Is a Second Wave of Inflation Coming? With Vincent Deluard and Raoul Pal

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0:30global macro strategy at StoneX. Hi, Vincent. How are you? Great. Happy to be here. Yeah, we've got, I'm always happy you're here on inflation day to day since you are one of the, you know, longtime inflationistas. Proudly, you've been on that call and very right on it for a long time. So we had the September producer price index come in a little hotter than expected. Interestingly, we didn't see a lot of market reaction. It seems maybe investors are, you know, waiting for the next shoe to drop because we do have CPI out on Thursday. But what do you think? Is this the beginning of a second wave of inflation?

1:13Probably, I wouldn't call it the beginning of the second wave yet. I think what's happening now is kind of a stabilization of inflation at an uncomfortably high level. I think for what it's worth, I think that's what we're going to see tomorrow. I think we're going to bounce around that level for a while. Then, yeah, maybe there will be, my best guess is that there will be a second wave of inflation because that is the historical pattern. If you look at the long-term history of inflation, it always comes in waves after two or three years. But the driver of that second wave, usually some sort of geopolitical event, that is hard to predict.

1:56We may be seeing it now. It may be an escalation of Iran. It may be a second hold shock. We'll see. But even without that, my base case is that inflation doesn't come back to 2%. And that is not that big a problem for the Fed at the end of the day. I think the Fed will happily take a stabilization of inflation at this current level. Yeah, rather than going back up. I'm going to continue the inflation conversation in a minute. But somebody tells me we have a surprise guess. Is that right? Raul. I keep joking that Milton's everywhere. I kind of feel like you might be everywhere. We were thinking you might join us at the top of the show.

2:39So thank you, Vincent, for hanging tight for a second. But we wanted to try to catch up with you because we are just about to kick off a festival of learning, the next digital asset wave, which we're super excited about. And you're in New York for a lot of exciting things. So give us a little preview. What's going to be happening over the next couple of days? Look, Festival of Learning is something we've been doing at Real Vision for a while. I think we started in the pandemic. And the idea is to give people a concentrated learning in a particular topic. And this time, it's all about crypto and digital assets and the way forward.

3:14And we partnered this time with Ledger, who are good friends of ours at Real Vision. Everybody knows people like Ian Rogers, who've been at Real Vision quite often. And the idea is to partner with them to help as many people as possible as we're in this crypto spring period. How to think about the couple of years ahead, how to position yourself, how not to screw up like people have done in the past, how to understand what to do about security, how to understand how things like NFTs work and how you should approach them, how you should think about trading these markets and also learn from some of the mistakes of others.

3:53That's always a key thing that we do at these Festival of Learnings is how not to screw things up and how I screwed something up in the past. Yeah. And you're using your best, very best language with that. Sometimes we sometimes refer to it a bit more strongly. But, you know, I think you're making an accept a sort of assumption that everybody knows who folks like Ian Rogers is. I mean, his life story and he's going to be going to be on one of the panels. His life story is nothing short of remarkable. I mean, this guy has been on the forward foot of every major innovative wave that's come to us.

4:30He's one of those people that I think sees around corners, which is why I think this will be so cool for people. Yeah, I mean, Ian, not only was he on tour with the Beastie Boys, not only is he a skater from Indiana, but also he was the very forefront of the music, the digital music revolution with, he was one of the co-founders of Winamp and he's a chief experience officer himself. So he designs the experiences. He's a coder as well. He does everything, but he did that. They then sold it. They then built Yahoo music. They then sold that. They then, then he joined up with Dr. Dre and built Beats by Dre, which then got bought by Apple Music.

5:17He then built Apple Music. He then decides to leave. He goes to some small startup called Louis Vuitton Moet Hennessy, which is the largest luxury goods company in the world. He joins the board there with the remit of getting them into the digital world. They were 1 % digital sales, and he got them into... over 50 % of all of their sales worldwide were digital. And that was helping Bernard Arnault personally, who's the second richest man in the world, do that. He then leaves that and says, fuck it, I'm going to crypto and Web3 because they need my help. And it's another revolution like the internet music revolution, like the online revolution.

6:06And he came and joined that. So I think it's just one of, I mean, he's a good friend of mine, but he's just one of the people at the event. We've got Keith Grossman, who was the president of Time magazine, who took a sleepy magazine, brought them into Web3 at the forefront of Web3, and he's now at Moonpay. We've got some of the best NFT artists in the entire space. We've got regulators talking through regulation. We've got some of the very best people in regulation, including people from government, outside government, and at the forefront of all of this. RAOUL PAL Yeah. Well, I think this is important because there could be some people who are thinking like, okay, crypto, I know you're calling it crypto spring because you're so in it, but crypto is dead right now.

6:49Why should I pay attention? I'll catch up whenever it springs back to life. But these are all people who are always many steps ahead of others. I think it's important to pay attention to what's going on right now. RAOUL PAL And what is important is, look, this is a new asset class, relatively new. It's really been going 10 years, a little bit over 10 years. Most people in the space are very new. Most people are in the space from the last cycle or the cycle before. Many people didn't come like me with a traditional finance background and haven't learned all of the tools yet. So everyone's trying to learn on the fly.

7:32and so the idea here is we're here to help we're here to give people you know if real vision is all about the kind of giving people the knowledge the tools and the network to thrive and survive well here we are this is going to give you all of the knowledge well it's on the platform and the new platform you're going to get all of the tools that you need and the network well we're there chatting, talking to each other, learning from each other. So it should give you whatever you need to get ready for the years ahead. Yeah. I'm super excited about it. Ian Rogers also, by the way, had a kid when he was 17.

8:09I mean, this is like great. His story is just absolutely remarkable. I'm super excited. And you and I are going to finish it out with an AMA, I think, on Friday, right? Yeah, absolutely. All right. I'm going to actually take a poll during the show today and ask them what they think we should be drinking, because we know you're partial to Spanish Cava. You're going to have just come back from New York. I introduced you to Spanish Cava and you saw the lights, right? You're like, oh my God, this is amazing. This is true. But I'm going to leave it up to you. Sorry, Vincent, cover your ears. I know it's not French, but it's, you know.

8:40Yes, that's right. Well, Vincent will forgive us. I am going to leave it up to our audience, though, Raoul, to say what they think we should be celebrating the end of the Festival of Learning for. So stay tuned. Don't go easy on them, everybody. Let's pick something good. Yeah. Thank you for letting me gatecrash here. But everybody, listen, it's a really good opportunity. We're passionate about learning, passionate about teaching people. So take this opportunity. It's completely free. I mean, that's the best thing about it. It's completely free. You'll get an opportunity. And there's a whole bunch of other great stuff.

9:12We built a gamified experience with Ledger around learning called a Ledger Quest. There's kind of giveaways of NFTs. There's also giveaways of Real Vision Ledger devices. That's for storage, for safe storage of your assets. There's a lot of fun stuff going on over that period. But most of all, you're going to get a lot out of it, and it doesn't cost you a penny. So it's the best zero dollars you'll ever spend in your life. And we've got a macro crypto panel, too. I understand, too. So that's going to be fun to talk about the crossover. All right. I'm super psyched. What are you in New York for?

9:48Can we ask? Are you at liberty to say? Well, yesterday I was seeing a whole mix of stuff. I was on Geordie Visser's podcast talking about AI this morning. Went into his office. That was a mind-blowing conversation. I saw Coinbase Asset Management yesterday, checking what they're up to. I'm going to Carly Riley, who's overpriced JPEGs. I've got a live event with her tonight. Sergio Silva's coming. Oh, fun. Another favorite on Real Vision, another crypto person, and catching up with just a whole bunch of people about different stuff. So a bit of a disjointed running around trip. Well, that's good.

10:24That's what intelligence gathering. So you can bring it all back into the festival. We love it. Well, you've escaped me this time. We're not going to meet up in the studio for a live one. We'll do it soon next time. Yeah. Next time you'll be begging to come to Cayman today, it because next time we do that, it'll be winter and you'll be like, please get me out of New York. All right. I might hold you to that. You're on the record for that. All right, Raoul, have fun. Take care. We'll see you later. All right, everyone. Take care. See you at the Festival of Learning. Starts tomorrow and Friday. It'll all be recorded as well.

10:53So you can catch up with all the sessions you didn't get. Right. But you want to join live so you can ask your questions. Realvision.com forward slash festival 23. All right, Raoul, safe travels. Take care. Bye-bye. Hey, everyone. We're going to take a quick break right now to hear a word from our partners. We'll be right back with more of the day's top analysis on the Real Vision Daily Briefing.

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12:16Okay, so let's get back to our macro conversation. So the Fed would take a slowdown, accept a slowdown in inflation. But is it going to be enough for bond investors? We've had this really this dynamic where everyone keeps sort of waiting for that moment that we're going to see the turn. And they've been trying to time it all along. And it's been a really painful trade for a lot of people. Do you do you get the sense that people are finally embracing higher for longer? Or, you know, if we see inflation even just start to settle here, will that be enough for the bond market? How do you see the relationship?

12:56I think over the medium term, of course, the CPI comes softer. You'll see treasuries rally and vice versa. But over the medium term, what's really going on in the treasury market is more about supply and demand than it is about fundamentals, which is why we introduced about eight months ago a liquidity scorecard that basically tracks. I mean, Stonex is historically, back to 100 years, we trade pork bellies and coffee and any sort of commodities. And whenever you analyze the pork belly market, I guess you look at a number of porks. I believe every pork has one belly, so that's simple. And then whoever eats pork bellies, I don't know, Chinese bellies.

13:47Anyway, but you try to develop a model for supply and demand. And that's been my approach for the treasury market. I mean, I have a global macro view, which real vision viewers are familiar with, I'm going to hire for longer, a great reset of raised inflation, second inflation, and so forth. But at the end of the day, the bond market doesn't really care about my view of secular inflation or R star or the neutral rate. It doesn't care about my economic model of the term premium. I mean, it cares about how many dollars are coming in and how many bonds are being sold. And that's been the reason why yields are coming back up, especially since we had this quarterly refunding announcement last quarter that just swam the market with trillion insurance at a time when the usual buyers were just not there.

14:37So sure, the CPI number is important. And I mean, even I, I could see a trade in bonds right now, of course, that's the move is so big that you're like, hey, especially if you get real yields, it's attractive. You get 3.3 % to your real yield. I mean, that's insane. Almost 5 % on a 10-year. So there's probably a trade there, maybe finally. But I don't think that the recession trade, the idea that But this is kind of like a weight, right, where the Fed had hiked to 525, and then it's going to cut to zero, and then the entire yield curve is going to collapse, and you're going to make 30%, 40 % with your TLT.

15:25I think people like Otrecht is going to keep pouring money into TLT, and that will never happen. Wow. So that's wrong. That's wrong-footed. You sent over, I think, a liquidity chart. Talk to me about the supply and demand. and why you think that's not going to happen. So we have heard people say, listen, to a certain extent, some of what we're seeing in bonds is disconnected from the economic fundamentals. And it sounds like you're also saying that. And I'm assuming the supply is all this issuance that's coming onto the market. So why aren't we going to get that turn that everyone expects? Or why won't we see?

16:00I understand you're saying that there's a tradable, a short-term tradable, maybe short move for bonds. But why won't we see that sort of more pronounced turn that tends to come with these cycles? What's going on that seems different to you? I mean, trillion-dollar deficits is the quick answer, right? I mean, you have this flood of issuance. And again, talking to that tactical turn, I can see it. Like the refunding, I think we had some sort of a trillion in a quarter. We're probably going to be around closer to$800 billion, which is still huge, but marginally better. we refilled the treasury general account is almost refilled um so we we have some reason to also we'll see um tax come in uh first from california california's tax funding deadline was pushed out to october 15 so you'll see that money come in that will reduce the amount of borrowing that we need to do and you get to your end you get more more tax payments so that that's the trade idea Like, yes, supply will get marginally better in the next two months because it was at such a horrible level before that.

17:08I mean, it's not going to get any new bullish. It's going to be a little bit less bearish. And then looking at the demand side, yeah, you'll probably some, you know, I mean, the yields have moved up so much and so quickly that people will be enticed. Even now, my call for a long time has been, hey, don't overthink it, just buy two-year notes and sleep at night. I'd be inclined to push out the duration a little bit, obviously. That's the trade part. Over the longer term, though, both I would say from a supply and demand and a fundamental perspective, I think you end up with these higher yields.

17:52It's going to be a process. It never goes up in a straight line. There'll be moves and counter moves and things like that. But I think we need to see these higher term premiums. We've already moved quite a bit on the term premium. But if you believe like me that the 2010s are over and we're in a kind of a new secular inflationary era where stocks and bonds are positively rated, where inflation is more volatile, where growth is more volatile, where deficits are structurally higher, you need to see that term premium not at zero the way it is, but actually maybe 1%, 2%, 3%, like it used to be in the 80s and 90s.

18:27So if we're looking at the Treasury market, what does that look like? I mean, right now, we had the market pricing in a lot of rate cuts, then they take some out. Where are we with that? And if we're looking at this just structurally higher rate environment, how high is that on the sort of 10-year, 30-year? Yeah. I think one difficulty that people have is they look at the yield curve, and then from the yield curve, you can extrapolate the path of future monetary policy, because you know that from the one-year and the two-year yield, you can extrapolate the one-year in one year and so forth. You can compound the little increment.

19:11If you do that on the yield curve, even how flat it's become, you've seen that we've priced out a lot of cuts. We had more than four, and now it looks like the Fed is not going to cut below 4.3%. That's very low. Even I, I believe, will hit an economic slowdown. The economy will slow in 2024. Now, will it be enough to get us into recession? I'm not confident yet to make that call, but it certainly is possible. If we do have a recession, I expect the fed to cut at least three percent not four so you have this sense of like okay things are not right when you look at the yield curve um you know there should be more cuts in there uh but then you look at the long end and you know at this point the yield curve is pretty much flat right and you think also well but there's also a chance that inflation picks up that we have a second wave of inflation what we're talking about earlier that typically happens that's not in the curve either So you have to understand that this slattish yield curve is not a forecast that the Fed is not going to move rates.

20:14It's the result of two opposing forces. One, yeah, surely if we have a recession, there will be cuts. But also, we know that at some point, the Fed will have to hike again. Inflation may come back. And I actually believe both these things to be true. Now, they may happen in sequence. My best guess, unless we have a really nasty geopolitical shock, which may be underway, my best guess is that the economy will slow first and then we'll have a second facial shock. But the point is that the yield curve cannot predict the two things at the same time. It has to be the average of both. And I think that's what we're seeing right now.

20:55So do you think that the market is in any way prepared for, I mean, higher for longer, people just seem to think, oh, the Fed's not going to cut for longer, but your higher for longer means that we are just in a new regime with higher interest rates. Those don't seem like the same thing to me. Yeah. Yeah. And I mean, I think the way we get to my scenario is through the Fed keeping rates higher for longer, which seems to be the inclination, I think, from the minutes and from the communication that I see from the Fed. It seems that I think they're going to basically skip that last hike that, you know, was in the dots, but not really.

21:41And then just say, OK, instead, we're going to keep it for longer. Basically, they can play with the level or the duration. It's like, we're going to do the duration. Why not? Then I think the more time passes, the more you realize that the conditions will never be ripe for these massive easing cycles. My scenario of rates resetting, and in that reset scenario, 5 % is very, very reasonable for the 10-year. I mean, it can go a lot. If you have, let's call inflation on average 3.5%, 4%, real growth, I'm actually quite bullish on real growth. I mean, the kind of deficits that we have, it's almost a given that we'll have higher growth.

22:24So that leaves nominal GDP growing at 6%, 7 % over the long term. So tenure at 5 % is nothing surprising. Yeah. It sounds like you're saying the range is higher. You're not going to get that sort of deep cut and then reacceleration. They're just going to sit there, but inflation comes back and then it goes higher. So it never goes as low as people are expecting. And it may overshoot on the higher end if that second wave of inflation does come up. Yeah. Which is not what the bond market seems to be pricing in if we have people who keep looking to get in and buy that turn, which is what we seem to have.

23:06Let's grab a question here. So Jeremy asking, can banks be profitable in this environment? I mean, generally, before SVB, the consensus was that higher rates and steeper curves were good for banks. Because banks typically have free money in the form of deposits and they compound it at a higher rate. And when the curve steepens, typically there's a situation mismatch when deposits have a zero duration and banks' assets have a longer duration. So I do think, yes, banks can and should be profitable in their environment. Now there will be the need to reprice assets for this world, which has not been felt.

23:50so the way banks carry securities basically three accounting categories mark to market that's typically where they put their stocks that's what everyone has to do, normal people we have to mark stuff to market available for sale so I think it's got to do with the profits versus the capital gains it's kind of in terms of category but the one that's important is a hold to maturity where you just carry the thing at that book value. Okay, well, it will mature at$1 ,000 in 10 years. So it's$1 ,000 right there. That's where most of the long-term securities are, long-term treasuries are. And yeah, I mean, you can scream at it.

24:35I think Bank of America has about$100 billion in underwater position if these health and maturity treasuries were written down, but they don't. And I mean, the bonds will mature We're going to take another quick break to hear a word from our partners. We'll be right back with more of the day's top analysis on the Real Vision Daily Briefing.

24:59So this is an interesting question, and it relates to a comment that was earlier in the chat. Ralph saying, and I haven't seen this myself, so I'm going to take Ralph's word for it. Paul Tudor Jones recently commented that he was bullish on gold, the barbarous relic, Bitcoin, and yield curve steepening trades. Where is Vincent on that? But I just want to pause that for a second. So Leon earlier said, very respectfully, which I appreciate, Leon, why do we have to talk about crypto? Can we just get to the macro stuff? This is why we talk about all of them, because this is what you're seeing. I mean, you have everyone looking at all asset classes.

25:40So we try to be across all of them and make sure everyone is. That's why we don't want to sort of segment things, because then we're just living in an echo chamber where we're only talking about certain things, right? So we try to keep our mind openly on and make sure that all of us are where we need to be. So anyway, back to the question. But thank you for the comment. We always look at feedback. So I don't know. How do you feel about that, Vincent? gold, Bitcoin, and yield curve steepening trades? On crypto, I'm not going to comment. I think you have much more competent guests than I am. On the steepening, I mean, I've been a steepener guy for far too long, and it's been extraordinarily painful.

26:22And finally, we are seeing this steepening. I don't think it's over. Now, the question is, what kind of a steepening do we see? is it the bullish kind or the bearish kind? The bullish kind is the yield curve steepens because the Fed is forced to cut rates. Kind of like the 2009-2010 steepening Fed funds rate falls to five, but the entire curve falls, but the firm falls more. And then the bearish kind is where we've had since three months now where the long end kind of catches up with the front end. My guess is that we'll see both. I think for now, we still see this kind of bearish deepening on, not immediately.