Politics, Markets & Power Plays: An Unfiltered Look ft. Cem Karsan

[00:00:01] Intro

You’re about to join Niels Kaastrup-Larsen on a raw and honest journey into the world of systematic investing and learn about the most dependable and consistent yet often overlooked investment strategy. Welcome to the Systematic Investor Series.

[00:00:23] Niels

Welcome and welcome back to this week’s edition of the Systematic Investor series with Cem Karsan and I, Niels Kaastrup-Larsen, with where each week we take the pulse of the global markets through the lens of a rules based investor. Cem, as always, great to be back with you this week. How are you doing? How have you been?

[00:00:39] Cem

Well, I’m in Dallas on the road today, going to see family in Houston. So, back down in Texas and nice warm weather down here. So, it’s, you know, getting away from Chicago in early March is not the worst thing. But yeah, speaking at my alma mater at Rice, which will be kind of fun in a kind of full circle moment, which is always good.

[00:01:00] Niels

Very cool, very cool. Good to hear. Great. Well, we got a great lineup of topics that you brought along. So as usual, we’ll be tackling them in today’s episode.

But as always, I think maybe at the moment, in a sense, with all the things that goes on in the world, I’m always curious as to kind of what’s caught your attention or what’s been on your radar the last week or two that’s not necessarily related to what we’re going to talk about, although it is difficult to separate the world from the topics we cover. But still, is there anything that in particular sort of caught your attention?

[00:01:39] Cem

Yeah, I think really for the last month or so, the kind of move from the crack in the armor of kind of that American exceptionalism. I think we’re starting to see some other markets perform better is a big part of it, which is, you know, in the context of America first is an interesting, reflexive development. One that we actually kind of talked about, by the way.

Not something that is a complete surprise to us, but I do find it interesting. I think there’s a lot to talk about and unpack about kind of what’s happening and why and how we’re likely to kind of mean revert from some of these records in the years to come.

[00:02:22] Niels

Yeah, I agree with that. And, and I hope I wrote down to ask you towards the end because now people love to hear your thoughts about what may happen in the near future. But we’ll come to that, more about that later. Now, for me, I mean, I completely agree with you. There are a couple of short things that I’d noticed on my side.

One is that when you look at what’s going on right now and all the various leaders around the world doing their thing, something that maybe not so many people talk about, but it’s almost like President Xi is kind of becoming a little bit of the anti-Trump. He’s kind of really trying to fight for free trade in an odd way and trying to push lower tariffs on some of their trade partners.

So, I just thought that’s an interesting little thing that maybe not too many people are noticing right now. We’ll probably come to that later, and feel free afterwards to comment on it.

The other thing, of course, I noticed, I think it was last night Trump signed some kind of another executive order to establish this crypto reserve in the US. Not a total surprise, but interesting development. I noticed something maybe closer to my side of the table, that Bridgewater, and actually this is not new news, but it’s news to me. And that Bridgewater I think, has been working on coming out with their all-weather product in an ETF form with State Street. I thought that’s interesting for various reasons.

And then finally, and this is maybe a bigger topic which we don’t have to discuss today, but I always love to hear your thoughts. It’s something that it really settled for me in my own mind on a flight back earlier this week when I was listening to Grant Williams latest episode on his podcast with Ben Hunt. I mean, both of them have been guests on our show and they’re very interesting, very thoughtful people. And I think what they hit on the nail is really this thing about that moral is fast disappearing out of this world.

What I mean by that is that, and I’ve talked a little bit about it in the last few weeks, but it’s actually something that I’ve observed for quite a while, and that is that we are now seeing people just do things because they can, not because it’s the right thing to do. Which of course ties a lot back to, from a European point of view, at least, what we are seeing happening after the change of administration in the US. You name the Mexican Gulf, the American Gulf, because you can. You want to meddle with Greenland because you can. You probably want to take over the Panama Canal because you can.

I mean, so for me, it’s really interesting and it’s something that I think has much wider consequences. You’ve talked a lot about populism over the years. This is Maybe a part of that wave we’re seeing now. In any event, it’s something that is taking up a lot of my thinking because I think we’re very much at the crossroads in many ways.

[00:05:41] Cem

Yeah, I mean, I think, you know, this is all driven by one man. I want to be clear. It is a response to the populism and the ‘burn it down’ mentality, and where we are. But I do think it, it is a move that is transactional. You know, we’re moving to a world that is transactional. That’s essentially what you said.

And not that it hasn’t always been that, but there’s been some semblance of, hey, you know, give up something in the short term to maybe get something better in the long term, and we work together, and maybe one plus one equals three, opposed to trying to get one and a half and get you to a half.

And, I just think, yeah, we’re in a transactional mode because we have a transactional leader and you can argue whether that’s good or bad or not.

[00:06:36] Niels

You know, but in fairness, in a sense, for me, this is actually something that has started way before the last change and maybe even before the last time Trump was in the office, frankly. I mean it has been brewing for a while. It’s also this, you know, dramatic decrease in trust in what we are told, even by authorities, all of that.

So anyways, it’s not for today’s conversation, but you know, these are the things that I’m thinking about at the moment. I think they’re important and I think that they will play a role as we go forward. Before we dive into the topics, let me just quickly give an update from the trend following world, so to speak.

It has been a difficult few weeks in trend following land, mainly currencies, US Fixed income, and US equities in particular have been kind of where the challenges have been. But there’s also been some interesting currents starting to happen, not least in Europe where the wave of debt that’s probably going to be offered to pay for the expansion of their defense over here is certainly having an impact on long term bond yields in Europe. And so interesting evolution right now.

My own trend barometer finished at 50. That’s kind of an improving level in the last few days. Hopefully we’ll see that in performance in the next week or so. From a performance perspective, The BTOP50 index is up 46 basis points for the month, up 34 basis points for the year. The SocGen CTA index up 31 basis points for March, we’re in March, but down 1.46% so far this year. SocGen Trend index is up 16 basis points, but down almost 3% for the year. And the Short-Term traders index up 1.2% in March, but flat for the year.

In traditional world, MSCI World is down 1.96% for the month, but up 62 basis points for the year. 20-year Bond index from the S&P in the US is down 1.83% this month, but still up 4% for the year. And the S&P 500 Total Return index down 3.6% as of last night, and down 2.22% so far this year.

All right, Cem. So, in a sense, I think the first topic you brought along is something I think we can all feel at the moment, but we may feel it and we may think about it a little bit differently because it certainly seems like that the world and the world economy is facing some headwinds at the moment. So, talk to us about the current state of play from your perspective.

[00:09:31] Cem

You know, let’s start in the US There, you know, we have a new administration obviously that realizes that the next four years, the setup is very bad for them given that there is a stagflationary setup. Inflation was starting to break out as they came in. Again, the 10-year was breaking higher. There was a significant move coming into January, over the course of a month, month and a half.

And, you know, that was forcing monetary policy to not just pause but think about, okay, do we need to go the other way? How are we going to deal with this inflation?

On top of that, I had mentioned this separately here, and in other places. But, you know, starting in about three to six months there is the five year anniversary of the low in interest rates and a massive bubble of refinancing and people coming to market, whether it’s venture, or private equity, or in bankruptcies, were it’s starting to tick up. So that whole setup, they fully appreciated, was very dangerous. And, you know, this isn’t the same administration from 2016 to 2020. You have a big corporate elite involved in it. You have Bessent and some adult leadership on the Treasury side.

You know, you have an administration that is really thinking and has had time also to think about where things are going and where things go. And so, Bessent has come out and been very, very vocal, very clear about what they want to do in order to get out of this mess.

And that is look, we need to get demand down, we need to get the 10-year under control. That’s the first priority, only priority for them right now. And the way they’re going to do that, and again he’s been very clear. There are many videos I can source and point to that show the same exact kind of direction. They say, they obfuscate the language a little bit to your average person but it’s pretty clear if you listen to it which is we need to take money away from people at the bottom, we need to pull demand, and we need to respond with supply side economics. They’re like, well, it worked for Reagan, you know, this is the only way we’re going to turn this boat around.

No, I don’t think they have as good a demand, an understanding of history and, and kind of the political whims or maybe they think they can control the political whims, and that’s up for debate. We could talk about that. But they do know that the only cheat code in the whole system is supply side economics.Why? We’ve talked about that here. But just to be clear, because if you send money to the top, it’s not inflationary, those people don’t spend. It’s asset inflationary, and asset inflation actually reflexively pushes kind of demand in the whole system as things go up – provides more and more capital to the top and corporations and bigger profits etc. So that’s the response. And they’ve also shown us through the budget, right?

You can tell me what you want to do all day long but, you know, show me, right? You know, we have a saying here in the US, I’m from Missouri, which means it’s the ‘show me’ state which means like show me don’t tell me. This is not a political comment, these are facts. They’re shutting down Snap payments, so, payments of food to the poor. They’re cutting housing, poor housing support. They are taking away school lunches from public schools. They are cutting Medicaid. And then they are on top of that cutting government workers, from the system. Those are all taking directly away from demand.

Additionally, separate from the budget, they stopped all payments to Ukraine, which are meaningful, significant that were in process. Everything that’s been kind of sent, which is actually going to US contractors, right here in the US as well.

So, there’s a direct attempt to really cut any fiscal money coming out and particularly to the middle to lower cohorts. And then, you know, what are they doing in terms of stimulus?

Well, they’re continuing the massive tax cut for corporations. 90% of those tax cuts go to corporations. They are taking down regulation, so they’re cutting the IRS and, and tax oversight. So, that’s actually an even bigger tax cut. They are thinning out consumer financial protections.

They are taking out any regulation tied to, again, the beneficial ownership of companies which was required to be disclosed has been removed. So, there’s a full kind of deregulation of corporate oversight as well as stimulus. So now the problem here is twofold.

If you do supply side economics and you kind of, go away from sending money to demand instead of to supply, yes, that’s a cheat code. It works for, in the long term, getting things going in the right direction for markets, and you can bring down inflation at the same time.

There’s a big problem is, one, that’s not what they voted him in for. You know, that’s not populist. That’s the opposite of populist. And my guess is that people could have the wool pulled over their eyes with social issues and other things for some time, but at some point, you know, this is not a 70/30 Trump world. This is a 50 to 48 Trump world. And, and with time, that, I think, will be a problem and there’s precedent for that. We can dive into that in a second.

But the other problem, which is more timely and more kind of short term is those two things don’t work on the same timeline. The demand removal, you take checks that people were getting away next month, that money just isn’t there and it cuts demand dramatically. We’ve seen GDP expectations for the first quarter in the US go from around 3.5% positive to almost 3% negative in like two months.

It’s dramatic. Real estate values in Washington D.C., which is obviously very specific to the DOGE kind of cuts and everything else, are down 20% in a month. 20%, that’s a huge move for a major metropolitan center.

And that demand cuts very quickly. So, GDP, you know… And they’re doing it early. This is on purpose. They’re doing it early to, you know, be able to point the finger at the last guy and you know, then take credit for fixing the problem.

On the other end, the supply side stuff takes a while. It doesn’t happen overnight unless it’s QE. QE can hit markets a bit quicker, but particularly to the economy It has a lag. It can get corporations moving, but the, you know, kind of trickle down and whatnot is less severe.

And so, my guess is that they’re hoping the markets go down so they can also do QE and balance this quickly. And they want that sooner rather than later. Actually, Bessent has been quoted, maybe 20 times at this point, as saying 6 to 12 months, 6 to 12 months, like our timeline is 6 to 12 months.

So, I think they really are looking to manufacture a decline in markets and the economy to force the Fed on board and also, you know, not only stop QT, which I think will stop in March here, but quickly.

And I think it’s probably in three to six months, because he says six to 12 months, that they’ll be responding with QE before too long, or at least some version of it. There are a lot of ways to express that, that’s not directly QE. So, again, this has been well telegraphed. I’m not like projecting. There are plenty of things pointing in that direction. But again, the problem is twofold.

One, there’s a timing issue, and markets themselves reflexively take out liquidity from the system, and you have to respond with a lot of QE to move things. And you know, is the Fed willing to turn that quickly and to be that aggressive?

How deep is a recession, and how deep a market decline do you need for that? It could be dramatic, could be significant before that comes on. And you’re dealing with this, as I mentioned before, at the top of the show, that with a big liquidity overhang that already exists, the world needs to come back in.

And whether it’s IPOs or venture capital, private equity, or commercial real estate, there’s a massive refinancing reinvestment cycle where liquidity is kind of coming off the table. And that’s happening right at the same time. And that’s actually starting, not right now, it’s starting in about three to six months.

So, are you going to be able to counteract all of that overhang of liquidity? It’s a good plan if it works, but can you control it? And then, lastly, what about all the other effects that we’re not talking about, like the dollar?

What if the dollar doesn’t cooperate? And they’re starting to talk more about the dollar, by the way, just this last couple days. They want a strong dollar all of a sudden. They’re being very vocal about that.

They know that the Achilles heel of this whole strategy is if the dollar sells off, they’re not going to be able to control the inflation. It’s going to be a real headwind, a major way. And austerity plus QE plus… tends to correlate with a weaker currency.

So, obviously, in the US, you could argue, a reserve currency, maybe not. But there’s plenty of a cases out there. If we, if the US, starts to go into massive kind of free fall economics, GDP wise, and the rest of the world is kind of hanging in, and we’re responding with QE and lower interest rates, that’s not good for the dollar. Everything points to the dollar kind of coming down if that’s the case.

Yet, they’re sitting in there starting to say we want a strong dollar. Well, I mean, okay, maybe you can manipulate the markets and try and hold them and who knows. There are plenty of levers of power, but sometimes the markets are bigger than you can manage.

If the Fed and the government could always handle the volatility in markets we would never have any. And we know that’s not true. So, color me skeptical. What’s clear is the first step, which is moving demand out of the system and that moves very quickly. And GDP is, you know, we’re heading into something that looks like a recession very, very quickly.

[00:21:03] Niels

But isn’t it a little bit counterintuitive? You think you can lower yields and maintain a strong dollar.

[00:21:10] Cem

Correct, that’s what I’m saying. Yeah, I’m saying the same exact thing.

[00:21:13] Niels

Yes, I mean, but it sounds crazy. You have these smart guys coming out with that objective.

[00:21:20] Cem

The reality is markets are relatively efficient and you can try and manipulate, and try and do X, Y, and Z, but market adjustments on the other side, unless you run a kind of a closed system where you can control everything like China, you know, it’s very hard to control the rebalancing that then takes away the benefit of what you’re doing. That’s just how markets work. And so, yeah, it’s going to be harder than they think, in my opinion.

And you know, there’s, like I said, historic precedents for this. Nixon, and we’ve talked to Trump as Nixon as an analogy, maybe beat it to death at this point. But I do think it’s incredibly relevant. We keep seeing the same dang things. And what did Nixon try and do when he came in in 1969? What were his policies?

By the way, the real push, inflation started during Nixon. It had started before, but it was really kind of coming down. And then it really took off during Nixon’s administration.

And why did it start during Nixon’s administration? It’s weird because think about it, Nixon came in as a Republican. He said, look, this inflation’s a problem. I need to do supply side economics. What did he do? He opened up China. He did Bretton Woods, which is the original QE, allowed the US to readjust their payments.

And then on top of that, he brought in Arthur Burns, and started doing heavy kind of monetary policy. You can argue he definitely didn’t try and cut demand as much as this administration is. He tried to keep that demand going while still stimulating on the other side – the monetary policy side. But he really did that in the face of a recession that was already happening. So, he didn’t have to slow demand. Demand was already slowing on its own. You know, we had a recession in ’69, ‘70.

So, you know, we saw this and, and how did it work out? Well, it ended in price controls, and Watergate. And the angry mobs only got angrier as we went into the early ‘70s. I think it’s important to politically not lose sight of the things that we know. Politically, every four years we have a dramatic increase and it’s an increasing rate of increasing of baby boomers die and millennials increasingly becoming the dominant political force.

Trump’s average voting age, the average supporter is 52 years old, 53 years old. That’s because he has a lot of older voters, a lot more. And, you know, he came to power with a ‘burn it down’ kind of mandate, and he’s burning it down all right, but is he burning it down in the way… Do people understand what burn it down means?

I don’t think so. I think they’re just angry. And you know, that anger, that emotion is leading to a window to dismantle a lot of the services that actually go to those people. And if you respond to a populist rhetoric with the opposite of populism, which is, you know, supply side economics, that’s the thing that caused all the anger in the first place. And so, you’re not solving the problem. It’s only going to make people more angry.

And politically, you know, the odds aren’t, in any administrations, whether it was Trump or somebody else, the odds aren’t in the favor of making people happy regardless. You know, there was actually populist progress despite a lot of the dysfunction of the last four years. People were still unhappy because of the inflation. So, this has got to play out over a period of 10 to 15 years, this kind of populist thing that we’ve talked about.

And you can divert the path, you can try and fix the rock in a hard place that puts the administrations in. But the more you do that, the more you’re going against the political will and making people angrier.

So, I think that’s a problem. I think, you know, there’s one of two paths, to talk short term path, because I know people always want to think about that, like what does that mean for the next year? I mean, I think they both lead to the same place.

But one is, you know, the 10-year continues to come down as GDP responds even worse than expected here in the US, you know, and then QE isn’t big enough. You don’t have enough of a response. And so, markets kind of fade because of just a deeper recession than people expect, coming quicker than people expect.

But there’s another one which is, okay, they get the markets down, they get the economy down, and in a couple of months when we’re officially in recession, QE or monetary policy responds aggressively, and aggressively enough to really juice markets. But then, right as that happens, you’re getting this big refinancing period where there was a ton of demand for debt, and the 10-year then goes back above 5 relatively quickly. I think that’s the one thing nobody thinks is possible right now. I think that’s a higher probability than people expect right now.

Very counterintuitive into a potential recession. But I think again, it’s a supply and demand story. And if that were to happen with a recession and the QE response, I mean that’s really bad, that’s even worse for markets.

So yeah, you get a rally back and a knee jerk and you know, everybody’s oh, maybe things are not so bad and then it gets worse because you know, the ten-year kind of brings things down.

So, I think those kind of both lead to a bad place. Again, our view has been pretty clear that, you know, we think that a bigger decline is coming. I’m not saying that this is it, here. I think this is kind of that warning shot and we again, we time this to the almost the day Feb Opex was the start. Not a coincidence everybody points to but the window had opened. All the mix of a combination of things that, you know, this macro stuff I was talking about was all on the horizon. We could see it coming but the timing is very important.

So, I think yeah, Feb, March here has been the window for some pullback, some initial kind of vol expansion, a bit of a, again, warning shot which we often see before a bigger move, months before a bigger move. Whether it’s ‘99, you know, or you go into ‘07, you have similar things like that.

I’m not saying that, you know, these are the same, it’s a different kind of move, but I do think a bigger one is coming and I think it’s coming in this year or sometime in the next, call it 12 to 18 months, I think. And we’re not talking about garden variety 10%, 20%. I’m talking about something bigger.

[00:28:45] Niels

Yeah, so we’ll definitely come to that. I want to flush out a little bit more about this. I mean, you know this much better than I do. You follow it probably also much closer. But, in what you’re saying is yeah, they can kind of engineer, or they’d like to engineer some kind of recession. Okay, that’s fine. Ten-year yields can come down like that.

Part of it is, also, I imagine that they probably realize that they need to get the current account deficit down, save some money. But there’s another way of saving money and I think it’s been talked about as the Mar-A-Lago Accord, something to replace the Bretton Woods Accord, meaning forcing your, I don’t know if allied, former allied (whatever we define them as) to basically buy 100-year bonds and get zero interest on that debt. So essentially, in this case, the US would save a hell of a lot of money in financing the deficit. Is that something you pay attention to? Do you think it’s realistic or is this just kind of the rumor mill and saying, oh, yeah, they can get away with something like that?

[00:30:05] Cem

Yeah.

[00:30:05] Niels

I mean, I know it’s pure speculation.

[00:30:06] Cem

You’re the third person who’s asked me about this in 24 hours, which I think is very interesting. It’s always interesting when that happens. Yeah, I think it’s a lot of… First of all, do you think Europe’s going to do it?

[00:30:20] Niels

At this moment in time? I’m not so sure. Had you asked me a month ago, maybe.

[00:30:26] Cem

Yeah. Not too politically popular. You know, it’s a bad look for everybody. And at some point, you know, everybody, all the “allies”, like you said (I used air quotes) will get together and just say, hell no, we won’t do it. And the US can’t do it fully alone as much as it likes to think it can.

At some point, the rest of the world combined is bigger than the US. Like, it’s that simple. And I think it’s super naive to think that you can bully everybody into doing whatever you want. You can’t.

At some point the rest of the world will get together and just say no, and you know, start pulling you back. So, yeah, I mean, again, I think that’s highly unlikely. I think it’s speculation. Now, I do think, you know, where there’s smoke, there’s fire. I think things like that are on the table.

When I say things like that, what am I talking about? I think we are heading towards a likely (for lack of a better term) debt jubilee. That sounds really dramatic. But what does that probably look like in practice?

I think it looks like what Japan did, or something along those lines. And it’s not overnight. Jubilee makes it sound like it’s instantaneous event. I think it’s a slow rolling train wreck. I think, you know, we’re going to monetize our debt in some form or another. There’s only one way out. And with the exorbitant privilege of the US dollar, or at least while we still have it, you can do that. And if Japan could do it, I’m guessing the US can do it. But understand, Japan did that and was able to do that with the backing of the United States. And I thought it was really when…

[00:32:29] Niels

When you say they did that, I want to understand exactly what you mean because from my understanding is that they haven’t done it technically. They’re just… It’s just a BOJ buying all the debt.

[00:32:39] Cem

What’s the difference?

[00:32:40] Niels

Well, it’s not canceled. Do you know what I mean? They could probably cancel it out, I imagine. Of course with a piece of paper.

[00:32:47] Cem

Yeah, of course they could. They could hit a button on a computer, and it would be gone tomorrow.

[00:32:52] Niels

Yeah.

[00:32:52] Cem

And it would have zero effect. It’d be just like from one or the other.

[00:32:56] Niels

Sure.

[00:32:57] Cem

That’s why that 250%, whatever it is, GDP…

[00:33:03] Niels

In their case it doesn’t really matter.

[00:33:04] Cem

It’s irrelevant. And honestly, it doesn’t mean that much in the US. We have, I think it’s 27% of US debt is external of which, by the way, Japan I think has 8%. So, you know, and again, going to Japan early, and those conversations, and then coming back and saying things like, turns out we don’t have as much debt as we thought. You know, I don’t think that’s a coincidence either.

I think, I think the roadmap is Japan’s going to play a much bigger role in this whole debt jubilee than people realize, first of all. There’s going to be some cancellation of external debt from Japan. You can bet your life on that. The Japanese central bank will be involved in doing whatever it needs to do along the way. And again, I think we’ll cancel the other 73% of internal debt in some form or another.

Again, it’s not this simple. Again, people are going to at me and kind of be like, come on, you can’t do this. Blah, blah, blah. Technical, this really talking like big picture. Like, there are ways, and in a world where, you know, in a Trump transactional world where you don’t really care about orthodoxy, you’re going to do whatever, they’ll do it. They’ll find a way. Just like Nixon, by the way, found a way. like Bretton Woods would never have been… You know, everybody would have thought that was insanity to just unpin us from gold. But they did it.

[00:34:31] Niels

Yeah. And I think actually that you’re right in saying that. I think the last few years have shown us that, you know, the unimaginable can happen, right? I mean, we have to be really careful about putting limits our own imagination. That’s for sure.

[00:34:46] Cem

Yeah. And honestly, Niels, it’s, it’s logical. Like, it’s all incentives. The whole thing is incentives all the way down. And if you’re the US, and you have this kind of debt that’s been built up, and interest rates are going up, the payments to the budget are XYZ and you are in an America first world, right?

[00:35:06] Niels

Yeah.

[00:35:07] Cem

Your objective is to get rid of those debts and to take care of it by, you know, pushing and calling in favors and using your muscle and your central bank to do it. And so, they’re going to do it. Just talk about how – get to the details.

[00:35:22] Niels

Revalue the price of gold, the book value of your gold.

[00:35:27] Cem

I’ve heard that argument too. I just think that gold’s not as relevant as it used to be in that context. If gold was really relevant…

[00:35:32] Niels

No, no, but it might help on the accounts, of course.

[00:35:33] Cem

Sure, sure, you can do that.

[00:35:42] Niels

Okay, well, I mean, I know we’ve got other topics to go through, but I actually want to maybe, stay on this but move across the Atlantic, because the other things we’re going to talk about are maybe not so much focused on sort of the economy, and so on, and so forth. And, obviously, you have roots in Europe, as do I. And I think we are really also at a crossroads over here.

And so, from your perspective, sitting where you do, keeping an eye on the things, in the last few days we’ve heard some incredibe announcements being made in this rearming of Europe and the cost associated with that, and everything that comes with it. Really a lot of us, in a sense, we focus on the military side. But there’s a lot of other things that come with a change like this.

I’ve seen some people say that this is for Germany alone, it’s a potential expansion of 10% to 20% of GDP. I mean, this is not small change.

I’d just love to hear your thoughts, if you have some, in terms of what you think this change might lead to from a European perspective and maybe the role Europe could play. I mean, we talk a lot about a new world order.

I mean, are we seeing a new, new world order? And could this be the beginning of a different power balance if Europe succeeds with this? If they fail, okay, not good. But hey, they might pull it off. Who knows? So, I’m just curious about this because we often talk just about the US but I know you have good views on more than that.

[00:37:31] Cem

Look, Europe has… There’s one thing I think Trump has gotten right. Europe, I think, by all measures, and it’s not just Europe, there are other entities outside of Europe, but Europe is kind of historically our greatest ally. And, you know, our close relationship has depended on the US way too much. It’s made it complacent.

[00:38:02] Niels

Yeah.

[00:38:03] Cem

It’s made it unwilling to make the hard decisions because it wasn’t under pressure to do that. These are hard decisions. Like you said, 20% of GDP like, that’s hard. But resilience and strength, more broadly, comes out of leadership. It comes out of making the hard decisions. It comes from having a meaningful seat at the table because you are doing what you need to do.

And so, I think this is a wakeup call to Europe, and I think it’s a good one. Not as an American, but as also a European. I think it’s a good one.

[00:38:44] Niels

Yeah.

[00:38:46] Cem

I think America needs strong allies. Not ‘me too’, allies. And not just America, the world needs that if you believe in kind of Western democracy and individual freedoms. And so, yes, I think Europe, which is right there at the scene of where things are actually happening, probably needs to have a bigger military and probably needs to be able to take care of themselves. And I think building that resilience, in the long run, is probably a good thing for America as well.

So, I think the same is true in Japan, and the same is true in other places in the world. And I think those conversations are also happening, which I think is important, especially given what we see in the world broadly and how dangerous the world probably is for the next 20 years. So, that’s just the military part.

But I think, from an international law, from a global leadership perspective, from a business perspective, Europe also needs to take leadership. If it doesn’t, by the way, it really is a big global question between freedom and authoritarianism in this world. I really believe that. And I think if it doesn’t, I do think there’s a risk of a bigger problem beyond 20 years.

And, you know, Europe, which of all places kind of is the seat of liberalism and democratic values in this day and age, needs to take responsibility. And, hopefully, this starts at least having making those hard conversations happen. So, I think it’s a good thing for Europe too.

In the short term it feels painful. But, it will get, I think, Europe more likely out of the mud, and making kind of the harder decisions, and being more strategic. We’ll see. On the short term, obviously, change is good in Europe. Things have been kind of dragging along the bottom in a lot of ways. And so, I think this is probably a good thing. And, probably again, crisis brings people together. We’ve talked about this again and again, like you kind of need crisis to get things moving in a good direction eventually.

[00:41:22] Niels

Yeah. I don’t disagree with the fact that Europe needs to be able to fend for itself much more, and the reliance on the US has been way too big. I guess I wish for two things.

One, that the European politicians, although this was obviously (for those who may not be aware of it, I hope I recited correctly), it is kind of part of the agreement between the US and Europe that the US would do one thing, namely the protection part, and we would do other things.

Unfortunately, Europe should have realized decades ago that you can’t just leave everything for the US to do and you have to, you know, do your own stuff as well, in that sense. So anyways, that’s that.

But I agree with you. I mean, this could be a good wake up call, but it’ll be painful and, of course, the circumstances and the way it’s being done is probably something that I…

[00:42:18] Cem

That we can agree with. It could have been handled better.

[00:42:19] Niels

It could have been handled a little bit differently, yeah, for sure.

All right, okay. So now we move to more sort of different type of topics that you wanted to talk a little bit about. What’s really interesting, the one thing I really thought about last week when I saw the president of TSMC or whatever they’re called, the chip maker in Taiwan, standing in the White house, signing another $100 billion investment in addition to the $65 billion, I think he said, they had already invested in the US. Now we’re going to be producing all these chips. Now, of course, it’s a super smart thing for the US and for Trump to be able to force them to, or maybe I should say invite them to do this.

But, the first thing I thought about was, okay, this will maybe also change the appetite from the US to come in and defend Taiwan should something happen. Anyways, you have something about China and Taiwan you wanted to talk about.

[00:43:21] Cem

Yeah, look, we haven’t talked about this for a while. And actually, when nobody’s talking about, it’s actually the right probably time to talk about it. But you know, I just want to raise the specter of, if China still wants to move eventually. They’ve, I get it, vocally said this for some time. This is not just that that Taiwan is a part of China and will eventually be fully integrated into China one way or another. That’s the view.

And so, if we believe that and the question is, well, when? Can you tell me, if you’re sitting in Xi’s seat, like just in terms of incentives, when would make sense?

I mean, if you’re talking about, well, you know, last year, right, we talked about, or last two, three years, we said, well, they’re definitely not moving until they know the results of this election. We were very vocal about that. You have a new president.

And again, similar to what we said in December, I said look, there’s a likely coming “détente,” and like a softening of rhetoric with China tied to the Russian kind of also relationship. That’s part of why we kind of gave the big green light on Chinese equities. One of the reasons.

But that also means that… And, by the way, Trump said this in July last year. It’s actually part of what caused a little bit of volatility to start, and then had that August dip, was China very vocally said, well, Taiwan, if you want help from us, you better pay for it.

And I think Trump has totally telegraphed that he’s not doing anything in Taiwan. He’s not even sending military support because he’s just removed military support from Ukraine. If he’s not sending military support to Ukraine, do you think he’s sending it to Taiwan?

So, all right, if you single all this, and you’re pretty clear and open about this, what is the deterrent to China? Is Europe going to go defend Taiwan? Who is going to defend Taiwan? No one. The Taiwanese. Good luck.

So, it doesn’t mean it has to be a military incursion. I don’t want to like… It may make sense. You know, it very well could be an embargo. It could be other kinds of pressure that eventually end in that.

But if you think, it’s eerily quiet over there, given the incentives, isn’t it? And my guess, some people might think this is conspiracy, is that Russia wants this deal in Ukraine done, finished, cleaned up. There’s a timeline for that to happen. It’s happening. And then I would expect the next order of business to begin.

So put on your radar, you know, if you’re not thinking about it, you know, now you probably should be. This is the time to be thinking about that. And I honestly think that could be this Q4 of this year.

There’s a lot of kind of talk about… By the way, if the US goes in a recession, the US government saying 6 to 12 months and the markets are swooning, and the end of the year, and the US is kind of dealing with its own mess., it kind of sounds like a perfect time to kind of do whatever you need to do to take advantage of that big strategy.

[00:47:02] Niels

Let’s just pause with that a little bit because you say, put it on your radar. Okay, but what are investors to do? Are they just going to take any investments out of that region or what are you thinking when you say that?

[00:47:15] Cem

There’s any number of trades there and we could go…

[00:47:18] Niels

Well not specifically in a sense because obviously we don’t want to give people investment advice and all of that stuff. But just generally speaking, I mean are you thinking of this as a kind of a strategic tilt to a certain part of the world, or out of a part of the world, or what do you, what would you expect? Maybe we should frame it like that.

I find that very difficult nowadays to actually, even if you know what the event is, it’s sometimes very surprising in terms of how the markets react. I mean, I think a lot of people maybe were a little bit surprised and as soon as the Fed cuts of yields on the ten-year went sky high.

I mean not exactly what we talked about it maybe. I know but I think you’re very…

[00:47:59] Cem

We talked about it, we were very vocal about when they do that, the ten-years going higher.

[00:48:01] Niels

Sure, but still, these are not kind of …

[00:48:09] Cem

Intuitive per se.

[00:48:12] Niels

Yeah, yeah, intuitive.

[00:48:09] Cem

Yeah, fair, well, here’s a small one again. This is just something that’s in the back of my mind, but how this information helps and how you should be thinking about these things. You know, by the way, I think it was on this show that called almost an exact top on Nvidia when it happened, in real time. You know, kind of on the top but is very much been pressing and we called that as it was, you know, really…

[00:48:32] Niels

This was related to Taiwan, right? This was when they came out and said, if you want protection, you need to pay for it. That was how and when you framed it back then.

[00:48:43] Cem

It’s still relevant.

[00:48:44] Niels

Yes.

[00:48:45] Cem

And so, when people look at this Nvidia movement and they’re like, this is crazy. Look at the growth we’re seeing in Nvidia. This is a value stock now.

You know, first of all, everyone’s bullish and it seems like it’s an obvious buy, yet it keeps going down. Maybe you should be careful. Maybe there’s something that you’re not thinking about.

So, one, I think Nvidia is tied to all the AI stuff. If the market goes down, that liquidity will be a problem to Nvidia. The spend, which has been dramatic there, will get pulled back very quickly. I think that’s part of, you know, the move.

So, expectations of growth, which are at X, just like they dramatically increase, could dramatically decrease. But I think the other big one is, you know, there’s another shoe to fall. There’s another thing sitting out there which, you know, imagine a scenario where, you know, Nvidia is swooning still. It continues to swoon as the market does, as the leadership people start, you know, getting forced.

They buy it here, and then are forced to liquidate even lower. And the market’s swooning. And then all of a sudden, imagine something happens in Taiwan. Well, where’s the last place you want to be?

I mean, that might be the buy the dip event. But it’s going to be a big dip. If that’s the case. You know, maybe you need to be more careful with that Nvidia trade.

Yeah. That’s one example of how to be mindful and thoughtful of maybe risk you’re not thinking about.

[00:50:25] Niels

Yeah, no, fair enough, fair enough. All right. Then you brought something in your notes that is kind of close to your own roots because you talk about Turkish debt.

[00:50:38] Cem

Yeah, I don’t talk about Turkey very often, right?

[00:50:40] Niels

No, exactly.

[00:50:41] Cem

Partially because it’s, you know, it’s an emerging, it’s a bit kind of smaller player in the grand scheme of things. But, just to give people a little insight into something they probably don’t know much about, you know, Erdogan is up for an election in about three years, two and a half years. And it’s for the first time in really like 20 years. There have been like, minor, okay, is he going to get reelected, blah, blah, blah. But, like, he’s amidst a two year economic crisis. Inflation has been completely out of control.

I mean we talk about inflation in the US and Europe, you know, we’re talking about 80%, 100% inflation which, by the way, wasn’t the case. It wasn’t standard in Turkey for quite some time. Inflation had been very stable, and he’s managed it, and he’s done a lot of things throughout that two year period, or two and a half year period, because he’s been able to manage it, actually, honestly, shockingly well given what’s going on. It’s because of not just a strong political base but importantly a lot of support from Russia.

Russia was sending oil and gas to Turkey for free, basically, not only at reduced cost but not asking for payment. And so, there’s a massive debt there. You talk about transactional, Putin’s no dummy. He knows that he doesn’t have to charge now. He’s building up a debt that will come due. And more than in financial ways. The question is when do you call that debt and you use that debt as a bludgeon when it suits you just right. And so Erdogan is going to be coming under increasing pressure here.

His central bank has done something that they haven’t done in a while which is dramatically increase interest rates in the last year. You know, hurting, yes, it is having effect on inflation. Interest rates are 40%. He doesn’t like it. That’s not what he does. The way he’s built his economy is essentially running really loose monetary policy in the face of all these things. That’s why we have inflation.

So, the question is, you know, is he going to be able to continue to keep rates that high? As things get worse here, you know, is he going to be able to manage it? And again, he’s managing it with external help because he’s valuable to both sides and he’s been playing both sides.

But interestingly, and this is, I think the important takeaway is, what if, now, Russia and the west are not at war? What if we’re now friends, right? What if Russia doesn’t need Turkey as much and the West doesn’t need Turkey as much?

So, all of a sudden who loses power in that situation? It’s the swing players. Same applies to India as it relates to China, by the way, there’s truly going to be some detent. So, it’s not a surprise that Indian markets have not been doing well. I think India is also in bad shape in this environment given the run and excitement there’s been around it too.

But I actually think Turkey can really be hurt in that environment. And, unlike India, which, its economy has been doing great and things are, you know… Turkey’s economy was already in the gutter and everyone’s coming up for reelection. So, it’s a particular kind of perfect storm in Turkey.

Now, there’s also this element of Syria and not many people talk about what happened in Syria. We kind of skipped over that pretty quickly. But I have a theory in Syria, again, some people will disagree with this. There’s no way to know for sure. But I have a theory that the Biden administration, who essentially removed military support, pulled away from holding back ISIS and kind of those forces who, by the way, for a decade plus had been held back consistently, no problems, to the point that all of a sudden, shockingly, they just, you know, made their way all the way to Damascus and took over the administration.

I think Russia was also busy at the time, in Ukraine and other places. So, there’s an opportunity, but the US clearly let that happen in my mind. It doesn’t happen that quickly after all that time. And those forces were backed by Turkey. Like, they’re a Turkish vassal group, basically funded by the Turkish. That’s pretty open. That’s not like a unknown thing.

Why would Biden, all of a sudden, do that at the end of his term? To me it’s pretty clear. You see a Trump administration who’s friendly with Russia coming in, right. And you know that the US and Russia are going to make good and that probably means Syria goes to Russia. Pretty clear. So, what do you do?

Well, you take the old NATO counterweight of Turkey and you try and give them Syria to help be a counterweight to Russia in the next administration. I think that’s what happened. I don’t know that. There’s no way to prove that. It makes complete logical sense.

If you just walk through the progression, it’s seems like a no brainer. You, you know, and Syria is an important counterweight in the region for lots of reason reasons in the Middle East. And you’d rather have a strong Turkey. At least Biden would have, right, to counterweight Russia. And so, Turkey of course, saw this as wow, this is a huge opportunity for us. Erdogan is very, you know… But now, it puts him in direct opposition With Russia as well. At a time when he already has problems. So, he got stuck in a bad position.

So, I think Syria and the fate of Syria could also hang (this is more of a political than economic thing) in the balance, and become a chip as part of this Russia. US pressure. Russia is going to also want to lean all over Turkey. Sorry, Russia/Turkey. Russia is going to want to lean all over Turkey for that as well.

So, I think Erdogan is in a tough spot and I’ll call it now. I think there’s a decent chance of a currency crisis in Turkey, which is the odds of that are increasing globally with a lot of the things going on. We’ve talked about that with David George. I think Turkey is a particularly dangerous spot there in the Middle East.

[00:57:20] Niels

Last question on Turkey. Just for my own knowledge here. Is Turkey more important to Europe today, given the fact that it has, I think, the second largest military in NATO and given the “scratches” that we see in the alliance, so to speak, between the Europeans and the US? Is Turkey more important now because of that?

[00:57:47] Cem

It’s always been important. But yes, yes, when Europe is, you know… It’s that Turkey is in such a strategic position in the world. It’s a big, relatively big population. It’s almost 100 million people. And, yeah, I think it’s always been a very strategic, important ally, particularly for Europe, given a counterweight to Russia. That’s why it was brought into NATO. And yeah, if the US is not going to support as much, that would be very strategic for Europe to try and shore up. And maybe that’s where the help for Erdogan comes from, you know, counterintuitively.

As much as he’s really tried to push Europe away and appeal to other countries and other things. So, TBD. But something to watch and an important kind of linchpin in the whole kind of global strategic geopolitical landscape.

[00:58:49] Niels

Let’s tackle two small things before, and I say “small” in air quotes before we wrap up today. We’ve talked a lot about a few different things. But you also wanted to talk a little bit about oil.

I mean, oil, surprisingly, we’ve seen all this tension in the Middle East, and, well, globally, really. We had Adam on, I think, last week I spoke to him.

Interestingly, unlike gold, that has had some pretty good days and a good period, oil has been pretty subdued in terms of volatility.

[00:59:30] Cem

Yeah. Well, we’ve been saying for how many years now, three years, the trade… And we actually said this, by the way, I don’t know if you remember, when oil vol was high because it had just rallied big and then come off big, and gold was in the gutter and had been very nonvolatile. Do you remember? You know, this was three years ago or so. We were very vocal. We said look, this is all backwards. This is raw.

Gold is not just the thing that’s going to perform better in the long run. They’ll both perform well in this decade plus environment, but it’s going to be the one that is much more volatile in the trade. We’ve been very vocal, which has been an amazing trade for three and a half years is to buy gold calls and sell oil puts. And those are very different ways to be long of an asset.

And so, I still believe that to be true. I think oil has supply issues that will support it. It also has geopolitical deglobalization, global conflict that help underpin it. And you know, gold, as a currency, gold is not an industrial commodity that has anything to do with demand.

I do think oil, I’m still bullish of oil in the next, you know, this whole kind of longer multi year period. I don’t think the ‘drill baby drill stuff,’ all the things that are kind of putting it under pressure are the things that ultimately matter. I think it’s a short.

The energy trade is becoming more unpopular, which I love. Again, I think the dollar, which is the one thing that you’re going to hear the administration try and talk more about, is in for potential for the first time in a while, in for some potential pain. And if that’s the case, that’s very supportive of oil.

If China’s coming back online, it’s been the one thing that in theory has been keeping demand, global demand down. Yeah, we could go into a recession here in the US but maybe a billion people in China are now consuming more.

So, there are some counterintuitive things here that, again, I understand on a superficial level does not look like a good setup for oil. I get it. But if you start seeing kind of continued unrest in the Middle East, stuff starts happening in other parts of the Middle East as I mentioned, which I think probably will because, again, Russia is not going to kind of stop despite Its newfound relationship with the US.

I think there’s a lot of reasons to believe that that oil could, again, I don’t think it’s going to be a spike, it’s not going to be volatile, but could really find its footing and go higher back towards the middle of its range that it’s been in and eventually work higher.

So, I think, particularly relative to other assets, I think that the way it probably plays out candidly is markets come down in the next year and energy actually kind of hangs in and then coming out of the next, whatever this decline is, I think energy, and oil broadly sees a really positive performance coming out.

[01:03:00] Niels

So, one last question, and it may sound political, it’s not meant to be political, but I’m trying to think about sort of other things that may surprise us a little bit.

So, we know, of course, most people listening to this podcast, of the involvement of Elon Musk in the US administration. It strikes me, frankly, that a lot of people do things that may benefit themselves.

Also, I think the way that the whole tech sector in the US has kind of lined up with Trump, I think they realize it’s probably better to be on his side than against him. And of course, Elon Musk has done lots of things already.

And what we are seeing, over here at least, I don’t know about the US, is that consumers are starting to vote with their feet. The sales of Tesla is down a lot in the last couple of months. The stock price of Tesla is down quite a lot in the last month or so.

And I’m just wondering, I mean, it’s pure speculation, of course, but I’m just wondering, can things like that, do you think, the fact that his company comes under so much pressure, which by the way, you would think maybe at some point some of the larger investors, like, I don’t know, the Norwegian sovereign wealth fund, might say, well hang on, you’re spending way too much time away from Tesla on other things.

Anyways, could things like that… It’s almost to the point where you think if markets really tank, could Trump, because he loves to be at all-time highs in the markets, even though he says I don’t look at the market. I mean, I’m pretty sure he does. Do you think things like this could actually change policy just because they’re kind of coming under pressure in their businesses, so to speak?

[01:04:51] Cem

Yeah, I think if the market drops 40%, which I think it will in the next year and a half, or 30% to 40% call it, I think there’s going to be a response. People are going to be a little bit less friendly to the administration. And that’s political from people who are losing their jobs, but it’s also going to be from wealthy individuals who…

[01:05:17] Niels

But I mean, also to a point where people like Trump and Musk will change their policies because they feel that.

[01:05:25] Cem

I don’t even think it’s a question. 100%.

Yeah, this is the whole Nixon, the whole point with Nixon, like he started with supply side economics, and I can’t think of a more populist kind of response than price controls. So, yeah, I think it’s inevitable.

I think the market, I’ve said this before, leads the economy. Market also leads political outcomes. You know, actually, I think somebody, I forget who it was, I think it’s the, an economist, who’s opinion I think I may have mentioned on here, which referred to the market as the fifth state. You know, the fourth state being media, which largely doesn’t have as much control as it used to. And could be a check and balance on government. And I think it will be. I do think markets will become a check on Donald Trump in this administration.

[01:06:17] Niels

Very cool. Well, appreciate your insights all the way from Texas this morning for you, this afternoon for me. And I’m sure everyone listening out there also appreciates all of these thoughts and insights. And of course it will be fascinating to see how this story unfolds, the market reactions.

And as you said, so far, it’s playing out to the way you saw it. And, of course, we will follow up with Cem on a regular basis to see if things changes from his point of view.

If you want to leave a rating and review in appreciation for Cem putting all this work into these conversations, by all means head over to your favorite podcast platform and leave a rating and review. We very much appreciate that, and it helps more people actually discover the show and listen to conversations like this.

Next week I’m back with Andrew and Tom and that will be an interesting conversation. It’s obviously a little bit more in the CTA space, but nevertheless super interesting. We did mostly global macro today.

Soon I’ll be back with something new together with Cem. We’ll tease that a little bit very shortly, but keep your ears out for something very special coming soon. And I’ll leave it at that for now.

I will just say from Cem and me, thanks ever so much for listening and we look forward to being back with you next week. And until that time, take care of yourself and take care of each other.

[01:07:52] Ending

Thanks for listening to the Systematic Investor Podcast series. If you enjoy this series, go on over to iTunes and leave an honest rating and review. And be sure to listen to all the other episodes from Top Traders Unplugged. If you have questions about systematic investing, send us an email with the word question in the subject line to info@toptradersunplugged.com and we’ll try to get it on the show.

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