Will Macro Forces Spark a Crypto Boom?

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1:35What's up, everybody? It's Ash Bennington. Welcome back to Real Vision Crypto Daily Briefing. Before we introduce our guest all this week, we're talking about a new Real Vision, a massive upgrade coming this summer. I'm sure many of you still have plenty of questions about it, which is why we're hosting a series of town hall meetings to discuss exactly this topic. The first one took place yesterday. I was on a panel with Maggie Lake and Raoul Pal. We got a lot of great questions from our visionaries, as you might imagine. If you want to know more about the platform, please check it out. Here's why it matters.

2:07Prices at Real Vision, like a lot of things in our economy, are going up this summer. If you're already a Real Vision member, you can lock in current membership at up to 50 % off or level up at member-only prices before Monday, July 24th. Here's where to go to check it out. Realvision.com forward slash level up all lowercase. That's realvision.com forward slash level up all lowercase. All right. Lots to talk about on that front. But now on to today's show. Joining me is Joe Chow, partner at Millennium Capital and former Fed economist. Hey, Joe, always a pleasure to have you. Welcome back to the show, man.

2:44Thanks, Ashlyn. Good to see you again. Great to see you as well. Okay, Joe, So quick overview, where are we right now with crypto markets and macro? Yeah, I think we have to start with where we are in terms of macroeconomics and just look at financial markets and crypto assets through the lens of the macroeconomics environment. And so in terms of where we are in the macro, there's really three pieces. One is where we are in the business cycle. The second thing is, what's the Fed up to? What's the Fed's going to do? And number three is how that's going to impact asset allocations. And from that, you can sort of really figure out kind of where capital is flowing in and out between traditional asset classes and digital asset classes.

3:26And that will kind of give a more kind of a stronger context to understanding kind of where we're going in terms of digital assets economy. So starting from where we are in the macro environment. So we're at the part of the business cycle where Fed policy has halfway permeated through the economy. In fact, Fed policy takes really 18 months to really hit the economy. Both of the rate hikes last year took place in the summer months of 2022. So if you recall, the Fed raised rates three times consecutively by 75 bps each time. So that was a two and a quarter percentage of increases in a matter of three months.

4:08Well, both of that rate hikes took place in the summer months of 2022. too. So you would expect that those rate hikes to really hit the economy in the second half of Fisher 2023. So we're still not there yet. So in the next coming six months, we'll see many more impact by Fed policy on the real economy, whether it's real estate, whether it's corporate default rates, whether it's consumer lending borrowing costs. So that's kind of where we are, is we're not yet through this part of the cycle where the Fed policy is going to impact the real economy. So the second part is what's the Fed going to do?

4:43And what the Fed is going to do is, you know, I mean, the Fed in my view is almost done with rate hikes in this cycle. They see two more rate hikes. I mean, you know, the market seems to think that there's probably one rate hike, but whether if there's one rate hike or two rate hikes coming, we're probably almost done with rate hikes. It's like you're driving out of the tunnel. You can see the lights, you know, whether it's another five minutes in the tunnel or two minutes, like we're almost there. And so I think this is the time when the market has already begun to work at 2024, introvert environments and making calculations for asset allocations.

5:17So lastly, from an asset allocation standpoint, from asset allocators, whether it's pension funds, endowments, foundation, semi offices, and any retail investors are already thinking about what 2024 looks like from a macroeconomics and financial markets standpoint. And what they're thinking and And what they're doing is that they see certainty with respect to what the Fed's going to do in the next 12 months. They see that rates are peaking. We're maybe not done completely, but we're almost done. And they're beginning to go back into the financial markets or making decisions. And so that's why you're seeing sort of the markets becoming a little bit stronger, risk appetite, risk taking kind of coming back to the market a little bit.

5:58The NASDAQ is up. And so I think to summarize it, we're at a part of the business side. where investors are becoming more certain about what the Fed's going to do in the next six to 12 months and they're beginning to plan ahead. And that's why you're seeing more financial market activities. And so with that as a backdrop in terms of digital assets, you're seeing digital assets as one of the sub-asset classes benefiting from the increased investor confidence. That's why you see Bitcoin is you're kind of going up to like 30 ,000 and 2 ,000 respectively is you're seeing risk, digital assets moving in tandem with the NASDAQ and the S &P because of all those macro backdrops.

6:38And so that's where the macro perspective was happening in my view between digital assets and traditional financial assets. Joe, that's about as concise and expansive a summary as one's likely to hear in five minutes about the general macro backdrop. Let me just see if I get this right in terms of the context that you frame. I hear you talking about this in three parts. Number one, the general overall macroeconomic state of where we are today. Number two, the Fed reaction function to that in terms of policy action on the monetary side. And then number three, the impact that it has on asset allocation throughout markets, digital and capital markets.

7:13So, you know, as you frame this out, as you describe this, you mentioned this idea of the lags. This is what Jay Powell notoriously has called long and variable lags between monetary policy and the impacts of monetary policy. That's one of the challenging sort of tricky cycles aspects of this that's difficult to pinpoint, difficult to sort out. We're in this period right now where markets are pricing the probability of one more rate hike in at the 726 meeting. That's the next meeting in July 26th, some five days from now next week. Right now, looks like it's priced, I'm looking right now at my Bloomberg terminal, at almost 100%, 96.

7:48That means 25 basis points, current target rate, 500 to 525 effective rate about 5.08. That means it looks like we're going based on market probability to roughly five and a half percent. That's about right. And, and, you know, the next rate hike is almost baked in. I think there's two things I would say, which is, you know, as a, you know, having, you know, worked on many, many FOMC meetings, like behind the scenes. the lag effect is always like one of the underpinnings to financial and macroeconomics. The Fed chairman, the Fed governor, the economists have always known for decades and for even almost a century.

8:31And so that's always been like one of the considerations they put on the table when they think about monetary policy. And so what that means is if they raise rates, the impact to achieve an economic objective, that the objective may not take place for 12 to 18 months. And that is why if we go back to the 1990s and 2000 with the way Alan Greenspan used to operate, he was actually opaque. And I think he did it for a reason, that because he was opaque, because he realized – there's a saying in monetary policy, you want to be opaque and you want to seek moderation. You don't want to go too extreme on either spectrum.

9:17You don't want to go too easy or too tight. You want to seek a good moderation in policy because these policy actions have such a long-lasting effect on the economy that you really want to wait and see before you kind of react. And so that's why the Fed realizes and I think CEOs know that, the private markets also know that, the private sector also knows that. We're going to see many more actual impact by Fed policy coming to the market in the next 6 to 12 months and that we're not out of the woods yet. And so that's why it's still good to be prudent and cautious at the same time, but to know that we're halfway through, but we're not completely through.

9:56Joe, this is why I'm so glad to have you here, because you're someone who's actually been in the room, helped prepare the data, helped prepare the statements. This is what's so interesting to me about where we are today. As everyone knows, the Fed still perceives that inflation in the economy is too high. Here's the unusual part about this particular moment. We're pricing in, essentially, as you say, baking in one more rate hike. But then when you look at the forward curve of the futures market, it's pricing in rate cuts. How do the folks in the room at the Fed think about that phenomenon? How do they take it into account?

10:30And above all, what does it mean for asset prices going forward? Quick question. This is a very, very good question. I think this question should be mentioned, talked about way more in the press. So one of the things that you don't hear a lot in the press, which is one of the things I like to say, is that financial market indicators like these forward rates, whether it's OIS or SOFR LIBOR or whatever it is that people may be looking at. There's several of these market-based indicators, in my view, are always biased. Now, why are they biased? They're biased because these rates are derived from Wall Street institutions, banks and hedge funds and buy-side and sell-side who are trading on these assets that have a view on the Fed policy.

11:16But these are the same people in the same institutions who benefit from an easier, from sort of Fed policy changes, whether that introduces more volatility so they can trade on it, or whether it's a looser monitor policy so that equity managers can gain on the upside. So in my view, and that the market-based indicators like these forward rates, derivatives-based rates are not only volatile but less credible because they're guessing what the Fed's going to do and they're also biased because the same inputs are by institutions who have in a way accomplished interest with what the underlying rate in the economy is because they see the benefit if rates change in that direction.

12:05And so the Fed definitely, in my view, I think puts less emphasis on market-based expectations. And so what that means logically is that these market-based rates have a bigger impact on the financial markets than on the Fed's actual reaction functions. I'll give you one analogy. If I am the principal of a school and all the students are saying, hey, we got to get out of class earlier. Would you bend to that pressure? Would you be like, if I'm the principal, I'm in charge. And so I just don't think that the Fed really, the Fed will definitely consider because all those numbers are reported to the Fed, but they will make their own decisions based on economic objectives.

12:46Well, I guess it depends just how unruly the students are in any given day.

12:55Joe, I really appreciate the insight that you have from being in the room about this. And but when you see, let me ask you this. And as we start to think about the asset pricing aspect of this, what markets begin to telegraph in terms of that conversation, maybe that dialectic between the Fed and Wall Street institutions, when you have this pricing interval reversal, a hike, and then a series of cuts being priced on the back end. How do markets react to that? If as you now in sort of wearing your new hat, which is allocating capital, how do you think about that challenge? Great question. So I think the other part of your question, your previous question, which I didn't touch on, which I apologize, is how does a market pricing rate cuts earlier impact financial market assets?

13:38So basically, to take a step back, what the Fed has been saying is we're going to hold the rates long for high. What the market's been saying is based on these derivatives, how they trade, the market's been saying the Fed's going to cut rates earlier than they say. And so do you believe the market? Do you believe the Fed? Well, I think the Fed probably has a little bit more leverage here because they're the ones who control the rates and the market is putting a probability based on what the Fed's going to do.

14:05But a lot of the financial market assets are priced on market-based expectations. And so because market-based expectations like these, whether it's inflation rates, whether it's 10-year treasury, are pricing a cut that the Fed may not come to, what that would mean is all things equal, financial markets are getting ahead of themselves and they're probably getting, if you're an equity asset, you're probably getting overpriced. But again, but I would say whether a financial market is fairly priced or overpriced is really marginal because let's say the market, let's say a 10-year treasury, let's say a two-year treasury is trading at 4.8%, but in two years, the Fed may be at 4.6.

14:52Well, that delta, the accuracy between the market and the Fed, it's maybe only in a matter of basis points. So because it's so small, it wouldn't have a huge impact on financial market assets. But financial market assets are a lot of it are based on these market-based measures like these two-year treasury yields. Well, I guess it comes down to this almost philosophical question. What do you believe? What I tell you I'm going to do or what I've done in the past? And that's correct. And that's why there's always a lot of deal with these financial markets. You know, that's why there's always room to trade and make money.

15:20Yeah, exactly. Hey, listen, talking about asset pricing, you know, and the question of whether things are overpriced, underpriced, fairly priced, always an interesting conversation. It's a little bit philosophical, but what we can look at is historical performance. Here's where we are right now. Year-to-date on the S &P 500 up nearly 18.5 % as we've just passed the H1 point, the first half of this year. NASDAQ 100 red hot. It's up over 41%. Obviously, there's something worth talking about here in terms of digital asset markets because of the correlation to digital assets. Bitcoin on the year up some 80-plus percent.

15:59Ethereum on the year up nearly 58%. Obviously those, those returns on the SPX and NASDAQ 100 significantly above the average annualized performance for the year. And yet here we are sitting just a little bit past the halfway mark, red, red hot. Yeah. And I think, you know, just like last year when I was on your show, you know, one of my hypotheses is one of the hypotheses that many market commentators, you know, we would talk about is that Bitcoin and Ethereum were becoming mature financial assets that they were following the NASDAQ. And so just like with NASDAQ felt last year, Bitcoin really and Ether really declined.

16:38Now that NASDAQ and S &P have rebounded, if it's at 18 % and 41 % respectively, that Bitcoin and Ether have rebounded. So if there's a high correlation, whether you can debate whether that should be the case, but if you look at it from an empirical data standpoint, if you just run a regression, there's a high correlation between between the two asset classes. Hey, talking about empirical data, we've got some folks in the background wondering about your background, Joe. Paul just said it's like a window into the future. That's pretty cosmic. Tell us a little bit about your background, what you did at the Fed, and how you made this transition into private markets.

17:14For sure. I spent several years in D.C. and worked in a group that was responsible for helping the Board of Governors and the chair formulating monetary policy. So that man was looking at a lot of things that the way I think about markets, a lot of things I, a lot of the ways I think about the markets, a lot of the ways I analyze the markets were things I learned at the FRB, the Fed Reserve Board, FRB. So the way that the groups operated was you really operate on this FOMC cycle. So every eight weeks, sorry, every six weeks, excuse me, there's eight meetings a year, six weeks, every six weeks, there's an effluencing meeting.

17:56So really the staff kind of have their routines kind of revolving around that schedule. So like literally every three weeks before the effluencing meeting, we would all get really busy gathering data about the state of the macroeconomics, the economic data and the financial market data. And then we would then talk to Wall Street and have a view about financial markets and how that impacts how Fed policies really permeate through the economy and the markets in the economy. So a lot of things I describe are things I kind of used to work on, I learned. And so I, you know, as a staffer, like working in a monastery policy group, working for the governors and then the chair, like you, you have great exposure to what's going on.

18:29I mean, you don't have a vote, but you sort of like work behind the scenes. And, you know, for me, I was fortunate that when I, early in my career, I, you know, I tend to have a pretty good memory. And I worked on these things in like eight, 10, 12, whatever, many times. And after, you know, two, three times of working on these FOMC meetings, you know, you kind memorize the routine and you just know what to do and you just get a little faster. So for me, I was fortunate to have worked on many of these EvoMZ meetings in the 2010 to 2015 era. So that was when the economy was weak, rates were low, there was a juicy economy.

19:01And so you kind of learned how the Fed was thinking about these things. But now in this part of the cycle in 2021 or 2023, we have the opposite problem, which is the economy is too strong. They're trying to a raise raise to kind of calm the economy. So in a way, you can sort of think that what the Fed is doing now is the inverse of what we're doing 10 years ago. And so if you can sort of just extrapolate, that's why a lot of the market reaction functions are similar, but I accept the same because when it's going forward, when it's going backwards. And then I just wanted to put that into use and I wanted to go transition towards the private sector, spend a number of years in consulting and banking and private equity.

19:40And now recently, a few years ago started millennia, which is we look at macroeconomics, but we trade in private markets. Right. So it's, you know, from hiking to cutting, from easing to tightening. That's the full breadth of the cycle that you've now witnessed. Let's talk a little bit about private markets, which you just mentioned. I think it's an important indicator. It's something that folks who are out there maybe watching the news cycle don't have access to, harder to benchmark. Talk a little bit about what you see for this economy in private markets and what's its impact on the digital asset crypto space?

20:12So digital assets, there's been what I would call a consolidation or washout. Stronger companies are staying. Some of the weaker companies have gone and some of the people have recycled and joined stronger companies where they're starting new businesses. I mean, we're still talking to many entrepreneurs who are starting new Web3 DeFi companies and so that ecosystem has consolidated, but it hasn't gone away. But independently, what's happening now in private market is AI has become big and fierce and strong and it's literally what everyone's talking about. So I think for the context of this show, we can think about how AI and Web3 and DeFi crypto and blockchain are going to interact.

20:54One of the things that one of the so I mean, blockchain crypto is its own industry. AI is its own innovation and its own industry. Right now, the two industries are exclusive. They're not interacting much. But many people are trying to figure out how would you, because these are two valid technologies. One is blockchain, one is AI. And so the way to think about it is blockchain is a horizontal layer distributed technology that helps with transactions and proof of trust. AI is more of a vertical technology where you can run data and train AI to become really smart. So people are trying, investors and entrepreneurs are trying to figure out how do you mirror the mirrors of AI and blockchain?

21:39And there's many theories and people are working on that. But I think, and I was talking to Ash earlier, you know, before the show, just to catch up, the entrepreneurs and the VCs figure out how you mirror AI with blockchain will have a lot of success in the coming decade. Yeah, I think that's just absolutely spot on, Joe. And it's something that it just seems so obvious. I mean, you literally, and it's interesting when you look at just sort of mainstream media, right? You've got all these articles being written by folks saying things like, you know, we have this new technology in AI that makes understanding of what truth really is very difficult to understand.

22:14We've got a whole group of people in the blockchain space who are saying, hey, listen, our whole raison d 'etre here is to figure out what a source of truth looks like, how it works, how it functions, how it gets voted on. And so it seems just so obvious that these two technologies are going to merge at least on that point and probably, quite frankly, myriad other ways in which they're going to be integrated. Another, I think, very obvious one when you talk about just two groups of people saying different things. When you think about some of the security flaws that we've seen in the DeFi space, the obvious opportunity here is for AI to go in and do code audits, figure out.

22:49And that might be an interesting thing because you might have this war between the offensive AI and the defensive AI. I mean, it's just an incredibly interesting moment to be alive, to see these technologies. As you say, I think the worlds right now are largely divided. It seems like different groups of folks who are interested in them, working on them, investing in them. However, in the future, that may converge. Yeah, and I think I'll be honest with you that I've been more excited this year about the private markets than I did last year. Because honestly, before OpenAI, kind of blew things up with AI.

23:24I mean, AI was still around, but it just didn't have the massive sort of acceptance adoption of it, if you would. I think what OpenAI's biggest contribution, and there's competing AI tools, OpenAI is only one, and it's the most prominent, is that it gave every consumer, every person the chance to play with it themselves for free. And based on the social proof theory, everyone played with it, everyone was moderately impressed with it. Is GPT the perfect tool? No, but it's more of a minimal viable product. That's like a venture capital term. MVP, it's like the bare bone product that works. And so really, OpenAI GPT was an MVP that worked, that established what it is and the potential of it, and people were impressed by it.

24:09But really, in 5 to 10 to 15, 20 to 50 years, when AI tools mature, there will be way more sophisticated than GPT is. And so there's two kind of ways that a lot of VCs, and I go to a lot of these VTC conferences, I'm a VC, we're thinking about that AI can really converge with blockchain. One is that you can actually, one of the dangers of AI, the first one is one of the dangers of AI is how do you keep AI in check that it doesn't just overtake the world, that it doesn't teach yourself bad things and just overrule with humans. Well, what if you train AI on the blockchain where the blockchain is basically a set of rules that tells you what you can or cannot do?

24:55So what if you train the AI, kind of an artificial human, artificial brain on the blockchain that has a set of rules for what the AI can or cannot do? Then even if there's no human involvement, no human supervision, the blockchain will still be able to regulate AI. So that's one of the ways theoretically that these two markets can work together. So basically, you're talking about essentially a kind of blockchain guardrails, where blockchain becomes a kind of verified data set that the artificial intelligence can explore, and you know that it won't jump outside of that sandbox. Correct. Because think about AI is really just a lot of code training on data.