For decades, investors have relied on a familiar assumption: when markets become uncertain, bonds provide stability.
Darius Dale argues that this assumption no longer reflects today’s financial reality.
If the structural forces that shaped the last forty years have fundamentally changed, investors may need to rethink where they seek safety—and even the entire framework they use to build resilient portfolios.
Watch or listen to the episode now.
Transcript
Why Darius Dale allocates 30% to gold
Monetary Metals
Hello everyone, I’m here with Darius Dale, the founder and CEO of 42 Macro. Darius, we were chatting just before we hit record that when it comes to your kind of out-the-gate recommendation for portfolio construction, you’re coming out with 30% to gold. Now I’ve been in the gold business for almost 20 years. I think that may be the highest recommendation I’ve heard. So tell me a little, tell me a little more about that. Tell me a little more about that.
Darius Dale
Oh, I like that. I like being on top of the leaderboard, man. So the core thesis is, and, and thanks again for having me, Dixon. I appreciate you guys. Love what you guys are doing. I think you guys are doing a great service for the public.
The core thesis, which has, in our opinion, been proven correct on several fronts, is that there is a supply-demand imbalance in the Treasury bond market. Not the Treasury market, not the short end of the Treasury market, but specifically the long end of the Treasury market, which is the portion of the Treasury market that most investors who typically have passive index asset allocation strategies, like a 60/40 or 70/30, that’s the portion of the bond market that they use to play defense in their portfolios.
For a variety of reasons, as a function of this geopolitical supply-demand imbalance, the bonds themselves are no longer behaving in a defensive manner. There’s a couple of statistics I’ll highlight that can give you a sense of what we’re talking about here. So one, the correlation between stocks and bonds has become positive, and it’s been positive for several years now. And so what that ultimately means is that the benefit you get as an investor by diversifying into this particular asset, into this particular return stream—could be any return stream—goes down tremendously. It’s amplifying risk as opposed to mitigating risk, which is what diversification does.
Monetary Metals
Can I pause there just real quick? My understanding of diversification in its essence is to own non-correlating assets.
Darius Dale
100%.
Monetary Metals
Yeah. Yeah. I’ve also heard it said that there’s no such thing as a free lunch except for diversification.
Darius Dale
That’s also true.
Monetary Metals
So, so tell me more, like when it comes to that correlation, bonds and equities breaking down, is that a recent phenomenon? Because normally the 60/40, like the whole reason for the 60/40 working was that, you know, non-correlating, negative correlating ratio. So how has that changed? When did that change?
Darius Dale
100%. So it changed starting back in 2020 and 2021.
Monetary Metals
Okay.
Darius Dale
We sort of, we hit a real secular low in interest rates in the fall of 2020. And since that secular low in interest rates, a couple of things have happened that have been very bond negative. One, we’ve had this now two adverse inflation shocks that have caused investors to reduce their demand for this asset. Two, on the geopolitical front, we’ve had several things come out that have been really bond negative.
For starters, we have Europe, which is the largest foreign creditor in our bond market at about roughly in aggregate about, let’s call it, 10% currently. They are now actively remilitarizing. Their sovereign expenditures on defense and infrastructure-related defense is going to go from 2% of GDP to roughly 5% of GDP over the next decade. So that process is ongoing and is essentially a capital call from our bond market to their bond market.
Monetary Metals
They’re shifting assets away from what otherwise would have been our bonds and moving it—Exactly.
Darius Dale
They’re going to have to invest in their own bonds, essentially. So that’s issue number one on the geopolitical front. Issue number 2 of 3 on the geopolitical front is Japan’s reflation. One of the least talked about stories in all of global macro is the fact that Japan has durably escaped deflation. If you look at Japan’s most recent GDP report, you’re talking about nominal GDP in Japan close to 5%. Yet the entire—the term structure of the Japanese interest rate curve is priced like Japan is very narrowly in deflation still, at least up into the mid portion of the curve.
Why bonds no longer protect portfolios
Darius Dale
The long end of the curve has already moved. It’s like, no, see you later, guys. We got problems here. Japan is no longer in deflation. And so ultimately, what that means is the Bank of Japan is probably several hundred basis points too low in terms of policy rates in that dynamic. In terms of their policy normalization should be ongoing. And this is going to be an issue for global bonds because Japan, for a long period of time, was the funding currency, the funding source for a lot of fixed income investors around the world.
So that’s an issue. And then finally, it’s the strategic decoupling with China and the US. So China was the second largest, and now it’s the third largest foreign creditor on its way to becoming the fourth. Because of this active decoupling process, China no longer needs to accumulate dollar-based FX reserves to the extent that they do. China obviously having the world’s largest pool of FX reserves on the order of $3.6, almost $4 trillion.
And so now, because of that decoupling process, and I would argue the weaponization of the US dollar in terms of what happened with Russia, Ukraine, et cetera, there’s a real just general sense of discomfort in owning dollar-based assets in China, in Russia, and other countries that are more tethered to that economic bloc. So, you have a lot of geopolitical dynamics that are reducing the demand for these securities.
At the same time, the securities themselves are no longer inversely correlated to stocks. So, that’s now reducing the investor demand for these securities, while at the same time, you have the, what I would consider to be price insensitive buyers like the Federal Reserve, which buys to implement monetary policy, foreign central banks, which buy to implement their reserve management programs.
And then commercial banks, which buy to implement regulatory guidance, those 3 price-insensitive buyers have declined to roughly about only 40% of the bond market from about 2/3. And so, now obviously, we’re filling, replacing them with price-sensitive buyers, investors. And so, there’s all these demand-related issues that are essentially causing the bond price to gravitate lower, the yield to go higher over time. And so, that more or less locks in that inverse negative correlation to the stock. So, in our opinion, we just don’t think bonds are a defensive asset anymore, and investors need to replace that defense. And we think combination of gold and trend following is our solution.
Monetary Metals
I get that. Why gold? Why not something else? Why did you land on gold as the asset to replace bonds in the portfolio?
Darius Dale
No, that’s an excellent question. So it’s not gold in and of itself. Gold, it’s not the target. It’s a response to the political response to this dynamic. And so if you think about the fact that we have a bond problem, we have a problem in our bond market so much so that Treasury Secretary Scott Bessen, who’s a former client, he was ridiculing the pivot to the dovish net financing policy that Janet Yellen instituted back in 2023.
What we mean by dovish net financing policy is just concentrating Treasury issuance on the short end of the curve, because they know they can’t place the debt on the long end of the curve. When he got in the seat, he basically started, instead of lambasting it, he continued to support the policy, which was obviously a very clear indication that I’m right on this thesis.
When you think about this, well, we have the fiscal authority in the US now responding to this supply-demand imbalance with their net issuance policy. And so my hypothesis on—to answer your question on gold—my hypothesis is that the monetary authority is going to have to get involved in this process as well.
And so ultimately, when you have a supply-demand imbalance in your sovereign bond market and you print your own currency, the solutions are pretty straightforward. You can use financial repression in terms of keeping interest rates lower than they otherwise would be from a market determination standpoint. So we’ve seen the Federal Reserve lower the policy rate 175 basis points in the last couple of years with inflation comfortably above their target throughout.
That’s obviously a real clear indication of financial repression that we’ve observed. Then ultimately, we think they’re going to move from financial repression to explicit forms of monetary debasement. In fact, they’ve already done that, going back to December when they introduced the Reserve Management Purchase Program. Obviously, they couch it as reserve management or they’ll couch it as whatever they need to couch it at just so that it can avoid saying the word debt monetization.
The reality is they’re now gobbling up T-bills to the tune of about $650 billion annualized, with that number only projected to grow if you look at the Treasury quarterly funding announcement statements. And so the key takeaway is that the reason we choose gold—and Bitcoin is the other 10%.
So instead of having the 60/40 with 60% stocks, 40% gold, we’re 60% stocks, 30% gold, 10% Bitcoin. And we use trend following to layer on the defense instead of just hoping that the bond-stock correlation is negative. That hope is not a risk management process.
Monetary Metals
You’ve described kind of the 30 and the 10. What’s the 60? I don’t know if you covered that.
Darius Dale
Stocks, uh, global equity.
Monetary Metals
Okay. So I asked why gold. I kind of want to ask the same, like, why Bitcoin? Why is Bitcoin filling out that 10% sleeve?
Darius Dale
Yeah. So, I mean, when you go back and you backtest this throughout history, the asset that does the best with financial repression is gold. Historically, we have thousands of years of history. At least we have 1,000 years of history to look at interest rates and inflation with gold. So that’s very clearly the standout asset when you are in experiencing elongated regimes of financial repression. So, gold makes a tremendous amount of sense. And we’ve been of this view since the summer of 2023. I think gold’s up probably 140%, 150% since then.
If you think about the monetary debasement aspect of it, perpetual balance sheet expansion, perpetual expansion of the monetary base in order to liquefy these assets, essentially remove the burden of capitalizing the bond market from the private sector. Historically speaking, what we found in the limited time series history that we have for Bitcoin is that it’s been a really good monetary debasement hedge. It hasn’t been a great monetary debasement hedge in recent months. But I think we can talk—there’s probably some idiosyncratic factors that are weighing on that at the current juncture, not the least of which is the market is concerned about the Fed’s evolving reaction function under a new Fed chair.
But ultimately, we think these problems in the bond market, the supply-demand imbalance is bigger than any one Fed chair or any group of Fed officials’ ability to solve. And they’re going to get dragged kicking and screaming solving this problem. The alternative is a country that doesn’t work.
Monetary Metals
I want to press a little bit on Just going back to kind of the underlying thesis that this negative correlation between stocks and bonds is broken down. I want to press on that a little bit. You said that started in 2022 or earlier, 2021?
Darius Dale
The inverse correlation peaked in the fall of 2020, and then it’s since—it’s consistently getting more and more positive.
The Treasury market supply-demand imbalance
Monetary Metals
So that’s relatively recent given the entire kind of data sample. Is this just a short-term blip? Do you think this is durable? Why or why not?
Darius Dale
We think it’s durable for a couple of reasons. One, we’ve seen long periods of time throughout history stocks and bonds being positively correlated. The concept that stocks and bonds are inversely correlated, therefore we need to make an asset allocation solution on this, is a complete fantasized Wall Street construct. That is not true. When you go back and empirically study the data across decades—
Monetary Metals
Date that for me, because my understanding, it’s been gospel for as long as I’ve been in markets. It’s the 60/40. That’s where everyone kind of starts. You walk into like, you know, any shop, that’s the starting point.
Darius Dale
Well, you can thank Paul Volcker and the Great Moderation for that and the marketing geniuses across Merrill Lynch for creating this. I mean, look, they amassed trillions of dollars of of AUM on this thesis. And again, the stock-bond correlation fluctuates. It goes from regime to regime. These regimes tend to be decades long. The most recent regime was about 40 years from about the early 1980s through, let’s call it, early 2020s. And so we’ve been in a new regime. And the previous time we were in a positive stock-bond correlation regime is the 1970s.
When you go and study this empirically on a cross-sectional basis across economies, what you find is that that correlation is positively correlated to both the realized inflation rate and also inflation volatility, which itself is positively correlated to the realized inflation rate. So the more inflation you have, the more volatile your inflation is, and the more inflation you have and the more volatile your inflation is, the more positively correlated your stock and bond markets are. And there are a variety of geopolitical reasons.
When you think about Ray Dalio’s Five Big Forces framework, you think about Peter Turchin’s Elite Overproduction framework, and my former colleague and mentor Neil Howe’s Fourth Turning framework, 3 different frameworks are all pointing us in the same direction, which is we have a disintegration of the geopolitical world order right now.
So, if you have a disintegration of geopolitical world order, you’re going to have more inflation as a function of the scarcity of resources. Instead of working together to solve problems, we’re all working independently to solve problems. And so, you’re essentially creating more demand for natural resources. And so, you’re probably going to have a lot more inflation. We’ve already seen a lot more inflation, obviously. You’re going to continue to see these adverse inflationary supply shocks for this reason or that reason.
But the core underlying dynamics of the disintegration of the geopolitical world order. That’s the main driver in our opinion. So, we think the inflation story is here to stay, absent obviously AI is going to be a big orthogonal challenge for that thesis. But for now, as long as the inflation remains persistently elevated and the volatility on inflation is persistently elevated, it’s highly likely that we stay in this positive stock bond correlation.
I keep thinking of the yield stock price, the positive stock bond correlation. And one final thing I’ll say on this is that when you look at term premium, which is the excess return you get as an investor for taking illiquidity risk in the bond market.
If you build a model, you can essentially say, as an investor, I can just roll over the short rate as many—for 10 years, or I can just lock my money up for 10 years. What’s the relative return difference in those things? That’s the term premium. The term premium right now on the 10-year Treasury, according to the Fed model, is about 65 basis points.
Historically, prior to the global financial crisis, it averaged close to 200 basis points and peaked out at around 300 to 400 basis points. And so I would surmise that we should be back at a normal level of term premia. And at a normal level of term premia, the 10-year Treasury yield somewhere around a fair value of about 5.6%. We’re currently below 4.5% with the short term staying put, essentially.
Monetary Metals
Yeah, this is essentially the yield curve that you’re—Yeah, exactly. Really compressed. It’s flat right now.
Darius Dale
Exactly. Part of—exactly. Well, the yield curve is steep relative to the recent history.
Monetary Metals
Okay.
Darius Dale
But it’s very narrow relative to long-term history. And part of the reason for that narrowness is her term premium is very compressed. And in our opinion, we think term premia are artificially compressed in a world that has just persistently lower demand for bonds. And we haven’t even talked about the demographics.
As the society continues to age, the assets that baby boomers have in their portfolios, a lot of stocks and a lot of bonds, they’re going to start selling assets to fund their lifestyle. I don’t know about you, but if I’m a baby boomer, would I rather sell a Treasury bond or would I rather sell Nvidia? It goes up 10% every day. I would rather sell the Treasury bond.
Monetary Metals
Isn’t there an argument, though, that the Treasury bond has an income-generating component? I understand it’s—what is it? The 10-year is like at 4.5%. It’s not super exciting. Does it change that equation at all or not really?
Darius Dale
If you want your real income to be negative, sure, go ahead. Yeah. I think what we’ve seen in recent years is more and more senior citizens, more and more elderly investors actually gravitate to higher equity allocations than they otherwise would, quote unquote, should have. And I think that’s the wise choice. In our opinion, it’s much better to play defense, particularly in a tax-advantaged account with our strategies, vol targeting, trend following, basically anything that is not sitting there lazily being long bonds because it’s essentially a melting ice cube.
Monetary Metals
What would it take? What would you have to see for you to reconsider? Is there some exogenous or endogenous catalyst that would bring that demand back to bonds?
Darius Dale
Paradigm B, and there’s two catalysts. One is endogenous Paradigm B, which is the cut phase. Which is what we were seeing starting the first half of last year. When sovereigns get to this issue, when they have a supply-demand imbalance in their bond market, historically, you study different economies and different societies, there’s really only 3 choices. You can cut your way out of the problem, you can try to cut your way out of the problem, most societies fail. If you control your own currency, you can try to print your way out of the problem.
And the middle solution, the solution that is the most politically popular is to try to grow your way out of the problem. We are currently in the try to grow your way out of the problem. We call that Paradigm C. That’s the theme we pivoted to back last April. So, they’re trying to run the economy hot to grow the nominal economy faster than the accumulation of the debt to alleviate some pressure on the supply-demand imbalance from the perspective of adding incremental securities. Jury’s out on whether that’s going to be successful.
Why gold and Bitcoin replace bonds
Darius Dale
But to answer your question, the endogenous risk factor for this negative thesis on the bond market is that if we had some come-to-Jesus moment and actually follow through with a program like Doge and we’re willing to take the pain and eat the medicine that it requires to reduce the total amount of supply of these securities upon the global market.
Statistic I’ll throw at you in terms of quantifying the supply-demand imbalance, we have time series data going back to the early 1980s in terms of the approximate next 12-month marketable Treasury debt supply. That’s the annualized fiscal deficit plus the amount of debt that’s maturing in the next calendar year, plus the amount of debt that the Fed is selling into the market on an annualized basis. That number on a nominal basis is somewhere around $12 trillion up from about $5 trillion prior to the pandemic, but that’s irrelevant.
What matters is its ratio to global savings because that’s obviously you have to capitalize capital assets with savings. And so, on its ratio to global savings, we went from a long-run mean of about 23% to close to 40%. So, basically double, we’re gobbling up basically double the amount of global savings we used to because of how fast our bond market is growing relative to how fast global savings are growing. That’s the core issue. And so, you can try to cut your way out of the problem by reducing that approximate next 12-month marketable Treasury debt supply, obviously, through cutting the fiscal deficit.
And then ultimately, if you do that for long and successfully enough, like we did in the late ’90s, early 2000s—was the last time the US ran a budget surplus—then you can really start to alleviate some of that pressure. But you would have to do this for multiple years. And obviously, we couldn’t do Doge for 2 months.
Monetary Metals
Yeah, I was about to say, I was thinking in my mind, how long did that run? Yeah, exactly. Certainly didn’t make it to its first birthday.
Darius Dale
Exactly. So that’s the endogenous risk factor, which I think is a reasonably low probability, especially in the context of a society that has a lot of inequality. It’s going to be hard to justify—any politician is to justify cutting benefits and cutting, you know, just—it’s going to be difficult. And I think Elon figured that out, obviously. He’s a pretty smart guy.
And then so the exogenous factor, which is the orthogonal catalyst in all of our economies, is AI. Obviously, AI has the potential to be incredibly disinflationary for two reasons. One, it’s probably going to limit demand for labor, at least until we get to some sort of like very, you know, non-dystopian booming economy where there’s so much GDP being created that it actually starts to increase the demand for labor.
I’m sympathetic to that view because that’s been the history of general-purpose technologies. They always historically increase the demand for labor. The problem with AI is that it’s kind of a unique general-purpose technology in that it actually can do labor for us in a way that we’ve never really had. So I don’t know the answer to that. My core thesis is that at a bare minimum, AI is probably going to restrain the demand for labor.
And by restraining the demand for labor, you’re ultimately putting downward pressure upon wages. At the same time, you’re also putting upward pressure on productivity. So downward pressure on wages plus upward pressure on productivity equals downward pressure on inflation. Our analysis suggests that the trend inflation rate in the US economy in particular can decline by roughly 50 basis points if we’re right on just that dynamic in terms of the wage productivity dynamic.
So you could have just a—not a sea change, but a material change in inflation dynamic in the economy that lowers the trend inflation rate, that lowers the trend inflation volatility, that ultimately pulls that stock-bond correlation back to negative in a way that would increase investor demand for the securities. And so, that is a risk factor. But I’m less concerned about that risk at the current juncture.
And the reason I would say this is when you look at the market’s pricing of neutral, which is a hotly debated subject in institutional finance, but how we determine the market pricing for the Fed’s neutral rate is when we’re in a cutting cycle, we look at the minimum value on the overnight index swaps curve out 5 years to see what the market is essentially saying, okay, this is the level the Fed is trying to get their rate to, or they should get the rate to.
If we’re in a hiking cycle, we look at the maximum value on the overnight index swaps curve out 5 years. That’s the market’s estimate of neutral. This is where the Fed’s trying to get the rate to or should get the rate to. When you look at the minimum value right now, assuming that we’re still in a cutting cycle, which I could argue we’re probably not.
And shouldn’t be, assuming we’re even still in the cutting cycle, the market’s current estimate of neutral is now above the effective Fed funds rate, which ultimately means the market thinks the Fed is now getting accommodative because the market is increasing its estimate of neutral. So why would the market be increasing its estimate of neutral?
Well, one of two things could be happening. It thinks AI is a massive aggregate demand shock to the economy. $800 billion in CapEx in one year going to $1.2 trillion next year, maybe even higher. So that could be true. Or it thinks AI is going to be so productivity enhancing that it pushes up the neutral rate in terms of the supply and demand of capital, or both. Either way, those are two dynamics that are still negative for bond prices.
Monetary Metals
Negative for bond prices. Why? Make that connection for me.
Darius Dale
The aggregate demand shock would push up inflation.
Monetary Metals
Oh, that’s right. Because it’s still in that kind of an inflationary—Exactly. Enhancing.
Darius Dale
Here’s $800 billion or 2.5% of GDP.
Monetary Metals
Yeah.
Darius Dale
Just to buy, you know, chip semiconductors and data centers. So, that’s a massive demand shock that could be inflationary in the interim while these things are being built out prior to experiencing the economy-wide benefits of the technology. So, that’s part of the reason why the neutral rate could be gravitating higher. Another part of the reason is that investors are looking around and actually starting to see the impact of this technology. I don’t know if you guys spent any time on cloud in the last few months, but holy cow.
Monetary Metals
The world’s changing very fast.
Darius Dale
The world is changing very fast. So, I think the market is also looking around and saying, no, this stuff is going to boost productivity by a tremendous amount. Amount. And if you have productivity go up by a tremendous amount, historically, that’s been very positive for the neutral rate because ultimately you’re competing for capital. The Treasury bond market will be competing for capital in a higher return private sector.
The new inflation regime and the broken 60/40
Monetary Metals
Earlier, you had talked a little bit about just the impact of AI on labor demand. I’m curious, have you tried to quantify that? It sounded almost like you had that kind of washout in that 50 basis points change to, to the inflation rate. I thought I heard that. I was just curious because that’s a fascinating research question to me. I think it’s on a lot of people’s mind, like what is ultimately going to be the impact of this technology? Yeah, I don’t know if you can say any more to that or if that’s a paid service.
Darius Dale
No, no, no, no, no, no. So just getting back and answering your question, have we quantified this? Yes. I don’t know that we quantified it well. And quite frankly, I don’t know that anybody’s quantified it particularly well because we’re so early in this. But two ways in which we tried to quantify this. One, we looked at the core private payrolls, the core part of the labor market that is what we would consider to be most at risk for being disrupted by AI.
So if you look at private payrolls and then you X out what we would call things that are government and government adjacent, so like the actual federal, state, and local governments, healthcare, social services, and education. So you take those out of the private payrolls and what’s left are the private payrolls that we think could be materially impacted by AI. That’s about 54% of the labor market. That statistic peaked in nominal terms in March of 2024. In an economy that’s been growing above trend and a labor market that has generally added jobs since than. So the part of the labor market that is most exposed to AI peaked over 2 years ago.
Monetary Metals
Yeah.
Darius Dale
In terms of total employment. So that’s somewhat alarming in the context of a statistic that goes straight up over time. It looks like a chart of the S&P. It just goes straight up over time and then now it’s just going sideways and gradually going down.
Monetary Metals
Right, right. And that’s really like 2024 feels like that’s when AI really started to come on the scene.
Darius Dale
I think that’s when people really started to say, okay, ChatGPT is somewhat valid.
Monetary Metals
It’s real. Like there’s something here.
Darius Dale
Yeah, yeah, yeah. Certainly. The first time I used it, I had a great podcast on our former show, which I no longer have time to do, but I was on with Raoul Paul back in early 2024, and he was the first person to really get me to like sit down and really kind of open up, you know, like spend a day on ChatGPT, see, you know, this stuff is real. And obviously, in my opinion, I think Qualitas and Jim and I have both overtaken it, but, uh, that’s neither here nor there.
The second piece of analysis that we’ve done to quantify AI’s impact on the late market—and the spoiler alert is we think AI is having having a negative impact on labor market. So, there’s 3 ways in which—in fact, before I get into the second way, the third way is that we see this hello-high or low-fire dynamic in the labor market. We’ve never seen an economy that has been persistently above trend for as long as we’ve had in nominal GDP terms have such a low-higher, low quits rate dynamic. We’ve been well below trend in those metrics for such a long time.
Now, we haven’t seen the layoffs and discharges rate spike. So, it hasn’t been like mass layoffs or anything, but companies just companies just aren’t hiring. And as a function of companies just aren’t hiring, people just aren’t quitting because they don’t feel confident that they can go get another job. And so we have this very like, it’s a very low dynamic labor market. There’s no dynamism going on.
Monetary Metals
With some actual layoffs sprinkled in there.
Darius Dale
Of course.
Monetary Metals
Notable layoffs.
Darius Dale
Yeah. Meta, you know, all these big, all the people who are selling us the AI are firing people. What does that tell you at home about AI’s impact on the labor market? The people who are building and selling the AI keep firing people. Not hiring people.
Monetary Metals
Yeah, come to your own conclusion.
Darius Dale
Exactly. Yeah, exactly. Yeah. So going back to analysis number 2, which I think is the most compelling analysis, when you look at the labor market relative to things that—indicators that lead the labor market, so corporate profits, retained earnings, equipment investment, and labor supply, the civilian labor force, in my opinion, based on our analysis, those are the 4 most worthwhile—those are the 4 best leading indicators of total employment.
When you look at the current growth rate of private payrolls relative to how fast they should be growing based on the trends and the growth rates of corporate profits, based on the growth rate of NIPA retained earnings, based on the growth rate of equipment investment, based on the growth rate of labor supply, the growth rate of private payrolls is dramatically underperforming each of these leading indicators, dramatically underperforming.
So for example, I think NIPA corporate profits are up about 9% or 10% year over year. So in that quintile band of corporate profit growth, the private nonfarm payrolls with data going back to the 1940s, private nonfarm payrolls on a median basis when you’re in this quintile band of NIPA corporate profits growth has historically grown at about 2.1%, 2.2%. It’s growing at 0.4%. So dramatically underperforming by a statistically significant degree how fast it should be growing based on this leading indicator of the labor market.
And so across those 4 leading indicators, which our analysis has found that those are the 4 best leading indicators total employment is dramatically underperforming in each scenario, including in the civilian labor force. I know there’s a view out there, particularly amongst policymakers, that the reduction in the crackdown on immigration is reducing labor supply in a relay that breaks down the, the breakeven rate of total employment, which is true. That is true. We have a decline in the labor force.
However, we are in a 5th percentile value in the civilian labor force. And even at this quintile, this low quintile, we’re still underperforming in private nonfarm payrolls growth. Jerome Powell by about, I think, 60 basis points. We should be growing at about 1% and we’re still only growing at about 0.4%. So there’s even some meaningful enough deviation, downside deviation in that component as well.
So when we look at across those 3 components with this underperformance, the low higher, low fire, low dynamism labor market, and ultimately the peaking of the part of the labor market that was most impacted by AI over 2 years ago, I think that’s enough evidence to suggest that the early read on AI’s impact on labor market is at best neutral and at worst probably negative.
Monetary Metals
I want to stay on AI but go back to your portfolio.
Darius Dale
Yep.
Monetary Metals
Does Darius Dale have an opinion on AI as it relates to Bitcoin and quantum computing? That’s a risk that we’re hearing a lot about. What’s your take on that?
Darius Dale
My general take on it is, could that be a reason why Bitcoin has failed to perform well in this risk-on market regime?
Monetary Metals
Or it’s, or it’s just kind of flat? It’s kind of still trying to figure that out.
Darius Dale
I mean, yeah, no, that’s a—yeah, exactly. I mean, from Bitcoin’s high in last October, how much has stocks up. Bitcoin’s down 40-something percent, but how much are stocks up? So it’s very unusual, in fact, incredibly unusual to have such a generally persistent risk-on market regime condition to have Bitcoin not only down, but down materially.
So it speaks volumes to some structural changes potentially occurring in the cryptocurrency asset class. Obviously, we have the digital reserve currencies, the Treasury reserve currencies, and all the leverage that their products apply to the asset class. It’s hard to understand or precisely quantify the the exact impact of that, but I would imagine it’s new, so it must be part of the problem. And then, two, I think in the same vein that’s caused the gold price break down from the highs of January, I think there’s a real open debate about the Fed’s willingness to support the bond market and willingness to continually supply relatively easy money for investors.
And so I think the nomination of Kevin Warsh, it was a jump condition in financial market risk because of his very hawkish views on the balance sheet and generally hawkish views on the rates throughout his career.
Career. It was a kind of out of left field choice relative to the president’s kind of stated, stated objective to lower interest rates. And so you have to wonder, okay, did the—and again, I’ve known, uh, Treasury Secretary Scott Bessette for a long time—did he finally get President Trump in a room and, and just say, hey, if you want lower interest rates, easy money is not how you get lower interest rates.
Tight money is how you get lower interest rates. And so if anybody can convince the president of that in the administration, it’s definitely Scott’s So perhaps that’s where they’re—that’s the direction they’re going to take it. That’s a misnomer. People think when the Federal Reserve lowers interest rates, when it does QE, that this is bond bullish. It’s not bond bullish. It’s bond bearish. It’s stimulative to both the real economy and also creating extra demand for investors to invest in capital, higher-yielding capital assets, higher-returning capital assets.
And so it’s essentially when the Federal Reserve lowers interest rates or more importantly does QE, it’s creating a portfolio substitution effect that forces investors to go further out on the risk curve. If you want people to buy bonds, you want to have high interest rates and shrink the balance sheet and force people in on the risk curve.
Monetary Metals
Because that’s what attracts the capital.
Can AI fix the bond market problem?
Darius Dale
That’s what—exactly, yeah. The Treasury’s at the top of the capital structure. So, if you give them Treasury supply, they’re going to have to take it. They might not like it, but they’re going to have to take it. And this is why, and part of the reason, stock-bond correlation has become increasingly positive in recent years, because there’s too many of those bonds.
Monetary Metals
I want to make sure we visit the last section of the portfolio, which is the largest, 60%. In the S&P. And is that primarily US equity or is that broad?
Darius Dale
The total global equity.
Monetary Metals
Okay. Okay. So that’s the biggest slice. So you’re obviously bullish on that. So speak a little more on why that. And I think I know the answer, but I want to hear it from you.
Darius Dale
Yeah, absolutely. So two things I’ll say. So when you say I’m bullish on that, it’s not me being bullish on this. It’s a completely quantitative investment strategy that we use our risk management OLAs to guide the allocations to.
Monetary Metals
Actually, I have a question. So is it—are the weights changeable? Like, okay, and that’s, that’s based on your own research? Okay, I didn’t know that. I thought it was a fixed—that you’re systematically just rebalancing into that, into those fixed weights.
Darius Dale
Yeah, so the weights are fixed. So when equity sleeve is maxed out, it’s maxed out at 60%.
Monetary Metals
Gotcha.
Darius Dale
When the gold sleeve is maxed out, it’s maxed out at 30%. When the Bitcoin sleeve is maxed out, it’s at 10%. So Bitcoin could be 0, 5, or 10%.
Monetary Metals
Gotcha.
Darius Dale
It can be 0, 15, or 30%. Stocks can be 0, 30, or 60%. And so, what determines those fluctuations within those sleeves are what we call our top-down risk management overlay that incorporates volatility targeting into the strategy, and our bottom-up risk management overlay, which incorporates dynamic position sizing into the strategy. Many of the clients that I’ve served across global Wall Street, they use a combination of vol targeting and dynamic position sizing to manage their portfolios.
These are all the large multi-manager platform shops, otherwise known as pod shops. On Wall Street. And so, we essentially copied that strategy to help manage risk in these, quote unquote, risky asset classes. You do need this layer of risk management if you’re going to take out what is, quote unquote, a traditionally defensive asset and replace it with assets that are higher returns, but also higher volatility and higher drawdowns, then you need to play more defense.
And so, that’s what we’ve built with KISS. And it produces far superior absolute and risk-adjusted returns than a 60/40 portfolio. And I would argue S&P 500 as well, at least on a back-tested basis. We’ll see in the coming years. But anyway, so answering your question, when we think about the 60% stocks, 30% gold, 10% Bitcoin, the 60% stocks, you want to participate in the growth of the money supply, particularly through the lens of productivity growth.
That’s why stocks are such a great long-term retirement asset, is because stocks allow investors to capture productivity growth in the economy. And we talk about earnings, we talk about profits, but really what’s actually happened, what creates profits is productivity growth. And so stocks give you that offensive exposure to productivity growth.
The gold is defense. You’re playing defense against having your money debased by financial repression, you know. And then obviously the Bitcoin is defense as well. You’re playing defense against your money being debased by monetary debasement, by explicit monetization, you know. So the more monetization you get, the more financial pressure you get, the more likely it is that inflation is either going to be very high or very high and not reported to be very high.
So either way, your quality of life will go down if you’re not being defensively protected against those things, which obviously bonds do a terrible job of defensively protecting investors against that. So if you think about just taking a step, big step back, the main two risks in financial markets are inflation and deflation. Those are the main two risks. What we’re essentially arguing with our KISS strategy, which is 60/30/10 stocks, gold, Bitcoin when it’s maxed out, is that the main risk in the markets is inflation now.
Not deflation, which is what the main risk was from 1980 to the fall of 2020. We think we are in a new regime. In fact, we’ve got many policy signals, reserve management purchases, the rubber stamping of dovish net financing policy, obviously, everything that’s going on in the geopolitical front are confirming in our opinion that the main risk has shifted. This is why you’ve seen major Wall Street institution after major Wall Street institution copy and paste elements of KISS. In their core asset allocation strategies. And they’re going to be doing that for many years, in our opinion.
Why Darius Dale doesn’t use gold price targets
Monetary Metals
We started with gold. I want to end with gold. What is Darius Dale’s near-term, long-term price targets for gold? Call it 6 months, 12 months, and maybe even further out from there. Where do you think gold goes?
Darius Dale
Yeah, so look, I’ve never invested with price targets. Actually, funny story. Earlier in my career, this might have been like 2013 or something like that.
Monetary Metals
But they’re very fun to talk about.
Darius Dale
No, look, they’re great. Look, I can give you a price target. Do I in my heart of hearts believe it?
Monetary Metals
Whatever.
Darius Dale
The market’s going to do what the market’s going to do. I’m very much a stochastic thinker in that regard.
Monetary Metals
Is it fair to say you’re almost investing more on what it’s done in the past than what you think it might do in the future?
Darius Dale
We invest purely on the basis of what it’s doing and how what it’s doing has historically signaled breakdowns or breakouts in price and volatility.
Monetary Metals
And even just what you said there at the end, though, right? Like, if this framework—if you’re seeing more and more institutional money, institutional shops adopting this framework, which is, at the end of the day, a higher portfolio allocation of gold, I would think that that would have an elevating impact on the price.
Darius Dale
Yeah, 100%. Look, I think it does matter. Look, we have some very important large clients, obviously, the current Treasury Secretary. We have Wall Street’s ear in many of these respects. And I consider myself to be a thought leader in some of these regards, particularly amongst institutional investor community.
And it was pretty nerve-wracking to go into two of the world’s largest bond funds and tell the CIO that, look, we’re going to completely remove bonds out of our core asset allocation. But it was the right call. If you look at ever since we made that pivot in KISS, I think gold, including in the drawdown that we’ve seen since January until now, I think gold’s still up about 65% since then.
When we first authored the thesis, gold’s up about 150%. It took me about a year from the time we authored the thesis to actually having the confidence to make the change in the allocation because I knew I would get laughed out of the room if I couldn’t go in there and have a pretty chart of gold. I knew I would get laughed out of the room, never return. So it took me a while to have enough confidence.
But just answering your question on the price targets, because I think this is an important thing, just evergreen investing education. Most price targets are an emotional response to the price that the investor needs the asset to appreciate to in order to feel rich.
Monetary Metals
Yeah.
Darius Dale
Right.
Monetary Metals
Like, this is where I need it to go.
Darius Dale
This is where I would like it to go. And I’ve already done the mint, the hyperbolic discounting of the return on my—on my net worth.
Monetary Metals
And my personal net worth.
Darius Dale
Exactly. And so, you hear a price target, yeah, they’re probably—they’re worth something in the sense that they can quickly help you surmise what the investor thinks about the future price action. But it’s like the Danny Kahneman quote, subjective confidence is not a reasoned perception of how accurate something is.
All it’s telling you is how confident somebody is. It doesn’t tell you how accurate they are. It just tells you how confident they are. And all confidence is, is the coherence with which we can concoct a narrative in our head, which has no bearing on future price and volatility data. Lastly, I’ll end with this. I think in 2013, I’m probably 4 or 5 years in my career on Wall Street. I go into Omega Advisors run by Leon Cooperman, former head of Goldman Asset Management. That was his hedge fund.
And we didn’t do price targets. Like, my entire background is in hedge fund risk management. The guy who ran my shop before I started 42Macro, that was his background. And so that’s the kind of service that we’ve always sold to our clients across the global buy side. So risk managers, price targets? Like, this is—no.
Everything’s dynamic and stochastic. And so this guy goes—first question he asked me, of all people, what’s your S&P 500—your S&P 500 price target? And I go—my butt clenched up. I was like, Leon Cooperman is asking me for a question that I have no idea how to answer. I didn’t even know how to answer this question. I looked at my boss. I was like, we don’t have a price target. So to this day, we still don’t—
Monetary Metals
That was the honest answer.
Darius Dale
Yeah, we still don’t have price targets. I don’t think they’re useful if you’re trying to manage risk in global financial markets, but they’re great. They’re great storytelling.
Monetary Metals
Yeah.
Darius Dale
Yeah.
Monetary Metals
Well, I appreciate you taking the time. This was a lot of fun.
Darius Dale
Awesome.
Monetary Metals
Thank you.
Darius Dale
Thank you, man.
Monetary Metals
We’ll definitely look to have you on in the future.
Darius Dale
I would love to be, man. Appreciate you guys. Thanks for having me.
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