An Economic Reacceleration on the Horizon? ft. Juliette Declercq

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0:35Welcome to the Journeyman podcast. I'm Raoul Pal. The Journeyman is my journey to the nexus of understanding of crypto, macro and technology. These are three mega trends that are coming together and all of us need to really understand what this means for us, what the opportunities are, what the risks are. It's one of the most fascinating times in history. So I want to bring the best people as ever to pick their brains to really go on that journey of understanding and take all of you with me. And today I've got one of my favorites. Juliette de Klerk is ex-hedge fund, ex-investment bank strategist, trader, and also writes very premium high-end research for institutions.

1:25And she's one of the people I go to when I want to navigate the kind of shorter time horizon of the three to six months of what's happening in the business cycle and what's happening with markets. So we're going to try to get Juliette to give us the understanding of where we are now, because there's a lot of debate whether we're going to see a crash in markets or this is the start of a new bull market. And there's a lot of nuance around it. I've got my own views. I'm pretty bullish, but I want to find out what Juliet thinks. Join me, Raoul Powell, as I go on a journey of discovery through the macro, crypto and exponential age landscapes.

2:00In The Journeyman, I talk to the smartest people in the world so we can all become smarter together.

2:11Juliette, welcome back to Real Vision. Very, very happy to see you again. Yeah, it's always great. And I love picking your brains on where we are, what's going on. But before we kick off, as ever, I'd like to give people your background. So just give us the synopsis of your background and how you got to where you are today. So 2016, I started JDR Research. So it's been, what, seven years now. I speak to mainly institutional clients and I'm still here after seven years which I think attests to like a good track record with them in terms of like client recommendations because as you know in this kind of business you know you're wrong for like a couple months and you lose clients so when when people ask me for my track record that's my track record the fact that I don't I I still have clients from day one, from 2016.

3:07And before that, just to explain what you did in the industry as well, just so people get a framing of that. Before then, it felt like a long time ago, but I started at JP Morgan in 99, where I did a mix of prop trading and basically talking to clients as a strategist with a strong global macro background. I also worked a few years at Morgan Stanley before I joined a hedge fund a bit later before deciding that it would be more fun to actually have many investors to talk to rather than a couple, you know, arrogant ones at the top. Yeah, I've gone through that whole investment bank hedge fund journey and then writing.

3:59You don't want to look for just one person. No, it's also the quality of life you get as well. Because, you know, in the end, Juliette, the thing I love about, you know, what we do, what I do at Global Macro Investing and what you do, is we actually just get paid to think. And that's just a really lovely thing to do, right? I know. I mean, talking about like quality of life, I've done a lot this year towards adding more life to my work and not just basically spending time still thinking about my crew on the beach. So I've added surfing, which I think is amazing in terms of like emptying your mind and nourishing your soul.

4:36And the safari in Africa, I mean, like, you know, every morning I think about it and I just want to go back, you know. So, yeah, talking about quality of life, I think we are lucky. Yeah, and this is what we do it for, right? In the end, that's the goal. I've always said that. It's like the reason we do all of this and work so hard and everything else is for quality of life. Whatever that means. It's different things to different people. It's that. You lose sight of that, you lose sight of everything. A purpose, yeah. So, Juliet, before we dig in, I want to just frame things in time horizon terms so people know what we're talking about, because, you know, one of the biggest forms of misunderstanding is always people's time horizons.

5:18So what's the time horizon that you tend to operate in? So I tend to operate on what's tradable, which is in my case and with my framework, it tends to be one to two to three months. But obviously, I've got a view up to one year. beyond one year i'll leave it to you because i absolutely have like no clue so the whole we've been doing this whole series on real vision which is like as you know last time i had you on we had the same discussion and you were bullish and you kind of got that very right now the market is still split between we're in the bull cycle and it's ongoing with the usual ups and downs versus we're doing other collapse because of recession.

6:07And it's like this really polarized world out there. So, you know, I know my own view, I tend to be more bullish and constructive. Yeah, again, accepting that we will have volatility on route. But I want to hear how you're thinking things through right now. So it's a good time to pick my brain firstly, because I'm literally two days before releasing my new monthly roadmap. So, you know, probably will come out on Thursday. So maybe the same time as the interview. That means I spent the last 10 days basically looking at everything. And obviously the question for me, now that, you know, last time we spoke, we were talking about, you know, the consensus was large majority to see like an early 2023 recession.

7:00Now consensus is very much on the soft landing. But what I find is really interesting is that instead of recession view being sort of cancelled, it's been delayed. So basically every six months, recession when it didn't happen was delayed by another six months. And now if you talk to investors, I think probably consensus is divided between a recession in H1 next year and a recession in H2 next year. But what very few people are talking about, and which is what I'm considering right now, including in Europe, by the way, so I'm not just talking about the US, is the fact that the recession or the slowdown has actually already happened.

7:51And we are headed to re-acceleration, re-acceleration above potential growth, which obviously will have large consequences as well for inflation, global inflation. I think what's happened this summer is very much that the US upswing was seen as like a, you know, like guarantee of Goldilocks because the rest of the world was still weak. So in other words, you have the strengths in the US and the weakness in China slash Europe, putting like a cap on inflation, which sort of like guarantees you Goldilocks. And what I'm thinking is that actually the US is ahead in the cycle and that, you know, And actually 2024 is going to be completely different than anything that's priced in the markets right now.

8:49So I think potentially we are, again, at a really interesting juncture because like I think I was looking today, like one year, one year versus one year in the US is about like 100 basis points, meaning, you know, there's about like four cuts priced into next year. in Europe, same thing, we don't know when the ECB will reach the terminal rate, but there are already two cuts priced in the curve. So if you consider the fact that we might get less macro volatility in the future, and we'll discuss why in one of your follow-up questions, I'm sure, there is a huge opportunity to basically pay one year, one year, and basically enjoy the slide and carry.

9:43So that's what I'm looking at at the moment. Obviously, there are risks to this view, but I think that there's a strong potential for it to be like a big trade into the end of the year or in 2024. Hey everyone, we're going to take a quick pause and hear a word from our partners. We'll be right back. Your favourite neighbourhood spot grows with Square. Indeed, my favourite neighbourhood spot has quickly become Todd Snyder in Williamsburg. Todd Snyder is one of my favourite menswear shops and has supplied me with all the clothes I have needed this quite hot summer. Every business has different goals, but Square is the business platform that supports them all.

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11:03so how do you square with the fastest tightening cycle in all history and such a mild event now my view is i think we actually slow down q4 more significantly we've seen some elements of that and inflation keeps falling and unemployment but whether i'm right or wrong who knows but the point being is why has it been so mild i think um considering the rate damage done there are two ways uh interest rates are heating an economy uh one of them is obviously the housing market uh the other one which is like kind of like delayed um is uh is is the labor market uh and i think you have to consider the fact not um the fact that there is um a clear behavioral shift, in my opinion.

11:56So I think you need to add a lot of psychoanalysis in macro. I mean, as you know, you can't just rely on models because behavioral shifts are just as important. And, you know, one key point that I see is basically the 12th of March 2020 call by French President Macron, who said kind of like copied Mr. Draghi by saying it will be whatever it costs. So that was like the Macron appeal for whatever it costs. And for me, that's like a key turning point in many ways. Obviously, it was dwarfed by President Biden's later sort of like reaction function in terms of, you know, what happened in terms of sorting out the crisis.

12:53But if you think about what happened that year, basically, we decided that we will do whatever it costs to basically guarantee the recession is a flash recession. And then it happened again in 2021 when, you know, Russia declared a war on Ukraine. And again, we decided, you know what, we're going to throw as much money as it takes to basically guarantee that the energy crisis in Europe will be fixed in a few months. And if you look at what's happening in the PMIs and what's happened basically this year in Europe and in the US, is you've had a collapse in new orders. And, you know, new orders for us both is like a really strong leading indicator.

13:43When you see new orders falling in manufacturing, normally you see it falling in, you know, in a matter of months in services. And it takes labor down. If you're looking at the correlation between new orders and employment, it's completely broken down. you know in Europe in the US basically you've got new orders collapsing but it's not driving anything anymore which is kind of like telling you that companies have got the message that any sort of like recession is going to be so short-lived that it's not even worse firing people anymore and that's obviously even more the case if you've got a record tight labor market due to the aging of the population and the retirement of baby boomers.

14:33So you've got two things on the labor markets that are basically making that disconnection happen. And you can see it really clearly on charts. And it's even more interesting in Europe where we've had a collapse, for example, in manufacturing new orders. I think now we are in high 30s. and employment there is barely contracting. So it's like at 49.8 or something after six months of new orders being below 40. Same thing in services. DM services is basically now, in terms of new orders, has crossed the contractionary line, but employment is still growing comfortably. And it's not just, if you're looking actually at the diffusion index in Europe, it's really interesting to see that it's actually picked up.

15:27So there's less countries over the last two months with employment crossing the 50 line. So for me, that basically is a reason why monetary policy is not translated as powerfully as it was before. In other words, you probably need much lower new orders for it to translate into a recession. So like a much lower beta from activity to employment, which means that you get like mini cycle and potentially an extension of the business cycle. So more like shallower intermediary cycles and a longer business cycle. So now we're also talking about housing, you know, and what's really interesting, and it's the case in the US, it's also the case in Europe, is that we have absolutely record tight housing markets as well.

16:29and the problem is when you have like record tight housing markets and you have like a basically a shock in interest rates between like a you know pretty much one percent i mean i don't know what your mortgage is but mine is at 90 base point for 15 years and rates go like to five percent the problem is you end up with like exist existing house that are basically have a massive premium which is linked to the old mortgage that you have and that you're going to lose when you sell your house. So you're basically getting stuck with like existing houses, which takes a good chunk out of the supply. And obviously, like if you're looking at what's happening in the US, again, it's the same in Europe, is housing formation is basically at all time high if you out the COVID crisis.

17:23And, you know, and that's on the back of aging population, higher divorce rates. And, you know, there's many reasons, but, you know, that's a fact. Housing demand is exploding. You basically have like supply basically bent down because of the shock in rates and that premium that cannot be realized by selling your house. And you end up with like a situation where the interest rates, the trucking interest rates is actually not having so much of an impact on prices potentially just because of like supply demand. And supply demand, you know, in an inelastic market makes it highly likely, in my opinion, that house prices are not going to correct anywhere close to what many believe it will correct to.

18:22So I think in the US, we're actually reaching to new highs already. And I think that will continue. And obviously, the secondary effect is that all those buyers that can't buy, they're going to turn to the rental market. And I think there's a lot of hope that shelter, disinflation will replace headline disinflation into next year in terms of like basically capping inflation and potentially it won't happen sorry that's a lot of information in and yeah there's a lot of information there so i'm also looking at new orders to new to inventories to new orders and we can see that these things are rising now so it's giving us a forward look that the cycle is turning.

19:07In manufacturing, yeah. Somewhere around the low points in the cycle. So I think that's going to be interesting to see what it does. But the unemployment equation, to me, it still seems like it's normal. From what I see from the Leeds lags, it's just doing its normal lag. But do you look at Europe as well? I've not looked at Europe as much as the US on this. With Europe, you can't see it as much in the US because we haven't had the collapse in your orders um but it's it's it's it's like a really um mind-blowing in europe yeah and this is what i wanted to raise with you is i was um writing global macro investor a couple of weeks ago whenever it was end of the month and i've been trying to think through the similarities with japan and how unemployment never really rose again so they kind of got to this three and a half percent rates yes they had there was a short period and then it came back down to sub three and a half percent because of the aging population so there's always demand for labor in the labor supply yeah but wages don't go up because because wages have not gone up because of technology um a globalized labor force i think there is a disinflation mindset as well in in japan that is really entrenched but uh that you don't really see in europe and the us yeah and also i looked at it and think, okay, well, wage inflation is an issue if your labor force is big, because that's aggregate net demand going up.

20:38But if more and more people are going outside of the labor force, i.e. retiring, then I think it needs to be factored by that. So I think we're going to be going into a new transition and we don't know what it looks like yet. What is the natural level of unemployment or employment in an aging economy? I think it structurally will have changed. And Maybe that's what you're picking up in Europe because Europe is structurally older than the United States, but younger than Japan. And we've seen this all the way through for the last 20 years. It's like follow what Japan does. Everyone will do the same later.

21:10Yeah. I mean, the one thing I would say is that retirees are the ones that have the money. So even if they retired, then they don't actually get constrained by not earning anything anymore. They are the ones with the capital. so I think it's more likely that you will see like on that I think you're going to get like employment and nominal income growth and you're going to keep like getting the sort of like same consumption from retirees because they are the ones with the cash. See I'm not sure about that and I did a lot of this again in GMI this month is when I look at the consumptial patterns of retirees the median retiree does not have that much money and so um now again the u.s the u.s is different to europe is different to australia because of the different pension systems etc but generally the median person doesn't have much money and there's a big factor which is nobody knows how long they're going to live for i mean it's very hard to be a retiree in spain because you live till 85 years old well in the u.s you live much younger but you just don't know so I've tended to see that people become cautious of spending because the worst thing is to be 85 years old and having no money.

22:27So I don't, I'm not entirely sure that this is a... You continue to get your salary pretty much. You've like basically, you know, you're constrained to like cotise and you keep getting your salary until you die basically. So you're not really worried about when you're going to die. Hey, everyone. We're going to take another quick break and hear a word from our partners. And then we'll be right back.

22:59No, that's right. In other systems, it's not all the same, right? So France got a very strong social welfare system that helps people in that situation. But it's not the same for most countries. So it just depends which country has what benefits. Exactly. And also another thing is like you're talking about nominal income growth, which is, you know, obviously employment, employment growth plus wages and plus hours, the change in hours worked. If you're looking at where we are right now, you know, in terms of, for example, in the US, with the last payroll on a three-month-analyzed basis, we were still growing at like 7 % year on year.

23:50If you're looking on a year-on-year basis, we're still running at 6%. In my framework, and looking at all leading indicators that I normally look at, we should have been like around 4 % by now. And that's actually the framework I use to also define whether we are in restrictive rate territory or not. So, you know, 5.5 % interest rates with 6 % to 7 % nominal income growth, for me, you know, rates are not restrictive. And so what is your outlook for inflation over this period between headline and core inflation? Again, I think the market's very split in how this plays out. I'm very much that this is an ordinary cycle and it'll play out over time.

24:45Others are like inflation is not going down. Others are a blend of the two. Where do you land in this whole equation? So, you know, you're absolutely right to start talking about, you know, new orders to inventories in manufacturing. For me, the main reason for disinflation this year has been headline disinflation. So goods and, you know, materials, pretty much. And that is turning this month. And what's in terms of like base effects, negative base effects are turning into positive base effects from now on. And that's happening, as you say, at a time where new orders to inventories in the manufacturing PMIs are picking up, you know, quite sharply in some area, which is telling you that at the minimum, there's no more disinflation on the map anymore for goods and materials.

25:44If you're looking at oil, we're now like up 10 percent year on year. In fact, looking at global manufacturing survey, prices are actually back to inflation. Just this month, we're back to reflation. So for me, it's really the end of the sort of easy desinflation, which we've seen this year, mostly on the back of lower goods and lower materials. And that will start to pick up again. And the problem is, you know, inflation and wages are basically fixing on what's happening in the US. It's very linked to gas prices, but generally, basically wages are fixing on what's happened on headline inflation and what's inflation expectations for the next year in terms of headline.

26:41line and then that's picking up again whichever survey you're looking at you you know you can look at Michigan you can look at conference board we're picking up so the whole like global prices is basically already feeding through to higher inflation expectations and those inflation expectations are likely to fit into wages so I'm a bit worried given wages is supposed to be the one thing that comes down in terms of like growth in the next six months if you want to continue capping inflation you basically need core to to come down a given headline is probably going to start going back up and at the time where inflation expectations are picking up again and potentially the cycle the global cycle re-accelerates I think it will be I think inflation will be you know i'm not calling for like a second wave of inflation you know 1970s 1970s style at all um but i think inflation will be more problematic than currently assumed by central banks because also because they're not at level of rates that are restrictive yet so i think they're all sort of like posing at a level that's not yet restrictive so they're sort of like pausing, waiting for the past hikes to start feeling through to lower demand.

28:13But the problem is when you're pausing at levels that are not restrictive, I think it, you know, you're setting yourself for like policy errors. And that could be what happens in 2020, end of 2023, 2024, 2024, e.g. you know, inflation, disinflation gets disappointing. So just frame it, you say not the 70s because that's another argument that goes around if you're best guessing here and you say what inflation looks like in 2024 what does it look like i think we get stuck like are we talking it's sticky maybe around four percent uh you know we're sort of stuck there and it's difficult to get down and central banks lose patience or start outing uh their framework which to be honest is actually in existence right i mean that's pretty much what powell told us in in jackson jackson hall is they have no fucking idea where the equilibrium rate is so yeah so let's say that's the case then the cycle picks up but but that kind of keeps interest rates where they are or do rates come down and then go back up again how what is the so what's the path of rates here Let's talk 10 years for now or 10-year bonds.

29:32It very much depends on central banks. In my opinion, if inflation picks up again and there's higher uncertainty about inflation, I think term premiums are way too low. Historically, it's really mind-blowing how low term premiums are. are. And the reason they are so low is because markets keep delaying the recession instead of actually writing it, canceling it altogether. So you always have this sort of discount in rates because of the fact that everybody is expecting a recession. So I think if we sort of realize is actually we're getting into a new intermediary cycle and central banks are still kind of like, you know, on a pause waiting for things to get worse.

30:29I think we can see higher term premium, so like sort of like a bear steepening.

30:37You know, worst case scenario, I think, you know, rates stay here, curve steepens. You still make money paying one year, one year because you're getting that massive slide and carry and you're basically rolling into higher rates. But I'm actually saying there is a potential for the terminal rates to be higher anyway and for central banks to realize that in 2024. E.g. basically US goes to like 6.5%. I would not rule that out. Let's assume that happens. How the hell do they refinance the 13 trillion of debt that needs to get refinanced? Well, that clearly fits. And at those rates without issuing an endless cycle of new bonds that need to be issued at higher rates, raising rate.

31:26I don't understand how they can do this. Well, I mean, they'll have to do it and term premia will increase. And that's part of monetary policy, right? Because in the end, really what you need for a recession to actually happen, you actually need rates to actually get too high. You need a reason for rates to get too high. And I think that reason is going to be the fact that, you know, fiscal, you know, markets actually stopping being so complacent about where temporary should be given, you know, potential for like, you know, ballooning and debt to GDP ratio. And I think where I see the most complacency is in the UK, really.

32:08I mean, the UK is just really mind-blowing. You still have wages going up at 7.9%. It's not even peaked yet. And they're actually trying to tell us that rates are restrictive at 5.5%. And markets are like, well, yeah, you know what, I'll buy 10 years. Well, it's not what's going to happen, especially given the next crisis. So I think you sort of the path to a recession is actually that kind of like spike in rates that makes markets be like, well, actually, we can't keep issuing at that level of rate. And therefore, you know, I can't count on government support, fiscal support in the next crisis.

32:49and that. What causes the recession if it's not housing? Because everyone's locked in in their mortgages at low rates. New houses don't trade because of this issue that nobody wants to get financing because it's expensive. But what causes a recession in that framework then? You know, where is the debt the problem outside of governments, which obviously they're all over 100 % in debt. But what's it going to do? Just destroy the old economy names, the kind of AT &Ts of this world and the general electrics all have kind of big debts i mean where where does it get paid where does the piper get paid well at the moment to create that recession corporate balance sheets are really healthy i mean that's what happened over the past crisis right basically corporate balance sheets have got have become extremely healthy uh in in fact you know i talk to many corporates that are like uh you know laughing and they've got that they've got positive treasury and they're making five percent on it i mean it's just it's like a the boon and the and the sort of like you're printing money and then you you're getting paid five percent on it it's sort of like the gift that keep on giving um same thing for like a private balance sheets are very um are extremely uh clean as well so at some point you have to get rates high enough um that at the minimum, you're thinking twice about boring, right?