Apr 23, 2018 · 1h 6m · capital-allocators
Michael Cembalest – Eye on the Market (Capital Allocators, EP.49)
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gold bands on the timeline = statements, start to end. Hover to read, click to jump. CC turns on captions
In this episode of Capital Allocators, host Ted Seides interviews Michael Cembalest, Chairman of Market and Investment Strategy at J.P. Morgan Asset and Wealth Management, exploring his three-decade career navigating sovereign debt crises, open architecture wealth management, and systemic macroeconomic risks. Cembalest shares hard-earned insights on empirical research, fiscal and municipal liabilities, energy transition realities, and the leadership principles required in volatile markets.
How this conversation actually went
Every chapter scored 0–10 on four independent dynamics. Hover any point for the reasoning behind the score. Ted holds 21.1% of the talking time here. How this is scored →
Ted as informed peer 4.7 Guest teaching 5.8 Guest disagreement 2.3 Ted pushing back 1.2
speaking balance: gold is Ted, purple is the guest (3 minute bins)
Sharpest disagreement ▶ 58:30 Cembalest on central bank distortion of risk premia
Cembalest forcefully criticizes central banks for completely distorting, wrecking, and manipulating risk premia across global credit and equity markets.
Hardest push from Ted ▶ 15:05 Ted pressing on potential naivety in early portfolio liquidationTed challenges Cembalest on whether his aggressive liquidation of 85% of emerging market holdings was enabled by underestimating the downside risk of being wrong.
Biggest teaching moment ▶ 53:10 Smil energy data debunking renewable grid assumptionsCembalest educates the audience on why grid decarbonization only addresses 18% of global energy consumption, explaining that industrial heat and materials drive the bulk of emissions.
Ted holds their own ▶ 7:50 Ted demonstrating domain knowledge of Brady bond collateralTed actively steps in to define the underlying structure and U.S. zero-coupon collateral backing of Brady bonds based on his own market background.
the scores for every segment, with the reasoning behind each
| Chapter | Topic | Ted as informed peer | Guest teaching | Guest disagreement | Ted pushing back | Why |
|---|---|---|---|---|---|---|
| Starting at J.P. Morgan and Structuring Brady Bonds | 6 | 5 | 1 | 2 | Ted demonstrates solid institutional knowledge by asking specific technical questions about Brady bond structuring and US zero-coupon backing. Cembalest explains the history and debt workouts collaborative and informatively. | |
| Lessons in Skepticism and Oversold Opportunities from Early Crises | 5 | 6 | 3 | 1 | Cembalest delivers sharp historical critiques of simplistic financial theories from figures like Walter Wriston, while Ted prompts him to contextualize his early analyst functions. | |
| Transitioning to the Buy-Side and Navigating Internal Politics | 6 | 5 | 2 | 3 | Ted probes whether Cembalest's bold move dumping 85% of emerging market assets in 1998 stemmed from naivety about being wrong, to which Cembalest details the analytical rationale and the rapid subsequent re-entry. | |
| Buy-Side vs. Sell-Side Fiduciary Dynamics and Meritocracy | 5 | 5 | 3 | 1 | Cembalest bluntly rates buy-side meritocracy as an 8 out of 10 versus sell-side popularity at 2 or 3. Ted guides the comparison between public and independent asset managers. | |
| Rebuilding the Private Bank: Open Architecture and Post-Dot-Com Governance | 5 | 6 | 3 | 2 | Ted asks why opening the private bank platform took several years. Cembalest elaborates on the institutional inertia, dot-com fallout, and governance failures like Enron. | |
| Constructing Portfolios Across Diverse Global Private Client Objectives | 4 | 6 | 1 | 1 | Cembalest uses the metaphor of a 45-page diner menu to explain managing disparate international private wealth mandates, while Ted asks how a single CIO framework applies to heterogeneous clients. | |
| Sponsor Message: Ridgeline Native AI Investment Management Platform | 3 | 5 | 2 | 1 | The segment includes a sponsor message followed by Cembalest recounting how he rejected structured leverage accumulator products from internal desks. | |
| Research Habits and the Due Diligence Rejection of Bernie Madoff | 4 | 6 | 2 | 1 | Cembalest recounts his due diligence meeting with Bernie Madoff's team and receiving a federal subpoena after rejecting the fund. Ted facilitates the narrative with brief prompts. | |
| Hedge Fund Taxation, Currency Hazards, and Institutional Differences | 5 | 6 | 2 | 1 | Cembalest outlines his strict avoidance of active currency forecasting due to market stochasticity and highlights key differences in rebalancing discipline between institutions and private wealth. | |
| Origins and Evolution of the Strategy Piece 'Eye on the Market' | 4 | 5 | 1 | 1 | Cembalest walks through the evolution of his Eye on the Market publication from internal asset allocation memo to macroeconomic and public policy dissection. | |
| Economic Drivers, Political Distractions, and Analyzing the Trump Administration | 5 | 7 | 4 | 1 | Cembalest deconstructs political and geopolitical impact on markets, arguing most conflicts fade within months while analyzing Trump as an amalgamation of Jackson, JFK, Reagan, Bush, and Hoover. | |
| Municipal Solvency Pressures and Developing the iPod Ratio | 5 | 7 | 3 | 1 | Cembalest explains the creation of the iPod ratio to evaluate municipal solvency, unfunded pensions, and healthcare liabilities, noting bondholders consistently suffer worse haircuts than pensioners. | |
| 'The Chart Everyone Hates': Federal Entitlements Squeezing Discretionary Spending | 5 | 7 | 4 | 1 | Cembalest explains the chart comparing entitlement spending to discretionary spending, detailing why both progressives and conservative supply-siders find the data politically uncomfortable. | |
| Deconstructing Global Energy Realities with Vaclav Smil | 6 | 8 | 3 | 1 | Ted highlights a startling takeaway regarding the small share of electricity in overall energy use. Cembalest expands with Vaclav Smil's analysis showing industrial decarbonization is the real hurdle. | |
| Content Distribution, Social Media Pitfalls, and the Tesla Case Study | 5 | 7 | 5 | 1 | Cembalest delivers a blistering critique of central bank distortions over the prior decade, arguing suppressed yields and compressed risk premia have made active stock picking exceptionally difficult. | |
| Closing Questions: Sports, Offshore Kayak Fishing, and Research Habits | 4 | 4 | 1 | 1 | Standard closing questions covering the 1986 World Series, offshore kayak fishing for sailfish, and reading routines. | |
| Whistleblowing on False Internal Data: A Defining Career Decision | 4 | 5 | 2 | 1 | Cembalest tells the story of blowing the whistle on senior executives presenting fabricated data by placing dossiers on committee members' chairs at 6 AM. | |
| Reflections on Leadership, Empathy, and Small Gestures in Crisis | 3 | 4 | 0 | 0 | Cembalest reflects on empathetic leadership and supporting risk-taking team members after losses, followed by Ted's closing remarks. |
Statements from this episode (33)
Sovereign lending theories fail because countries can simply refuse to tax
“You know, for example, Walter Riston was famous for saying, well, lending to countries is better than companies because countries can't default. They have infinite power of taxation. Yes, they do until they decide not to exercise it. And so all of these kind o…”
Cembalest: Mexican Assets Became Top Performers in Decade Post-1994 Devaluation
“And in 1994, after the Mexican peso devaluation, you couldn't sell a peso denominated asset or a dollar denominated asset with exposure to Mexico to anybody, and over the subsequent decade, all sorts of Mexican denominated assets were among the best performing…”
Cembalest: Mexican government bond underwriting fees fell from 200 bps to zero
“If you were underwriting a Mexican government bond, you could still get paid a point and a half to two points in underwriting fees. Now you don't do it for anything except leave cable credit, and there's no fees”
Cembalest liquidated $5 billion from J.P. Morgan's emerging markets portfolio in 1998
“And in the summer, in May, June, July of 1998, I sold five out of that six billion.”
Cembalest: J.P. Morgan warned clients away from Puerto Rico debt in 2014
“We warned our clients aggressively away from everything having to do with Puerto Rico, you know, in, in, in 2014 or wherever they did that long-term debt placement because the fundamentals are awful.”
Cembalest: When making giant mistakes, write them off and restore solvency
“And that was a signal that the industry had learned that when you make a giant mistake, you gotta write it off and move on. And the best thing to do is put issuers Back in, in at least the possibility of being solvent.”
The buy side is an eight on meritocracy, the sell side two
“The bottom line is the buy side On a scale of one to 10 is a meritocracy is an eight, and the sell side is maybe a two or a three.”
Cembalest: 2000s equity crash was mostly unrelated to US economic performance
“Because we were all picking up the pieces of an equity collapse that was really, for the most part, unrelated To the performance of the U.S. Economy. It had everything to do with risk-taking, and not even so much leverage, it was just ridiculous risk-taking an…”
Hedge funds generate massive short-term capital gains for taxable clients
“Hedge funds for clients that are taxable versus non-taxable because hedge funds generate enormous amounts of short-term capital gains to ordinary income.”
Cembalest: J.P. Morgan Rejected Leveraged Structured Notes Despite Competitive Pressure
“You know, as a global firm with a global reputation and with fiduciary mindset on, there were a lot of times when I said that we're just not going to do that. And I understand this puts competitive pressure on you, but these things don't make sense.”
J.P. Morgan rejected Madoff in 2008 over front men and impossible returns
“So we met with some front guy, and we had this 19 page questionnaire that we go through as part of our due diligence process, and the very first one is, when can we meet the principal that's making the investment decisions? And they told us, That we wouldn't b…”
Neither quantitative nor qualitative models can reliably forecast currency markets
“I never wanted my views on the dollar to be more than a five-minute discussion, because if there's anything I've learned in my career, the quantitative models don't work, the qualitative models don't work, there is a random stochasticness associated With curre…”
Cembalest: Managing currency risk does not sustainably generate positive returns
“I've never seen sustainable efforts to reliably manage currency risk as a way to generate positive returns in portfolios.”
Cembalest: Institutions rebalance far more systematically than private clients
“On the other hand, investment committees for institutional clients are much more religious about rebalancing. So, As equity, as asset prices go up, they are religiously rebalancing back to normal, and are also adding risk when markets go down, which is a much,…”
Cembalest: Bank recapitalizations speed market and employment recoveries faster than bad-loan purchases
“When governments recapitalize banks, the recovery and the equity markets and employment tend to happen more quickly than when governments simply buy their bad loans.”
Cembalest: Trump administration will post severe midterm losses despite strong economy
“I think this is the first administration that's going to post a double bogey At a time of strong stock markets and strong employment with respect to the losses they sustain in the midterm election.”
Except for 1973, market impacts of military conflicts dissipate within four months
“With the exception of the 1970 to 73 Arab-Israeli conflict which led to an oil embargo and a stagflation, almost every single military conflict was gone from the markets within three to four months. Where the business cycle was at that point the primary driver…”
Cembalest: Trump tariffs are largest in 50 years from 100-year low base
“It's the biggest tariff increase in 50 years, but from the lowest tariff level in a hundred years.”
Cembalest: US municipal restructurings will rise continuously without federal intervention
“But absent intervention from the Fed or the Treasury, which I have a 95% confidence won't happen, we're gonna have Can you continuously rising stream of restructurings at the municipal level over the next few years?”
Cembalest: Municipalities can legally alter retiree healthcare, but pensions are inviolable
“Municipalities can unilaterally make changes to retiree healthcare obligations that are unpopular, but a judge will allow, whereas unfunded pensions are inviolable.”
Bondholders lose more than pensioners in every US municipal restructuring to date
“And in the seven or eight restructurings that have happened so far at the municipal level, that's exactly what's happened. Every time there's been a pensioner and retiree healthcare write down, the bondholders lost more as a percentage of par.”
U.S. entitlement to discretionary spending ratio will hit 5:1 within a decade
“Because in 1970, the country spent the same amount on entitlement spending As it did on all of the rest of the non-entitlement discretionary spending. And so that one to one ratio became one and a half to one, then two to one. And now it's three to one, and it…”
A Bernie Sanders-style tax plan would barely dent the U.S. entitlement ratio
“And secondly, even if you do a Bernie Sanders level tax plan, which is basically taxing everything that moves, it only brings that ratio from five to one back to baby three and a half or 3.8 to one.”
Cembalest: 2017 tax bill spent twice as much on individual cuts than corporate reform
“So what's amazing is that a tax bill that started out as something to rationalize the competitiveness of the U.S. Corporate sector, they spent twice as much money on individual tax cuts, and so that, that's disappointing as well.”
Electricity accounts for just 17% to 18% of global energy consumption
“Electricity is only 17 or 18% of all global energy consumption.”
Cembalest: Electricity is only 10% to 15% of industrial energy use
“I think electricity is maybe 10 or 15% of overall energy consumption by industry.”
Cembalest: Decarbonizing transport and industry matters more than grid decarbonization
“Decarbonizing transportation and decarbonizing industrial energy use is really where it's at if you're trying to get a handle on this problem. I mean, grid decarbonization is good, but people make a mistake by over-inflating what the consequences of success th…”
Cembalest: Elon Musk's Tesla Pay Is an Outlier Compared to Major Indices
“Last week, I did a post on Tesla, a story in pictures, which was kind of a brutal and cruel assessment of everything you're going on at Tesla, including, by the way, a chart on CEO compensation that shows how much Elon Musk gets paid for a loss-making enterpri…”
The U.S. has experienced negative real interest rates in only four eras
“Since, when the United States starts as a republic, there have been four periods when the cost of money is below the rate of inflation for an extended period. The Civil War, World War I, World War II, and the last 10 years.”
More than half of Italian high-yield bonds yield less than U.S. Treasuries
“More than half of all the high yield bonds issued in Italy have yields that are tighter than U.S. Treasuries.”
Active managers have three years to prove outperformance over passive ETFs
“So the industry basically has three years starting now to prove it can do it. If three years from now, we still have meeting an active manager below the ETF, the story will ride itself.”
Exposing false data reversed a J.P. Morgan management decision within a month
“Within a month, the decision was reversed, and some people were gone.”
Cembalest: Senior Leaders Must Reassure Investors After Well-Founded Losses
“Sometimes just an email, or asking a very senior person, hey, you know what, somebody just lost a bunch of money today. Can you give them a pep talk? Can you send an email? Tell them it's okay. We need investors to be able to take risk. And this risk was well-…”