The transcript from this week’s, MiB: Neil Dutta, Renaissance Macro Research, is below.
You can stream and download our full conversation, including any podcast extras, on iTunes, Spotify, Stitcher, Google, YouTube, and Bloomberg. All of our earlier podcasts on your favorite pod hosts can be found here.
~~~
ANNOUNCER: This is Masters in Business with Barry Ritholtz on Bloomberg Radio.
BARRY RITHOLTZ, HOST, MASTERS IN BUSINESS: This week on the podcast, I have an extra special guest. Neil Dutta has been doing economic analysis and research from a market-based perspective for over 20 years. He has a fascinating career, and has been a whole lot more right than wrong than most of his fellow economists who cover the street. I found this to be just an absolutely fascinating discussion about how to best contextualize the world of economic data around you, in a way that’s useful for you as an investor.
Very often, there’s a ton of information that comes out. And by the time it’s released, it is fairly meaningless to what the market is going to be doing a few months. Hence, understanding nuance, understanding that the world isn’t binary is the challenge for investors. And few do it better than Neil does in terms of putting together a global view of what’s happening in the economy, what’s happening around the world, what’s happening with the Fed, and what’s happening with the stock market.
I found this conversation to be fascinating and I think you will also. With no further ado, RenMac’s Neil Dutta.
So let’s start out with a little bit about your background. You graduated cum laude from NYU with a BA in Economics and PolSci. What was your first job in the economics and finance space?
NEIL DUTTA, PARTNER AND HEAD OF ECONOMIC RESEARCH, RENAISSANCE MACRO RESEARCH: I was actually thinking about being a lawyer, so I ended up taking my LSAT, my senior year at NYU, and I did okay, but I didn’t do well enough to go to a school that I really wanted to go to. And so at that point, I was kind of scrambling and I was, like, I need to get into the financial industry because I’m in New York, I have a passion for finance. But it was kind of late. So a lot of the investment banking analysts had already lined up their gig. So I ended up getting a job at Merrill Lynch, as a compensation analyst in human resources.
RITHOLTZ: Really?
DUTTA: Yes.
RITHOLTZ: That’s interesting.
DUTTA: So I did that. I started that in 2005, after I graduated. But one of the good things about being an HR, Barry, is you kind of know where all the jobs in the organization are. So fast forward, about a year, and a job had opened up as an economic research analyst and someone you may know, David Rosenberg.
RITHOLTZ: Of course.
DUTTA: So that was actually my first foray into economics and the rest is history.
RITHOLTZ: You also worked as an analyst at Barron’s. Tell us a little bit about that. Where was that in your career path?
DUTTA: Well, that was really more of an internship than anything else. But I worked with Gene Epstein —
RITHOLTZ: Oh, sure.
DUTTA: — the economics editor at Barron’s, a noted libertarian enthusiast now. But, yeah, I mean, that was back when I guess Alan Abelson was running the Up & Down Wall Street column.
RITHOLTZ: Yup.
DUTTA: Now, it’s Randy. But —
RITHOLTZ: Right. Randall Forsyth —
DUTTA: Yeah.
RITHOLTZ: — who’s another Gene Dolan (ph), right? Donlin? Alan Abelson was most-read each week, Randy Forsyth, they had a killer lineup.
DUTTA: And Gene basically wrote a weekly economics column. So that was my sort of first foray into just analysis in terms of economic data, right, like some of the tools that people would use back then, right? Hey, Ranalytics was a big one.
RITHOLTZ: Right.
DUTTA: And so Gene kind of introduced me to that.
RITHOLTZ: So when I was a trader back in the 90s, my Saturdays always began with a big mug of coffee and Barron’s. And you know, back before you had everything at your fingertips, it took a little bit of effort to find things in the pre-Google days. And sitting down with Barron’s was a weekly routine. And it felt like it was the publication that everybody on the street was poring over every week.
DUTTA: Do you think it’s still that way?
RITHOLTZ: I think the world has changed —
DUTTA: Yeah.
RITHOLTZ: — radically. Clearly, Twitter is the new tape. I see things on Twitter before I see them on the terminal because I could be in the car, on a train or something, and something will cross Twitter. And I’m sure it’s on Bloomberg at the exact same time because they parse Twitter constantly. But I don’t always have my terminal up and open in my face, certainly not when I’m driving.
DUTTA: And I agree. I think that the whole fintwit community is probably the most useful uses of —
RITHOLTZ: Absolutely.
DUTTA: — Twitter as a sort of social media tool.
RITHOLTZ: To say nothing about how easy it is to find anything online, not just through Twitter, but Google also is an enormous resource.
DUTTA: Sure.
RITHOLTZ: So the ‘90s were what? 30 years ago, right? Very different world three decades that we have.
DUTTA: Yeah.
RITHOLTZ: Anyway, decades have passed. You’re not on Twitter as far as I can tell.
DUTTA: I am on Twitter. Well, we run our company —
RITHOLTZ: But not under your name.
DUTTA: No, not under my name. I mean, we sort of run that as a company policy. But, yeah, I mean, I tweet. I try to put information out there. What we try to do, of course, is to make sure we’re sending it out a little bit later than our clients get it, because then, you know, why pay for research in the first place if you can get it for free on Twitter. But, yeah, I mean, you know, we started that account maybe in 2015. Yeah, we’ve been growing it ever since. And we have a good —
RITHOLTZ: I see Jeff’s stuff all the time.
DUTTA: We have a good following. Yeah. And yeah, what we tried to do is promote our in-house ideas.
RITHOLTZ: So let’s talk a little bit about what you did at Merrill Lynch.
DUTTA: Sure.
RITHOLTZ: You’ve worked with Rosie, which I’m sure you have lots of stories from that. What was your role there? What sort of research and writing did you do?
DUTTA: Well, so when I started as an analyst under Rosie, I was basically a junior economist. I mean, one of the great things about Rosie, I mean, you know, was just he is, I think, one of the best examples of what a Wall Street economist should be. Like, we had this weekly piece called The Market Economist, right, and that I think is very important because he was a markets economist. He wasn’t a PhD and he didn’t think like one either. And what I think he understood and what he kind of ingrained in me, you know, very early on is that this is really fundamentally, if you’re a sell side research economist, you are in the client service business. And that’s what Rosie was really great at. I mean, he was always on the road. I mean, gosh, I don’t even remember when —
RITHOLTZ: Constantly.
DUTTA: I don’t even remember when I saw him —
RITHOLTZ: Right.
DUTTA: — because he was always on the road, particularly in ’07 and ’08. With Rosie, it was kind of wrong, wrong, and then spectacularly right, right? And so, when he became spectacularly right, you know, he was on the road constantly. And so one of the things I would do for him was just kind of feed him ideas, feed him charts that kind of reinforced his thesis, that he could then go and present to clients while he was on the road. So a lot of it was sort of getting in the weeds on charts and data, but that’s what I would do for him.
And then, you know, as I got better at that, he kind of gave me a little bit more freedom in terms of allowing me to write. And obviously, if you’re working in a bulge bracket like that, you’re obviously writing under the lead analysts, right? So my name would go on the reports, but they would be under his, of course. And he gave me a little bit more freedom as time went on, and I would end up writing his morning note, which was the widely read, you know, Rosie Tidbits.
RITHOLTZ: Right.
DUTTA: Remember? I mean, you know, those —
RITHOLTZ: Breakfast with Dave.
DUTTA: Now, it’s Breakfast with Dave. Back then it used to be called Rosie’s Morning Tidbits. And I think that was a play on because, you know, Rosie is Canadian —
RITHOLTZ: Was and still is.
DUTTA: — and he still is. And in my career, I feel like the Canadian, they produce a large number of economists.
RITHOLTZ: Yeah, that’s interesting.
DUTTA: I mean, it’s kind of right. I mean —
RITHOLTZ: Canadians and economists, why is that?
DUTTA: I have no idea. But I think the Tidbits was a play on Tim bits, right? Tim Horton is sort of their version of Dunkin Donuts, I guess. And so he gave me some freedom in writing that for him.
RITHOLTZ: So Rosie actually ends up going back home to Toronto —
DUTTA: Yeah.
RITHOLTZ: — in ’09. And so now, you’re at Merrill, without him, writing occurred (ph) on you. What was it like when you had a little more latitude to go where you wanted?
DUTTA: Well, it was actually an interesting time because when Rosie left, things were starting to turn around a little. And I remember I wrote a piece basically I think in June 2009, basically saying that the recession was over. And at that time, it was a controversial call. But that was when we didn’t even have a head of economics because there was a bit of a sort of murky, you know, let’s say six to nine-month period where Rosie had left and then Ethan Harris had yet to come in.
RITHOLTZ: Right.
DUTTA: So we kind of had a lot of freedom in terms of what we wanted to do. And you know, so I wrote that piece. It got a lot of attention, I think. But, yeah, I mean, it was a good call —
RITHOLTZ: Yeah.
DUTTA: — and I think it was interesting —
RITHOLTZ: To say the least.
DUTTA: — because here you had Rosie who was a noted market bear at that time.
RITHOLTZ: Right. He never would have put his name on that piece.
DUTTA: Right. And so in some respects, I mean, we used a lot of the same framework that he used, looking at a lot of the same indicators in terms of, you know, Rosie would talk a lot about leading indicators, the ECRI Index, and a lot of them had been turning around. So we had basically said, look, things are getting better, and it sort of reinforced, you know, the upturn in markets. So —
RITHOLTZ: And speaking of markets, how often is down 57 percent? Not a pretty decent entry point for equities.
DUTTA: Oh, sure. Well, I mean, one of my buddies, Sam Roe (ph), who you probably know.
RITHOLTZ: Oh, sure. TK (sp?) or Substat (sp?).
DUTTA: Yeah. And —
RITHOLTZ: I didn’t know you guys know each other. Sam’s work is great also.
DUTTA: Yeah. I mean, I think very highly of him also. And one of the best things that he says is stock markets usually go up.
RITHOLTZ: Yeah.
DUTTA: That is a 100 percent factual state.
RITHOLTZ: Yeah. Not always, but most of the time.
DUTTA: Most of the time. And —
RITHOLTZ: Right. It’s tough being on the low probability side of the street.
DUTTA: Right.
RITHOLTZ: And I think that sort of set a lot of the kind of trajectory over the next several years. Like after I left Merrill and when I started at RenMac, if you couldn’t figure out by 2010 or 2011 that the sky is not always falling, you’ll never figure it out. I mean, because we had so many things happen. We had financial crisis, double-dip recession fears, right? There was that debt default thing, and then China hard landing that was like this perennial thing, and European sovereign debt crisis, and stocks kept going up. And so I feel like, you know, over my career, right, I mean, I started working under Rosie, right? But I feel like over time, I’ve actually been pigeonholed more as like the market optimist, economic optimist, not —
RITHOLTZ: So let me channel my inner Rosie and push back on you a little bit.
DUTTA: Sure.
RITHOLTZ: Markets always go up. Tell that to someone who bought Japan in 1989, or bought China in 1994. You’re down 20 percent in China. I think you’re still down 40 percent in Japan. It’s decades later. What do you mean, markets always go up?
DUTTA: Well, U.S. equity markets usually go up, and we’re very much U.S. focused here.
RITHOLTZ: I don’t disagree with you, by the way. But those are the objections that —
DUTTA: Sure. I mean, well —
RITHOLTZ: — always come up. If anything, they’re the exceptions that prove the rule.
DUTTA: Well, Japan is an interesting example because, of course, after the financial crisis, that was a very prominent example of what the U.S. could turn into. We’re going the way of Japan. But I think in many respects, because that example existed, that’s why we, in fact, didn’t end up that way.
RITHOLTZ: Right.
DUTTA: We sort of cleared out our banking system. We recapitalized our banks very rapidly compared to Japan. Obviously, Bernanke is a student of what happened then.
RITHOLTZ: It’s as if we learn from other people’s mistakes.
DUTTA: Exactly. I mean, what was notable about that sort of post financial crisis recovery was just how steady it was, you know, sort of month in, month out, continued declines in the unemployment rate. And you know, if you go back to some of the literature around, you know, the Swedish banking crisis, sort of the Nordic banking crisis, it was sort of, you know, six, seven years, you clear out the excess and things start to pick up. And that’s pretty much what happened, right? I mean, by 2013, the household deleveraging was basically over, and the economy was gaining a lot of momentum.
RITHOLTZ: So how did you end up at RenMac? You were at Merrill. Tell us how you found your way there.
DUTTA: So as I mentioned, Rosie had left. It was really in March of 2009. It’s a classic bottom —
RITHOLTZ: And peak (ph).
DUTTA: Exactly. In contrary, he left at his peak. And I think in September of that year, Bank of America Merrill Lynch, at that point, hired Ethan Harris, who I think he was at Lehman Barclays. And so I worked with him until 2012. And you know, Lehman was a huge sort of fixed income shop —
RITHOLTZ: Yeah.
DUTTA: — and that’s where Ethan’s focus really was. And obviously, you know, Merrill was more of an equity shop. And so one of the things that Ethan gave me a lot of latitude to do was just kind of service the equity sales force at Merrill Lynch, because a lot of his focus was really, I think, more on the fixed income side, more on the Fed. So you know, I had a lot of sort of opportunity, because it was kind of this runway that I just had.
And what I would do is try my best to kind of, you know, remember what the equity sales force loved about Rosie and try to apply that in my own way. So one of the things, I think, that Rosie did really well is just kind of take the economics calls and make them useful for an equity market investing. Right? So if you think inventories are done clearing out, what does that mean? Well, it should be good for manufacturing. I mean, you have all these analysts that are covering all these companies, so why don’t you go pick up the phone and talk to them and see what they say?
And then for an equity sales force, that is a great thing, because when you have your macro guy talking to your analyst, you can pitch that to your clients. Like okay, my macro economist is telling me that inventories have bottomed out. And here’s what, I don’t know, John Inch, who was, I think, the industrials analyst at that time. Here’s what he’s saying about Caterpillar and Deere, and so on and so forth. And whenever you have that, it makes a very good morning call. And it makes a very good marketing tool.
So I will try to do that a lot. And as I did more of that, I would be asked by as the sales force on the equity side at Merrill to kind of, can you come on the road with me? Can you come out to California and talk to so and so, Texas and so forth? And so I would do a lot of marketing for equity accounts at Merrill. And I was really only like a VP at that time, I was a pretty junior level person. And so that got me going. And then I got approached by RenMac in 2012, and now I’ve been doing it for them for this last decade.
RITHOLTZ: It’s funny you mentioned what the institutional sales guys like. I have a buddy who was at institutional sales in Merrill for a long time. He is not public so I can’t drop his name. But my favorite thing that he said about taking Rosie on these road trips, they called him a wind-up toy. It doesn’t matter who the institutional client is, you would give him like an eight-second tee-up. Oh, this is an endowment. They focus on this. They’re interested in this aspect. They turn the key and wind him up, push him in, and Rosie would just be a firehose of nonstop data context information. Uncle, whatever you want. Yeah, you get the order. Just leave me alone.
DUTTA: No. Yeah. I mean, for me, it was a great education, I think those first, you know, seven or eight years at Merrill, because I had Rosie. I was fortunate enough to work with two greats. Right? I mean, I think Ethan Harris is —
RITHOLTZ: Sure.
DUTTA: — one of the best. I mean, he had a great call this year, I mean, in the last year. I mean, he was the first one to basically say, you know, what the Fed is going to go every meeting. And at that time he said it —
RITHOLTZ: It was pretty radical.
DUTTA: Yeah.
RITHOLTZ: You had a pretty good call also. The end of last year, in fact, I recall, I think it was on surveillance, Bloomberg surveillance. You came on and said, oh, the Fed is going raise at least four times. That was a very out of consensus coalesce. We’ll talk a little bit about that a little later. But you were very much pushing against the consensus that it’s all good.
DUTTA: Well, so I mean, I think again, yeah, one of the best things that Ethan Harris actually ever told me was in this business, it’s about weighing probabilities, and then picking your battles with the consensus wisely. Like, I’m not the kind of person that’s just going to be contrarian for the sake of being so. Like that, to me, doesn’t really make sense.
RITHOLTZ: Listen, the market is the crowd.
DUTTA: Exactly.
RITHOLTZ: They’re right most of the time.
DUTTA: Right. And so you have to just pick your battles wisely. And I think in that case, I mean, 4 was conservative.
RITHOLTZ: Right.
DUTTA: I mean, at that time, it sounded sort of radical.
RITHOLTZ: Right.
DUTTA: But in hindsight, it was obviously not enough. So I think that to me, kind of, I think set the sort of stage for me at RenMac, and I think it was very helpful to sort of come up onto those two guys.
RITHOLTZ: Really interesting. So we were talking earlier about your December ‘21 call. You thought the Fed would raise at least four times. Let’s look at what happened in ’21, 475 basis increases, 250 point increases, 125 basis point increase. Why was everybody so sanguine? Why did we all miss the fact that the Fed was suddenly going to, you know, slam on the brakes?
DUTTA: Well, I think you just have to go back to the initial reopening of the economy, right? And in hindsight, we basically had a V-shaped recovery.
RITHOLTZ: A couple of trillion dollars of fiscal stimulus will help.
DUTTA: And we threw a lot of money at the problem on top of that, right? I mean, we turn the lights off, we turned it back on. You had a V-shaped recovery, plus all the stimulus, plus, you know, paycheck protection. I mean, when we had that first employment number that sort of knocked the lights on, everyone was kind of surprised because we were all keying off the initial claims data, right?
RITHOLTZ: Right.
DUTTA: And so we had seen that. You know, maybe these companies were hiring people back pretty quickly.
RITHOLTZ: I remember at that time, the Atlanta Fed GDP nowcast was something like minus 52 percent —
DUTTA: Right.
RITHOLTZ: — GDP, which obviously, is a horrific extrapolation.
DUTTA: Sure.
RITHOLTZ: But that’s why I think a lot of people were surprised at how robust —
DUTTA: And at that time remember, Barry, I mean, there was a legit debate going on, are we going to have an L-shaped recovery?
RITHOLTZ: Right.
DUTTA: Are we going to have a U-shaped recovery? And I think a lot of the, uh, issues around the Fed trajectory was just a function of that. And we basically had a V-shaped recovery, and that warranted a very aggressive response from the Fed.
RITHOLTZ: Although we’ll talk a little later about how belated that response was, they clearly could have started tightening earlier at a slower pace, but let’s put it in that.
DUTTA: Sure.
RITHOLTZ: I want to talk about your call where you said there’s going to be at least four increases. Tell us a little bit about your process. What are you looking at that leads you to say, hey, the consensus is way too sanguine, they’re missing this. The Fed is really going to step up here.
DUTTA: So I think the first thing to do in this business is you want to make sure you have the nowcast right, right? Forget the forecast. Let’s just figure out what’s going on right now and what’s been happening. And at that time, what did we know? Inflation was coming in a little bit firmer —
RITHOLTZ: A lot firmer back then.
DUTTA: — and unemployment was falling more rapidly than people thought. So what do you expect the Fed to do at that point? And oh, by the way, they’re behind, right? So —
RITHOLTZ: Arent they always?
DUTTA: I mean, you could make that argument. But, you know, in this case, they were kind of very much keying off of labor market dynamics for the reaction function. And the unemployment rate was falling very, very rapidly. And so that’s what started it. And —
RITHOLTZ: That’s the area, you’re looking at that, hey, this is a red flag. Everybody is way too sanguine about CPI.
DUTTA: I think the thing that really got it for me was what was going on in the housing market, right? I mean, if you have this sort of pandemic event, and people go out, and what’s the thing that pops first is residential investment and home sales. That, to me, is a huge, you know, issue, and totally opposite from the last crisis.
RITHOLTZ: Right.
DUTTA: And what do we know about housing? It’s like an irreversible decision, right? I mean, once you buy a home, you can’t just go out and be like, oh, I don’t want to do that again. I mean, you can’t return it. So you have to be very, very sure about the macro environment before you make a down payment on a home. So the fact that people were willing to do that, I think kind of led me to believe, okay, if housing is historically a good leading indicator for the economy and that’s what’s really surging right now, what does that mean for everything else? And obviously, if you’re going to buy a home, you have to fill it with stuff, and we had a huge boom in stuff.
RITHOLTZ: Right.
DUTTA: And that, to me, is what did it. So you know, to me, the V-shaped recovery and the good side of the economy, I think, was an important development. And —
RITHOLTZ: So let me ask you, we’ll drill down a little bit into the specifics, there are all these sort of binary debates around inflation? Is it goods, or is it services? Is it fiscal stimulus, or is it monetary? Is this demand-driven, or is this supply constrained-driven? What are the factors? How do you take those pairs of contradictory positions and reconcile them? What do you think about those choices? And it obviously can be a little bit of everything. It’s not just one thing.
DUTTA: Well, this business is always nuanced, and nuance never gets enough attention, but that’s usually where the answer is. I mean, on inflation, is it supply-driven? Of course it is. Is it demand-driven? Yes, it is. I mean, that’s both.
RITHOLTZ: Well, if supply could answer demand, we wouldn’t have inflation.
DUTTA: Exactly.
RITHOLTZ: It’s got to be a little bit of both.
DUTTA: It’s got to be a little bit of both. I guess, in terms of where we stand right now, you know, clearly, there’s a lot of improvement on the supply chain side. We’re seeing delivery times come down.
RITHOLTZ: Shipping containers are back to pre-pandemic levels.
DUTTA: Right. You know, obviously, we know that motor vehicle assemblies are picking up some steam here. But demand is still very, very strong. I mean, if you look at something like real consumer spending of goods relative to its pre-pandemic trend, I mean, there’s been no big sort of collapse to trend. I mean, it’s sort of working —
RITHOLTZ: Right.
DUTTA: — itself out through time, right? I mean, the —
RITHOLTZ: Yeah. We had that big spike.
DUTTA: Yeah.
RITHOLTZ: And we haven’t come back down from it.
DUTTA: No.
RITHOLTZ: We’ve just plateaued with a slight up until the December 2022 consumer spending. It looked like the upward bias was going on forever.
DUTTA: Yeah. And that probably overstates things, right? I mean, we know that looking forward, auto sales will probably be running better than 13 and a half million SAAR over the next several months.
RITHOLTZ: Right.
DUTTA: We already see —
RITHOLTZ: Next several months, next several years.
DUTTA: Yeah.
RITHOLTZ: Because there’s no used cars to be had because they were so little —
DUTTA: Exactly.
RITHOLTZ: — new cars.
RITHOLTZ: Yeah, 100 percent. And then on top of this, look at home building stocks over the last —
RITHOLTZ: On fire.
DUTTA: Yeah. What does that tell you? I mean, a lot of these growth pessimists that we’re talking about, oh, housing is the leading indicator. Well, where are they now? I mean, housing is starting to revive. And what do you think that means for durables?
RITHOLTZ: Well, keep in mind, you mentioned how things lagged post financial crisis. We underbuild single family homes for, what, almost a decade? And now suddenly, there’s been massive household formation pre and during the pandemic. What are we short, a million houses? 2 million houses? It’s a giant number.
DUTTA: Yeah. Yeah, if you assume like a normalized vacancy rate —
RITHOLTZ: Yeah.
DUTTA: — it’s probably a little over a million units, right? So —
RITHOLTZ: That’s a lot.
DUTTA: And you’re also in a very strong demographic patch for housing, right. I mean, we’re sort of in our prime marriage years as a country, and so that helps as well. I mean, one of the interesting developments out of the pandemic is just we have a bit of a mini baby boom —
RITHOLTZ: Yeah.
DUTTA: — going on, right? And so what does that mean? So people are not only going to buy a home for that Zoom room, now they’re buying a home for that nursery, and I think people figure it out. I mean, one of the things I think people will be surprised to see is just look at what the incremental drop in rates will do for housing activity, right? I mean, so people got locked out when rates went from 6 to 7. Now, they’re coming back down to 6.
RITHOLTZ: Right. We’re four-month lows, about 6.3 percent —
DUTTA: Right.
RITHOLTZ: — when we’re recording that.
DUTTA: And you’re seeing things like mortgage demand pickup and —
RITHOLTZ: Even in the 6s.
DUTTA: Right, exactly. Right.
RITHOLTZ: I mean, that’s double what it was a year ago.
DUTTA: And the thing is that it never got as low as it did in 2014 despite 7 percent mortgage rates, right? So what does that tell you about underlying demand? So I think, to me, that’s an interesting kind of development here. And obviously, if you have a pickup in housing, that’s going to provide, you know, some tailwind to things like household durable goods, furniture, carpets, appliances, stuff like that.
RITHOLTZ: So we’re in a sort of weird zone where Jerome Powell and the Fed is telling us, hey, we’re not done raising rates, and when we are done, we’re keeping them up here for a while. Markets seem to disagree with that. How do you think about this, you know, tug of war between what the markets believe about rates and what the Fed is saying about rates?
DUTTA: Well, it’s a great question. I mean, as you know, that there’s this sort of thing that goes around Wall Street where the equity guys are the dumb guys and the bond guys are the smart guys, right? I don’t believe that.
RITHOLTZ: There certainly are elements of truth to that because the bond guys tend not to blow up the way some equity guys have. Maybe that’s a bad example. But I think that’s what colors people’s perspective.
DUTTA: I mean, there was the great Samuelson quote that we all know of, right? Like the stock markets, you know, predicted nine of the last five recessions.
RITHOLTZ: Right.
DUTTA: Right. But in reality, the stock market has probably predicted four of the last five Fed pivots.
RITHOLTZ: Right.
DUTTA: Right? So I mean, how bad can the stock market be? How dumb can that money be if that’s what’s driving a lot of the Feds reaction function at times?
RITHOLTZ: And if you think the bond market is smarter than the stock market, well, what’s the inverted yield curve telling you that the Fed is going to end up doing?
DUTTA: Well, it means that they’re going to push the economy into recession. I mean, I guess the one thing I would say about the bond market is that the bond market has a habit of pricing and tightening cycles way before they actually start, right? So there’s always these sort of opportunities in the front end of the yield curve early on in an economic cycle. And they tend to price in the end of the tightening cycle after it starts too soon. Once the cycle starts, the bond market tends to price in the end too soon. And I think this is probably another one of those times because I don’t think the Fed is going to cut. And one of the reasons why is because there’s just too much economic momentum, you know, behind the U.S. economy.
RITHOLTZ: So you were talking the other day on TV about landings, hard landing, soft landing. What if there’s no landing? Tell us what you mean about that in terms of what are the stock and bond markets pricing in, and what are your views on the economy for the rest of 2023?
DUTTA: Well, I definitely think the odds of a no landing scenario are going up.
RITHOLTZ: What is a no landing scenario? No recession?
DUTTA: Yeah. Growth at potential, if not little better. I mean, I guess for me, it’s, you know, what’s the mechanism for the recession, right? I mean, the argument now is, what, China is reopening, and Europe is looking a little better, and the U.S. economy’s going into recession. I mean, in my experience, the causality never goes that way.
RITHOLTZ: Right.
DUTTA: It goes from the U.S. to the rest of the world, not the rest of the world to —
RITHOLTZ: The argument is the Fed overtightens that kill real estate, that can kill consumer spending, and that taps us into a mild recession.
DUTTA: So it’s the Milton Friedman, like, long and variable lag argument.
RITHOLTZ: Yeah.
DUTTA: You know, Milton Friedman, I mean, that —
RITHOLTZ: Which may or may not be all that accurate, right?
DUTTA: I don’t think it is. I don’t —
RITHOLTZ: Like, the Fed has been talking about if you look at some of the Federal Reserve research papers, they’re saying, hey, maybe Fed activities work with a shorter lag than we’ve been led to believe.
DUTTA: I mean, yeah. I mean, back in the ‘80s, I mean, research analysts would figure out what the Fed did three weeks ago, right, based on what was going on in the money markets. Now, they tell you what they’re going to do and the markets price it in instantaneously.
RITHOLTZ: Right.
DUTTA: But I think the growth impulse from financial markets is already flipping positive. I mean, the funny thing about this long and variable lag argument, if it’s an 18-month lag, well, so what was happening 18 months ago? I mean, the economy was ripping and the Fed was reiterating its low, low, zero rate —
RITHOLTZ: Lower for longer, right?
DUTTA: Lower for longer approach. So that means monetary policy was really, really easing. So are we still dealing with the easing of 18 months ago? It’s ridiculous.
RITHOLTZ: Right.
DUTTA: So, no. I mean —
RITHOLTZ: Even if you go back a year, you had inflation ticking away. What was it? March 2021 CPI went through the 2 percent —
DUTTA: Right.
RITHOLTZ: — target rate? So —
DUTTA: Real rates were cratering, right? I mean, so the lags are not long and variable, and they’re short and predictable. And you’re seeing that already, right? I mean, as an example, we just talked about how interest rates had been moderating. What have we also seen? We’ve seen mortgage purchase applications pick up. We’ve seen homebuilding stocks do better. We’ve seen builder sentiment pick up. It’s instantaneous.
And it’s the same thing, I think you can make that argument with the dollar, right? I mean, everyone is kind of up in arms about, oh, the ISM manufacturing PMI is below 50. Yeah. And the dollar is off 10 percent from where it was in September. What do you think that does for factories? Obviously, it dues (ph) exports.
RITHOLTZ: It doesn’t hurt them, right? You were talking last year in 2022 about King Dollar and how strong it was. How do you contextualize a movement, like a 20-year move the dollar like that? What does that mean in terms of inflation and economic growth?
DUTTA: Well, more recently, obviously, the dollar decline is, I think, an unambiguous positive for U.S. growth because it’s going to juice (ph) exports, particularly of manufactured goods. But a lot of the rally in the dollar, say, from 2014, to, you know, up until recently, I mean, a lot of that was just growth differentials, right? I mean, think about why the dollar moves. The dollar moves really for, I think, you could say two reasons. It’s basically growth differentials and policy differentials.
RITHOLTZ: So wait a second, I have to interrupt you —
DUTTA: Yeah.
RITHOLTZ: — because all I heard during the 2010s was QE and ZIRP were going to kill the dollar. Financial pressure, the dollar is done, light a bonfire, they’re no good, they’re worthless. And I recall having that thrown at me over and over again, it couldn’t possibly have been more wrong.
DUTTA: No. I mean, you know, that doom sells on Wall Street.
RITHOLTZ: Yeah.
DUTTA: There is a steady diet of —
RITHOLTZ: This is my fourth doom cycle.
DUTTA: Yeah. I mean, but to me, it’s kind of shocking, like, how enamored people get with these doom and gloom sort of ideas, because they don’t pay at all. I mean, like, one of the things I’ve learned is that the negative case always sounds a little bit more intellectual. People give it a little bit more attention. But one of the things that I’ve learned is that in this business, people that get one call right, tend to be wrong about most everything else.
RITHOLTZ: Yeah.
DUTTA: You know what I mean? So as an example, like the gold bugs, I mean, it’s the same sort of thing, you know, and I think you can make that argument with the dollar. The dollar, I mean, there’s no alternative, right, to the to the U.S. dollar. It’s still the reserve currency because we have the most liquid, the deepest capital markets in the world, right? So —
RITHOLTZ: Right. And nobody trusts China, nobody trusts Japan, Europe, where else you’re going to go?
DUTTA: And until that changes, you can’t really make that argument. And so, for me, why does the dollar move? The dollar basically moves because of policy and growth differentials. And so in the 2010s, the reason the dollar was doing so well is because U.S. economic growth was a lot better than Europe. It was a lot better than Asia.
I mean, we were talking about a China hard landing like literally every year, following 2012. Right? So China reflate it and basically every year after that, it was hard landing risk in China. So I think that’s why the dollar moved. And right now, what’s going on is the dollar is, I think, losing steam because people are getting a little bit more optimistic about what’s going on globally.
RITHOLTZ: So in other words, after a really strong pandemic recovery here in the U.S., the rest of the world is finally beginning to catch up with us. And that’s before we talk about the end of zero COVID policy in China.
DUTTA: Sure.
RITHOLTZ: And then (inaudible).
DUTTA: Exactly.
RITHOLTZ: So you sound like an economic optimist, looking out the next couple of years?
DUTTA: Well, I’m certainly an economic optimist relative to the consensus. And I think that consensus is way off sides, as I think the Fed is way off sides right now on growth.
RITHOLTZ: Meaning what? So let’s take —
DUTTA: They’re too cautious.
RITHOLTZ: So the consensus is too cautious. Do you think the Fed is in the process of overtightening here?
DUTTA: No. I mean, I think the Fed will probably step back soon. I mean, they’re basically telling you that they get rates up to something a little over 5 percent and stop. The question in my mind is whether they’re stopping too soon.
RITHOLTZ: Really?
DUTTA: I do think. I think that you can make that argument because I just feel like financial conditions are easing too much. They shot their shot, and at the same time, fiscal policy tightened last year in 2022.
RITHOLTZ: Right.
DUTTA: And despite all that, the unemployment rate finished the year at that 3.5 percent.
RITHOLTZ: So let’s talk about that.
DUTTA: Yeah.
RITHOLTZ: We referenced earlier that there was a shortage of single family homes in the United States.
DUTTA: Sure.
RITHOLTZ: Let’s talk about labor. Immigration has been on a downward trend long before Trump.
DUTTA: Sure.
RITHOLTZ: My friends blame Trump. It started ticking down way before him. He might have spoken a lot about it. I don’t see the Biden administration moving off of the Trump policies, limiting legal immigration. You have a lot of early retirements. You have a lot of disability. We lost, I don’t know, 250 — 500,000 workers due to COVID. To say nothing about the people affected, and I’ve seen estimates from 5 million to 15 million people who are affected by long COVID. We have a massive shortfall of workers. How you’re going to get unemployment to tick up, or wages to slow under those circumstances, short of causing that hard landing we’ve been talking about.
DUTTA: Well, I mean, you can have some of that addressed through policy. Right?
RITHOLTZ: Are we? Is anyone addressing that?
DUTTA: No. No. I mean, I think part of the issue, though, is think about who’s filling some of that vacuum. Right? I mean, you are seeing participation rates rising for those age 16 to 24 years old, not prime age workers, but younger people, and a lot of them are coming in. Now, what does that mean? You talked about retirements. You have a lot of inexperienced workers coming in. What does that mean? Those aren’t the most productive people. So experienced people are leaving, inexperienced workers are coming in. That’s not necessarily the best dynamic for labor productivity, right? I mean, it’s going to take some time for those workers to kind of get up to snuff, right?
But that is inflationary from the Fed’s perspective. Remember, the sort of equation that Powell always references is compensation growth equals inflation plus productivity. That is sort of an identity that they use in macro. And —
RITHOLTZ: What’s wrong with that?
DUTTA: It’s not about what’s wrong with it or not. I mean, I’m a business economist, I don’t have an opinion. For me, it’s what are they telling me? You know what I mean? For whatever reason, the Fed views the labor markets as the conduit. And if compensation growth is running, right now, let’s say it’s 5 percent, and productivity is 1, one and a half, you’re basically talking about an inflation environment of three and a half percent-ish.
RITHOLTZ: Which is not terrible.
DUTTA: From their mind, and remember, the one time we had a soft landing in the U.S. economy, right? So this is one of the things, I do think we have an increasing odds of a soft landing right now, but that doesn’t mean the odds are increasing permanently, right? Think about when we had a soft landing, the example that most people will remember is the ‘90s. So what happened during that time? First of all, we didn’t have a formalized inflation target of 2 percent.
And number two, what was the call that Greenspan nailed? He got the productivity call, right? At the time, I mean, Janet Yellen was telling him, you got to keep hiking, like, look at how low the unemployment rate was getting. But what Greenspan came around and said was, well, look, productivity is taking off. We probably don’t need to be hiking as aggressively as that.
RITHOLTZ: So let’s talk about that productivity number now because I have my entire career been perplexed by these very, what’s the old joke from, was it Professor Solow in MIT, productivity numbers are showing up everywhere.
DUTTA: But in this statistics.
RITHOLTZ: Right. And as someone who’s a white collar worker who can operate remote, I feel like every year my productivity is up 15, 20 percent. Now, if you’re working in a factory, or if you’re delivering mail or something else where technology isn’t helping you that much, you’re probably not seeing those sort of technology gains. Am I just seeing the world through my narrow perspective, or is the data missing a lot of productivity gains?
DUTTA: I don’t know that the data is really missing that much. I mean, productivity has been weak, even in the areas where it’s very easy to measure it like manufacturing.
RITHOLTZ: Right. Yeah.
DUTTA: So that, to me, is something that’s important to point out. But, you know, think about capital spend, I mean, right? So capital deepening is what drives productivity, and that’s basically CapEx relative to labor hours. And that hasn’t been particularly strong either. I mean, I get that there are interesting things going on.
RITHOLTZ: Yeah.
DUTTA: But I don’t know that that’s necessarily going to drive significant gains in productivity. And of course, as I mentioned, labor quality is a lot worse now than it had been before. For me, it’s a little bit more challenging to accept the idea that productivity is going to save you from the inflation.
RITHOLTZ: So let’s talk about that inflation. You know, for at least for the median wage earner and below, prior to the pandemic, their wages lagged. Everything, it lagged inflation; it lagged the stock market; it lagged corporate profits; it lagged C-suite compensation.
DUTTA: Sure.
RITHOLTZ: So it seems like suddenly, the bottom half of the economic strata is seeing wage increases. And the Fed is like, hey, hey slow down a little bit. What’s that about? I’m kind of —
DUTTA: I mean, it’s a nasty little secret. I mean, look —
RITHOLTZ: Not such a secret.
DUTTA: Well, I mean —
RITHOLTZ: There’s a giant New York Times piece a couple of Sundays ago in the magazine section, talking about who is the Fed increases falling the hardest on.
DUTTA: They view the labor markets as the conduit to achieve their inflation goals. We can debate whether that’s right or wrong. I mean, I’m not an academic economist, but that’s what they’re telling us. And so, if that’s the case, then unemployment is one way that you’re going to achieve the goal of getting inflation back to 2 percent in a sustainable way.
RITHOLTZ: Seems like a 20th century central bank confronted with a 21st century problem.
DUTTA: I mean, it may well be. But I think, look, I mean, right now, the labor markets are still very, very tight.
RITHOLTZ: Right. Very robust.
DUTTA: And there’s still an inflationary impulse from the labor markets. And you know, look, I mean, I think that this is also, in some respects, maybe a toll on our society. I mean, what do you think most people would prefer? Right? I mean, would you prefer 5 percent unemployment and 2 percent inflation, or 3 percent unemployment and 4 percent inflation?
RITHOLTZ: It depends if you’re the guy that’s unemployed or not.
DUTTA: I mean, in general.
RITHOLTZ: If I’m unemployed, I don’t really care what the hell inflation is. I got no income.
DUTTA: Yeah. Well, I mean, it’s one of the reasons why I think Reagan became president and Sanders never will, right? I mean, the fact —
RITHOLTZ: I think you’re right.
DUTTA: Because I think it’s much easier, I think, to form a political coalition around inflation than around unemployment, because it’s always, oh, it’s like, oh, no, I got to pay for that. You know what I mean? Like, that’s how, right?
RITHOLTZ: Yeah.
DUTTA: Because the baseline expectation, like your social contract in America, I think, is, oh, you got a job. Like, to me, it’s like, yeah, I got a job. Great. Good for you. Everyone has one, you know? Whereas, oh, the prices for these things are going up like 6 percent. That’s weird. Right? So that’s why I think politically, it’s much easier for politicians to address that than unemployment.
RITHOLTZ: Prior to the —
DUTTA: I mean, even in a way, right, Barry?
RITHOLTZ: Yeah.
DUTTA: I mean, think about this, right. I mean —
RITHOLTZ: Well, the 2000s, it was a giant spike in inflation, arguably caused by the Fed taking rates too low and keeping them they’re too long.
DUTTA: I mean, yeah, core inflation during the 2000 was running a little bit, I mean, I think around two and a half percent. But ’08 —
RITHOLTZ: But it spiked up, you know, right into the crisis in ’08, the bottom was falling out from the economy. And I mean, you know, we had like five or six months of job losses, even as gas prices were going up.
RITHOLTZ: $150 a barrel oil.
DUTTA: Where people talking about let’s go and like, you know, stop gap the banks and like, even though, no, they weren’t, right, because, you know, it was like, oh, well, what had more public support, suspending the gas tax or bailing out the banking industry at that time?
RITHOLTZ: Absolutely. No. There was very little support for —
DUTTA: Yeah.
RITHOLTZ: — bailing out the banks. And in fact, there was the whole tea party came about —
DUTTA: Right.
RITHOLTZ: — when you attempted to bail out the homeowners. There was a lot of political crosscurrents during that period.
DUTTA: So I think that, to me, is sort of this interesting kind of dynamic is that it’s a lot easier politically, I think, to fight inflation.
RITHOLTZ: Really interesting. So we’ve been talking a little bit about what the consensus is, and what the Fed is going to do. All these rapid increases in rates we’ve seen. You’ve said, you question whether or not the Fed has a coherent strategy. Explain that.
DUTTA: Well, I mean, they’re kind of playing catch up, right? I mean, I think based on their behavior over the last 12 months, it’s pretty clear that they should have started sooner, otherwise, they wouldn’t have been so aggressive in the first place.
RITHOLTZ: So let’s put some flesh on that. The CPI goes through 2 percent in March 2021. By the end of the year, CPI is, what, 7 percent, something like that? And in March 2022, the Fed first starts raising rates. They’re like a year behind the curve.
DUTTA: Well, I mean, there’s a recency bias in policymaking. You know, in the same way that fiscal policymakers were criticized for not doing enough during the financial crisis.
RITHOLTZ: Sure.
DUTTA: You could make the argument that fiscal policy makers overreacted during the pandemic crisis.
RITHOLTZ: So what do we have? We had 2 trillion in the first CARES Act. We had another trillion in the second CARES Act. Then the new administration comes in, there’s another trillion in the third CARES Act. Then there’s the Inflation Reduction Act, and there’s the infrastructure bill. That’s a lot of fiscal stimulus, isn’t it?
DUTTA: Yeah. And remember back when, you know, Trump ran and they had the whole TCJA. What was the big —
RITHOLTZ: 2017.
DUTTA: Yeah. What was the big discussion then? Monetary offset, remember that? Monetary offset, like the Fed needs to come in and counteract the fiscal stimulus. Well, think about it this time. There’s a lot of fiscal stimulus that needs to be counteracted, particularly when people are still sitting on, how much, a trillion dollars of pandemic savings.
RITHOLTZ: So how much of that can be accomplished with quantitative tightening, unwinding quantitative easing? And how much of that has to be purely rate-driven?
DUTTA: I think it’s rate-driven because I don’t know that quantitative tightening has that much of an effect on —
RITHOLTZ: Really? Because people were warning, oh, you don’t understand what a headwind, QE has been a tailwind. Not only is that gone, now you have the headwind of QT. Just you wait, that was the last doomsayer.
DUTTA: I think QE was basically a way for the Fed to tell the markets that it really meant business about keeping rates low for a long time. And you know, to me, let’s say the Fed came out and stopped QT because they want to maintain like an ample level of reserves. Does that tell you anything about what interest rates are going to do?
RITHOLTZ: No.
DUTTA: The Fed can raise rates whenever they want. So that, to me, I don’t think it’s really the same thing. And so, yeah, I don’t know. I mean, yeah, there’s this like knee-jerk kind of desire, I think, in markets to, like, explain things as simplistically as possible. And so it’s like, oh, like, here’s this overlay chart of the Fed’s QE and the stock market, and that’s why the stock market is going up.
RITHOLTZ: Right.
DUTTA: And it’s just —
RITHOLTZ: Are you suggesting that it’s not —
DUTTA: It’s absolutely —
RITHOLTZ: — that binary, that it’s more nuanced to use your earlier phrase?
DUTTA: I mean, to me, it’s just a ridiculous thing because if you take that to its logical conclusion, the Fed has an infinite ability to expand its balance sheet.
RITHOLTZ: Sure.
DUTTA: So that means that the stock market should never ever go down, right? I mean, so if you think about it logically, take it to its end conclusion. Is there any constraint on the Fed in terms of printing money doing QE? There is none really. I mean, it sounds political. But, you know, theoretically, there’s none. And so if the balance sheet is all that drives the stock market, then the stock market should never go down. You have to think about it that way.
And so, to me, you know, the stock market is driven by earnings and by —
RITHOLTZ: Fundamentals
DUTTA: — and fundamentals and, —
RITHOLTZ: Right. And sentiment on top that.
RITHOLTZ: — and sentiment. And you know, the Fed can play a role in sort of backtracking sentiment in the short run, but the Fed can’t permanently increase the level of asset values.
RITHOLTZ: So there’s been a lot of discussions about when Powell is going to pivot. Are you saying we’re overemphasizing that? Is the market sussing that out early enough? How much should investors be paying attention to each and every utterance from Jay Powell and his bands of merry central bankers?
DUTTA: Well, I think it’s important to follow the data. And ultimately, if the Fed is saying that it’s data dependent, then the data will drive their views on policy. You know, I must admit right now, it does feel that the Fed is kind of moving a little bit away from that because it seems like they just want to get rates just above 5 percent.
RITHOLTZ: Regardless.
DUTTA: And wait and see, regardless of whatever happens.
RITHOLTZ: So let me throw some data to you. It looks like inflation peaked mid-year last year. Certainly, on the good side, we talked about energy, lumber, shipping containers, used cars, even Rolexes are rolling over in price. So that’s 60 percent or 40 percent, depending on what year you’re looking at. That’s 40 percent of inflation problem. What about services? We continue to see at least owners’ equivalent rent portion of CPI appear elevated. What do we make of that? Is the Fed looking at the data, or are they looking in the wrong place?
DUTTA: Well, I mean, Powell kind of spliced the inflation data into three parts, right? I mean, you talked about core goods inflation which is I think what you’re getting at, which it’s deflating, right? So those are your cars, your, you know, food, furniture, appliances, right? Then you have housing rental inflation which has been quite strong, but is also likely to decelerate quite a bit.
I mean, one of the reasons why inflation has historically been a lagging indicator is because shelter, which is a big component of inflation, is a lagging indicator in and of itself, right? And it tends to lag home prices, and home prices have been moderating. And we know that new lease growth has also been moderating quite a bit. So I think it’s inevitable that housing rental inflation as it’s measured in the CPI data will come down.
RITHOLTZ: That’s a key phrase as its measured. There have been both from places like the Cleveland Fed and Zillow rents, there have been a couple of new ways of looking at rental inflation, that make it appear the BLS model is really on a long lag. When you look at Zillow rents, they appear to be plummeting. And when you look at the paper, I think it was the Cleveland Fed, that tried to look at repeat rents as opposed to the whole world of rents. They’re showing that rents not only have stopped going up, but are now rapidly decelerating.
DUTTA: Right. But that’s also been well known. I mean, that’s been, I think, a well-known feature of the inflation statistics, right? So this idea that, oh, this is such a lagging indicator like that —
RITHOLTZ: Right.
DUTTA: No. That’s a lot of people just saying that they want the Fed to back off —
RITHOLTZ: Right.
DUTTA: — and they’re using that to justify —
RITHOLTZ: I’m talking of my book, I’m guilty. So then let me ask you this question because —
DUTTA: In a way, Bernanke was saying inflation is a lagging indicator.
RITHOLTZ: Right.
DUTTA: So —
RITHOLTZ: Inflation is a lagging indicator.
DUTTA: Right. So Bernanke made that point back in 2008.
RITHOLTZ: Right around the time he said subprime was contained, if I recall.
DUTTA: Well, it was after that.
RITHOLTZ: Yeah.
DUTTA: But he was right about the inflation being a lagging indicator because he was using that to justify in a more aggressive monetary policy easing than the hawks wanted to go. Because they were making the point that, look, inflation is still high. Well, inflation is a lagging indicator. So —
RITHOLTZ: Interesting.
DUTTA: And so it’s sort of the same thing that’s happening now, kind of in reverse. And —
RITHOLTZ: But you’re suggesting that the Fed is ignoring all of this softening inflation data because for whatever reason, Jay Powell wants to get to five and a quarter.
DUTTA: That, and also, I don’t think they view inflation the same way as the markets do.
RITHOLTZ: Right.
DUTTA: The markets are very, very good at kind of telling you about what’s happening with goods inflation, right? So we know what commodities are doing at any moment in time.
RITHOLTZ: They could price it, right?
DUTTA: Right. The markets don’t have a great way of telling you how much your barber is going to charge you for your haircut or —
RITHOLTZ: So services have more problem then?
DUTTA: Yeah. Or your dry cleaner. And also, it’s about the overall inflation process, right? I mean, so the stuff that you’re talking about, like, let’s say, we had this burst of household formation, and that’s what drove this spectacular increase in rents during and immediately after the pandemic. And now, it’s just becoming too onerous on people and they’ve all decided, you know what, I’m going to go find a roommate. I’ve been dating somebody, I’m going to go move in with them.
What have you just done for yourself? You’ve reduced household formation. But what have you done for yourself assuming you haven’t lost your job?
RITHOLTZ: Cut your rent in half.
DUTTA: Now, what do you go and do with the money?
RITHOLTZ: You spend it on.
DUTTA: And what does that do to the prices of the goods and services upon which you spend the money?
RITHOLTZ: It depends on what you’re spending it on. Is it these things you wouldn’t have purchased anyway or —
DUTTA: I don’t know. But that’s the way the Fed is thinking about it.
RITHOLTZ: Let me —
DUTTA: So, I mean, compensation equals inflation plus productive. So all you’re talking about is relative price shifts. If wage inflation is still running at four and a half, 5 percent, it’s going to be difficult. I mean, I hate to say it like this, it just means the disinflation that you’re going to see this year is also transitory. And that —
RITHOLTZ: Though, it seemed transitory. And I’m right there with you.
DUTTA: And that’s the thing that the Fed I think has to wrestle with is, to me, they haven’t told us a good kind of framing around this idea of improving composition of growth, right? Real GDP growth is probably accelerating as inflation is coming off. What does that mean? Right? I mean, because ultimately, if real growth is getting better, that means you’re putting pressure on physical capacity, physical resources, right? Your real growth is what drives more employment. Real growth is what drives more production. You know, that means capacity utilization goes up. And that is what pushes prices up.
So I think that’s kind of the thing that they have to wrestle with, which is why I say it’s difficult for the markets to get the cuts that they are currently pricing if I’m right about the economy. If real growth is holding up and we’re growing above potential, then even if price inflation is moderating, it’s still going to be difficult for the Fed to cut in that environment.
RITHOLTZ: So let me push back on all that, and let me give you my narrative as to where the consensus might be right and where the Fed is wrong. And it’s two parts and I’ll make it really short. The first part is, hey, we’ve been in a deflationary environment for the past three decades. Globalization, technology, automation, productivity, all these factors have been deflationary for a long time.
The pandemic was a unique on- off, right? And heading into the pandemic, we are 60 percent services, 40 percent goods. Suddenly we invert that. We’re 40 percent services, 60 percent goods. When everyone is stuck at home, they’re not going to hotels. They’re not flying. They’re not going to movies. They’re building —
DUTTA: Sure.
RITHOLTZ: — buying, doing all this stuff. Just in time supply chain can’t deal with it, prices spike on top of a decade long shortfall of home construction. And during the pandemic, whoever could afford to buy a second house or a third house did, without selling the house. So all this, whatever little supply there was, they get sucked up. And once that normalizes, inflation should return to normal.
However, that’s part A. Part B is the Fed doubles and then some mortgage rates. Everybody who’s looking to buy a starter home or you know, a sub $1 million home, a lot of those folks are now priced out of that market, and would be buyers or renters. And paradoxically, rising FOMC rates means higher mortgage rates, which pours people into the rental market, making inflation higher. The Fed, if they want to stop inflation, should stop raising rates and allow those renters to become homebuyers. Where’s that thesis wrong?
DUTTA: Well, I think on the globalization side, I mean, we probably have a little bit more of a home bias now. I mean, there’s one bipartisan thing that’s come about from Trump to Biden, this is sort of —
RITHOLTZ: Having learned that just in time, supply chains —
DUTTA: Right. I mean, we had the flattening out of the global supply chain, and now the global supply chain is actually narrowing. We want to make it, you know, more resistant to global shocks. And so I think that that’s probably inflationary. Final assembly is probably leaking out of the lowest cost destination.
RITHOLTZ: Right. And we’ll have a big inventory build. But once that’s done, that’s transitory also, isn’t it?
DUTTA: Well, I mean, again, it goes back to this idea of what’s driving inflation over the longer run. And ultimately, to me, it’s about labor market dynamics. And you know, I mean, we had a period of disinflation. But, I mean, inflation was sort of stable in the 2010s.
RITHOLTZ: Sure.
DUTTA: I mean, Bernanke famously said, if inflation is the benchmark, I have the best inflation record of any chairman, because it’s basically been 2 percent the entire time I’ve been —
RITHOLTZ: Right.
DUTTA: So he actually hit it right on the head. So you know, it wasn’t like inflation was getting even slower during the financial crisis. And so, now —
RITHOLTZ: And by the way, I think it’s hilarious that a massive financial crisis leading to an inability for inflation get any traction, and he wants to take credit for, right?
DUTTA: But I think about —
RITHOLTZ: Now, do GDP and wages over that same decade.
DUTTA: Yeah. I mean, it wasn’t until the very end of that decade —
RITHOLTZ: Right.
DUTTA: — that real wages started to look a bit better. But again, it’s one of these interesting things, Barry, where if you look at like consumer confidence, it got very good after 2015 and particularly when we had the windfall from the positive supply shock in energy. But, you know, I do think that, yeah, I mean, we haven’t really invested much in mining CapEx. If you have an incremental pickup in global demand, that could sort of roll (ph) energy markets. That’s a risk. That’s an inflationary risk.
I mentioned productivity. Productivity hasn’t been as strong. You have experienced workers that are now leaving the workforce. That means that the quality of your workforce, it’s going to take time to get that back up. So I think there are interesting arguments on both sides of this debate. But, you know, for the short run, I think it’s really just about the labor markets. And the Fed keeps saying that they think things are out of balance, and so that means that they’re going to have to bring it back into balance.
RITHOLTZ: So the consensus is either no recession or a mild recession, and the Fed stops raising. And by the end of the year, they’re cutting rates. You’re saying you think the consensus should listen to what Jerome Powell is telling them because you think he’s going to do exactly what he says he’s going to do?
DUTTA: Yeah. I mean, the consensus right now is recession. That is the consensus. If you look at —
RITHOLTZ: So soft landing or hard landing?
DUTTA: It’s not even about soft landing, it’s a recession. I mean, the consensus is overwhelmingly in a way I’ve never — I mean, I think if you surveyed it’s like 60 percent recession of the —
RITHOLTZ: If not, more. Yeah.
DUTTA: If not more. Usually, when the consensus is that overwhelming for the recession, you’re already in one.
RITHOLTZ: Right.
DUTTA: And we’re not.
RITHOLTZ: That’s right.
DUTTA: So —
RITHOLTZ: I recall deep into 2008, there was still an argument as to whether or not when we were in recession, when it started six, eight months earlier.
DUTTA: Yeah.
RITHOLTZ: And right in the middle of that, people were still arguing.
DUTTA: Well, I can remember one analyst famously thinking that the Fed was going to be hiking in the back half of 2008.
RITHOLTZ: Good call.
DUTTA: Right. Key feature, key distinction, though, of that period, was that we were seeing job loss month in and month out over this first —
RITHOLTZ: Right. And we’re clearly not seeing —
DUTTA: We’re not seeing that now. And you can talk about, oh, employment is coincident, or it’s lagging. At the end of the day, initial claims are low. That’s a leading indicator. But to me, again, it’s not about the data as it’s coming in. Tell me why it keeps going, right. That’s what’s right. I mean —
RITHOLTZ: So can we get a recession with employment markets this strong, this tight?
DUTTA: You can, but I don’t think the Fed is going to give you that right away. I mean, it’s going to take a little bit more time to play out. But more importantly, it’s about the mechanism. Like, how do you get the recession? Like, for example, is there a massive financial shock that gets companies? So the thing that I’ve been exploring is that one of the ways you get recession, in my view, is through an element of surprise.
RITHOLTZ: Right.
DUTTA: Right? So companies sort of think things are going to be okay. And then something falls out of bed, and that means that they have to cut their hiring plans, adjust their CapEx budgets —
RITHOLTZ: Right.
DUTTA: — clear out their inventories. But what if we’ve been doing that for the last six to nine months already?
RITHOLTZ: Right.
DUTTA: And now, there’s a risk with inflation falling, gas prices have come down. No one is talking about that anymore. Natural gas prices are down, which means you’re going to see lower utility bills. Food prices are coming down, which means you’ll see lower grocery bills. What does that mean? That is a tailwind for real disposable income. So that should buoy demand.
Now, if companies are all on this side of the fence, and they think household demand is going to slow down, and then the opposite happens. What does that mean? That creates a risk where you have this situation where the companies are having to catch up to the end consumer.
RITHOLTZ: You’re going to have an inflation echo and a restart of —
DUTTA: Real growth will pick up as a result.
RITHOLTZ: Right.
DUTTA: And I think that’s the risk that I’m more likely to highlight now. And I think that’s something that consensus is not really positioned for. And I think that that’s becoming increasingly the more likely outcome because, well, we’ve been talking about a recession for the last three quarters, and it just hasn’t happened.
RITHOLTZ: So the question is, is the bad news in stock prices already, or is the good news already in stock prices? How do you contextualize that?
DUTTA: No. I think the bad news is in the price.
RITHOLTZ: It’s already in there?
DUTTA: Yeah. Well, I mean, Google earnings recession, everyone’s talking about, oh, that’s the next thing. Oh, yeah, this 2022 move in stocks is all about rates. And the next shoe to drop is the earnings recession. How do you get an earnings recession if nominal growth is running at 5 percent? Has anyone mentioned about the dollar? Like, the dollar is off 10 percent. Doesn’t that have a mechanical effect on corporate earnings for the multinationals that trade on the S&P 500?
And I guess the other thing is, in a weird way, like interest rates coming down, and people betting on the Fed to kind of back off, juices the housing market because you see homebuilding stocks at a 52-week high now.
RITHOLTZ: Right.
DUTTA: Some recession, like, call me when rates are going down and building stocks are going down, because that would be a big problem, right? But that’s not what’s happening today. I mean, you’ve been around long enough to know like this sort of cottage industry of nonsense on the street about, oh, the ISM was below 50. The Fed got to come in and do something.
How’s that been working out for the industrial stocks call? Industrials have been outperforming. Caterpillar is another stock that’s doing really well. So I don’t see it. I mean, the earnings recession call is purely driven by like, you know, look, the ISM is below 50. Your review your chart of earnings, and then it looks like it lines up, so that’s the earnings recession.
But if you peel back the onion a little bit and you think about where is growth coming in? Where is inflation? You’re still talking about a 5 percent-ish nominal growth environment. That is not consistent with earnings recession, in my view.
RITHOLTZ: Let’s talk a little bit about what’s going on with earnings. We have people like Elon Musk and Jamie Dimon screaming we’re going to have a recession for what, six months now? Are you seeing recession anywhere in any of the corporate earnings data? You mentioned homebuilders, you mentioned manufacturers. Where is this recession showing at?
DUTTA: No. The recession is showing up in the FRB/U.S. model.
RITHOLTZ: And that’s pretty much it. So I have a friend who says to me, we’re not going to get a contemporaneous recession. It’s going to be a rolling series of sector-by-sector recessions. Oh, energy did well. Now, energy is depressed. And then this sector is doing well, manufacturer was depressed last year. Now, it’s doing well. Can you get a rolling sector-by-sector recession, or is that just —
DUTTA: Then that wouldn’t be a recession.
RITHOLTZ: Okay. So what do we see for earnings in 2023?
DUTTA: Well, I’m not a stock market strategist. But what I will tell you is that when you think of corporate profits, right, I mean, it’s largely based on an identity, right? I mean, it’s basically revenue, right —
RITHOLTZ: Right.
DUTTA: — less unit, labor and unit non-labor costs. And so when you think about it through that lens, I think revenues will remain steady because nominal growth is holding up. So even though inflation is moderating, you’ll see real economic growth pickup. I think unit labor costs will moderate somewhat as the labor markets kind of normalize. I mean, we won’t see as many people quitting, and that should take some of the pressure off. And we see unit non-labor costs coming down because supply chains are easing, commodity prices are easing. And so that should be a reasonably healthy backdrop for corporate profits.
The question, you know, for the markets is if the Fed is not cutting, that means that rates will be higher, and all else equal, higher rates are not good for stocks.
RITHOLTZ: So when we talk about margins last year, they hit all -time highs. Companies seem to have no difficulty passing along input cost increases to consumers. And some companies managed to pass along phantom increases and manage to see their margins widen. What are we thinking about overall margins in the face of five and a quarter Fed rates?
DUTTA: Well, you’d expect margins to come down somewhat. I mean, obviously, they’re very, very high. But that also means that companies are probably more likely to spend some money, right? So that’s sort of the way. And companies spending money, that also helps corporate earnings, right? So it’s about why the margins are coming down. A margin decline that’s driven by companies spending more on CapEx employment is very different than a margin decline that’s driven by —
RITHOLTZ: Revenue short 4 percent.
DUTTA: — or productivity weakness, right? Because in the former case, there’s an opportunity for companies to offset some of the hit to their bottom line with a stronger top line. So that’s sort of the way I’m thinking about it.
RITHOLTZ: So you mentioned earlier sentiment. Generally, consumer sentiment has been not just bad, but like below financial crisis bad. It doesn’t make a whole lot of sense to me. I’m curious as to your thoughts, given everything else you’ve said, that’s been so constructive.
DUTTA: Well, it goes back to a discussion we’re having earlier about, you know, what’s easier to form a political coalition, underemployment, or you’ve never seen this much of a gap between attitudes about the jobs market and overall consumer sentiment, ever, right? If you look at The Conference Board data, which is, you know, widely followed consumer sentiment number, it’s very weak. But if you look at the labor differential which is basically consumer attitudes about jobs, it’s rarely been this high. It’s basically where it was right before the pandemic, in the late ‘90s when labor markets are very, very strong.
So I think that speaks to this inflation dynamic. But what do we know about inflation, Barry? At least in the things that people buy frequently, there’s improvement. I mean, gas prices finished last year lower than where they started then.
RITHOLTZ: Which is an amazing statistic that we just aren’t hearing enough about.
DUTTA: Right. And then we know that natural gas prices have come down somewhat, that will with a lag bleed into household utility bills. And then grocery bills will probably come down because agricultural commodities have come in somewhat. So all of that should provide some tailwind to consumer sentiment. And you know, look, the stock markets are up about what, 3, 4 percent So far this year. That should help as well. So you know, to me, if you think about what drives consumer sentiment, it’s wealth, employment, inflation. And —
RITHOLTZ: All three of those suggests consumer sentiment should be pretty strong. But it really is below what you would expect given the state of the economy.
DUTTA: Well, it’s because people are keying off the level of prices in some respects, not the rate of change. So I would say that the rate of change and consumer confidence shouldn’t be getting better over the next several months.
RITHOLTZ: Let’s jump to my favorite questions that I asked all of our guests, starting with the question that I really should retire, my pandemic question. Tell us what you’ve been streaming on Netflix or Amazon or what have you.
DUTTA: So my wife and I always, we try to watch the same shows. So we’ve been watching The Crown.
RITHOLTZ: So good.
DUTTA: Such a good show.
RITHOLTZ: I think there’s one more season coming still.
DUTTA: Yeah. I mean, the last season was great. Handmaid’s Tale is another one that we watch. She got me into the show called From Scratch.
RITHOLTZ: From Scratch.
DUTTA: Yeah. It’s what Zoe Saldana.
RITHOLTZ: Sounds like a cooking show.
DUTTA: It’s a tear-jerker. I mean, but, you know, it took me a little bit to get into it, but I did get into it more for her than for myself. But, you know, it was well worth it. We need to start White Lotus. We haven’t done that yet.
RITHOLTZ: I watched the first season. I haven’t gotten enthusiastic about the second season yet, which a lot of people really liked. Have you seen any of Kaleidoscope?
DUTTA: No.
RITHOLTZ: It’s kind of interesting.
DUTTA: I haven’t. What’s it about?
RITHOLTZ: So the twist is you can watch it in any order you like, except for the last episode. It’s a heist sort of film and you don’t know who is the mole, who’s cheating on who. And it’s told in a very asynchronous way, where two weeks before the heist, six years before the heist, a week after the heist, like each episode just plops you down in this random time zone as opposed to telling the story chronologically. So it kind of unfolds in a really fun, and it’s a fabulous cast. It’s really great.
DUTTA: I got to look into it.
RITHOLTZ: Yeah. It dropped on Netflix a while ago, and a number of people recommended it. It’s fun. There’s a couple of moments where you’re like, don’t do that, like keep a watch.
DUTTA: Yeah.
RITHOLTZ: Like, don’t go in the house.
DUTTA: Right, right, right.
RITHOLTZ: It’s like that. And you’re like, please don’t make that mistake. And then certain things like that, there’s a funny little thing that happens with a watch, where, like, why would you make that mistake? That later on, it’s like, oh, maybe not such a mistake. It’s just like all sorts of really interesting things.
DUTTA: Yeah.
RITHOLTZ: It’s not The Crown, which was just spectacular. But it’s interesting. And as I’m moving away from lockdown, I find myself, I don’t need 500 episodes of it.
DUTTA: Yeah.
RITHOLTZ: It’s limited to, I think, eight episodes —
DUTTA: Right.
RITHOLTZ: — and done, which is sort of like the Queen’s Gambit. It’s like, all right, I can get in and get out of this and not be —
DUTTA: Yeah. Oh, that’s another one that we saw. Yes.
RITHOLTZ: Yeah. That was a lot of fun. Tell us a little bit about your mentors. You mentioned Rosenberg and Ethan. Who else have been your mentors?
DUTTA: I mean, those are the two big ones, and I think those are two great ones to have.
RITHOLTZ: Sure.
DUTTA: Drew Matus would be another one.
RITHOLTZ: Oh, sure.
DUTTA: He’s, I think, the head of investment strategy at MetLife, if I’m not mistaken. And you know, he and I worked together at Merrill for a period of time. So he would be someone else that I would lean on quite a bit for, you know, just advice and not only economics, but just life. He’s got three kids just like I do. So it’s —
RITHOLTZ: Twins? Does he have twins?
DUTTA: No, he doesn’t. And his kids are a lot older than mine. So he’s someone that I would consider a mentor, not only for my career, but for life as well.
RITHOLTZ: Tell us about some of your favorite books, and what are you reading right now.
DUTTA: So I have a confession.
RITHOLTZ: Uh-oh.
DUTTA: I don’t really read books. I do read a lot of articles on Bloomberg, and opinion columns and Wall Street research, but I’m not a big book reader.
RITHOLTZ: Lee Cooperman says the same thing. He’s like, I read all day long. I can’t remember the last time I picked up a book.
DUTTA: Yeah. I’m not a big book person.
RITHOLTZ: Definitely a challenge. Our final two questions, what sort of advice would you give to a recent college grad who is interested in a career in either economics, finance, research, what would you advise them?
DUTTA: So my advice would be just get your foot in the door, because that’s what I did, right. I mean, when I was in college, I had no idea that there were jobs like this. Oh, there are jobs that where you just talk about macro and the economy all day long, and people pay you for that? I mean, you would never think about it.
And I think if I’m giving someone advice, I would say start at a large institution, because I get that I’m at a smaller one now. But when you’re at a large one, they have so many different departments. and so many different asset classes, and so many different types of constituents that they serve, right? And you can kind of see every nook and cranny of what goes on in the financial market space and financial services space. And then you can find your passion. And so I would say, get your foot in the door of one of these big firms.
RITHOLTZ: And our final question, what do you know about the world of macro and economic research and market economics today that you wish you knew 20-plus years or so ago, when you were first getting started?
DUTTA: Well, I wish I had known back then that, you know, a lot of these indicators that people put their faith in are just really bogus. I mean, I didn’t —
RITHOLTZ: I had someone add (ph) me today on Twitter, about that’s not what M3 suggests. I’m like, I thought we stopped reporting
DUTTA: You know, there used to be a time when I thought someone overlaying a chart of manufacturing production in the ISM was like, wow, you really found something really interesting there. Now, I realized it’s nonsense.
RITHOLTZ: Right.
DUTTA: You know? And so it —
RITHOLTZ: What else are nonsensical indicators?
DUTTA: Well, to me, the ISM is the one that I harp on the most because there’s a cottage industry of people that just drive their entire asset allocation process off of it.
RITHOLTZ: Really? That’s shocking.
DUTTA: And there’s nothing those 300 purchasing managers that are surveyed by ISM know about the world that you don’t, right? And so, I think that that’s an indicator I don’t like. I think, you know, look, to me, in this business, it’s about taking a holistic approach to data, right? It’s not about finding the one indicator, right? I mean, oh, look at this weekly leading index, it leads everything else. Well, no, it’s just an amalgam of, like, all these like financial market variables. So why do I need that? You know? I mean, you don’t have to believe like inefficient market theory to know that. If it was just one thing, there wouldn’t be all these people analyzing the same thing, right?
So just to me, it’s about taking a holistic approach to data, looking at all the indicators, and also remembering that what ultimately leads data is your narrative. You know, people don’t realize that. But if your narrative is right, the leading indicators will lag your narrative. Do you see what I mean? And I think that’s to me —
RITHOLTZ: In other words, contextualize the story so you know where it’s going to go.
DUTTA: Exactly. To me, it’s about the process, right? I mean, why should ISM being below 50 now, mean I should be negative about things three months from now, if all these other things I see happening like China, reopening, Europe or whatever? You can apply that throughout all different kinds of cycle. The data itself is not what’s important. It’s about getting your thought process and your outlook correct. And then if you’re right about that, then the data will follow suit.
RITHOLTZ: Really fascinating. Thank you, Neil, for being so generous with your time. We have been speaking with Renaissance Macro Research’s Neil Dutta, who runs all of the economic research at the shop. If you enjoy this conversation, well, be sure to check out any of our previous 500 or so such discussions that we’ve had over the past eight years, nine years.
You can find those on iTunes, Spotify, YouTube, wherever you feed your podcast fits. Check out my daily reads at ritholtz.com. Follow me on Twitter @ritholtz. Follow all of the Bloomberg podcasts on Twitter at podcasts.
I would be remiss if I did not thank the crack team that helps put these conversations together each week. Justin Milner is my audio engineer. Atika Valbrun is my project manager. Sean Russo is my head of Research. Paris Wald is my producer.
I’m Barry Ritholtz. You’ve been listening to Masters in Business on Bloomberg Radio.
~~~
