Podcast Transcript: Jay Pelosky on the Coming Boom, Mega-Tech Weakness and Big Government

This is an edited transcript of our podcast episode with Jay Pelosky, founder of TPW Advisory and former top ranked head of asset allocation at Morgan Stanley. We discussed the implications of a tri-polar world, how to play clean energy, why rising rates won’t hurt stocks and much more. While we have tried to make the transcript as accurate as possible, if you do notice any errors, let me know by email.

Jay’s Background and Career Path

Bilal Hafeez (00:01:26):

Okay, welcome, Jay, to our podcasts. Great to have you on. And I guess the first thing I like to do with all my guests, is I like to ask a bit about their background. So I know you’ve been in the industry for a while, you’ve had lots of different roles, but how did you end up where you are right now? Out of college, did you know you wanted to obsess about financial markets and investments and how to help clients make money? Was that what you wanted to do?

Jay Pelosky (00:01:49):

Well, it’s funny you asked Bilal, because I do have a long and varied career, lots of different turns and corners. I did not know that that’s what I wanted to do. I was a poli-sci undergrad major and a scholarship football player (American football) at college. And then I went and got a Master’s in International Affairs at the George Washington University in DC. And I was told I needed to get some financial experience. I could write I was published, etc. But I needed some financial experience. And so my plan was to go to New York for a year, go through a bank training program, get that experience and then go from there. And that was 35 plus years ago. So I met a girl from Brooklyn and married her. And once that happens, you’re not leaving New York.

Bilal Hafeez (00:02:37):

Where are you from originally? Where’s your home state or your hometown?

Jay Pelosky (00:02:40):

I’m from Massachusetts originally and went to school at Duke University in North Carolina. And then George Washington. So moving my way back north, but this is New York as far as I’ve gotten. And in this time with the pandemic, I’m very much a New York City strong guy and a big believer in the city and raising two kids here. So no plans to leave. But my experience, I’ve got 30 plus years, I’ve done business in over 50 countries. Been on both the buy-side and the sell-side. I started out Asia ex-Japan. And then was hired by Barton Biggs at Morgan Stanley Asset Management in 1990. And the first thing he told me to do was to go start a Brazil fund. So it’s the hubris of the investment banks, right? I didn’t speak Portuguese, I had no Latin American experience. I was a Asia ex-Japan guy, and said, “No, you can go ahead and do it.” And it was a great lesson because if you go back and look, Brazil in dollar terms, 1990 was literally the bottom for the Brazilian equity market.

But Morgan Stanley and an arm of the World Bank could not raise any money. So a great lesson on how the time to invest is not always the time to market and vice versa. But we were able to get it done and spent four or five years doing Latin America, first on the buy-side then was asked to move to the sell-side of the firm, and start Latin American equity research. Then I started a global emerging market strategy product, the first multi-regional, multi-asset research product for Morgan Stanley, right in time for the Asian financial crisis. In my last role there, I was the head of global asset allocation, which I did for several years. I left the firm in 2002, started a family, did some philanthropy work and manage my own capital, using ETFs. So I’ve been a big believer in ETFs, almost 20 years of personal investing history.

I find them to be great vehicles for thematic global macro investing, and just continuing to get better with the proliferation of instruments and the collapse in the cost of those instruments. So, to bring us towards the present, over the last 10 years or so, I’ve been managing my own capital. I’ve served as an advisor, I’ve had a consulting firm for a number of years, advising institutions on asset allocation. And then two, three years ago, I started TPWIM, Tri-Polar World Investment Management, really leveraging this tripolar world thesis I’ve been developing over the last decade, using ETFs to express a global multi-asset view. Now, sadly, notwithstanding good performance and decent visibility, that business, we were not able to grow the AUM to the point where it would be profitable for us. So, I’ve closed that business and am now launching, in 2021, TPW advisory. I’m sticking with the tripolar world theme – everything I see tells me that that process is continuing to unfold – but am now using it to provide advisory services. It’s a unique and differentiated way to think about global macro and is expressed through asset allocation & portfolio strategy advice, white label research, and model portfolio delivery using ETF-based model portfolios, which I’m really excited about and think is different. I think that the tripolar world thinking and that thematic outlook is critical in today’s markets. So, that’s a long-winded answer, but it’s been a long and winding road.

Bilal Hafeez (00:06:23):

Yeah, well, that’s great. I didn’t know you worked with Boston Biggs, I remember years ago reading his book, Hedge Hogging, we’ve got some really good anecdotes in there.

Jay Pelosky (00:06:31):

Yes, Barton was a unique guy. And that time at Morgan Stanley, the macro team there, Steve Roche, Byron Lee, Barton Biggs and others was really a great place to work. And Barton hired me directly at MSAM. And then I worked as a global equity strategist with him. He was the global equity strategist but we had no product. And I was tasked with creating the product. And then, of course, work with all those guys in the asset allocation side. So it was great training, and they were iconoclastic figures who thought independently. And I’ve tried to at least carry that independent thinking this forward.

Bilal Hafeez (00:07:08):

Yeah, no, that’s great. Yeah, we’ve had Stephen Roach as a guest actually, last year, we had him as a guest. He always had some big views as well. So he’s still going at it.

Jay Pelosky (00:07:16):

And at that point, I can tell you, and you ran research, you know what I’m talking about. To get on Monday morning at Morgan Stanley, it was the Monday morning macro call, that’s when the strategy and economics people headed to the floor for the sales forces. And you have to have something to say, to get on with that day as with Barton, Byron wrote, many other really top notch macro thinkers.

The Implications of a Tripolar World

Bilal Hafeez (00:07:40):

And you mentioned the tripolar world, maybe we can start with that. So what do you mean by the tripolar world and there’s a thesis behind that, presumably and that is your framework in some ways or sets the scene. So maybe you can start with elaborating on that?

Jay Pelosky (00:07:54):

Yeah, I’d love to. Because I think it’s something that I’m proud of. It’s my own intellectual property, I started developing it 10 plus years ago, an outgrowth to the great financial crisis, when all the policy response was monetary policy driven, which was led by unelected officials, no government, and there was no fiscal approach. I felt like that was insufficient. Also, at that time, it seemed that globalization, as we knew it, was dead, killed by 2008. Finance, which we know well is the tip of the spear. You worked in Asia for a while. So finance was really the driver to globalization. And once 2008 happened, that sphere was broken and subsequent to that, obviously, Brexit, President Trump, etc, things like that.

Globalization as we knew it in the 2000s is dead. On the other hand, nationalism (America First etc.) is unlikely, in my view, to be successful in the current age and in the future. For me, this means that the global setup, global economic market etc., is going to be taking a step back to regional integration, regional deepening in the three main poles of Asia, Europe and the Americas. And so that’s the tripolar, Europe, Asia and the Americas. And at the time, I focused on three drivers to that: 1) Each region’s growing ability to sell finance – you think about the explosion of the Asian capital markets in the last decade. 2) Each region’s growing ability to self-produce – you think about mass manufacturing, mass customization, robotics, 3D printing, etc. 3) Each region’s growing ability to self-consume. Think about the rise of urbanization, service sector, economy and of course, ecommerce.

And so that has been the framework that I’ve been working off of for a decade. And last year, well now 2019, yeah, beginning of 2020, I added two new drivers. 4) Each region’s growing ability to self-innovate. I’m thinking here about technology and the internet, with the tech sector separating between US and China, representing the Americas and Asia, with Europe in the middle. 5) Each region’s growing ability to self-protect, including in climate change initiatives. At that time, the US was not in the Paris Accord. So, there’s no global approach, and you can’t protect yourself individually as a country. However, regional integration in the climate process, particularly in Europe with the Green Deal and the Joint Recovery Fund and the integration of those two, really makes sense there. So for me, it’s the tripolar world is our framework. And then we drop down to what I call the global risk Nexus, which allows us to look at economics, politics, policy, and markets in each of the three regions.

And that has been an absolute wonderful thing to have, over the last five or six years, which is the time period I’ve been developing it in, because it really helps you keep everything in line and in perspective. Which is, we’ve gone through an age where the macro side has just been ping ponging from one issue to the next. And so as an example of this last spring, roughly a year ago, I added a fifth piece to that global risk Nexus, which was health and to deal with COVID. And that gave us great insight into what I call COVID speed, which is something that we’ve been using and I’ve been using to think about markets since the spring. The speed of the spread, the speed of the policy response, the speed of the market reaction, the speed of science with the vaccination, and the speed of delivery. Now that last one with the vaccine rollout has been disappointing.

But outside of that, speed has been the thing that people have struggled with, right? Investors and market participants have behind the curve consistently, since the spring. And so to me, my argument now is extending COVID speed and saying, what that was the model, the model of global capital, financial capital and global intellectual capital, focused on a single issue, sped up the vaccination process, by a tenfold factor. It used to take 10 years, it took less than a year. And so, my thinking is now that COVID speed is going to break out into things like climate, cyber, FinTech, crypto, etc. These areas, these big issues we’ve now seen the model and I think that helps explain a lot of the action in financial markets over the last couple of months, as well as over the last year. But to me, it’s a great example of how the Tripolar World Framework and the Global Risk Nexus, allows me to hone in as a macro guy on key issues within with a framework and then communicate and invest accordingly.

Bilal Hafeez (00:12:59):

Yeah, no, I can see where you’re coming from. And I think it’s really useful to have a framework. And as you say, if you don’t have that kind of framework, then you will just bounce around from issues day today almost, and you’ll just be trading the price, the ticker and nothing else, then.

Jay Pelosky (00:13:16):

Certainly that’s the risk. And I think, again, being a global macro, multi-asset person, I mean, for the last decade, hasn’t really been the place to be, right? One of the struggles with TPWIM was that here in the States, people only cared about the S&P. And why not? The S&P was the best game in town for the last decade. But now, I would argue that that’s changing. And therefore, having a global multi-asset perspective, thematic perspective, is going to prove very beneficial to returns over the coming decade. And so, if you don’t have a framework, it’s almost inconsistent with the idea that you can be successful in the marketplace of the present in the future.

The Biggest Boom is Underway

Bilal Hafeez (00:13:56):

And maybe we can start with some of the big market topics. One big one of obviously has been that equities are overvalued, we’re in a bubble, and people will point to all sorts of different things, whether it’s valuations of certain tech companies or innovative companies, they talk about the decoupling between the real economy and what markets are doing, something like that. I mean, how do you look at that? And then also, how does that map back to your framework, then?

Jay Pelosky (00:14:22):

Yeah, I think we do have in the market section of the Global Risk Nexus. We looked at valuation etc., as part of that process, which is a check to make sure that we’re thinking through things correctly. I don’t really see valuation as being a big problem. I mean, the way I’m thinking about things, I guess there’s a couple of different ways we can attack that question. I’d start by saying, my view is that we’re approaching a global economic boom, and we are going to have the best two year growth period, 2021 and 2022 that we’ve had in probably 50 years, 50 years. So which basically means that virtually no one investing today, has ever experienced the environment we’re going into. Which I think is a key point to keep in mind.

Bilal Hafeez (00:15:10):

Now that’s a very good point. I mean, do you think that’s a non-consensus view? Or do you think that is a consensus view or not?

Jay Pelosky (00:15:16):

I think there’s a consensus that we’re going to have a recovery. IMF just increase their growth estimates for this year and next. But they’re about 5%. I’m more in the framework of my old firm, Morgan Stanley, which is calling for 6.5% global GDP growth in 2021 and roughly 5% in 2022. And those are the numbers that have not been seen since the ‘70s, literally the early to mid-1970s. Actually, where I think consensus is wrong, is interestingly enough on the fixed income side. As Bloomberg consensus for the 10Y Treasury is roughly 1.2 to 1.3% at the end of 2021. And that was consensus, I mean, again, I’m sure like you, I’ve read a lot of 2021 outlook thesis over the last couple of months. And that was the consensus, or the most shared, wildly off the mark outlook, in my view.

Which Asset classes Will Perform in this New Regime

Jay Pelosky (00:16:23):

My view is that we’re going to see the 10Y at 1.75%, and we’ll be closer to 2% by the end of this year. And so this, we can talk about inflation and all the other things. But to get back to the point, global economic boom, equals a great rotation, or leads to a great rotation in all sorts of things. From US to non-US equity, from growth to value, large cap to small cap, from FAANGS to innovation, from a bond bull market to a bear market again, same thing below. No one investing in the fixed income space today virtually, has ever experienced anything but a bull market, right? Because the Treasury bull market began in the early 1980s. And yeah, there have been some blips and back and forth, but I’m very much of the view that we are in a bear market in US government debt, particularly long duration debt.

And I also think investors haven’t fully prepared for the shift to come. And that boom to rotation, leads to what I call a golden age for asset allocation. And that golden age of asset allocation includes, importantly, the thematic approach. Because I think thematic investing is going to be critical, as I talked about earlier with COVID speed breaking out into climate. You see the same thing, unparalleled amounts of financial capital, plus intellectual capital, focused solely on dealing with the climate issue. So when you see people talk about, and this gets to your valuation point, Tesla or clean energy or batteries, as being crazy in a bubble. And I think that’s exactly wrong. That is completely wrong.

Jay Pelosky (00:18:11):

The way to think about it is, the world is seeing the movie of the COVID speed and the vaccine, knows it’s going to be replicated, because once we’ve seen it, we’re learning creatures. Once we’ve seen it, we’re going to see the replication of it. And it’s a problem of too much money, trying to get into too few instruments. And that helps explain the IPO boom, January’s IPO market in the US, best in a decade. Also, the blank check companies – that is financial engineering, providing early exposure to these areas that are of great interest, like electric vehicles, like batteries. All these companies are now coming public. For example, BLNK, which is the (only) charging station company in the United States. If you want to play electric vehicles in the next decade, we’re going to be roughly 50% of US new vehicle sales and there’s only one company that you can own, that has the charging station business.

The Problem with a 60:40 Portfolio

Jay Pelosky (00:19:17):

How can you tell me what the right price is for that? So, it’s not meant to be modeled on a one year or two year cash flow basis, that’s not it. So to me the last point on this and then I’ll stop, is the idea of 60-40. With, over the last decade, 60-40 in the US (60% S&P, 40% Barclays Aggregate Bond Index) returned 10% per annum. Without doing virtually anything and that was a gift and guess what? Gifts go away. And that gift is gone away. So, the 10Y, 5Y, 7Y, forward looking 60-40 return is much closer to 1% to 2%. One of the other great guys at Morgan Stanley was Henry McVeigh, who’s now the head strategist at KKR. He’s come out with his 10Y forward outlook, AQR has come out with their 10Y 60-40, all of them are around 1% to 2%.

And I don’t think that this has penetrated the pension fund space fully, the endowment space, all the folks who do risk parity, all the knock offs to this approach, are going to struggle deeply in what I call a less generous beta world. Which means you’re going to have to work harder to find the alpha. And the alpha is going to be found in this great rotation and thematic trading. And so for the last couple of months, I’ve spent the bulk of my time, trying to figure out how to incorporate thematics into my portfolios.

And as I mentioned, with TPW advisory, we have a model portfolio delivery service. How much of these thematics do you include into your typical global multi-asset portfolio, which ones, which ETFs, what weights. If you’re going to add Bitcoin or crypto, what’s the weight of that? It’s super volatile, four times more volatile over the last five years than equities. So you’ve got to size these things properly. That’s what’s exciting, that’s what’s cutting edge.

How to Play Clean Energy (ICLN, ECAR) and Why Old Energy (XLE) May Still Perform

Bilal Hafeez (00:21:35):

And so if we take one of the themes that you mentioned, say climate change and this move to clean energy, so how would you express that as an investment?

Jay Pelosky (00:21:44):

Well, I think there are a number of ways to think about it. One way to think about it from the very top, is the idea that in the last six months roughly 60 to 70% of the global GDP has committed to net zero by 2050, okay? So China, South Korea, Japan and the United States, all in the last six months have committed to net zero. That’s the idea that it’s a global issue, right? That’s the underpinning for the idea that there’s going to be lots of money made available. You’re going to have this global intellectual pool. Not just in the US, not just in China, not just in Europe, but all of these places. Folks, the smartest people are going to be focused on bringing these issues to the forefront. And so that then says it’s a big thing, I need to incorporate it into my portfolio, does it mean I sell?

And here’s the interesting little tidbit right now, does it mean that I sell all my old energy, my XLE for let’s say, US energy oil companies, the majors? Or and just by clean energy, like an ICON, right? the International Clean Energy ETF? The funny thing is that the answer to that question is no. What you want to do right now is own both. Because you can make money in both and you are making money in both in the portfolios that I’m responsible for, have been doing very well holding both XLE and ICLN.

Bilal Hafeez (00:23:18):

And what’s the rationale for still holding XLE then, the Old Energy?

Jay Pelosky (00:23:23):

Well, because we’re going into this global economic boom, we’ve had a shortfall of investment capex in that oil and gas space. Because we’ve had near death experience. We remember, a year ago, the price went negative, it was negative. I mean talk about crazy. So the point is that we’re going to have a boom, we’ve under invested, we still are a vast majority hydrocarbon global economy, we’re going to continue to be such for a period of time. And so you have respected firms like JP Morgan, calling for a $70 barrel Brent, by the end of this year, $70. It’s at $55 today, okay? And guess what? We talked about how treasuries are in a bear market. What’s the yield on XLE? 5%. And what did ExxonMobil say in their earnings announcement two days ago? They are going to maintain the dividend, full stop. So, you put all those things together, you can make money in XLE. And you can make money in ICLM, because the trend towards clean energy is manifest and it’s not going to change and is only going into greater and greater levels of activity.

Focusing on Core Themes: EVs, Clean Energy, Innovation, Fintech, and Cyber

Jay Pelosky (00:24:35):

But the real interesting thing, is that okay, you say I have a position in XLE, I have a position in ICLM. But the real emitter is vehicles, transportation. And so you get to the point where if for Joe Biden, for example, electric vehicles represented 2% of new car sales last year. Yet to Joe Biden’s net zero by 2035, so less than 15 years from now, electric vehicles need to represent 50% of new car sales. So we may be going from 2% to 50% in the US, and by the way, China is fully focused on electric vehicles. Europe is increasingly focused on electric vehicles.

So, this kind of interesting, the old line, what’s good for GM is good for America and vice versa. So now General Motors just came out and said, I forget the exact date, but within the next 10 years I think, they are not going to be selling any internal combustion engines, zero. General Motors. So you need to own electric vehicles too, is the point I’m trying to get to.

Jay Pelosky (00:25:42):

So then you have an ETF for that, KARS, KARS. And you have other ETFs, I’m sure that are somewhat similar. You have an autonomous vehicle ETF etc. You have your stock, bond, commodity alternatives, have your US, Europe, Asia, you have your tech, financials, energy, industrials, healthcare. And now you have to have thematics. You have to have clean energy. You have to have electric vehicles. You have to have innovation. You have to have FinTech, you have to have cyber, etc. The recreating of the portfolio is what’s really kind of energizing me and sensitizing of all this stuff, is really where I’m focusing my attention.

Bilal Hafeez (00:26:26):

Yeah, it’s interesting the thesis of all these large countries shifting to net zero, people will agree with that. But then when you go down to the next level, that’s where it gets interesting. How do you play it exactly, it’s not so simple, that you just dump all old energy and go into clean energy. There’s a nuance there, and there’s knock on effects, transport then and so then it becomes lots of moving parts. And that’s where the challenge is and to kind of put it in the right position and then think about things like the dividend yield and things like that which you can’t ignore, if we’re in an environment of generally low yields. So then there’s a lot to think about there.

Jay Pelosky (00:26:59):

Well, that’s why you need me. That’s why TPW advisory is your go-to source people.

How the Tripolar World is Evolving and Why ETF Model Portfolios Work

Bilal Hafeez (00:27:07):

Yeah. And when you think about these thematics, do you think about them on a global basis? Or do you then break them down into regional basis? So, for example, in this clean energy example, you look at some US ETFs, or US, then would you then do the same for Europe and the same for China? Or would you think about these themes globally? So, cuts across the regions?

Jay Pelosky (00:27:26):

Yeah, I think it starts globally, because there is global competition. And it helps me think about, I think globally but I also think regionally. So this again goes to my tripolar world thinking. For the last decade, I’ve been thinking in these kind of buckets as well as globally. So, I have a great appreciation for what China is doing in electric vehicles and in battery. I pay very close attention, for example, when the European Union announces as they did earlier this week. That they are going to provide many billions of dollars of funding, to have a European battery production capacity, because they don’t want to rely on China and the United States. I pay a lot of attention to words like strategic autonomy, which is what you hear from European policymakers. Pay a lot of attention to self-sufficiency, which is what you hear from Chinese policymakers.

And so, this is the way to think about the world. We’re in a world where as a result of the last couple of years, there is these regional polls developing. And it’s worrisome to me as an American, frankly. Because I don’t really see that happening in our hemisphere, in the Americas, at all. I can make a case that Europe is integrating rapidly and has a real chance to win the 2020 Green Deal Joint Recovery Fund, joint issuance of debt, joint taxation, soon to be common deposit insurance, cross border bank M&A, etc. I can make a great case for what we’ve done in the US, to push China to self-sufficiency in technology and to drive domestic consumption. It’s dual circulation strategy.

These are responses to the environment that we the United States have created in a large way. And so, you have got to be involved with China electric vehicles, because they dominate the space. Here’s a quick little fun stat for you. Out of all the electric charging stations in the world, 90% roughly are in China today. 90%. Okay. So when you think about the future, where’s the leadership? And the leadership and things like electric vehicles right now is a food fight, between Tesla and the Chinese. With the Europeans VW and others coming up strong. Again, depends on how you can structure your portfolio to incorporate these different things. Because you only have 100%. And I don’t want anything levered, so it’s a straight 100% portfolio.

And so that’s really the question in the right vehicle, and you spend a lot of time doing that. But I think that’s again, what makes the ETF space so great. I don’t necessarily have to think about individual companies and then betting on a company, because you’re going with SPACs and the IPOs and COVID speed, you’re getting closer and closer to the beginning of that innovation or cycle, right? Who are the early adopters, etc. You have the opportunity as an investor, to get in closer to the beginning. But that means higher risk, obviously, and particularly if you go company specific. So I love the fact that I can just do an ETF and yes, I’m not going to be up 20% in a day, but that’s fine. I don’t want to be up 20% a day, because I’ve been around long enough to know that means I’m probably going to be down 25% in two weeks. So the ETF vehicle is fantastic for this environment and for expressing thematic interest.

The Biden Revolution that Everyone is Missing

Bilal Hafeez (00:31:04):

Yeah. And you talked about US leadership. Obviously, we’ve got a change in the party in power in the US. You have President Biden, you have the Senate is well controlled by the Democrats. So it’s full control. It’s peak over the margins obviously, are quite small in the Senate. What does that mean for the US then?

Jay Pelosky (00:31:21):

That’s an excellent question. It’s one I don’t think people are paying anywhere near enough attention to. I think it’s absolutely significant and believe that we are at the beginnings of a regime shift, away from 40 years of Republican-led thinking that government is bad, big government is bad. And we need to bring government. And I actually, in my musings, I do a Friday musings piece, meant to be kind of a distillation of my thinking every week, comes out on Fridays. And the last one was titled, “I’m from the government and I’m here to help”.

It’s the words that Ronald Reagan said in the early 80s said, “The nine most terrifying words in the English language were, I’m from the government and I’m here to help.” So you take that as your starting point and you end up with the Trump administration, who stated agenda was the deconstruction of the administrative state, right? That’s Steve Bannon’s famous quote when he was the strategist for Trump, as he was entering office, the “deconstruction of the administrative state.” That is the logical culmination of 40 years of efforts to make the point that government is bad, and we shouldn’t pay taxes. So we’ve ended that, can’t go any worse. And that deconstruction by the way, there was a lot of it. And it resulted in COVID, and just pathetic response in my view, to COVID.

And so now we are switching gears, the American people have said, no, we don’t want more of that. We want to go to government is good. And A) Joe Biden and his team are deep believers in government, B) deeply experienced in governing, C) have the experience of the Obama administration, where many of them worked, where they went too small and failed to really jumpstart the economy and ended up exacerbating the populist mentality. That mentality has developed in the US political system to a point where we have one of our two parties, that arguably is still not willing to say that Joe Biden won the election, cleanly and fairly.

So this to me, means that there’s a huge opportunity for Joe Biden and his team to go big to get a COVID win, to unleash an economic boom, you set up for victory politically in 2022 and 2024, which will lead to a period where government is good, gets ingrained and they have every opportunity to do so, because we have record cheap money, can’t get and not had cheaper money virtually in the history of the United States, to show and prove that government is good. And so I think that’s what we’re going to see from the Biden administration, we’re going to see an activist government, which leads to policy-driven markets, which leads to thematic opportunity sets.

When you think about this, a lot of things are coming together in a very powerful fashion. But the shift from government is bad to activist government is good, is probably a 30, could be a 10 to 20 to 30 to 40 year move. And to me as an American, frankly, it’s great and not because I’m a Democrat or an Independent Republican, but because when I look at the tripolar world, as I said at the outset of our conversation, I struggle to see where the Americas are. I can see Asia moving aggressively led by China, into the consumption center of the world. I can see Europe integrating, being the normative, rulemaking, powerful regulatory agent and back in climate. I can’t see what the role of the Americas is. And I’m hopeful that’ll change when we break the gridlock of the last couple of years, where we’ve not really been able to get anything done in this country.

And I’ll just give you one quick illustration of that point. The world innovation rankings just came out. The United States ranked 11th. Less than a decade ago, the US ranked first. So we’ve gone from number 1 in world innovation to number 11. And if we’re accepting of the idea that innovation and technology, in climate, in fintech etc., is going to be what drives us forward, going from 1st to 11th place in less than a decade is a very, very bad sign.

Bilal Hafeez (00:36:06):

And who’s at the top, by the way?

Jay Pelosky (00:36:08):

I believe South Korea is first. And there’s a number of European countries, which is interesting, because Europe has no publicly traded technology.

The Outlook for Large-cap Tech

Bilal Hafeez (00:36:17):

No and just going back to your thesis on the more activist government. And that’s really quite compelling the way you express it. The two counters people have raised to that type of view is number one, on the activist side, that the democrats will over regulate, they’ll regulate the tech guys and that will be really problematic for the tech stocks. And then on the other side, on the fiscal side, say obviously, there’s a big bill now. And if they use the budget reconciliation process, they could maybe pass something close to 1.5tr, maybe even 2tr. But then after that’s won and done, it’ll be hard to push something else through with the filibuster, or I mean, there’s a chance for a second reconciliation, theoretically, you could use that.

And so, there’s kind of a view on the fiscal side that it’s big now, but can they really push more stuff through with the filibuster as a constraint on them? So how do you think about those two? The regulation side and the issue of the filibuster and just gridlock?

Jay Pelosky (00:37:12):

Right, well, it gives me an opportunity to bring up one of my other pet phrases of the last couple months, which is that a vaccine in rising rates, are kryptonite for big cap tech. And so the regulatory issue is most likely going to be faced by the technology companies, the particularly the big platform companies. And I believe that there’s anti-trust legislation that’s going to be presented, perhaps even today, definitely very soon. And I think this is an issue that, after what’s happened to our political system and the assault on the Capitol Building, I think there’s great appetite to understand exactly how social media in some of the platforms are affecting our social environment and our democracy.

So, I mean, I’m not an expert in that space, but I do think that the regulatory issues will be faced mostly by big cap tech, which I think is already unattractive for the reasons I mentioned. A vaccine kills the work-from-home thesis, rising rates affects the cash flow valuation, and you can see it already, big cap tech effectively peaked months ago. So, I argue that you shouldn’t think about FAANG, you should think about ARK and things of this nature as a quick shorthand.

Bilal Hafeez (00:38:35):

And I guess what you’re saying there almost is, I suppose we’ve got used to in the last 10 to 20 years, that innovation equals big tech. But that’s not really true. So that heuristic isn’t correct.

Jay Pelosky (00:38:46):

That’s 100% a great way to think about it. And as I spoke earlier, we’re getting closer and closer to the early adopter stage of tech as investors, public market investors, in IPOs and SPACs. I’ll give you another little tidbit. When the term tech unicorn was introduced, literally less than a decade ago, there were 47 unicorns. Today, over 500. 500 private tech companies in around the world, that are valued at over a billion dollars. So we’re going to see a lot of those companies come to the public markets and we’re going to get a chance as investors to participate in them. And then through vehicles, like for example, EMQQ, which is a great emerging market, internet and ecommerce ETF, you can get exposure to these vehicles. To these new IPOs as they come public around the world in one vehicle. I mean, you can’t get much better than that.

Biden’s Economic Strategy and Perhaps Another Stimulus Down the Line

Jay Pelosky (00:39:48):

The other side of the regulatory is climate. And there I think people are very much accepting of the idea that we need to have higher mileage. We need to have electric buses, et cetera, et cetera. So, I don’t really see that as a huge issue. I do think that the fiscal side is more interesting. And I believe, as I said earlier, that the Biden economics team understands that in 2009, 2010, they did not go big enough.

In his physical temperament, Joe Biden is a moderate, he’s very calm and level, which is fantastic after what we’ve dealt with in the last four years in the United States. So that’s fantastic. And yet, he also has had a real nose for the center of his party, so he understands that the party has moved to the left. In the way somebody put it, left of Obama, right of Elizabeth Warren. That’s where you’ll see the Biden administration. And here’s the tagline that I think expresses the view. “Investing in equity is good for economic growth,” equity being racial disparities and inequality, right? Which is a huge issue in our country, because 10 years of monetary policy dealing with our issues has meant that guys like you and me, have done really, really well, but not people who don’t trade markets for a living or don’t have a big investment nest egg, or don’t own their house. Because to be fair, household net worth in the US is at an all-time high. Because you’ve got a stock market at all-time high, home price is at all-time highs.

So yes, but if you’re not a homeowner with a portfolio of financial assets, you haven’t done well. And so investing in equity is good for economic growth. And I believe that President Bidden, is opening himself up to the Republicans. He says, let’s hear your plan, their plan was $600 billion, 1/3 of what he’s suggesting. That’s a non-starter. That’s going to go absolutely nowhere. So they will, I believe, if necessary, pass the bill by reconciliation and then they will come back and I believe, even stronger a year from now. See the idea that the administration has to do everything in its first year, I think is incorrect in the current environment. Because all the Biden Administration has to do to be declared to be a winner is to deal with COVID and get people vaccinated, then the economy booms.

And I think in 2021, 2022, there’ll be every opportunity to come back with a big infrastructure and climate program and bill and budget, that people will be very much embracing us. So, I don’t see it as a one and done, I do expect it to be somewhere around $1.5tr for this first bill, the Rescue Act. And then, I think the infrastructure and climate plan will come later, it will be after these two successes. And I think it will find favor with the American people and with investors.

Inflation, Why Rising Rates Won’t Hurt Stocks, and Why ARK Will Outperform FAANGs (RSP>SPY)

Bilal Hafeez (00:43:03):

And yeah, I’m just thinking, it’s a very compelling story that you’re telling. And in terms of risks to the view, one common one that a lot of people are concerned about is what happens if we do get this rise in bond yields? You said that we could see a move up towards 1.50%, 1.75%, even 2%. Would that derail markets and your thesis? And the other one, I suppose, has been brewing for a while now some conflict between the US and China. So, while the trade war was more of a Trump issue, the tech war between US and China is more of an establishment issue. It’s not a Trump thing, per se. And so you could see clashes between the US and China there. So in terms of those two as risks, so, a rise in bond yields, could that be something that could derail this boom? And then the other one’s US, China tensions escalating?

Jay Pelosky (00:43:55):

Yeah, no great things to highlight and to think about and certainly I’ve thought about both of them quite a bit, though I don’t worry about rising rates derailing the stock market in the US. I do think at the margin, it means the US is likely to underperform due to the effect on the large cap tech, which depending on how you cut it, is anywhere from 25% to 40% of the US equity market. So one of the things I’ve done in the last six months as an example, is making my core S&P holding is an equal weighted S&P. It’s not the market cap weighted. And that’s done very, very well. And I think it will continue to do very, very well.

Bilal Hafeez (00:44:37):

What’s the ETF for that by the way? Because I know you’re the expert here.

Jay Pelosky (00:44:40):

RSP. Yeah, no, it’s been a great vehicle and has massively outperformed the S&P over the last several months. And I think will continue to do so. So to me, rising rates is getting to 1.75%, 2% by the end of the year. Because the economy is booming, it’s not going to derail the stock market. And I don’t think, I think where people are wrong, is this idea that the Fed is going to get really worried about this. That’s really where the action would be, where if the Fed were to come out and say, “Hey, we can’t have these rates up to this level, that’s not a good thing.” I don’t think the Fed does much of anything. Because I think the Fed understands that, first of all, we will have some inflation. I think they’ll maybe backtrack a bit and say in the next quarter or two, people should get ready for headline inflation prints, yoy, of 3%to 4%.

Because remember, a year ago, inflation was negative. -0.8%, -1% in February, March, April of 2020. So as those numbers drop out, you’re going to see big prints on the headline. Now, obviously, you have to look at core, you have to look at the PCE deflator, the things that the Fed cares more about and those are less volatile. But do we even have things, I just noticed the other day, in Q4, another little tidbit. Asking rents in the US, asking rents up 18% year over year. Signed rents in Manhattan, people are saying the city is dead. Signed rents, leases in Manhattan in December up 94% year over year. 94% signed leases yoy in December. So we’re not talking about the bottom in March, we’re talking about when things were quote unquote good.

So rents are… and I say that because rents are a big part of the CPI basket in US. So, my point would be a transitory inflation spike in the middle of the year, ebbing thereafter, Fed sees through it. Rates rise. Real rates, importantly for financial assets like stocks, real rates go more negative, thus potentially being constructive for crypto, for gold, things of this nature. So again, reason to think about having some crypto in your portfolio is the stable asset nature of it in what could be perceived to be an inflationary environment. So, I don’t really see the Fed acting at 2% or 1.75% if we go there. We’ve gone from 0.9% to 1.15% in the 10Y US Treasury. We’ll go from 1.15% to 1.3%, 1.4% in the next couple of months and so on and so forth.

How Non-US Will Outperform US and Tech Supply Chains Will Diverge

Jay Pelosky (00:47:28):

I do see it though, again, as an important support for the idea of rotating away from US equity, to the non-US equity markets, which are cyclical value plays like Europe, like Japan, etc., because they don’t have that tech exposure. So to me, it all fits very nicely with US being the relative under performer – not collapsing because those tech companies, as we just saw this week, are making absolute tons of money, so US equities isn’t not going to collapse. This is not a 2000 environment by any stretch. But they’re going to underperform. And then to your second point about the US and China, splinternet is for real without a doubt. As I said earlier, we have told the Chinese through our actions in the last year or two, that they cannot depend on us, to buy key things for their own development and forward movement as a country.

So, when you do that, the people say, “Okay, well, we have to have it. So we got to make it ourselves. And they will and they are.” And so, you’re going to have a separate tech stack in China, a separate tech stack in the United States. By the way, things like semiconductor chip shortages, President Trump being booted from social media, these reinforce the idea that we want to control our own tech stack, right? And China has its great firewall, they’re already there, in the censoring of things. But semiconductor production, that’s a huge issue, right?

Europe, which I think is really fascinating since it sits in the middle. And they are a big market, so people want to play and then participate and sell into that market. So they do have the chance to be the normative or rulemaking power in tech and in climate. And I think that’s going to be where they play. And they’re going to be able to tax on that basis, common taxation, digital and climate. And that’s going to help develop the integration that I spoke of earlier.

Why US-China Risks are Overstated

Jay Pelosky (00:49:38):

So that’s how I see it playing out. I don’t see armed conflict. I think absolutely nobody has the appetite for that. I do think that it’s interesting about time I move on, because you could argue that China has clearly made a move on establishing its dominance in day-to-day control of Hong Kong. And you could argue that the next iteration of that could be Taiwan. And you could then say, as a counter to that, that the fact that Taiwan is the world’s semiconductor chip platform, probably protects it. Because nobody can afford to have that production significantly in peril. One of the ETFs that I like a lot is, EEMA for Asian exposure. It’s 75% China, Taiwan and South Korea, so really plays that tech hardware, as well as software in social media angle. And so, I don’t see US and China fighting over Taiwan at all, I think China wants to increase its domestic demand, through its dual circulation, established tech self-sufficiency.

And by the way, as an FX guy and Asia guy, China has the world’s highest yielding government debt, right 3% plus, and an appreciating currency. Foreign purchases of Chinese debt in January were a record. The international investor community is only wanting to get more of China as they want to be able to globalize their portfolios. I think there is a lot of fear about the US-China, I would flip it and say that there’s even an equal, if not better chance, that in the next couple of years, we see much more of the internationalization of the renminbi. To offset the inflows, they’re going to have to allow outflows.

And the last thing I’ll say on this, and it’s true for Europe as well, is that you do see a movement towards digital coins in China and in Europe. It’s in part to get away from the financial sanctions that the US has been imposing, like in Iran, which really upset the Europeans. And so again, it’s an example of US overreach in the last couple of years, that is backlashing, creating things that we would really rather not see. Because the US has been a huge beneficiary of the dominance of the dollar. And things like digital coins start to set up the framework for that dominance to dissipate. And that’s very much a potential problem down the road.

But I’m relatively constructive on US-China relations. I think the Biden administration wants to do the things I mentioned, beat COVID, economic boom, focus on inequality. By the way, interesting is that ideological opposites US and China are both focused on the working classes and both focused on tech antitrust. So maybe the actual issues unite them rather than actually separate them, if you get beyond the headlines.

Jay’s Book Picks and Productivity Hacks

Bilal Hafeez (00:53:04):

Yeah, no, that’s a very good points there. Well, I think, we’ve covered a lot about markets. So maybe let’s go down to some more personal questions. Yeah, one question I like to ask all my guests is how you manage your research and information flow? Because obviously, we’re inundated with information data, research and so on. I mean, how do you cope with it all, what’s your system?

Jay Pelosky (00:53:24):

Well, we talked about the key drivers, right? The first is that tripolar world thesis I’ve developed over the last decade, which I’ve updated as recently as a year ago. That’s really the framework through which I view everything. And then underneath that is that Global Risk Nexus, which looks again at health, economics, politics, policy and markets, in each region and globally. And that is a great construct to keep everything in their place. And it makes sure that we don’t miss or I don’t miss things in any kind of meaningful way. I would say that I’m a big reader, always read, that’s my thing. And having been in the business a long time, I know who to read, which is very, very important. I have my people in each area of the world and in each pocket of the multi-asset space, who I’ve read for years and I know when to read them. I know their biases, that’s very important, to reduce the reading too much stuff, extraneous stuff.

The other thing is that again, having a lot of experience in the market, I have a network of people that I listen to and can reach out to on issues that I’m not expert on. And I’ll give you one illustration as a former Morgan Stanley macro guy, we have a group of us about a half a dozen people, that we get together once a month on a phone call. And these are all highly successful in very significant positions in the US and in Europe, that are active in the markets on the buys-side, sell-side and we kick it around. Just as you were mentioning, you do yourself for the Macro Live. So I know you are a big believer in that. And then last I’d say is I’m a very disciplined person and have been doing this for a long, long time.

So have been writing… I started writing once a week at Morgan Stanley in 1995. And pretty much I’ve been doing it ever since. I think I’ve gotten better at it. So, my musings now are anywhere from 500 to 800 words and are really a distillation of my best thinking. And so I take those and when I do my monthly, because that’s the other thing I do, a monthly, here’s an illustration of how I work. I keep my notes from my musing, put them down every Friday. When it’s time to write my monthly, I take the musings, the last three or four that I’ve done and read them over to make sure I’m not missing anything and then make the leap to writing the monthly. As opposed to having to go through all the notes that I’ve taken over the last month, which is what I used to do, back in the day.

So it’s leveraging, like the notes I made for our conversation today, or the notes I made for going on Bloomberg last week. Those things are then stepping stones. Because I’m a big believer that you have to focus forward. I really don’t spend a lot of time with people who want to tell me what happened, because that’s useless to me. I’m much more interested in what’s going to happen and so I spend my time, I like to say trying to peer into the near future and get the outlines of how things are going to be. And understand that I’m going to be wrong, because I’m thinking about the future. But as the point I made you very early on, the world we’re going into has not been seen by virtually anyone investing today.

So I think all of us have the obligation to think forward. And the folks who can do that, with some success and I’ve been trying to do it for 25, 30 years on a global multi-asset basis, I think those are the ones who should be your guides, post to pay attention to. If you read my stuff, you realize there’s very little about what happened. It’s much more about what is happening and what I think it means for the future.

Bilal Hafeez (00:57:23):

Yeah. And that’s great. And you mentioned you like reading. Are there any books that have really influenced you a lot in terms of your thinking?

Jay Pelosky (00:57:32):

You were kind enough to tell me you were going to ask me that question. So I was able to go to my library last night and take a look at my collection. I have a pretty decent library. So I’d mentioned a couple, anything by Peter Bernstein, Against the Gods: The Story of Risk, absolutely crucial to understand. And to me, it very, very appropriate today, because as I said, we have a chunk of the American electorate that doesn’t seem to believe in the truth, or doesn’t even really know what the truth is, which is staggering to me and is very, very worrisome. So Against the Gods, Capital Ideas Evolving, both by Bernstein, I think you have to understand China. I read a lot about China, I subscribed to a number of things that give me insight, but one book that I read recently that I thought was very good, was the Age of Ambition by Evan Osnos. O-S-N-O-S. Very good.

The Devil Take the Hindmost is a popular one by Edward Chancellor. Again, story of markets going back for a more historical perspective. And then to more current ones on the US, well not actually current, one’s current. The Unwinding by George Packer, really the story of what’s going on in America for the last couple of years. So, if you’re trying to understand why 1/2 the country doesn’t recognize that Biden is the president and won fairly, The Unwinding helps one to understand that.

And then The Great Risk Shift by a guy named Jacob Hacker, is really, really good at understanding, again, why many people feel the way they do, because much of the issues around health care, retirement, etc., have been pushed back to the individual, from the company, in the last 20 or 30 years in the United States. In many countries, the government steps in, particularly in Europe. But in the US, the government hasn’t really stepped in. And so, we have issues like going bankrupt because of medical concerns. Or issues around inequality and wealth and the fact that the minimum wage hasn’t been raised in 30 or 40 years, stuff like that. The Great Risk Shift helps you understand that. I feel like I read widely, I like to read about important countries and important regions, so I spend time reading about Europe and Asia, as well as the United States and Latin America.

And to me, it’s really an opportunity to let things digest and find the little tidbits that help you tell the story and give you a guide force. Because being a macro guy, I think is almost like being a guide and trying to find your way through a forest. It’s dark, it’s impenetrable, the trail is unclear, the sign markers are faded, you can’t see them. I used to do a lot of climbing up. So, those types of things. And reading to me, helps me both understand and appreciate and think differently. So I like to read not just financial stuff, as I illustrate.

Bilal Hafeez (01:00:42):

Yeah, that’s a great list of books. Some of them I’ve read, some of them, I haven’t, so I’ll make sure to read them. So I think maybe we can wrap up now. But before we do, how can people get in touch with you?

Jay Pelosky (01:00:51):

Yes, definitely. I’m launching a new company, I’m very interested for people to get in touch with me. My website is www.pelosky.com. My email is [email protected]. And I’m on Twitter and LinkedIn, both under Jay Pelosky. So yes, feel free to reach out. My website has all my media and my musings and other things on it, you can get a sense for the tripolar world and the Global Risks Nexus. All of those things are available to you. And I appreciate the opportunity to speak today with you and your audience. And congratulations on all your success at Macro Hive. And hopefully we can continue to do some things together.

Bilal Hafeez (01:01:35):

Yeah, absolutely. I’ll make sure to include all your contact details on the show notes. And I do urge everybody to have a look at the site and then subscribe to whatever options there are. Make sure you listeners do that. So with that, thanks a lot, Jay. It was excellent conversation, very inspiring in many ways. It’s great to chat to you.

Jay Pelosky (01:01:51):

Thank you Bilal, and thank you again for the opportunity. You asked some great questions and good luck with continued success.