What the 2024 Rate Cutting Cycle Could Mean For Investors — ft. Lyn Alden

27:05You had talked a little bit about emerging markets. Is this kind of, are things shaping up to be 2024 at their kind of time in the sun again? I think the conditions are there for it. It's kind of like the phrase, like you can lead a horse to water, but you can't make a drink. It's kind of like you can identify when the conditions are present, which would increase the probability of it occurring. And so, for example, I would say in 2019, there were some of the conditions for it, but it didn't happen. For a lot, you know, for any number of reasons that came after it, it didn't happen. This 2024 setup is yet another environment where the conditions are pretty right.

27:38That combination of lots of global capital stuffed into U.S. market with a rate cutting cycle coming up. That's basically dry tinder that emerging markets potentially could take the baton from. The vicious or virtuous cycle that happens there is that a lot of emerging markets, kind of what defines them, is they have a lot of dollar-denominated debt. And it's not even mostly owed to the U.S. It's owed to China. It's owed to European lenders. Some of it's owed to the U.S. It's owed to all these different entities that lend in dollars. And whenever the dollar strengthens relative to their local currencies and cash flows, it's kind of like if you took out a mortgage in Swiss francs and then the Swiss franc doubled relative to the dollar, you'd be in trouble with the value of your property and the cash flows that property can generate.

28:24You'd have trouble with your liabilities. It just hardened. The same thing kind of happens to them, except it's the dollar that's going up. And then more capital wants to get out of there. When that's happening, it goes into the U.S., which then ironically strengthens the dollar further. And so you get this kind of vicious cycle against emerging markets. But then the good news is the opposite can happen on these other cycles, which is that once the dollar is strong, no capital is in the BRICS. It's all in the U.S. and a handful of other places. if around the margins, not like this big giant capital flow, but around the margins, there's a rate cutting cycle.

28:59These other places are cheap. The ones that kind of survived the strong dollar cycle, the marginal dollar can go to them, which can alleviate the strength of the dollar, can support their currencies a little bit. They start showing signs of life, and then more capital wants to flow in. And so you get that reversal effect, that virtuous cycle. So what I'm looking for is to see if that engine starts kind of kicking off and to really start seeing if we get followed through. And last time we spoke, we had a pretty lengthy discussion about Bitcoin. I feel like you kind of crypto pilled Scott in a little, in a strange way.

29:36But anyway, since then, Bitcoin has fallen around 15%. And we've also seen Bitcoin popping up in political news. Trump has been talking about Bitcoin is very pro-Bitcoin, pro-crypto. He spoke at the Bitcoin conference. I'd just love to get your updated take on Bitcoin. And has anything changed since we last spoke? So I'm still long term bullish. And I wouldn't say I'm big on crypto in general. I tend to be pretty skeptical of the majority of the crypto space. For me, it's so far been really Bitcoin and stable coins that I think are the most interesting. And then there's little pockets elsewhere that are also kind of interesting.

30:16But for the most part, it's pretty concentrated. I'm long-term bullish on Bitcoin still. Nothing really changed with that thesis. The way that I'm interpreting this year is that the ETFs pulled forward a lot of excitement. People started to get really bullish in February and March of this year. And we've seen kind of a slow draining of these kind of overinflated expectations since then. The big metrics that Bitcoin tends to track, And actually, I've commissioned a report from an analyst I like, and I'm advising it, that we're kind of quantifying this a little bit more. But Bitcoin tracks global liquidity better than any other major asset class, so better than stocks, better than gold, better than emerging markets, better than bonds.

31:01And there's different ways to measure global liquidity. In that report and in general, I define it as global broad money supply, but denominated in dollar equivalents. So you get both a credit expansion or credit contraction component, and then you get that strength of that dollar relative to the other major currencies. And basically, if that goes up or down in a given 12-month period, Bitcoin has the highest likelihood of other assets to do the same direction, which is over 80 % in Bitcoin's case. So I put a lot of that focusing on global liquidity. When I'm thinking about, say, a two-year or 12-month Bitcoin price, I don't really try to judge.

31:42month by month or quarter by quarter Bitcoin price. For the political component, you know, obviously that, so most Bitcoin conferences are not that political. This particular one that happened in Nashville is one, it's the biggest one in the world. And it's during American election season. So this one was very political. I guess the interesting thing about it is that most of the headlines were the Republicans there. So obviously Trump was there. There are a number of senators and representatives that were there. But I think what went under the radar is that there were some Democratic politicians there as well, like Ro Khanna, for example.

32:23And then he and over a dozen other congressmen wrote a letter to the DNC saying that they need to embrace that industry a little bit better than they have. um so right now in you know if you look at there's actually a study recently by troy cross a professor and uh another professor i can't i can't remember his name but they found that they they kind of looked at a sample pretty big samples a well-designed test as far as i could tell and they wanted to see if there was difference between bitcoin holders and the general public on a number of metrics including politics and they actually didn't find uh that much difference Yeah, the two biggest areas that stood out were Bitcoin holders skewed male and they skewed younger.

33:04But they didn't skew left or right, which was actually kind of surprising because when you look at politicians that embrace it, it certainly has skewed right. When you look at the economic policy or not even policy, the economic plans, the thing that really has jumped out about Trump was this embrace of tariffs. And the thing that jumps out for me with Vice President Harris is there's a few things actually, price controls and subsidies for first-time buyers. Do you have any thoughts when you look at their policies and the impact on the markets? It's funny. I think a lot of investors are kind of discounting the tails.

33:47Like they're assuming that the kind of polarizing forces of Congress will prevent some of their tail outcomes happening. So, for example, that we'll get more tariffs, but they won't be as huge as Trump, you know, is kind of narrating that they will be. because I think that obviously the issue with bigger tariffs and many critics of the proposal pointed this out that a lot of those costs do get passed back on to American consumers in many cases. If those companies are not making the profit margins, they'll either stop selling to America or they just increase the prices so we effectively pay for it one way or another.

34:25And so that can be all around the margins inflationary. The Democratic propositions, on one hand, there are things that are more disinflationary, like the tax increases that were proposed. And some of those are pretty tail outcomes, like taxes on unrealized capital gains and things like that. I think, again, the market's kind of like how they're assuming that Trump wouldn't get enormous tariffs through, just kind of tariffs around the margins. I think they're assuming that Harris wouldn't get an unrealized capital gains tax through, or even that other one, the more broad capital gains that is just an increase to the current capital gains.

34:56I think the market is kind of discounting that somewhat. I find both tails not productive in general. That'd be my take. I did like a 50-year analysis on how economy performs, how markets perform, how inflation performs under Republican or Democratic presidents. And it's more complicated than that because you'd have to incorporate the Senate and the House and And, you know, the government's not just one entity. But in general, over those 50 plus years, the economy did better under Democratic presidents. So did the U.S. stock market. Stay with us.

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37:18We're back with Profit Markets. It feels as if inflation has kind of come down to its sort of target level or is fast approaching its target level. Is there a fear that it could crash through its target level and we could enter into stagflation or recession? When you look at the different barometers for inflation, what do you see? So it came down from officially measured like 9 % to 3 % fairly quickly. And then it got kind of stuck in that 3 plus percent corridor for quite a while, kind of sticky above target inflation. In recent period, it kind of came down to slightly below 3, but still above target, but obviously nowhere near kind of the headline issues that it was before.

38:00Or, you know, I think the Fed is correct in the sense that, like, I don't particularly endorse the idea that central banks even set interest rates, like that basically there's price controls of money. But to the extent that that's how they operate now, they do have these mandates between employment and inflation. And clearly the risks have moved from, you know, when you have 9 % inflation, that's kind of a four alarm fire for inflation and you got to get it back down. Now that inflation is in the ballpark of three or the high twos, and unemployment is still low, but has increased from 3.4 % to 4.2%.

38:35And historically, when you get a move like that, more often than not, it keeps going. So if you're the Fed right now, you're saying, well, one is a little high but headed down. The other one's low but headed up. They're more shifting to the one heading up now. Also, if you look at the Fed's projections of where unemployment would be over the next couple of years, 4.2 was kind of their median, you know, where they expected it to go. So if you start to get any sort of increase above that, they would grow more concerned. And the chairman's already said that they don't really want to see any more employment softening than they've already seen.

39:13We're outside of that really hot market where you couldn't really hire people. Now it's kind of more balanced. And so I think from their standpoint, from their mandate that they follow, it makes sense for them to be more balanced between the two. There obviously is a risk. We could go down further and kind of approach more recession territory. my theme that i keep pointing out is that i you know it's when when you go into recession when you're already running seven percent of gdp deficits and deficits normally expand in a recession that's that tends to be a different type of recession um you know i think that a lot of investors kind of fight the last battle they think of 2020 they think of 2008 i think that a recession under these types of deficits would be a little bit more stagflationary So maybe not as disinflation as we think, but also maybe not as high unemployment as we think, because there's kind of a lot of free stimulus going into that recession.

40:12So I tend to kind of model it a little bit differently than average. And do you have any thoughts on the likelihood of a recession? I mean, there were some debates and some slightly overblown panicking earlier in the summer. But where do you stand on recession and the probability in the next year or so? So one thing I've had to do over the past couple of years is break out sectors. Because we have an unusually large divergence between very high fiscal deficits, so very loose fiscal policy and very tight monetary policy, and that divergence is bigger than normal, we've got bigger than normal divergences between sectors.

40:50um and so if you look at for example like in 2022 when many people were forecasting a recession uh we did not get uh a national bureau of economic research like they didn't define an official recession but if you looked at for example the misery index which is inflation plus unemployment that reached recessionary levels if you look at um consumer sentiment it reached almost record low recessionary levels. If you look at, and this is the interesting one, bank loan tightness. So if you look at what they do, surveys of senior loan officers at banks, and they say, are you tightening credit standards or are you loosening credit standards?

41:29And almost always when they have a big tightening period, it's recessionary. And when they're loosening it, it's, you know, at least in rate of change terms, like fewer of them are tightening, you're coming out of recession. And in 2022, we went through a classic bank credit tightening cycle that looked like recession on the bank, you know, senior loan officer survey. It was like basically everything about that survey screened recession. And we did not have a defined recession. In large part, it's because, you know, we're at that point, we're two years after peak lockdowns and we're still on like the tail end of, you know, COVID era things.

42:06The environment was just very different. You didn't get that unemployment cycle. That's kind of like a main driver of recessions. So I think that ahead, there is more risk of a classic unemployment recession i don't have a high conviction but then the weird thing is on the other side i'm actually seeing there's also indicators suggesting emerging out of a recession like the the bank loan tightness is easing rather than getting worse or for example the manufacturing purchasing managers index that was in recession like throughout you know 2022 2023 because that was in one of the longest contractions of manufacturing in a long time.

42:44And that's kind of stabilizing to some extent. So I think we could get a reversal of what sectors have been doing better or worse. And that's how I'm trying to think of it, is like which sectors could be entering or emerging from recession, rather than thinking of a purely binary outcome of recession or no recession. Are there any sectors or specific stocks that you're especially bullish or bearish on? I have concerns around some of the very expensive tech stocks. I treat each one independently. When people classify them all together, I don't really like that approach. I like to treat them individually.

43:22Actually, I'll give you a more specific one. So back in the dot-com bubble, everybody was focused on the high valuations of the tech stocks, right? But what went under the radar is that Coca-Cola was trading at over 50 times earnings in the late 90s. Walmart was trading at like 50 times earnings in the late 90s. And what happened was throughout the 2000s, they continued to grow. They're high-quality blue-chip companies. they continue to grow, but their stocks had like a 10-year dead period because their valuations went down from 50 times earnings to like 20 to 25 times earnings as their earnings doubled.

43:57So you had just basically the stock going nowhere. Right now, everybody's focusing on the MAG-7, but for example, Costco is trading at like 55 times earnings. And it's a wonderful business. I mean, it's actually one of the few businesses that shareholders, employees, and customers like. I mean, who doesn't like Costco? But I wouldn't pay 55 times earnings for it. When you look at the peg ratio, it's a price to earnings to growth. It scores very poorly on those metrics. And it hasn't mattered yet. I mean, Coca-Cola has spent a very long time overvalued, and so did Walmart. And so it's actually, I think there's a bubble in some blue chip risk-off names where everyone says, this company's bulletproof, so I want to own it.

44:45And then the problem is maybe the company's bulletproof, but the stock might not be bulletproof. And ironically, I mean, Costco's trading at higher valuations than a lot of the Mag7. You know, we look at price to earnings or other kind of metrics like that. That's crazy. Yeah, higher valuation than Alphabet, higher valuation than Meta, higher valuation than Apple. You know, it's one of the more expensive stocks out there. When you look at kind of traditional price to earnings or price to cash flow or price earnings growth metrics. So it's not just Costco, but I think that basically I have concerns around very high quality, low fundamental volatility, so low earnings fluctuations, all these different quality metrics.

45:27There's a lot of capital kind of stuffed into some of those names. Anything you're especially bullish on? I'm looking for this potential emerging market rotation. I want to see if we get follow through with it. I wouldn't layer on more risk until you start to see more follow through. but basically i think um you know this this could be like a three to five year period where the s &p 500 stops outperforming some of these places the s &p 500 already stopped outperforming latin america for the past two and a half years at least on a total return basis um you know maybe we go back to outperforming but at least so far that's a that's a trend that's kind of been paused um the i think the biggest kind of um bullying outcome is china right now uh just because the stocks are so cheap the fundamentals keep getting better in many cases um but then you have to kind of weigh that tail risk right so what is the chance that you just that you know you wake up to some headline three years from now and you know you get kind of zeroed out of your positions or something um the interesting thing is that if anything like that happens, I mean, stocks like NVIDIA are in big trouble, potentially.

46:37I mean, they make all their chips in Taiwan. Apple would be in big trouble. Tesla would be in big trouble. So on one hand, investors are very much fine with Chinese geopolitical, like Chinese-U.S. geopolitical relations, because they're fine with really big U.S. tech stocks that have a presence there um but then nobody wants to touch chinese stocks with a 10-foot pole um which i would say you know high probability they outperform in the next three to five years uh but but then you have to you have to tweak that with the tail risk of you know what if something crazy happens i'm just looking at your uh portfolio your multi-asset model portfolio here which you publicize and And, you know, you're totally transparent about your portfolio, which I love and I think is really valuable for people who are getting into investing.

47:28I'm just seeing, I don't see Apple, I don't see Meta, and I don't see Tesla. Why not those three? It looks like you have the rest of the Mag7, but why are those three missing? So Tesla, I'm not very bullish on fundamentally. Right now, their growth metrics are not great. I generally view them as structurally overvalued. Apple, less extreme case, but basically I would say it's a value stock, a very high quality value stock priced like a growth stock. So you pay, you know, it's not like Costco, but you're paying pretty high valuations for a company that's, you know, it's a lot of the growth now is coming from a fairly static top line.

48:13And then, you know, they buy back their own shares. They adjust their price with inflation. like you're kind of this like wide moat but slower growing entity now, doesn't excite me. Meta is more borderline. I've been back and forth on that. There are periods of time where I've owned it. That one I'm kind of more neutral on. Like that could go either way for me. Whereas a lot of the other Mag7, I think they have reasonable valuations relative to their current and expected growth rates. Just one last question for me. For our listeners who are maybe just starting out, investing just about to build that portfolio would you have any if you could give one piece of advice to someone in that position what would it be so the way that i approach portfolio in this environment is a three pillar portfolio so it's like one big part stocks uh one part those more kind of like you know cash or or short duration bonds and things like that and then one chunk is that little more inflationary thing.

49:12So energy producers or gold, Bitcoin, things like that. I mean, another thing that's outperformed the S &P 500 for a while is the S &P 500 has underperformed gold since late 2021. Not by a lot, but basically there's, if you look at kind of the S &P 500 to gold ratio over the past century, you get these kind of these really big sine waves. And if you include dividends, the SPF 100 is greatly outperformed, but it goes through these five-plus-year periods where it greatly underperforms. And there's kind of current signs of a rollover, like they were in one of those down periods where the SPF 100 does not outperform gold.

49:56And I think of gold anyway more like a bond replacement, or if I have a 60-40 portfolio, maybe I take 10 % of it and put it into gold or 5 % of it and put it in gold. And so I think that my approach generally is rather diversified portfolios so that you can focus your attention on what you do best. Isn't it at the end of the day, buy an index fund and then just try and focus on what makes money? Yeah, I think. I mean, probably buy a handful of index funds to reduce the probability of a lost decade. I think the only risk of that approach is that a lot of that kind of came out during this 15-year period of just buy the SPF 100 and win.

50:42Whereas there are decades where that can not do well, and having a handful of different indices together can really kind of structurally just keep going up, which then, yeah, you can focus on your work, you can focus on your family, you can focus on everything else. I think the majority of people shouldn't be spending a ton of time on investing unless it is, again, they're, you know, unless they either love it or it's their way that they earn income. Lynn Alden is a full-time investor, independent analyst, and the author of Broken Money, Why Our Financial System Is Failing Us and How We Can Make It Better.

51:18Her work has been featured in the Wall Street Journal, Business Insider, Market Watch, and CNBC. And she's also served as a consultant to startup companies, hedge funds, and executive committees. You can find her research at lynnaldin.com. Lynn, we always love having you. I think we've got to get you a jacket. I think you've been on five times now. Somewhere around that, four or five, I think. There you go. Thanks again. Thank you, Lynn. Thank you.

51:48Algebra of Wealth. Scott, Lynn mentioned that we could be in for a period of outperformance among international stocks. I'm wondering what you think of that and how you think about geographic risk in your portfolio. Yeah, it just makes sense. My sense is almost every market is cyclical and everyone gets their time in the sun. And the time to get really worried is when everyone sort of decides we're in a new economic era and that, oh, it's just the U.S. forever and that the U.S. has moved to a new economic model of innovation and will always outperform. I remember in 99 reading the Wall Street Journal that perhaps the internet had ushered in a new era of a different type of company and valuation metric, and we shouldn't be thinking about how overvalued these companies are.

52:35That's when you really should run scared. I believe in diversification not only across companies and sectors, but across markets. So I have, I don't know, I would say about 20%, maybe, and that's not a lot, but it is some, I guess, maybe it's 20, 25 % of my net worth tied up in, I think it's close to a third, in non-U.S. companies. I have a, my biggest investment actually is in a hedge fund that a friend of mine runs named Orlando Mochant. It's a fund called Tyrion that invests in kind of unloved stocks, mostly in Latin America. Yeah, so I diversify across regions and there's no doubt LATAM and China are going to come back.

53:18It's just we don't know when. this episode was produced by claire miller and engineered by benjamin spencer our associate producer is alison weiss our executive producer is katherine dylan mia silverio is our research lead and drew burrows is our technical director thank you for listening to prof g markets from the vox media podcast network if you liked what you heard give us a follow and join us for a fresh take on markets on monday

53:45Lifetimes

53:50You help me In kind reunion As the world turns And the dark light In love, love, love, love