeners to remember was belief system. Don't get trapped into a belief system. The second thing was everything goes down together during a crisis and we talked about the DALBAR report. And clearly, everything is going down together but the dollar which I'm sure we'll talk about. One of the things we talked about at length, I didn't convey properly everything that I wanted to convey but bond market ETF structure. As you and I were just talking about offline, the markets bottomed on the 23rd of March... but they didn't stop going down when the Fed cut rates. They cut 100 and then 125 basis points. and they didn't stop going down. They didn't stop going down when QE was reimplemented, if you will.
They ultimately stopped going down when the Fed started guaranteeing corporate and junk bonds. They gave corporate and junk bonds an open window to borrow. Very few took them up on the offer, but nonetheless, they gave the guarantee and they started to buy junk bonds through things called SPVs, special purpose investment vehicles. And they also handed BlackRock pretty much a blank check to stabilize markets, if you will. The interesting part about our conversation from that day so many years ago was the fallen angel risk is a structural phenomenon that would happen when BBB-rated securities are downgraded to junk. The reason why that's important is because –
Dan Ferris: Mitch, BBB being the lowest investment grade rating, just so everyone knows. So when you fall below BBB, you're a fallen angel because you've fallen from investment grade to junk. So continue.
Mitchel Krause: No, I was just going to go into that's exactly right. The importance of that is, as Dan points out, that there are many companies, the vast majority of companies out there and I'm talking about bond funds, bond ETFs, financial institutions that can only own bank investment grade. So the structural issue occurs when a bond is downgraded to junk most of those companies have to sell. They have to sell. Some experts will say that "well, you'll hold on to it"... and at that time, we talked about how I talked to a lot of attorneys who are in the industry. I talked to a lot of CFOs at the time because I had done a whole lot of CFO corporate buyback business on my institutional stint for about a decade, and most of the individuals said that they would sell those bonds right away, from a liability standpoint.
So what the Fed did was they started buying and guaranteeing junk bonds or stabilizing the market. The interesting part is they backdated that two weeks from April to March 23 or March 22, if I remember correctly. That was two days before Ford was downgraded from BBB to junk. If we're putting it all together, Ford at the time I think was a $240 billion in debt company and the overall junk market was roughly $1.1 trillion in size. So what you were going to have is nearly a fifth to just under a quarter of the entire size of the junk market dumped into the market at one time. There's really no way that the market would've stomached that from a structural standpoint, and you would have just had outright collapse within that market from a structural standpoint. But that's kind of –
Dan Ferris: Right. So you were telling me just before –
Mitchel Krause: Yeah, go ahead.
Dan Ferris: – just before we hit the record button you're telling me basically Jerome Powell said they had "crossed many lines" and this was –
Mitchel Krause: Jerome Powell used that as a quote... crossed many red lines, red lines.
Dan Ferris: Many red lines. So this is one of the red lines. In other words, he was really backstopping the thing two weeks before he told the world that he was backstopping it.
Mitchel Krause: He might not say that directly, but if you're connecting dots –
Dan Ferris: We would.
Mitchel Krause: – if you're connecting dots, there's no reason to backdate something... and then also in the note that they put out when they said that they were going to backstop these companies, they also said they would backstop fallen angels that were adversely affected by the coronavirus pandemic or something like that. So they tried to do it in a way which it's OK to cross a red line... but at the end of the day, no, they crossed the red line... and Powell said as much. The crazy part is that dynamic still exists. So you still have a ton of fallen angel risk that could happen today.
The nuts part is the SPVs that they were using to backstop these bonds, that backstop doesn't exist anymore. So we noted in our September monthly, last September, so a year ago plus, we wrote a piece and I want to say it was called "The Shootout's Brewing" or something of that nature. In the 2020 CARES Act that was passed at the very end of December just before the New Year, Senator Pat Toomey put legislation into that CARES Act that removed the Fed's ability to buy these junk bonds through these special purpose investment vehicles. So the Fed, in theory, can't do this or shouldn't do this without congressional and Senate approval. Now, this isn't a political podcast but at the same time, I'm not quite sure how coordinated things are going to be in the not-so-distant future, especially with the midterm elections coming. So I'm trying to say that diplomatically.
Dan Ferris: Why do I immediately get the impression that if Jerome Powell needed to, if he needed to step in, let's just say, that Congress would be perfectly OK with it? In fact, I'd go even farther and say they wish he would get off his ass right now. That's what I think.
Mitchel Krause: Well, did you just see what the U.N. said?
Dan Ferris: I did.
Mitchel Krause: The Wall Street Journal article that it just hit where the Wall Street Journal where the U.N. is calling on the Fed and other central banks to halt interest-rate hikes. That's a quote. So everybody and their mother is calling for these hikes to be stopped. At the end of the day though, it doesn't matter if they're stopped. Like they've gone too – in our opinion, they've gone too far, too fast, and the demand destruction is just starting to show up. It's showing up in anywhere you look. It's showing up in housing. It's showing up in – I think your most recent ISM manufacturing number was just contractionary, right? ISM manufacturing –
Dan Ferris: Well, it was like right down at 50 before –
Mitchel Krause: But 47.2%, we printed.
Dan Ferris: Oh, 47.2%, OK, so...
Mitchel Krause: So that's contractionary, yep.
Dan Ferris: Yeah, and south of 50% so wow, OK. Poof, man.
Mitchel Krause: Yeah, we're definitely in interesting times. I mean, the markets right now, we're literally staring at a global recession... and when I say global, I mean, we're talking about pretty much all – we're talking about just about most countries out there. I had some stats in my last note. I want to say that 83% or 87% of central banks are raising rates. The vast majority have a disinflationary investing regime for the next three quarters. I think it's 46% have three quarters in a row of disinflationary investing regime, and two quarters in a row 86% have two quarters in a row of disinflationary investing regime. That nowcasting comes from Hedgeye. They've been literally spot on with their data points and their nowcasting.
Dan Ferris: But the other thing, too, every time somebody wants to – you know, when I'm talking with anybody, like tweeting, talking on the phone, anything, and we start throwing around the terms inflation, deflation, disinflationary, like my paradigm at this point is like don't make any assumptions because you mentioned the dollar a moment ago because everybody says well inflation means a weak dollar, right? Well, it might mean higher CPI prices on things, but globally speaking, you know, it's the best worst alternative. It's all fiat currency, but the U.S. dollar is really strong against yen, euro, all the stuff baked into the DXY Index so –
Mitchel Krause: Right. Did you see Daniel Akai's recent piece?
Dan Ferris: No.
Mitchel Krause: You've had Daniel Akai on before, right? I'm pretty sure or no?
Dan Ferris: I don't –
Mitchel Krause: I thought you did. I could be wrong. He is awesome. He just wrote a piece talking about exactly what your point is to the extent where he's saying the dollar is not strong regarding purchasing power. It's just strong, relative to the countries whose currencies are collapsing at a faster rate globally.
Dan Ferris: Exactly.
Corey McLaughlin: You nailed it.
Dan Ferris: Well, we had Brent Johnson on recently.
Mitchel Krause: Oh, I didn't hear.
Dan Ferris: The dollar milkshake guy.
Mitchel Krause: Yep, I didn't hear Brent talk but he's had the milkshakes theory for quite some time.
Dan Ferris: Yeah, and really to give credit where credit's due, too. We had Raoul Pal on before COVID, like early in 2020 and he was saying, yeah, dollar can be strong and gold can be strong at the same time. Don't be too dogmatic about these things. Brent said basically the same thing. Take your assumptions, throw them out the window, and look at what is actually going on. Be more scientific.
Mitchel Krause: So I would agree with them to an extent, and I disagree with them to an extent. They can be strong at similar times. At the same time, the dollar is typically only strong in what would be considered a Quad 4 disinflationary environment, a Hedgeye Quad 4 or a disinflationary environment where both growth and inflation from a GDP standpoint and inflation are rolling over simultaneously at the same time. That started roughly in the second quarter and where most people thought that I and a handful of others were kind of crazy. Topping on inflation is a process.
Along with topping being a process, the markets will discount things well in advance, right? So just because you don't see the headline CPI topping doesn't mean that you can't have a disinflationary investing environment. Most people, including the Fed, don't really understand or don't really calculate the CPI directly. Well, let me rephrase. Most people use headline CPI as their barometer and headline CPI is the Fed's mandate, right? But when you have lumber rolling over and cocoa rolling over and coffee rolling over and rubber rolling over and you name it, you can have a disinflationary investing environment with the understanding that there are many inputs to that CPI that have certain lead lags.
So agricultural inputs would have a roughly seven-plus monthly lag. Housing has a 12- to 15-month lead lag which is what's going to continue to put inflationary pressure upward, right? So if you had housing peak in July of '21 and you have a 12- to 15-month lead lag and then you have nine-plus months of sideways movement on housing and now you have an outright collapse within the housing market due to 7% mortgage rates, that's not going to show up as a disinflationary sign within the headline CPI... but that is what the Fed is looking at, right? So oil is concurrent to one month on a lead lag basis. So if you kind of understand how markets are looking at things as opposed to how the CPI is actually calculated, you can come up with a disinflationary investing environment where everybody is saying, "What? Are you crazy? Inflation is skyrocketing." But the market itself was telling you that it was disinflationary market with the market being down as much as it was starting early January.
Dan Ferris: Right. So markets are looking ahead while all these other – CPI is looking –
Mitchel Krause: CPI is looking behind.
Dan Ferris: – is looking backward.
Mitchel Krause: That's exactly right.
Dan Ferris: And the real point here though, the Fed is always kind of late to the game because they are using this backward-looking metric –
Mitchel Krause: Hundred percent.
Dan Ferris: – and insisting that it be down at 2% when it's at 8 –
Mitchel Krause: Correct.
Dan Ferris: – with mutual funds south of 4. I mean, it's just –
Mitchel Krause: That's exactly right. The other metric that the Fed is looking at is what?
Dan Ferris: Besides CPI?
Mitchel Krause: Besides CPI. What do they keep touting as strong?
Dan Ferris: Unemployment. Employment.
Mitchel Krause: Employment.
Dan Ferris: Yeah.
Mitchel Krause: So what is the latest of late cycle indicators? Employment.
Dan Ferris: So yeah.
Mitchel Krause: And the reason employment is the latest of late cycle indicators is because you have to have the full investing cycle of now, you know, Target reducing their numbers, Walmart reducing their numbers, FedEx reducing their numbers, Apple reducing their numbers. Everybody and their mother are reducing their numbers now. So none of them saw this coming. Everybody in the first and second quarter were like we're good, we're good, we're good. Then FedEx just said, "Hey, the macroenvironment deteriorated significantly over the last handful of weeks which has just put us at a 50% delta." Like they missed by – they adjusted their numbers by 50% and no one saw it coming.
Dan Ferris: It was like from five to three or something. It was insane.
Mitchel Krause: It was 550 to 275. It's 50%. You're right. I mean, we're literally talking rounding errors.
Dan Ferris: Wow.
Mitchel Krause: And I mean, the crazy part is there were a handful of people, there were a handful of us who saw it coming. Hedgeye prepared their guys. I prepared my guys. My most recent monthly and I don't want to – I'm not trying to tout it, but we literally said September of 2021 that by the Q2, by the second quarter of 2022, the deceleration in growth via GDP earnings should be very noticeable at the time. Second quarter is also when we should begin to see a real deceleration in inflationary pressures as well. So we weren't bearish in September. We weren't bearish in November. Even in December I think we wrote, you know, we wrote now is not the time to be bearish but it's coming because the second quarter is going to come quickly and then things will be discounted in advance. Then in January when things started discounting it, we changed our positioning knowing what was coming. So we've performed very, very well this year relatively speaking. We're a stone's throw away from being flat where most people are down 25% to 35%.
Dan Ferris: How much cash you holding, Mitch?
Mitchel Krause: As of today 72%.
Dan Ferris: Whoa. Can't do that with a typical Street mandate.
Mitchel Krause: No, you can't. That's the problem, right? So we have currently 72% in cash. We have 9% as of today in UUP which is the dollar which is up about 19% year to date. So then we do have some short exposure. I have less short exposure on today than I want to have, and the reason why I have less short exposure is based upon certain restrictions in how we're able to manage assets across the board in the same way where we don't want there to be any conflicts of interest. So everybody gets treated the same way. Everybody gets the same price. Everything is done on a discretionary basis. So sometimes we get some of our short exposure via inverse ETFs. When you have credit default swaps blowing out as they are and everybody is now touting Credit Suisse's credit default swap blowing out, but Credit Suisse's credit default swap blowing out or Deutsche Bank's credit default swaps blowing out is not isolated.
Many credit default swaps, both sovereign globally and company specific, have been widening and things do happen slowly, slowly, slowly. Then as Keith McCullough says, "All at once." And right now you're starting to see the "all at once." So it's one of those things where when you start to have risks show up within the system, dealing with counterparty risk, as short as I want to be, if I'm getting some inverse exposure through some ETFs, I'm going to take less risk even on the counterparty risk side because when you're buying an inverse ETF, you're pretty much buying swaps with different firms. It's just one of those things where I'll take the stone's throw from flat and just risk less, right? So now's not the time to be a hero, in my opinion.
Dan Ferris: Oh man. You can say that again. I'm basically scouring the world for everybody who is giving that message out because let's face it. It's like Jeremy Grantham. I keep quoting him on this because I think he nailed it right. Eighty-five percent of the time he says and I would go further, I would say 95%... but he says 85% of the time you're fine. Even in a run-of-the-mill kind of bull market, you're just buying all the time and you're finding deals when stocks are down and so forth and so on but the other 15% of the time you are dealing with the unwinding of a massive, what he would call a superbubble, I think he calls them. I call them mega-bubbles. It's a different animal. If you try to average it with all the rest, you'll be wrong.
Mitchel Krause: So that's the thing about averages. I mean, this is literally the bubble of – it's the bubble of all bubbles, right? So and they're imploding one by one. So, what... crypto is down 75%? The housing you've lost about $3 to $4 trillion, year to date, and that's just with things starting to roll over at an expeditious pace. Equities have wiped out nearly $10 to $12 trillion, and Treasurys, right?
Dan Ferris: Yes.
Mitchel Krause: So that's the assumption, right? The assumption is always, well, the 60/40 portfolio of Treasurys. And remember back to what we said, a belief system, back what I said. The belief is that you have the 60/40 and this will always work. Yeah, well, what happens when your largest buyer of Treasurys doesn't show up to buy and they start reducing the balance sheet?
Dan Ferris: Yeah.
Mitchel Krause: You've had 20-plus years of markets which have been manipulated or they've been played with, right? So manipulation might not be the proper word but they've –
Dan Ferris: Well, backstopped, right?
Mitchel Krause: Backstopped. Hidden. Not able to trade freely, right? And when you have 20-plus years of that, you really don't know what should happen. So we wrote about this in I want to say it was early 2018 where we talked about rates being held – suppressed is the word I used. Rates have been suppressed, held so low for so long that almost everybody who could refinance did refinance. So now what you get is you get your cost of capital literally exploding, right? So you have corporate – and this is across the entire dynamic. It's from the consumer to the corporation to the sovereign country. Everybody was in at a low price. Everybody was borrowing money at a super, super low rate.
Dan Ferris: Everybody bought at the top, right?
Mitchel Krause: That's right. You have so much leverage in the system. You have margin expansion. You have all of this debt piling on top, piling on top. Then when interest rates go from 1% to 2%, everybody is like, well, it's only 1%, right? No, it's not. It's 100%, right? So you nailed it. I mean, so you have this cost of capital is exploding. The value of collateral is getting hammered, right? The value of collateral is getting hammered. So when you have all this collateral which is getting hammered, right, it's one of those things where you have a system which can't handle it. You now have all these companies trying to reprice their debt at levels that don't make sense. So then labor is going to suffer, right? Labor is going to suffer because now everybody has got to cut their books, cut their forward projections. When they cost cut or they cut the fat, that's what happens. They cut the fat and that's layoffs.
Dan Ferris: So a couple of things you've called to mind. One is Charlie Bilello is a great follow. He puts out a lot of cool statistics on Twitter. He had the performance of 60/40 portfolios... this is the worst year since any guesses?
Mitchel Krause: I would say ever. Or '29.
Dan Ferris: 1931.
Mitchel Krause: Twenty-nine, right? Ever.
Dan Ferris: So, 1939... wow.
Mitchel Krause: 1939 or '31?
Dan Ferris: Thirty-nine... or '31, '31, '31.
Mitchel Krause: '31? OK.
Dan Ferris: I mean, and worst Treasury – worst six months in the U.S. Treasury markets since 1788. Literally since it was invented it was never this bad. You know, I still see people like saying, well, the sentiment is poor and they want to buy and they want to get bullish. I don't think it always works that way. Like I said, 85% of the time it does. The sentiment is poor, you buy. I think sometimes the sentiment is poor because actually people feel bad but they even still don't appreciate what's coming, you know? It may be very poor. There may be a two-week bounce or a one week, whatever it is... but they still don't appreciate exactly the position that they're in today. And what I would say, you could, you know, push back if you like all you want. That's why we're here talking. But I still feel like we're closer to the top of this whole mega-bubble than anywhere near the bottom. I'm just still uber bearish.
Mitchel Krause: So I don't know if you heard it on your end, but what popped on in my ear was the Hedgeye Q4 themes, macro themes update which their paying subscribers get. That was Steve McCullough talking, and he's been saying all along that when people ask him where is he wrong, he continues to say that he's not bearish enough. That the data just is going to get smoked and continue to get smoked. One of the reasons why the data will – well, among other things, one of the reasons why 2Q '22 was relatively easy to call, right, was because Josh Steiner put out a data point which was readily available to most people but most didn't see it where there was a $1.4 trillion spending deficit and most of it to hit Q2 this year because you had so much of a ramp up last year, right, with COVID and then you had that drop-off. No PPP, no this, no that. That's based on your one-year comps as well. You had this huge falloff. Now you've continued to have this falloff and then what happens now is the acceleration of everybody talks about the wealth effect on the positive side, but they don't talk about the aspect of the negative wealth effect.
Dan Ferris: True, yeah.
Mitchel Krause: So when you have less, you're not going to – when you have less and less is in your brokerage account, if people are down 25% to 35% for every million, so to put that into perspective, people sometimes forget. For every million, people are missing $250 to $350,000. We're down about $30,000, right? I hate losing money. By the end of this – maybe $40,000, $35,000, or $40,000 depending on the day. By the end of this, I want to be up and I think we can be if we just play it properly but I also have to play balances and things like that and that's where we are today, right?
Dan Ferris: Right.
Mitchel Krause: So with that being said, when people have that much less money in their accounts, they are not going to go out and spend as much money. When all of these people went out and bought second homes and carried second mortgages and now the value of those – Redfin's data was out just the other day where luxury home sales were off 28% month over month. Did you see that?
Dan Ferris: I did not.
Mitchel Krause: Fastest deceleration since the data came out. So if you look at just the simple what eventually is the housing market sees some form of equilibrium, if you were going to buy a $400,000 house at a 3% mortgage, do the math. That house has got to be worth like $272,000 now to get the same payment. I mean, that's a – I want to say it's $250,000. I could be wrong.
Dan Ferris: That's fine, yeah.
Mitchel Krause: Right. I haven't done the math in a couple of days with now – because it seems like every day, interest rates are higher, right? Before, they were 6.27%, then they were 6.79%, and now, they're 7% with the points and whatever. So every time I look, the data is different and it's worse. Every time it gets worse, the wealth effect just hits harder and – or the negative wealth effect just hits harder and that's less people spending. And you see that in all of the data from the standpoint of, you know, Nike's numbers just came out, right?
Dan Ferris: Yeah.
Mitchel Krause: And what was the sticker shock that stuck out to you? Did you see anything that was just like wow? Did you notice anything that was just wow?
Dan Ferris: Well, no. No. Give me your sticker shock.
Mitchel Krause: Well, my sticker shock was inventories up 62% in the U.S. That roughly $2 billion worth of inventory.
Dan Ferris: That was the one, yeah.
Mitchel Krause: So roughly $2 billion of inventory and nobody is buying. It's why Costco is literally fire-selling everything in their stores. You have $4.97 for pairs of shorts. They have Christmas, Halloween, summertime, and you name it all lined up next to each other because no one is buying and they have this glut of inventory. Just like Target said their inventory was up close to 40%. Walmart said their inventory was up close to 40%. The difference between Target and Walmart is Walmart does more in the food and necessity as opposed to Target which does more discretionary spending. So you're seeing it in all the data and Wall Street's estimates still haven't come down nearly enough for Q4 or Q1 of next year.
So this will continue for the next probably three-plus quarters. So just like you said, we're probably closer to a top, still a top than watching this all bottom out. The question becomes what red lines are crossed in order to try to possibly save this. And that is the risk every central banker tries to centrally plan something. What emergency, what pandemic, what crazy thing is going to miraculously happen in order for them to try to save it because this ultimately becomes systemic at some point. I just don't know when. I don't think anybody does, but we will pivot if we need to pivot from our position standpoint.
Dan Ferris: That will be a hell of a pivot because I'll tell you, I don't talk to anybody who's got 70%-plus cash. Like nobody.
Mitchel Krause: So it's really only 70%-plus because in – my largest hiccups year-to-date outside of being short into the short covering rally into the July "rip your face off" – and again, we played that what I think I could have played it better, but at the same point in time we were following our process and it was just an everyday kind of thing. Then things just rolled over as we anticipated they would. They just lasted a little longer than we had thought they would.
But Treasurys... So we've been in and out of Treasurys a handful of times large in part because Treasurys, A, should work but with the Fed just pushing, pushing, pushing, they haven't. Now, I don't think today's move is a sign to jump into Treasurys just yet. I'll wait for them to confirm at this point in time. I will wait for them to confirm a breaking of trade momentum and trend momentum and see if it starts to move in the right direction. When they break, I can get 8% to 10% in different – 8% to 10% per position in my Treasury exposures along the curve. So I could be 20% cash very, very quickly if Treasurys would actually start working, but there's very little that works in a disinflationary Hedgeye Quad 4. And when the volatility or the VIX is north of 30, almost everything out there becomes uninvestable. So you might get these rallies, but I don't anticipate them lasting with vol north of 30.
Dan Ferris: Right. Nice. I've certainly heard many folks kind of put it at 40 where you're totally uninvestable and it's all bets are off, but 30 that would normally be serious contrarian territory or do I – I mean, you know.
Mitchel Krause: So obviously I've read you guys for years. I think I've been an Alliance guy for 12 years-plus. I've been following Hedgeye now for about 19, 20. They have a quantimental approach where they put different aspects of the market – quant aspects with fundamental research and their nowcasting, as I mentioned, has been second to none. Their volatility ranges are under 20 – anybody can make money, throw dart at the board... 20 to 29-and-change, they label that "chop bucket"... 29.5 and 30, anything north is what would be labeled an "F-bucket," and I'll hold the term. Once you start to get vol of vol rolling north of 30, you see things in most that just goes absolutely crazy. I'll use XLU as an example, right? Utilities. So utilities is typically a very strong disinflationary Quad 4 holding.
Dan Ferris: Risk off, yeah.
Mitchel Krause: Risk off, yep, yep. And once vol started to get toward 30, XLU got hammered last week. Last week alone XLU is down over eight-and-change percent which was down double what tech was down. Right? And that's large in part to not only VIX being north of 30 but also XLU is very interest rate sensitive. So you had the MOVE index, right, the bond volatility MOVE index north of like 158 two days ago, and it's since come off to about 141... but that's basically your F-bucket for bonds. So you have everything from a volatility standpoint is skyrocketing. So you have oil vol skyrocketing, Apple vol skyrocketing. I mean, gold vol hasn't skyrocketed but it's closer to its top end of its range. VXN, right? Nasdaq and both Russell vol were near 37 the other day. They might be down a little bit with the market being up today. So vol is what is going – more vol is what is going to perpetuate volatility. That's why north of 30 is what they would suggest being the F-bucket.
Dan Ferris: All right, so we're there. We're in the F-bucket. That's a funny term.
Mitchel Krause: Yep.
Dan Ferris: So let's actually go ahead and do my final question. I have a feeling this is going to be interesting. The final question for every guest no matter what the topic, finance, non-finance, everything, it's the identical question. That's simply if you could leave our listener with a single thought today, what would it be? I'm dying to hear this.
Mitchel Krause: So where last time I was on, I talked about belief system, right? This is kind of along the same lines as belief system, but it's a little bit of a change-up, right? So today you're probably going to get a lot of people who are going to say "But wouldn't I lose if I sold now? Like if I sold now and if I came out of things now, wouldn't I lose because markets can come back, right?" Everybody is trying to pick the absolute bottom. You're laughing. Am I saying something wrong?
Dan Ferris: Well, no, you've just nailed the mentality. You nailed the mentality.
Mitchel Krause: Yeah. So everybody and their mother is going to say I can't do anything now, right? Because I've always lost 25 or whatever it is. So if the data is lining up, right? So I follow the data. Again, I have great bean counters. I've mentioned their names a handful of times. I don't need to mention them again. If they're accurate – and I do track the data as well. I'm not just taking somebody's word for it which I said don't do last time. I'm not just taking somebody's word for it. I track the data. I track the rate of change. They're just the best at it.
If we do see in another three to four disinflationary quarters ahead of us and we are staring at this globally, right? The Quad 4s are global, the quads are global, Quad 4s are global. It's one reason why we weren't surprised at Apple's announcement because Apple sees 58% of their revenue internationally, 30% from Europe alone and Europe is getting smoked, right? The FAANG stocks see 51% of their revenue international. So just wait until Google announces or Amazon.
So if this is correct, which I have no reason to believe it's not. From the looks of things, from the way the data keeps coming in, from the ISM coming, everything is more negative, more negative, more negative, more negative than COVID and even getting more negative than '08 or '09, then prepare yourself for another two to three quarters of what you've just seen. I will prepare my guys for another two to three quarters at least of this.
If the Fed crosses a red line, I could pivot, but I'm not going to change because the U.N. says, "Hey, stop your interest-rate hikes" because that is not going to stop the corporate profit recession that we're about to see. That is not going to stop the consumer from having zero money. It's not going to stop inventories from building. Right now you're still stuck in the face with CPIs that are going to be hot or relatively hot until at least November based upon the calculation of CPI and the lead lags which the Fed clearly doesn't understand. So the labor report is going to come in at a spot where CPI – the labor report is going to come in at a spot where the Fed is going to say, "Hey, labor is fine," and the CPI is going to come in hot where they're going to keep saying, "Well, we have to be hawkish" in their Volcker moment. Again, I would not get stuck in the belief that, hey, what if I sell now I'm going to miss the bottom. Stop thinking from the standpoint of let me try to pick the bottom and start thinking from the standpoint of capital preservation, capital preservation until you see that moment where they either do something that might work, like drop $10 trillion on the economy and then I'm buying inflation all day long, right? So yeah, that's my thought and I'm glad you thought I nailed the mentality.
Dan Ferris: Yeah. Yep. I've seen all those tweets, man. They're endless. It's part of that sort of whole category of advice that kind of quotes 100-year-equity-market averages and says don't stop buying and all that. It's kind of clueless. Life doesn't happen that way. We talked about obviously averages and the problem with them. I'm glad we had you on, Mitch. I really am.
Mitchel Krause: One, I'm glad I'm a lot less nervous than I was the first time I was on.
Dan Ferris: Oh yeah.
Mitchel Krause: Definitely. I think people will hopefully get a lot more out of this than my first one, and I really appreciate you having me on. I hope this airs sooner than later because Lord knows things are traveling super, super fast and I think people need to hear it. But yeah, thank you is all I can say. You know, I follow you on Twitter and I love stuff that you put out. For years I've been watching you guys so, yeah, I appreciate it.
Dan Ferris: And you can read, everybody, you can read Mitch's stuff at othersideam.com. Lots of good reading there.
Mitchel Krause: Yeah, I have an archive section where they can see everything. So the nice part about it is it's like a scorecard, right? So you can read September and fact check me that everything I said on this podcast is in that note, right? And what I said December, January, February leading up to Q2. Yeah, so othersideam.com and it's the archive section.
Dan Ferris: There you go. All right, man, thanks a lot and we will be talking again hopefully sooner rather than later.
Mitchel Krause: That's awesome. Thank you so much, Dan.
Dan Ferris: All right, bye-bye for now.
Mitchel Krause: Yep, bye.
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Dan Ferris: It's not every day you talk to somebody who's 70%-plus in cash, now is it? That was a great talk. I'm really glad that you got to hear that because right now, like Mitch said, the mistake everybody is making is they're looking for a bottom. At least I think that's a mistake, and he agrees with me, and the better thing to do is, just like he said, focus on capital preservation. Remember, Brent Johnson said, "Survive in advance," right? So by all means if, you know, you have your stocks for the long term or whatever you want to hang on to, but the rest of your money that you're actively managing, capital preservation. Survive in advance. Plus, just Mitch is obviously a very well informed guy, and I totally spaced the Nike inventory. I saw that report and forgot that that was the one metric that had blown out, and of course the stock was down massively that day. So you know, he's got a great point here. FedEx, boom, huge down in one day. Nike, boom, down huge in one day. I think you're going to see more of this rather than less of it. I think guys like Mitch should be listened to closely. Obviously, I'm going to say that because I'm in the same camp, right? But still, I think that's what's true. It's not just what gets you to listen to me some more. Wow. So that's another episode of the Stansberry Investor Hour. I hope you enjoyed it as much as I did. We provide a transcript for every episode. Just go to www.investorhour.com, click on the episode you want, scroll all the way down, click on the word "transcript," and enjoy. If you liked this episode and know anybody else who might like it, tell them to check it out on their podcast app or at InvestorHour.com. And do me a favor... subscribe to the show on iTunes, Google Play, or wherever you listen to podcasts. While you're there, help us grow with a rate and a review. Follow us on Facebook and Instagram. Our handle is @InvestorHour. On Twitter our handle is @Investor_Hour. Have a guest you want me to interview? Drop us a note at [email protected] or call the listener feedback line 800-381-2357. Tell us what's on your mind and hear your voice on the show. Till next week, I'm Dan Ferris. Thanks for listening.
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