The Exchanges

Q What does that imply about where you see the most interesting investment opportunities in China?

A Strategic China, that's what we call it, pure clock tower. China has gone through phases. The first phase of China was state China, the SOE China. Then it was the new China, the new China place, like the TMT sector, internet companies. US and China are the only two countries that had this web two point O revolution. Europe doesn't have social media companies. Japan missed it completely. We think that the next phase Is going to be the strategic China. What that implies is really a built up of manufacturing capacity in technologies that matter for the 21st century, whether it's semiconductors, whether it's capex plays like robotics, whether it's green China, EVs, and so on. Now, obviously, strategic China also implies very much a national security China, and that's going to be a challenge to long-term allocation of capital Because, of course, the United States of America is now putting a lot of restrictions on the ability of U.S. investors to invest in this space. And the way I see that is obviously if there's restrictions to American investors, then American investors should not be investing. But the fact of the matter is that I think that America will fail and has failed in building a coalition of the willing to counter China. We see that. We see that, for example, with Huawei. Banning Huawei for the Countries have actually banned Huawei. How many countries will follow with the…

AI assessment note: “Strategic China, that's what we call it, pure clock tower.”

Q Are there broad buckets of what these constraints fall into that you can then diagnose?

A Yeah, I think so. Basically, the most important constraint is political constraints to policymakers. Can you get something to Congress? Can you get something to the legislation? Can you get something without being lynched by a mob? So those are the kind of things we should always start with. The second is economic, and these are like really macroeconomic constraints. Is your economy based on exports? Say Germany during the Euro area crisis, highly expert reliant economy. If they had abandoned the Euro, the Deutschmark two point O would have appreciated 20, 3040, 50, 60%, and then bye-bye Germany. So hell yes, they're going to pay for Greek debt, like high conviction view. And then you have financial constraints, bond yields go up. The bond market, super powerful. And then we have constitutional and legal constraints, and finally, geopolitical constraints as well. So that's, I would say there's five buckets. Not all of them are as important as the other.

AI assessment note: “Basically, the most important constraint is political constraints... I would say there's five buckets.”

Q All right. Last one on this set. What life lesson have you learned that you wish you knew a lot earlier in life?

A I think to be an optimist, I come from a very pessimistic place. And I think one of the problems with that is that you will not have confidence in your vision. And so you will settle a lot. And I think one of the greatest things about coming here, joining clock tower group, especially is my partner and boss, Steve Drobny. He's a true Californian and he's very optimistic. So when he came to me and said, Marco, you should write a book and here's why. Here's how. I've written a great book. Like, I was like, nah, who's going to read my book? That's crazy. That's insane. Why would I do that? I got all this other stuff, and I'm smart enough to know that I'm not naturally an optimist, and so I seek out people who are optimistic to surround myself with, so I can kind of cover for my deficiency.

AI assessment note: “I think to be an optimist, I come from a very pessimistic place.”

Q You take all of that, very international experience, very different countries, cultures. How did you think about what you wanted to do when you came out of college?

A I didn't really have a good sense. I mean, I'm kind of like a typical immigrant kid from the third world. You're going to be an engineer, doctor, or lawyer. And I fall in love, to be honest with you, with my now wife, and so it kind of sideswipes me for a year, and so I'm like, ah, I'm gonna become a professor, you know. Money doesn't matter. Like, I'm in love. I was in academia. I was doing a PhD at University of Texas, learned a lot there, and then we got a kid, and I'm like, oh yeah, no, money does matter. And so I went to the private sector, and there I was in Stratfor. So Stratfor is a geopolitical analysis firm, lucky for me, based in Austin. I just walked down the street, got in there, learned from some really great, great minds like George Friedman, Peter Zion, learned a lot. I was hired to be the Europe analyst, which is like being completely irrelevant. This is like, 2007, 2008. Nobody cares about Europe. Europe's fine. It's integrating. Okay. Let's focus on Middle East and China and all these other things. And then boom, the Euro area hits. First, actually, it was a central and eastern European crisis with the Swiss mortgages, and I suddenly find myself, in order to do my job, I got to really understand macroeconomics and also finance at a very high level, and that was jarring to me because I just wasn't prepared for it. I had to, like, learn on the job, and I realiz…

AI assessment note: “I didn't really have a good sense. I mean, I'm kind of like a typical immigrant kid”

Q Marco, why don't we turn to how you get to that conclusion?

A Let me try to say something different. I would argue that if Vice President Harris had won the election, we would be in the same boat in terms of the peak in U.S. assets. We just wouldn't have as extraordinary of a sell-off. So what would have happened under Trump in 12 months would have probably happened in four years. I think that the U.S. exceptionalism was truly exceptional from 20 10 to 20 20. We can articulate the exceptionalism of U.S. markets during that period of time, which was low growth, low inflation. You want to be in long duration assets, of which tech is probably the premier. But from 2020 onwards, I think we've all been fooled. Productivity data is a joke. It's just output per hour worked. If I dumped a wheelbarrow of cash on your heads, you would look pretty productive as well. We've been riding a fiscal orgy where the U.S. basically outspent the rest of the world by an extraordinary amount. The underlying reasons for this have nothing to do with the pandemic or the virus. Why did we spend Forex, what Europe did in fiscal policy? It's populism, it's income inequality, other things. If you look at the performance of the markets, the dollar didn't peak on Liberation Day. The dollar didn't start selling off on Liberation Day. It did in January. And really, it did when the bond market disciplined American legislators. The constraint on American legislators is the …

AI assessment note: “We can articulate the exceptionalism of U.S. markets during that period of time”

Q So I want to dive in on two micro aspects of that. So the first is this idea of spheres of influence and how does this event or does this event redraw some of those spheres of influence around the world?

A I don't think it redraws it. I just think that it makes vacuous American claim that America doesn't recognize spheres of influence. That was the famous Hillary Clinton comment. To Russia, actually, when she was the Secretary of State, and it was this very imperial American view of unipolar moment, like, hey, we don't recognize your sphere of influence. Tough cookie. Well, you're going to have to. Otherwise, things get complicated, and then you have to cash the checks you've been writing. In other words, you have to go and fight for Ukraine's membership in the Western sphere of influence. And so I'm not sure this really redraws much, but it just accentuates the fact that we are now in a world Well, we probably have to take that into account, these spheres of influence. We're going to have to think about them. With the green energy revolution, Ted, just hear me out. I think we're redrawing the commodity supply chains because suddenly things like cobalt become extremely relevant to the future of your energy supply. And most of it is found in the Congo and China has really good reach in the Congo. So I'm sure that they're in some dark windowless room In Langley, there's somebody out there thinking how to maybe push back on China's sphere of influence in Africa. And what's interesting about that is that it sounds very much like that. 19th century, early 20th century, which was an ag…

AI assessment note: “I don't think it redraws it. I just think that it makes vacuous American claim”

Q So as you start to unravel the direct implication on the US and Russia right now, How are people thinking about this in the medium term?

A I think that there's two ways that this could evolve, and I kind of have to think about the next couple of days in order to answer your question, perhaps. One thing I would say is that there's a path here where President Putin and the Kremlin declare victory quickly. That would be a sophisticated move, one that takes into account their material constraints, which are vast. At that point, they declare victory, mission accomplished, banner goes up, they save the degraded Ukraine's military capacity. They sit down with Ukraine leadership and bang out an equilibrium that probably includes Ukraine's neutrality. And in that case, I think that we could get back to some sort of a status quo ante in which Russia's an adversary, but they got what they wanted. They withdrew quickly. They won. They pulled back. And then we go back to Italy selling them luxury goods, although it looks like they're going to be doing that anyways. On the other hand, there is another scenario in which this gets really bad. And by the way, the first scenario, just to be clear, is I think what the market is pricing right now, with market action being where it is. My concern is that Vladimir Putin has so miscalculated his material constraints right now. That he may not back off because the reason he miscalculated them is that he doesn't care, that he's being irrational. And in that world, I can't forecast him ver…

AI assessment note: “I think that there's two ways that this could evolve”

Q So if you were thinking about this in the context of a broad asset allocation framework, long-term investor, sometimes events like this are caused for short-term rebalancing. Sometimes events like this are caused to really rethink material change in asset allocation. And I'd love to get your sense Across a distribution of outcomes, let's just start with where might people be thinking about rebalancing based on what's happened?

A Well, we've seen more and more institutional investors ask us for advice on commodity managers. And I've been of the view since the pandemic started that we are in a new inflationary regime and the commodities would be the primary winner of that regime and not gold, but just commodities for a number of different reasons. It's not just inflation hedge. It's also that you have so many things happening, Ted, that are broad stroke geopolitical themes. You have the green energy agenda, which I don't think is going to be reversed in a substantive way, despite the costs. You have a CapEx agenda, which is driven by this national security prerogative for redundancy building. So we saw that with the pandemic, obviously we need to have redundancy in pharma. And we saw that during the trade war, we need to have redundancy in semiconductors. Every country in the world wants to have its own fabs. France is now building fabs. All of these things in the initial phase are inflationary. And now on top of that, investors are starting to realize This multipolar theme that I've been banging the drum for the past decade, which is a multipolar world is a world of inefficiencies. It's not a world of no globalization. Far from it. There'll still be globalization. It will just be, the world will be carved up into spheres of influence. And as a long-term allocator, you need to think about what does that …

AI assessment note: “more and more institutional investors ask us for advice on commodity managers.”

Q Let's turn to an example, because part of the reason we're doing this and turning around quickly is there's this U.S. election coming up. And how are you thinking about the various things you do in the U.S. economy, particularly in the U.S. markets, through the lens of constraints on this upcoming election?

A The biggest constraint on the U.S. policymakers right now is that the median voter is pissed. Ok. So that's where I would start. And that's because, you know, you had 10 years of really low growth. Real wages haven't really gone up for like, 40 years. So you've got a lot of problems. You know what I mean? You can identify that through income inequality. You can talk about that, this and that way. So why is this important? It's important because it means that going back to the Washington consensus and laissez-faire where we favor profits over, over wages, where we keep seeing profits expanded, the cost of labor, I think is we've come to the end of the line of that. So what that means is that I see a mega trend in the U S Where the median voter is moving to the left on the economic spectrum. Irrespective of social cultural issues, right? So like, you can be a Republican, be conservative, but like, you don't care about budget deficits anymore. That's what we're talking about. We're not really cool with tax cuts anymore. Now, a lot of people listening to this podcast obviously are cool with tax cuts. We're in a specific epistemic community. But I think they'll rank and file Republican voters. And you can see this through the polls are becoming less and less concerned with these things. So the biggest constraint I think is on the kind of policies that are going to be affected over t…

AI assessment note: “The biggest constraint on the U.S. policymakers right now is that the median voter is pissed.”

Q So usually when we think about red victory, blue victory in the Oval Office, you do think of quite different outcomes for the economy. Why is it that you don't think there's going to be that much of a difference outside of the case where you have Biden victory with the Republican Senate?

A Because I think we're today in a world driven by fiscal policy, and I think it's all about fiscal. I think you should spend as little time as possible on monetary policy because we know where it is. We're at zero interest rates, and we had the Jackson Hole consensus, where the Fed told us what they were going to do. They were going to let inflation overshoot. So, fiscal policy will move the markets. Now look, If we want to talk about specific sectors, then I totally agree. Biden versus Trump then becomes very relevant. And also then we have to think about legislative constraints. Will Biden be able to pass legislation to affect these five, six sectors. But to me as a macro investor, I think what I'm always passionate about is the big picture. So the S&P 500, the tenure, oil prices, the dollar, And the global asset allocation between US and emerging markets. And on that front, I think the two of them are quite similar.

AI assessment note: “Because I think we're today in a world driven by fiscal policy”

Q customers call it miraculous, game-changing, and an awakening. If that's not how you would describe your investment management tech, request a demo at ridgeline.ai. And now back to the show. The implication of China's strength in a multipolar world that you're suggesting is that if US demand isn't there, someone else's will be. What does that mean for institutional investor who's thinking about the public or private investments in China?

A Look, right now, from what we understand at Clocktower, the allocation to China is about two percent. For real money allocators, and it's like 20, 25% of global economy. So, I mean, the implication is that. What's interesting is that in this kind of a move away from laissez-faire economics, we're dropping our interest rates, we're using fiscal policy. China's kind of not doing that, because the West learned from the last cycle that austerity was implemented too soon. The West learned from the last cycle that there's gonna be political repercussions. Rise of anti-establishment policymakers, for example, if you don't generate some sort of nominal GDP growth. I think China learned the opposite lesson. Did they overstimulate it? Did they cause collapse in productivity growth because they over leveraged their system? So they're actually doing the opposite of what we are, and that's going to pull the yield higher. So the yield divergence between US and China is going to favor carry trades in China because they're adopting far less stimulative policies. I mean, they're still stimulating, don't get me wrong, but the central bank is kind of like moderately hawkish. They're cracking down real estate and stuff like that. So you're going to have this yield advantage in China that I think is going to be very difficult to avoid if you're managing long-term capital.

AI assessment note: “you're going to have this yield advantage in China that I think is going to be very difficult to avoid”

Q And we haven't heard that much of late about emerging markets other than their continued underperformance, maybe outside of some select tech sector in Asia. So what are you seeing in emerging markets?

A I'm bullish, and it's interesting because I've never been bullish on emerging markets since I joined financial industry, although I haven't been in the industry for that long, so it doesn't mean much, but from 2011 until this year, I've been very bearish, and I was greatly influenced by my colleagues at BCA Research, especially Arthur Bhutagayan, the EM strategist there, great mind, and he's been bearish for as long as I know him, so for good reasons. The emerging markets had a great decade between 2001 and 2011, and part of that was this Industrialization of China play where commodities obviously entered an epic bull market. And then there was a lot of misallocation of capital, very little governance reform. They kind of wasted that decade, didn't do much in terms of governance. And so when we got the great financial crisis, they didn't have the valuation reset that they really needed in part because unfortunately for them, commodities stayed in a bull market for an extra three years after the recession for metals and another Five, six years for oil. So there was never a reset in terms of the currency valuations and in terms of their overall valuations as markets in equities and so on. So you had a really terrible decade. Now, this pandemic has given that valuation reset, especially in terms of currencies. Currencies completely collapsed earlier this year. I think that's super…

AI assessment note: “I'm bullish, and it's interesting because I've never been bullish on emerging markets”

Q Why do you think it hasn't happened yet?

A I think because it's politically painful. I think that's where the constraint comes in, and the constraint is that India is a very low-income country still, and it's very difficult to do away with labor protections, and very difficult to have land reform in a country like that. China has managed to do it for obvious reason. I mean, China didn't really have to worry about the median voter in the seventies and eighties when it did most of the important stuff. I think China now does have constraints. Middle class is a huge portion of its economy. People say it's not a democracy, but there's other ways to voice your displeasure, and I think China's very cognizant of that. So China has its constraints. For India, the usual Answer to your question is, I think, still applicable, which is that they democratized before they advanced economically. And this is something that Samuel Huntington wrote about in the 19 sixties. This idea that democracy should come after you've managed to grow. Now, I don't want to put too much on that, because I don't think that's necessarily the case. I think India might be able to overcome it soon. It just might take a little bit longer.

AI assessment note: “I think because it's politically painful. I think that's where the constraint comes in”

Q With Taiwan next door, Taiwan Semi has become the dominant chip maker in the world. How does China's relationship with Taiwan look in the semiconductor sector?

A China's trying its best to get to those sophisticated levels below five nanometer chip level, which it can't. And I think it's going to take a long time for them to do that. Much longer than people think. There's no Moore's law in getting to that level. And so they will have to continue to import a lot of semiconductor chips Including from Taiwan. So the dependency will be there for the next decade. What I think is a more interesting question is how does the West's national security prerogative for redundancy impact Taiwan? When the United States of America starts building fabs in the US, it actually reduces the strategic value of Taiwan. That's kind of the irony of what's happening around the world. I guess if American policymakers wanted to truly protect Taiwan, They should probably keep all the eggs in the same basket. Now that every country is going to have a sophisticated fab, the value of Taiwan maybe declines so that at some point in the future, if China decides to reunite with it, maybe it's not going to be as big of an impact on global economy as it would be today. And that's ironic because that's something that America is imposing on Taiwan. It's not something China is imposing on Taiwan necessarily.

AI assessment note: “they will have to continue to import a lot of semiconductor chips Including from Taiwan.”

Q And you were where? You grew up where?

A I didn't grow up here, but we spent basically like six months to a year in Baghdad. My dad was working there for like an SOE from Yugoslavia. And so I'm in a bathtub, and I guess my mom has to explain to me why there's a war between Iran and Iraq. That's literally the first conversation I have as a human. And then I, you know, I go back to Yugoslavia. I was going to be a football goalie, obviously. Why not? Lots of mileage. You can stay in Korea for a long time. Smart kid. And then we get hyperinflation. We get this last stage death throes of the country, of Yugoslavia. And I remember, I think I was seven years old or maybe eight. I go to my dad and I'm like, hey, to solve this inflation, why don't they just collapse everyone's salary? And then interrupt the cycle. He just looks at me. Yeah, that's what they probably will do, you know? I mean, so my background is pretty messed up. I've lived all over the place, Ted, and I think that's how I got into all this stuff.

AI assessment note: “we spent basically like six months to a year in Baghdad... go back to Yugoslavia”

Q Things that you start writing about in your book that going forward, political analysis will really matter. Why is it the case that it should matter now when maybe it hadn't as much in the past?

A So that's really the key question, right? What's different now? I think politics, geopolitics, social issues have always mattered. So it's not so much that They matter now, but it didn't. It's more that they were tailwinds for investors. They were the wind in our sails from 1980 until 2010. You had these two really important mega trends. One was American hegemony, and so you could kind of ignore the geopolitical stuff like, you know, Azerbaijan, Armenia go to war in early nineties, much less of an issue than it is today. In early nineties, there's no chance of Turkey and Russia going to war because U.S. calls him and says, hey, cool it. So that's the American hegemony part of it. The second one is there was a hegemony of an idea, which was the Washington consensus, and it's a catch-all term for everything from independent central banking to counter-cyclical fiscal policy, deregulation, privatization, free trade, all the good stuff that we think of when we think laissez-faire. And why? Well, because Soviet Union collapsed. So if you were a left-wing socialist looking at demand-style Keynesian policies, you know, I mean, you lost. You lost literally, and you lost figuratively and ideologically, and so I think that from 1980 onwards, there were these two tailwinds, and it allowed the investment community to become over-professionalized. Now, most investors will say it was Paul Vol…

AI assessment note: “It's more that they were tailwinds for investors. They were the wind in our sails”

Q The tenure is an interesting one. There is this case that the reason the valuation of the S&P 500 is as high as it is, is because rates are so low. We don't hear a lot of people say is, oh, but rates are going to go up and the S&P is going to go up. So how are you thinking about the relationship between the two?

A It depends why the tenure goes up. If it's driven by higher growth expectations, then both can go up. Now there is a limit. I think there is a rotation that would have to happen and it could be quite painful. So rotation out of the big tech sector that's obviously benefited from low rate environment for a very long time into more value sector. That, that rotation is unlikely to be painless. But again, on the long-term trajectory, I think we've started a new cycle, and I think it's going to be favorable for equities. Now, one thing I would say though, there is a limit though, and I think if you think about my view, which is that fiscal policy will continue to dominate, I think there will be a moment when the Fed will have to step in. But when I talk to sort of more short-term traders in the macro space, they hesitate to play the yield curve steepening or to be short duration because of expectation that that yield curve control has already kicked in. I don't think it has at 0.8. I don't think you will at one or one and a half. Maybe it's two. Maybe at some point the Fed steps in as it did in post World War II era. That would be my view. But I think between now and that moment, You probably don't want to own long dated bonds.

AI assessment note: “If it's driven by higher growth expectations, then both can go up.”

Q Yeah. Interesting. The other big mega trend everyone's talking about these days is sustainability and ESG investing. How are you thinking about how that plays through this election?

A Well, I think it's very macro. I think it's very geopolitical too. I think the election will obviously impact EV or green companies, which have been signaling through their rally that Biden's going to win. Obviously there's going to be like an immediate impact after the election if Trump were to win. But I think that The longer term trend here, Ted, is towards more policy tailwinds for anything that has to do with sustainability, alternative energy. I mean, with China, Europe, Japan, everyone's on this. And so it's funny because, you know, you talk to some folks in finance community and some say, Marco, come on, this is like, okay, even if I believe in climate change or global warming, this is like a 80 year kind of a thing. How does this make an impact? And to me, it doesn't really matter. I don't have an answer to the question. I'm not a scientist, but I don't care. I try to get on these political trends and it's kind of to me like the moon landing. Let me tell you what I mean about this. When United States of America decided to send a man to the moon. That was one of the most wasteful, idiotic, and inefficient human endeavors in the history of mankind. Pause for effect. Okay. What? How can you say that? Well, because we never went back. When was the last time we were on the moon? Like, 72 or something? Like, we never went back. We found nothing there. We wasted all this mone…

AI assessment note: “I think the election will obviously impact EV or green companies”