Why the Nasdaq Could Surge Again

22:57Andreas Steno:And then all of a sudden, the trucking industry just loses 25 % overnight, right? We've seen it in software as a service, obviously, but we've seen it in many sectors. And it makes it very difficult to avoid these drawdowns. I've had a look at the S &P 500 over the past month or so. We've never, ever seen this many stocks with more than, with drawdowns bigger than 7 % in one day trading periods without a complete crash in the index. But we're not seeing a crash in the index. So you have these rolling drawdowns across sectors, and then suddenly they rebound again because -

23:36Raoul Pal:It tells you people can't, as you were saying, extrapolate what is signal and what is noise. They just don't know how to because we're dealing with something very new and very fast. And so it's really difficult for the market to get a handle on until it can find its next narrative to grab hold on. And that's why so many people moved out to the commodity sector, emerging markets, because that was an easier story to tell.

24:04Andreas Steno:But still, Raoul, the emerging markets trade is still very AI-driven, right? Because if you look at the emerging markets equity index, it's heavily concentrated in South Korea, for example, where you have Unix and Samsung, basically two of the major semiconductor manufacturers. Look at the trade statistics between Korea and the US and Taiwan and the US, right? They're through the roof due to the semiconductor exports. So even the emerging markets trade is AI-linked at this juncture. And I think this is a very relevant point to make because, sure, a lot of these investors are scared of the CapEx cycle right now.

24:46Andreas Steno:But they're still buying the companies on the receiving end of all of this CapEx. So they still trust that the CapEx will be undertaken, right? Because they buy TSMC, they buy Hunex, they buy Samsung, they buy some of the landlords capable of building data centers and so on and so forth, right? So they expect this CapEx to continue. They're just scared of the paying end of it, not the receiving end of it, if you know what I mean.

25:14Raoul Pal:And I would argue that everything is one trade now. That everything is all this trade expressed in different ways. Literally everything. You know, everything that's happening in commodities, everything that's happening in technology is this trade. And anything in the middle is less interesting and doesn't get any attention or narrative because it can't. It has to be those two ends of this barbell, I think. Yeah. and geopolitics is in line with this as well all geopolitics appears to be around this is like you know how do you get the cost of energy lower well sort out Venezuela and Iran okay that helps see if you can get Russia back into the system that will help too whether they do that or not secure rare earth metals and go for it and China's been doing that forever and now the US is doing the same Yeah.

26:13Andreas Steno:So, well, let me ask you this, right? Because it's another question that I've discussed with many portfolio managers, but also geopolitical strategists, right? Because if you look at the grid expansion in China over the past two or three years, you know, it's almost a miracle, right? They've expanded their grid at a pace that is just incredible. Also in solar.

26:34Raoul Pal:Solar, they added more solar than the rest of the world. Total solar in one year.

26:40Andreas Steno:Yes. Yes. But the question here is, and I actually think it's an interesting question, are we able to compete with the speed of their grid expansion? Because, you know, we all know that in China, you can do things. You can move people around if needed. I mean, they're not scared of taking very, very bold decisions. For example, say, okay, we just use this region for solar and we just put solar up everywhere. Could we do that in the West? That's a good question, whether we can compete and stuff like that.

27:19Raoul Pal:So if I'm right in my hypothesis that everything is this process of turning energy into intelligence, then you've got two multipliers. The US is leading intelligence and China is following. China is leading energy, but the US has all the oil and gas. So it's starting from a higher base, but China is ramping up faster. So there's two dials to move here, I think. And I think the US solar is growing stupid fast as well, coming out of here in Texas. So I don't think the US will ever catch China in solar, but China doesn't have actual oil in the ground, the US has that. So I think it's to do with total baseload and the race of change increase in that, and then the cost per unit of energy, because that has to come down for everything.

28:13Raoul Pal:And solar is doing that. And then how much intelligence you can get out of it. Now, China's leading in terms of robots. That's clear. But probably not, well, it's not leading in terms of AI, but it's not a million miles behind. So that's the race. I mean, this is the biggest race of all time.

28:30Andreas Steno:Yeah. Yeah, probably the reason why they're decoupling on everything physical, right? They just have to, because this is an arms race.

28:40Raoul Pal:It's an arms race, and with an aging population, don't get a choice either. No. And I've argued that this is what Japan is doing as well, that Japan is normalizing how its system works, because it was all run by the central bank and the MOF. And now they're letting the banks run by steepening the yield curves so the banks can earn a profit, so the banks can start lending. Because the only way of building out the capex required for the automation revolution, which Japan is part of, is the new capital. And it won't come from the central bank. It has to come from the banking system itself, which hasn't been lending in decades, and has to relearn that muscle.

29:17Raoul Pal:I think that's what's going on there, renormalizing the economy to allow the banks to reliquify and to then lend to fund a capex boom.

29:28Andreas Steno:Yeah, I think you're right. And, you know, allow me to add one thing, Raoul, because a lot of people sent me the link to Ray Dalio's recent blog post around the new world order and, you know, the end of globalization and all of that. I actually think there's an important twist to consider in this whole globalization discussion. Take a look at Waymo, Alphabet's autonomous vehicle unit. During a hearing in Congress, was it a month or two back, they admitted to having a workforce in the Philippines taking over the wheel in case of emergency with these cars, right? So I'm actually pondering right now whether we end up getting, at least initially, almost a hyper-globalized labor market out of AI and robotics.

30:24Andreas Steno:Since you probably need a plan B in case the vehicle suddenly ends up in trouble. And that plan B is in the Philippines, a guy wearing VR glasses and taking charge of the vehicle in that case. You had the same with Tesla's Optimus. It was also revealed that they had a workforce in India. So I think that's a very interesting twist to this, that you could probably end up hiring anywhere in the world with this combination of AI, robotics, and virtual reality, right?

31:04Raoul Pal:So a quick break in your regular programming. If you're serious about your future, grab my free report called Prepare for 2030. I think you've got five years to make as much money as possible. And this guide will help you navigate what's coming. The link is in the description. Download it now. Yeah. We've also seen a massive amount of people, workforce in Africa and Southeast Asia and South Asia, labeling data for AI. Right. So there is an ability for those people to find work in this new intelligence economy in a way that doesn't feel obvious yet. It's like, we're not fully there yet. And we need to train these things in certain ways.

31:53Raoul Pal:And humans are pretty good at that. Yeah.

31:56Andreas Steno:I also noticed when I visited Miami, a couple of the hotels had virtual receptionists in Asia now instead of local receptionists. It's amazing, right? And I don't think we have completely wrapped our head around how that will impact the labor market yet. What is clear to me is that you need to look at the trends in the technology sector in terms of hiring because they're aware of what's coming. And it's essentially the only sector that is currently harvesting all of the AI returns through their shrinking labor force while they're growing earnings. It's quite interesting, right? It's probably the sector that grows earnings the most, and it's the sector that hires the least.

32:43Andreas Steno:It will show up in every sector in a few years.

32:46Raoul Pal:And if you've stepped back as an investor, what does that tell you? Their margins are going to go up. Of course. Yes, you've got the capex cost. I get that. So you're playing human cost with capex cost, but the human cost keeps going on forever while the capex cost gets paid off over a period of time. So they're making a long-term decision about margin, which is our margins are going to go up over time because we can reduce the workforce in the companies. and you know this is from an outset of already extremely high margins in a historical context

33:25Andreas Steno:right you know margins have been going up since year 2000 more or less on a trend basis and they can go up further of course i mean how do you even how do you even measure margins if you have for example autonomous taxis i mean the margin is endless more or less so you can have it running 24-7. There's this startup in the UK doing 24-7 booking calls for restaurants. I don't know whether you've seen it. They've received funding from NVIDIA and others. So, I mean, they're using AI to just call people, you know, making restaurant bookings. But it's basically a call center, AI-driven. It's running all the time.

34:04Andreas Steno:There's no limits to it. There are no limits to it, right? They'll have more or less endless margins if they manage to scale this. Yeah.

34:14Raoul Pal:And you just see that everywhere. But what's weird is how macro now has become this whole conceptual thing, because we're having to go through the biggest period of change. Humanity, the global economy, everything's ever gone through. Macro's job is to see it in advance. so we're much earlier generally than others yes the technology industry obviously knows it because it's building it but so few others really yet get it um and so when people talk about a bubble it's not a bubble if i speak to any of my friends they have no idea about any of this stuff none of it we're on x all day looking at people building stuff on clawbot going oh my god how do i i met a friend of mine from coinbase happened to be in an airport yesterday and i'm like what been up to is like, oh, in my spare time, I'm building claw bots and I've got one running my company and I've got one in a startup that I invested in as employees running all of this shit.

35:10Raoul Pal:I speak to my friends, they've got no clue. I mean, zero clue. And these people now, because they're all in their fifties, in senior positions, in senior companies, they have no idea what's happening.

35:22Andreas Steno:And even the people from my generation, my age, slowly but surely getting into the executive roles they're still two three years behind on this um so again we're so early on this and of course you know it i'm not going to be gullible on this show i know that there are plenty of practical roadblocks in terms of implementing this in blue chip companies i get that um but they haven't even started yet that's the main message they haven't even started yet.

35:57Raoul Pal:So outside of this kind of mega trend that's kind of complicating it for everybody, business cycle-wise, you just think, okay, the business cycle expands from here. It continues to expand till whenever, whether it's into the end of the year or into next year. The political fiscal cycle in the US keeps driving it. What's your, just going into the business cycle side, what's your view on all of that?

36:20Andreas Steno:So first of all, I think it was a game changer that we got this reintroduction of the bonus depreciation in one big, beautiful bill. It basically means that you're incentivized from a tax perspective to do CapEx now rather than later. We've obviously seen the first signs of that in the quarterly reports from Alphabet and Amazon, etc., that they're spending big this year. But it also shows up in the CapEx expectations for smaller companies now, which is probably the big game changer relative to last year. So this is a CapEx year, also outside of the Mach 7s. And that obviously means that we're also approaching the part of the cycle where everything from oil to industrially linked commodities will start to thrive.

37:14Andreas Steno:We've seen the first signs of that in the energy space since New Year's. You've seen great returns if you've invested in some of the oil companies. And I think that will keep going through the year.

37:30Andreas Steno:So what's the downside of this, if there is any? I think at the point where the energy inflation will sort of pass through the system, which cyclically will happen at some point towards the end of the year, that's probably where you'll get some slowing of the rate of change investment-wise. We're still very far from that. And I mean, just look at the latest inflation report. Energy is still clearly disinflating the overall basket of goods. But we may be three, four quarters away from energy spilling over to the rest of the basket. And that's typically where you need to at least consider whether the rate of change slows.

38:14Andreas Steno:And I think it's a fair assumption right now that we're three, four quarters away from that. But until then, as long as commodities go up hand in hand with the market, I'm basically long commodities and technology right now, which is probably the part of the cycle we're in. Then everything's fine. When technology rolls over and commodities keep going up, that's probably where you need to run for the hills.

38:38Raoul Pal:And my working hypothesis is that, let's say, Walsh cuts rates. We may never see a rate rise again. Yeah. Right. We may never have seen, yeah, we may never see one again because of the massively deflationary pressure of what's happening and the rise in productivity. And that, yes, liquidity, we'll come on to liquidity in a sec. We'll get withdrawn because we don't need to roll as much debt. The market goes sideways for a while. The late 90s were exactly this. And what happened was you get periods of consolidation that last a year, but nothing really went down. Nothing really blew up. Yes, we had the Asian crisis in the middle of it, but it didn't last very long again.

39:23It just kind of was a V-shape,

39:26Raoul Pal:and then it went straight down and came back up again. It feels like that is the environment we're going into, and I still think if that's the case, and people are still late in this, the true bubble cycle comes next. So like 28 onwards, it just sucks in everything.

39:44Andreas Steno:Again, if you look at the comparison to the run-up to year 2000, what you saw ahead of year 2000 was a huge spike in returns in companies doing CapEx. We're currently seeing the exact opposite. And I would worry if investors started piling in big time into companies with a falling free cash flow. You know, that's odd from a textbook perspective. Right now, we see the textbook reaction to CapEx, right? Free cash flow falls in Google, Amazon, et cetera, and investors, they pull out. That's nothing to worry about. I mean, it's certainly not a bubble when you see that kind of response in markets, right?

40:28Andreas Steno:If you see a divergence between free cash flows and return profiles, That's probably where you need to reconsider the whole thesis. But we're so far from that. I mean, nothing in terms of return profiles versus earnings versus CapEx resembles what we saw in the run-up to 2000.

40:45Raoul Pal:No, exactly right. So let's talk about liquidity because that's obviously an important thing. How are you seeing liquidity right now? And we'll exchange notes on what we're seeing or thinking.

40:57Andreas Steno:So I think it's important when you discuss liquidity to make a distinction between what I typically label as narrow liquidity. So the liquidity that is available for banks to transact with each other through the Federal Reserve System. And then the broader liquidity cycle, which includes deposits from households, corporates, etc. If we look at the narrow liquidity picture first, it remains slightly tight, to be honest. Right. We've seen a couple of shutdowns, both the one in the autumn and then the brief one we had over the calendar term between January and February. And every time we see shutdowns, we get a reaction to this narrow money measure, typically labeled net liquidity.

41:43Andreas Steno:Right. I still think we're, say, at least 200, 300 billion away from comfortable levels in that metric. That is essentially why they've undertaken these reserve management purchases of T-bills. They launched those in December, the Federal Reserve, to try and avoid these hiccups in the narrow liquidity between banks. And we're slowly but surely getting there. Also, if you look at the most recent week, they've ramped up purchases. They're running roughly at$20 billion a month now, sorry, a week now, which is a lot, right? We're talking$80 billion,$100 billion a month almost on a trajectory basis now.

42:19Andreas Steno:which compares to almost the peak of the COVID purchases. It's not too far off that kind of level. So the Fed is aware of that issue. They're trying to bring the structural liquidity back to an acceptable level. They've been told by all bank treasurers that they needed to add liquidity, and they've done so, and they're still doing so. The big question is whether Kevin Walsh and his whole school of thought will continue with these purchases once he's in office. But I actually think they will. And the reason is the following, right? We've seen hiccups in SOFR interest rates, repo interest rates, through the autumn of last year into this year as a consequence of this tight structural liquidity between banks.

43:11Andreas Steno:I think they want to avoid such hiccups at all costs ahead of the midterms, right? Why would you run the risk of having hiccups around the quarter turn of October, for example, due to a tight liquidity landscape between banks just ahead of that election? So in that sense, I think it's pretty safe to say that they'll continue these reserve management purchases towards the end of the year. 2027 may be a different discussion. On top of that, I know Kevin Walsh has been an advocate of a smaller balance sheet, a Federal Reserve balance sheet, that is, for a long time. And he's probably still thinking that it's doable.

43:52Andreas Steno:Let me stress this and underpin this and underscore this as much as I can. you cannot shrink the Fed balance sheet more than what you've already done unless you allow the private sector balance sheet to expand a lot before that.

44:09Raoul Pal:That's right. And I think that's what they want, right? I think the key focus is going to be bank lending, bank credit creation, all of that side of things. And that's where liquidity comes from, from the broader measures of liquidity and not the narrower measures. And that was the ESLR changes as well, was kind of laying the ground for that to happen. And if that happens, then can they have a smaller balance sheet in time, but not yet? Yeah, so, I mean, what we're talking about here is banks' ability to intermediate in

44:52Andreas Steno:treasury markets by the end of the day. To give you one brief example, I've been a part of running such a strategy in Europe for a while. It's a very normal hedge fund strategy now to buy, for example, treasuries and then asset swap those treasuries. And let me just explain what that means. You buy the US treasury and then you have an interest rate swap against that treasury. So you basically only harvest the spread between the treasury and the swap rate. There's a spread there and you can lever that trade up, up and up and up and up, right? That's a typical trade to undertake as a hedge fund manager in the US now.

45:27Andreas Steno:You've seen similar trades in Europe with spreads between mortgage rates and govies or mortgage rate and swaps. And those spreads are relatively stable over time. I said relatively stable. So it gives you a return profile that is very interesting if you level that up 20 times or something like that. That's the famous basis trade that the Bank of England got so worried about. Now, a lot of the repo transactions in markets go to that space right now. And if you look at software transactions, I think they're quadrupled over the course of the last four or five years, of course, also due to the LIBOR reform, but also in turn driven by this trade.

46:07Andreas Steno:It basically means that either the central bank will have to underpin this trade or the private banking system, the commercial banking system will have to be able to stomach this balance sheet themselves. And when you see a spike in the SOFR interest rate, it basically means that it gets more expensive to be levered up in these trades. And then you start to see the spillovers to treasuries, for example, and it impacts risk taking all the way through the system. So that's why it's so important for policymakers, Kevin Walsh, Scott Besson, to ensure that there's a very stable funding market for this trade.

46:42Andreas Steno:Because otherwise, you start to impact equities.

46:45Raoul Pal:Because they're the biggest marginal bar of treasuries.

46:47Andreas Steno:Exactly.

46:51Andreas Steno:And Scott Besson is a former hedge fund manager. We both know that he's been running business cycle analysis. He's been running liquidity analysis when running money. So he's perfectly aware of this. He's probably the Treasury Secretary in modern history who's most aware of this. I mean, he's super into the details of these trades. So he's perfectly aware that they need to secure stable funding conditions for this year to avoid hiccups in markets just ahead of the midterms, etc. So I expect them to both buy T-bills via the Federal Reserve System and at the same time allow the commercial banking system to expand their balance sheets.

47:32Andreas Steno:So we basically get liquidity from both channels.

47:35Raoul Pal:And the checks from the fiscal rebates are going to start coming through. And what that does is it goes straight onto, it comes out of the TGA and it actually goes straight into the bank balance sheets. and the banks then use that potentially for leverage, and it has a credit multiplier throughout the system. So when you increase the deposits in the system, deposits are the highest quality of capital the bank can have, because it pays no interest on it, and then it just levers it up, does whatever it wants with it. And they're about to give the banks, I don't know, a trillion or whatever the number is.

48:14Raoul Pal:I don't know how big the stimulus is in terms of rebates. That's a big deal. It'll draw down the TGA until the tax season comes, and then we've got a rebuild of some of that. So it feels like we're getting close, and we've got the ESLR changes. It feels like it's a very positive liquidity picture going forwards.

48:34Andreas Steno:Yeah. So, I mean, a lot of people have been pushing back against my liquidity thesis, but also your liquidity thesis, pointing to, for example, Bank of America's monthly fund manager survey, which shows that most portfolio managers, they're running out of cash. They're all in, so to speak. So where's the liquidity coming from? Where's the money coming from to push the market higher from here? And the answer is this, right? At this stage of the cycle, you typically see global central banks on the margin hiking interest rates. You've typically seen global central banks on the margin pulling liquidity out of the market.

49:20Andreas Steno:That was what happened in 2007. That was what happened in 1999 to 2000. If you want to compare to those situations, right, where you had a similar setup with no cash left for portfolio managers, currently we see the exact opposite. I mean, the average central bank is cutting interest rates. The average central bank is adding liquidity at a stage where you would typically see the opposite. And that is, I think, the ultimate conclusion for this year from a monetary policy standpoint and a liquidity standpoint, that you're not going to see the tide turning until the rock is pulled from under the liquidity cycle.

49:59Andreas Steno:And it's not being pulled from under the liquidity cycle. It's actually being amplified.

50:04Raoul Pal:Yeah. So we've only got a couple of minutes left. So what are your favorite trades for the next kind of three-month, six-month period, you think, considering everything we've talked about?

50:15Andreas Steno:So it's actually funny, Raoul. The last time I came on your show, I ended up saying that, you know, perfect setup will make money short term. And I ended up jinxing my own year. I was up 100%, I think. And then I had a big drawdown basically days after. So I'll be a little bit less cocky this time around. And interestingly, I actually probably have the same favorite trait as last time I was on. We've seen a technical breakout in the solar company called NextPower. It's a great company with a lot of patents. And basically what they do is that they optimize the return on investment on solar panels by ensuring that they always point in the right direction during the day.

51:04And, you know, it's just broken higher.

51:07Andreas Steno:I think the PMI cycle supports that trade as well. I think we're still early in the solar adoption in the U.S. and not least. And interestingly, the trade works, even though the administration is not particularly keen on that trade, if you know what I mean. So I don't think it is a trade that a lot of domestic portfolio managers have bought into because of the, you know, rhetoric against it from Scott Besson.

51:32Raoul Pal:Yeah, and the blow up from the last CapEx cycle in solar. People are still, they still have it in their heads, you know, this was a waste of money. So last question then is, what is going to outperform, you think, for the next six months out of your barbell? Is it going to be the commodity cyclical side of the equation? Or is it going to be technology, now it's had its correction, or it's in the middle of some sort of correction, whether it's sideways or in some of them they've fallen back. What's going to be the bigger performer, you think, in the barbell? And you'll probably be 100 % wrong, but that doesn't matter.

52:10Andreas Steno:I would prefer to express the technology bet in the mid-to-large cap segment just below the MAX 7s. I think there's a lot of value in that segment. So if you look at the next-gen NASDAQ ETF, for example, I think that looks very compelling. So that is the 100 companies that are close to approaching being the biggest 100 in Nesta. So that could be one way of trading it because you and I are well aware that when you see a pickup in the PMI cycle, it's typically a very good trade signal for the small to mid-cap segment of the market as well. Because you start to see a pickup in earnings that kind of spills over to the entire system.

52:52Andreas Steno:And that's probably exactly what we're going to see the next three, four quarters. So I don't think it would be out of the ordinary to see performance from this mid-cap segment. And then a lot of people are stuck in this narrative that, oh, it's because of the geopolitics of the U.S. that we see underperformance of U.S. indices versus the rest of the world. And I just have to remind them, it is 100 % normal to see that at this stage of the business cycle. And we have that discussion every time. Oh, is this the end of the dollar? Is this the end of the U.S. outperformance of the rest of the world?

53:25Andreas Steno:No, it's just a cyclical uptake across the world. It's the dollar smile. It happens every time. Yes. And we get this discussion every time. Is this the end of the US dominance? And no, it's probably not.

53:36Raoul Pal:Fantastic. Andreas, always, always good to have a conversation with you. And we'll catch up again soon. Yeah. Take care, mate. Take care. Okay. As ever, a great conversation with Andreas. Managed to cover a lot of ground. As I mentioned in the beginning, we're all focusing on, you know, what does this all mean? this massive change in technology? What does it mean for economies? What does it mean for markets? What does it mean for our portfolios? How we should be allocating? And hopefully, Andreas and I manage to sort some of that out for you. See you next time. Today's episode is brought to you by Abra.

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