Tavi Costa of Crescat Capital joins Keith and Dickson on the Gold Exchange Podcast to talk about the current state of the market, investing in good times and bad, and what future indicators to watch.
Connect with Tavi on Twitter: @TaviCosta
Connect with Keith Weiner and Monetary Metals on Twitter:
@RealKeithWeiner
@Monetary_Metals
Additional Resources
Jim Brown Recession or Banana?
Podcast Chapters
00:48 Teaser
00:00 Intro
02:10 Marco Deep Dive
03:51 Fed Zugzwang
08:10 The Beastly Yield Curve
11:25 Return of the Misery Index?
13:51 Targeted Economic Strikes
18:00 Counterproductive Rate Hikes and Natural Resources
21:28 Housing Costs and Mortgage Rates
24:23 Silver Volatility and Deploying Capital
31:35 Commodities Industry and Lack of Investment
38:50 Green Energy Revolution Reversal?
44:32 Economic Offshoring and Near-shoring
48:41 ESG Spread and Yield Chasing
50:24 Financial Engineering and Productivity Growth
55:22 The Failure of FAANG Stocks
58:55 Are we in a Recession or a Banana?
1:03:07 Capital and Liquidity Cycles
1:06:52 The Bull Case For Gold
1:10:23 Outro
Transcript:
Dickson Buchanan: Hello everyone and welcome to the Gold Exchange podcast. My name is Dickson Buchanan. I’ll be hosting today’s episode along with the founder and CEO of Monetary Metals, Keith Weiner. We’re very pleased to welcome onto the show today Tavi Costa. Tavi is the partner and portfolio manager of Crescat Capital, a global macro focused asset management firm. Since 2013, Tavi has been responsible for developing Crescat’s macro models which contribute to their thematic investment process. Tavi, we are very glad to have you on the show today.
Tavi Costa: My pleasure. Thanks for having me. I’m looking forward to this.
Dickson Buchanan: So just by way of introduction to we know from your Twitter feed that your macro game is rock solid. So this is definitely going to be a macro themed episode today. What we like to do on the show is take a bit of a deeper dive into some of those headlines that you read. So I’ll open it up to you and Keith to explore any of the topics that may be of interest to you. Why don’t we start with I’d love for you to give our listeners just a little bit of your hot takes on where we are economically right now. Where is the US and where do you think we’re headed?
Tavi Costa: Well, I’ve been really thinking about this because in a way there’s a difference between folks that believe we’re in the mid cycle slow down and other folks that believe that perhaps we’re entering a recessionary environment. I tend to believe, or I would think, that we are more in a recessionary camp than the other way around. But my point is every mid cycle environment that we’ve had in the past was actually marked by a pause in Fed rate hikes. Not only that, but a change, a total reversal from policy stance from the Federal Reserve and even fiscal stimulus depending on the time. And I’m not sure we’re seeing much of that today.
We have a real tightening of policies in an environment that is very severely damaged already. When you look at many different fronts, you can look at not only equity markets have been down significantly and now what we think is more of a bear market rally, but also you’re starting to see some issues on leading indicators. So ISM manufacturing. You have the PMIs now at lowest level since global financial prices and the COVID recession. So those are all indicators that lead to a conclusion that perhaps we’re going to see a severe downturn that in line with that.
You would think that the Federal Reserve will become more supportive, but it is not. And so I am of the view that we’re going to see a lot more pain ahead in the economy here in the US. Which is going to lead to a lot of opportunities at the same time, especially in only tangible assets versus financial assets, in my view.
Keith Weiner: It’s interesting you mentioned the Fed not changing their policy stance. I gave a talk a couple of weeks ago in Vienna and I used the German term which is used in chess all around the world. They trained me how to say it in German, duke swing, which is in English, I guess, duke swang, which is you have to make a move and any move you make is a bad one. Does the Fed continue to try to combat inflation, so called, or does the Fed trying to be more accommodative? In either way, you can see the political and economic forces that would tend to say don’t do that. Kind of interesting position they find themselves in.
Tavi Costa: It’s certainly a conundrum in my view. And right now we’ve had the inflation issue heat up and there were so many leading indicators at the time in 2021 really pointing to the direction we’re going to see higher prices of goods and services, and one of them was commodity markets, but the Federal Reserve didn’t react to that. And now it’s reacting very late in the game. And it has to it doesn’t have an option. Right. Interest rates where inflation is today, even if it’s decelerating from where it was in March, which probably is, it still is well above where interest rates are. And so you’re supposed to have some sort of adjustment. The issue is that Delta, that change in policy stance is happening at a time when you’re seeing severe economic downturn. That was not caused by a reversal policy. It was caused by something else was caused by the economy. First of all, I think there’s a lot of issues, right. First of all, you have this large increase in savings caused by fiscal stimulus that created an economic growth in 2021 that we’re probably never going to see before. Savings rate shot up to 30% or 35% disposable income and went all the way below 5% or about 5% today, which is near historical lows.
And so there’s not a lot of cash in the sidelines like we saw in 2021. There’s not much of an impulse when it comes to economic growth going forward. Yeah, I mean, I’m quite worried about those changes at a time when I think the consumption of households is about to fall off a cliff. Why do I think that? Because most consumers are being squeezed in general. They’re being squeezed by historical elevated levels of cost of living. You have mortgage rates being way higher than they were two, three years ago, depending on the case where you live, even a lot longer than that. And so you got the wages and salaries growth. It is growing, but not growing at the same pace of inflation. So the consumer is getting squeezed from many fronts. It’s hard to believe that that’s not going to wait on demand at some point. And so at a time when monetary tightening has a lag and so it should cause some issues between six to twelve months from now. We’ve been maybe three months in already on this policy. And so you would expect a six to twelve months we would see some sort of negative impact from this.
I don’t know. Look at the yield curve inversions, right? I looked at the percentage of inversions because I think that’s the most important way to look at it’s. Not one or two or three spreads that we like to look at, even though they’re all interesting. But when you get to this level right now we’re close to 50% of the yield curve is inverted. Meaning if you look at all possible spreads in the yield curve, 50% of them are inverted. When you get to that level of 75%, which we could see it in a 10% decline in equity markets, that could happen. Now you’ll have empirically assigned that we see at least in our work, every single time we’ve seen a downturn. And so I think we’re going to see that there’s a lot of ways to play those changes in markets right now. And one of them is I think is looking for companies that will get squeezed by margins going forward through this reduction of consumption that we may see in the future.
Keith Weiner: I had two things I would answer. That one kind of funny. I think it was last Thursday I took a look at the graph of the yield curve. That’s a very strange beast with some weird kind of ripples in it. And I posted it to Twitter and I said, what kind of strange animal is this? Somebody turned it sideways and kind of posted a picture with a Jerome Powell or somebody. It was like it was his face that knows what prominent feature on it. I can sure to see the resemblance. The only thing I was going to say which supports what you’re saying Tavi, is my wife went to shopping mall over the weekend and unprompted she came back and said that it seemed like all the stores that cater to disposable income for children are basically closed or out of going out of business or whatever. And I said, yeah, that makes sense, right? If the consumer is going to be squeezed and have to pull back, what are they going to cancel first? The car payment, the credit card, cell phone bill or $20 a week allowance for their teenage daughter to go to whatever and buy custom jewelry.
And that’s the one that’s getting squeezed at the moment, at least at that particular mall on this particular weekend.
Tavi Costa: Yeah. And you can look at the other side of this too. The question I get often is how can you say you’re entering recessionary environment when you have labor markets as strong as they are? Well, that’s all lagging indicators in the first place and no farm pay rows. I put a chart on this because I thought it was interesting. Now we’ve had over 500K no farm payrolls print in the last week and that’s out of the normal. That’s an outlier sort of printing.
Keith Weiner: Do you think that’s going to be revised downward?
Tavi Costa: Probably. And I don’t doubt that at all. I probably will. But even if it is, let’s just maybe think that this is actually an accurate measurement right now. And if it is, even back during the tax bubble we’ve had right at March of 2000, which was exactly the peak of the tech bubble, we had a print that was very close to 500K increase in all farm payrolls too. And so those are all lagging indicators. And I’m not sure why even the Fed pays so much attention to unemployment rates in the first place and things like that when I think you should be paying attention to initial jobless claims that are rising. Recently got part time jobs, starting to show some issues, continuing jobless claims also showing some issues. Job openings are starting to change significantly on the margin, even though they’re coming from historical levels. But you got to pay attention to that. And so where are we going to be if, let’s say, unemployment rates are at 67% twelve months from now with inflation staying at, call it 6% year over year on the CPI? That’s going to be a brutal environment for a policy maker.
Keith Weiner: I remember as a kid in the late nineteen s, seventy s, every day on the nightly news, they talk about inflation and unemployment. And they coined a term that I don’t think I heard since then called the misery index, which is CPI plus unemployment. That maybe if I have to make a macro prediction, it would be that term could be coming back into vogue.
Dickson Buchanan: Actually, Bloomberg picked it up recently. Bloomberg just put out a story saying that the misery index was rising.
Tavi Costa: I looked into that quite a lot actually. And the interesting thing about the spike in misery index usually is linked to just one of those variables rather than both together. You’re right, maybe this time is going to be the two happen at the same time. And if you just look at the charts of inflation and unemployment rates back in the can see the inflation had three waves. I think everybody knows that you got the late sixty s and early seventy s. First wave the second wave was kind of mid seventy s seventy three, seventy four. Then you got the inflationary recession and you got the late 70s inflationary wave. Well, those three waves are now more popular. People know about it. What people don’t talk about is the three waves of unemployment rate that actually follow each of those waves of inflation with a two year lag. So after you get up to about 5% of inflation, usually after two years is still running those levels of inflation, usually that leads to higher unemployment, at least it did back in those times. And so I would think that that actually has a lot of it would make a lot of sense to me.
If we see again six to nine months, we start to see some real deterioration in labor markets, it will actually look very similar to the analog. As an analog, I do think this is going to probably be the case. CEO confidence is collapsing right now, and those are the guys that make up the decisions of employing folks or not. And so there’s a lot of leading indicators to labor markets that prove that perhaps we’re going to see some real, at least some real slow down, if not a major contraction in growth of employment plans and so forth.
Keith Weiner: Of course, the other difference between now and the 1970s is we’re coming off of one really long I’m pretty sure this is a record by a large margin boom following 2009. It’s been one continuous boom, effectively 2009 to 2000. Call it early 22. What is that? Twelve years, 13 years of boom. And surely there are a lot of imbalances, a lot of male investment that’s been created, zombie corporations, all sorts of weird creatures of the night lurking. All of that somehow is to get resolved. How the Fed is going to try to resolve that? I saw somebody, I don’t know if Jay Powell actually said this, if this was just commentary, how is Jay Powell going to simultaneously liquidate all the zombie corporations and then make it so that everyone else is fine? How do you do targeted laser focus apps here and there? Well, not hitting anybody else or anything else. So the venture capitalist right now, actually, for a couple of months, have been sounding the alarm that BC backed companies may not be able to raise any more money. If they can, it’ll be much harder and more pressed valuations, et cetera.
And they’re telling the portfolio companies get the cash flow positive if at all possible. So it isn’t just the zombies that are roaming around brainless, it’s capital starving everybody at the margin.
Tavi Costa: Look, the question you’re asking about the Federal Reserve dealing with the situation is perhaps the most critical question you need to be asking if you’re an investor today. And unfortunately, majority of folks end up really focusing on what is the Fed going to do in the second meeting or the following meeting? And so forth, or when is gold going to bottom and things like that, which I love those questions, I just really don’t have the crystal ball to answer those. But I think one thing that we can visualize and have a plan for is that this is not the 70s, as you just pointed out. It’s not the it’s very unique what’s going on in a sense of we got the government debt problem of the 40s, we got the inflation of the maybe even more entrenched in the maybe even bigger issues with natural resources, capex cycles and so forth. And then you’ll have this, what you just mentioned, which is the speculative environment that we saw back in the late ninety s and late twenty s and so forth. And so how do you manage to prevent inflation from infiltrating in the system when you have all those macro imbalances becoming true political constraints to any sort of policy making?
And so while I think that the Fed could tighten a lot more from here still, how much more can they do in a real call in the next decade or so? Not much. We all know that if the economy really crumbles here and then we see equity markets nasdaq back down to 40% or so, it was down 35%, let’s just say 40 plus percent, and you start seeing the overall equity market down 30 plus percent. The Fed is going to have to change their tone. There’s just no way around that. And inflation doesn’t care about that. The issues that we’re seeing is structurally in natural resources. It’s just so severe. It will take so much time to reverse those trends in capex that I think people are underestimating the inflationary cycle that we might be entering.
Keith Weiner: I was going to say to add one more straw to that camel back. As if it needed any more straws. But by hiking the interest rate, they hike the hurdle that everybody has to get on investing in natural resources. So natural resources are already starved for capex. And then I see Fed funds rate from essentially zero to pick a number. Some people think it should be 8% or something like that. There’s no way they’re going to get that far, obviously. But pick a number, 4%, 5%, whatever. What IRR do you have to get to put money into? Whether it’s oil exploration, uranium exploration, copper, you name it, your IRR just suddenly went up. And of course your cost of capital from your investors went up. And so they’re actually counterproductive in what they’re trying to do. And the less capex that goes into natural resources, the more that consumer prices are going to be raging higher.
Tavi Costa: Yeah, and never mind the political effort against those companies should do what you just said and the geological challenges that are just naturally becoming more difficult to find natural resources. Good luck finding a new copper project nowadays. When was the last time we saw one being developed in a big way from the major companies especially. Those are all important questions. And when I hear it’s tough because when you wear your traders hat and you have such a big move in commodities, it is natural for you to also become less bullish on it. However, when you look at the long term trends here, I think it’s just such an early stage of the cycle that this dip that we’re seeing in most commodities, especially cyclical commodities here, look at silver. Literally a day ago it was trading $20 an hour and a it might be trading tomorrow some dollars announced because this is absolutely ridiculous and those are the types of opportunities the market is giving you another chance to build a portfolio, in my opinion, in a space. And what I think it’s going to be a big wave of generational wealth being created through tangible assets, which is again another example of going back to the 1910s forties in the 19 seven s when we had three inflationary decades.
And the 40s was not so much an inflationary decade, given the fact it was more sporadic and not in terms of the average. Throughout the decade it was actually much lower. But still, you still have real rates, deeply negative. What does that mean? That just means tangible assets actually outperform equity markets. Believe it or not, even housing market outperform the equity markets. I don’t have a strong view on housing market, but certainly intangible assets more like in the commodity space and natural resources and producers and so forth. I do think we’re going to enter a different era here where capital allocation is completely forgotten. Those parts of the market that will become the new darlings in my opinion of this next ten years.
Keith Weiner: I’ve got two questions, one a simple rhetorical question and one serious question. Simple rhetorical question is what was the price of a median home? It’s a 30 year mortgage rate with 10%.
Tavi Costa: Probably. You would think so, right? But then you go back to the agree that’s why I don’t have a strong view on housing. It’s because in the 70s we didn’t see that collapse and rates did go up a lot, but certainly the debt problem wasn’t as severe. So you can have that argument. And let me ask you another question because I think that’s just another way to see it. Okay, it’s just because I do see that point, but I also see the other side of it. How much do you think is going to cost to build a house ten years from now? A lot more or a lot less? I would think it’s a lot more. And so I struggle with that question a little bit and that’s why I’m not investing in real estate right now, but I’d rather buy assets that I have a much higher conviction in regards to where the cycle really is in the housing market. Is the economy as you know very well too, and I’m not very bullish on the economy.
Keith Weiner: I was 12or 13 year old kid and my parents are trying to sell a house. It was like a year and a half period. There wasn’t even a single booker.
Tavi Costa: Wow.
Keith Weiner: They hired a real estate agent and in those days the agent would demand an exclusive arrangement for X number six months or something like that. I think they went to real estate agents and there were no lookers. So whatever the true price of that house was a lot lower than whatever might have been the official statistic. And I was going to say that was a period where we lived in a neighborhood that had a number of houses that were being built in late sixties and early seventies s, and all the construction had basically stopped. So the cost of building a new house in 1979 was surely higher than whatever price if my parents were desperate enough to sell the house and found a bid somewhere, that would be way lower than the cost of building a new one. And when that happens, construction stops. It doesn’t actually prevent the price of the house from dropping, it just stops all new construction it doesn’t make any sense to build. So it’s another sector that could have a lot of layoffs coming if the Fed really persists and trying to push me. So anyway, that was the not serious question, no rhetorical question.
The serious question was taking a look at silver, which was traded under $18 if I recall. Not last week, without the week before last. Today I noticed I haven’t been on a screen all day, so somebody correct me and tell me that this reversed. But it was up four and a quarter percent when I looked at my screen this morning and I don’t know where it is the rest of the day. Who knows, maybe back down to flat or red ink again or whatever. So leave it aside, the level of the silver price and other commodities, silver is not the only volatile commodity right about now. What do you think the volatility again, leaving aside the price, but the change in price over short period time means from a macro perspective and therefore a perspective of investors trying to say where do I deploy capital?
Tavi Costa: Well, it’s a good question. I think the issue is those markets have shrink so much and they became so small that the small changes in capital dynamics will also have a large impact on prices and much larger than other prices of other asset classes. And so we’re starting this right now. Just look at the price of copper, for instance. It was an incredible ride for those who purchase right after elections or so, or a little after the Colbert recession and so forth. And then all of a sudden you see a collapse in price so quickly rerating at much lower levels despite all the constraints that we have in supply side, but silver is the same issue. Look for an investor. This is just my opinion, honestly, but I think we’re in a phase of accumulation of those companies and businesses that you think are high quality. For some folks, it’s just owning the physical metal and that’s a fine approach, but there are a lot of structural problems in the mining industry as well. And so to me that have not been fixed. And perhaps those issues have been created over time of such a very difficult time for this industry overall.
Just think about the small cap names, how they raise their capital. It’s just so difficult. Liquidity is just so dry right now. Or things like if you look at companies in the major companies in the gold space, I’ve been saying this for a few months now, they are not even leading by example. I mean, some of those companies, I don’t think I should be naming companies here, but some of them have not purchased and the largest miners, if you just looked that up, the largest miners or the largest gold miner in the world today, if you look at their insider, they haven’t purchased a single share of their company in the last seven years. Seven years. What is wrong with this industry? It’s just insane to me. Even software companies, they’ve been buying some of their stocks. This is to me a real problem. It starts from that from that top level of management that is not even comfortable with their own businesses. They’re not even buying their own shares. So anyways, you can do the research for which one is the largest gold miner in the world and figure that out. But going back to your question, it is interesting, though, how yield curving versions I go back to that because I’ve done a lot of work on this and it’s very interesting how severe levels of yield curbing versions when you get to those above 50%, close to 70% levels of yield curve versions in the treasury curve.
It is very well linked to times when you want to own gold and sell stocks, or meaning the gold to S Amp T 500 ratio. And so sometimes you see gold rising a lot faster and sometimes you see the equity markets falling, causing the ratio to rise. But there are times like the 2000s or all the way back to the 70s when you saw both lags of that trade work. I think there’s a very high probability we can see here the same kind of scenario. So that is the type of capital allocation I’ve been focused and so it’s owning what I think it’s going to be, asymmetric in this kind of tangible asset opportunity, which I think it’s a lot of it it’s going to be in precious metals. And the other side of it is looking for hedges on the short side because who knows what the Fed is going to do. But I do think that the commodity to equity ratio or the gold to S Amp P 500 ratio has had a higher, not lower, for the next five to ten years.
Keith Weiner: So can we tell everybody that Tavi said short EF, long GC and equal measure.
Tavi Costa: Oh boy, go ahead and say that 😉
Keith Weiner: Of course our disclaimer that this is not investment advice, not at all.
Tavi Costa: Right. But look, this is precisely what we’re doing, and we’ve been doing this this year has worked very well, and it just allows us, you know, Quinton very well as well. And Quinton, there’s just a lack of folks like quinton. I feel like the 90s where you had the early ninety s and those periods of times during the initial phase of the tax bubble and so forth, there was also a lack of folks that have really understood the market and could really discern good and bad companies in the space that could actually do well. And then you saw the bubble, everything went up. However, at the very early stages, it was an intellectual capital shortage. And I think this is very similar to the industry today, especially in exploration. It creates a lot of inefficiencies. And so you have companies putting out incredible results and being going up 20% on back of those. And if you think about it while they put out those results and you think about the probability of having a world class discovery has increased drastically, way more than 20%, but the market is still pricing them at sub 30 million market cap.
So if you’re a long term investor, we talked about accumulation. I want to own 20% of that company because I think that company has a high probability. If I’m wrong about that, that’s one company. I want to own 90 businesses that have that probability because that’s my long commodities, my long precious metals, my long tangible assets, part of the portfolio. So yeah, I think this is one of the most interesting investment ideas out there.
Keith Weiner: I think you could look at the shortage of Confidentialists and mine engineers and those folks as kind of a symptom and a part of under investment in Capex generally going and studying and committing to get a degree in the field of archeology or engineering. It’s capital investment. And if an industry is under invested, then it’s going to get under investment from the whole super nuts, including even the talent. You’re going to say, why would I want to do that? I’ll just go into Wall Street, that looks so much easier.
Dickson Buchanan: That actually might be something that would be good to drill a little deeper into. I’d be curious to hear Tabby, I mean, you’ve said it many times in different interviews, but the commodities industry, and I know that includes a lot of different industries, but it’s been suffering from a lack of investment for decades now. What are the drivers there? What’s underneath that? And why is it so prolonged? Obviously there’s political. Headwinds. But is it just that? I mean, why is it so capital starved?
Tavi Costa: Well, this political environment, it’s always been in place, but certainly right now it’s been intensified over the years, I would say in the last decade, through the Green revolution and so forth, it’s been a lot worse than prior cycles. And so you can say that that’s been more relevant than other times when it comes to the impact on capex trends. But the usual thing if you just strip out the political environment, which is just so difficult, but if you just take that out of the equation, there’s just a normal sense of management conservatives that usually happens when you’re just not doing very well. And so if you speak with folks in the very large major companies right now about buying, let’s say, exploration assets, which it is a very much more aggressive way of using their capital, it’s just very difficult for them to wrap their arms around it just because they know it’s not going to be generating any free cash flow anytime soon. So how do you justify that to a shareholder that is already getting hurt by the share price of the company only going south and on top of it now you’re just putting more money in the ground that it’s not going to make any more capital for shareholders.
And so that’s a big problem for a lot of those companies. And so then you see capex trends being reduced drastically and that’s kind of what we’re seeing right now. But that’s a trend that doesn’t last. I mean, it takes a long time to reverse, obviously, but it’s not going to be forever. Obviously. We’re going to see the crazy speculation environment in mining at some point again, where companies are throwing capital, terrible low quality exploration assets and development assets just because they can, but we haven’t seen that drive liquidity. I think there’s other things related to this too that may have had an impact on those trends to be even worse than other cycles, which has to do with the value versus growth dynamic. I mean, we’ve seen all sorts of capital, allocators chasing growth and not value. Meaning who cares about profitability, who cares about your bottom line when your top line is growing? Well, all that works until cost of capital rises. And when cost of capital rises, it makes it more difficult to justify ridiculous multiples. It changes the prioritization of investors. They start looking at profit margins and bottom line numbers and fundamentals begin to matter again.
So thinking from that perspective as well, that certainly had an impact on producers that are value companies. They are most of the times companies that have some good profitability, especially in the good parts of their cycle. It’s hard to say that because miners have done so bad just bleeding capital for 25 years that we forget about them being actually profitable. But now they’re actually doing very well, fundamentally it’s just the price of those companies have not really caught up to their fundamentals. But again, as I said earlier, there are a lot of structural problems in this industry. You know, that the buybacks and share buybacks and any other dividends and so forth. If you aggregate both, they use more capital returned back to shareholders than what they do on capex. I think those are all fundamental issues in the industry that will have to change over time and as liquidity comes in, we’ll have to change. And again, interject.
Keith Weiner: Isn’t that a good sign then that’s the biggest gold company in the world didn’t choose to give capital back to shareholders but instead it’s investing in something that presumably grows its capital and its asset base.
Tavi Costa: Yeah, I mean right now I think if you’re an investor you want to be looking for companies that are increasing capex because you’re in that part of the cycle, especially oil companies. It is one of my metrics that I’m looking for companies that are investing right now. I want companies to invest at this point. This is the time of investing, not five years from now, right now, but.
Keith Weiner: Of course all the investment will be five years from now and very little today.
Tavi Costa: Your point is extremely important. I mean this is precisely what I think a company should be. That’s what I’m doing with our capital from investors is I’m trying to be busy here. I’m trying to buy as much as I can prior to a move, not after the move, but easier said than done. We’re working really hard to build a portfolio of ideas but there are other people that are doing similar ideas too in different parts of the industry. But yeah, you want to be looking for producers that are putting capital to work. Why give money back right now? Why buying back your shares right now when you have all these incredible opportunities right now to be taken advantage of? So I don’t understand it. So yeah, this is just, I guess corporate behavior that is it also goes through cycles just like the management of companies goes from having majority of folks being geologists versus financial savvy guys in different parts of the cycle as well.
Keith Weiner: That’s right. Let me ask you a completely off the wall question. We talked about the green revolution. I’ve written a lot about green energy restrictions and how that’s added to our walls on a non monetary force, adding to our consumer price. You think that out of all this and it’s much, much worse. I think most of our listeners would know it’s much worse in Europe than it is here in terms of the skyrocketing price of energy, real energy shortages. And since fertilizer is produced using natural gas, shortage of natural gas also lead to a shortage of fertilizer. Much worse in Europe than it is here in America. Was a germany announced that they’re turning on some coal power plants which would have been inconceivable a year ago do you think here’s the off the whole question do you think there will be a significant and or durable reversal of the politics of this so called green revolution and that people will be if not in love with resource extraction and energy using industries at least more tolerant than they have been over the last 1020 years? Well.
Tavi Costa: There’s a lot of ways of answering that question and some of them well initially I do think this green revolution is real like it or not like it. Agree or disagree there is real capital behind it and so I find it hard to believe that we’re not going to see that continue to move forward now you have issues with countries let’s say things are going to change going forward where trade balances are going to matter so you think about countries today. Countries that are not commodity exporters. That are commodity importers let’s call China for instance right why is China trying to focus so much on electric vehicles right now? And you know that most of the energy source used to power those vehicles is actually coal is that by design or not?
Keith Weiner: It is by design tesla is a great coal fired car yeah, I mean.
Tavi Costa: It is most likely by design they probably don’t want to be dependent on oil from other places if they can get most of the transportation through electric vehicles meaning they’re basically saying who cares about any of the environmental questions that the western part of the world is questioning? Perhaps and again this is not a political view at all I’m just saying from a geopolitical sense or standpoint I think some countries may actually use coal with electric vehicles just to go reduce their dependency on energy commodities like oil that might actually happen in many economies and one of them being China perhaps India might fall into that as well at some point too do you have significant coal resources? I’m not an expert of coal I don’t invest in it I don’t think I should be speaking about it but I’m just referring more into a sense of balance of powers in economies and how we may see countries that actually depend a lot on certain commodities may create changes in terms of how they source their own energy through different ways just to reduce dependability or reliability of other partners that they currently have maybe China with Russia.
Maybe China with Saudi Arabia may be in a different position five years from now and they are very much aware of that how did they avoid that? So think wearing their hats and saying well maybe Co is an alternative if we can have electric vehicles being powered by coal why do I need Saudi Arabia?
Keith Weiner: You can switch to what you have domestically and then you don’t have to rely on unreliable imports from somebody who may not like you and the politics may shift right.
Tavi Costa: And maybe you can have a mix of the two as well. But now oil is such a strategic commodity today and it has always been a strategic commodity that most things use oil as a source of energy. We all know the complexities of partnering with oil exporters out there and it’s becoming harder and harder. The world is becoming more and more deglobalized and we may see some changes like that. To your question about green, to a certain extent, I think we’re going to see a big change in terms of those green revolution ideas. But yeah, I come back from coal to reduce the dependency of unreliability of oil. That can actually happen, but I think we’ll start with China first and maybe it could move to other areas.
Keith Weiner: I hadn’t thought about China in doing that in that way, but that totally fits a theme I’ve been developing, which is, as you said, deglobalization and re on shoring or nearshoring like in semiconductors, for example. What company in the right mind would want to be relying on Taiwan right now for critical components just because of the geopolitics of it? Right. And then you have sort of the general economic nationalist trends rising, the general tendency towards tariffs and certain political jurisdictions are no longer acceptable or politically tolerable or whatever, and everything tends to be pulled back on shore clothing, energy. So if you have huge coal reserves, I think China does, and I know the US does. From a geopolitics standpoint, that totally makes sense.
Tavi Costa: Yeah, narratives are always creative, but sometimes some of them are correct. Like the whole narrative or the whole idea of poking fun on electric vehicles because they are actually using coal as the source of energy is a real thing. Right, but what if they are happening by design and some economies are not really thinking about the same way some other Western economies really are? And so I think China is doing that by design.
Keith Weiner: I think a lot of Americans who have been cheering Tesla for the last X number of years actually believe that electricity is the source of the energy and don’t understand that it’s an energy source and energy distribution vehicle. And I think the energy comes from the electricity and they don’t move up any further extreme to say where does electricity come from? There was some political cartoon from around the time of the turn of the millennium that showed somebody at some sort of protest that had signed I don’t know if it was a cartoon, it but was a real picture. And anyway, the person had signed a political rally and it said, who needs oil, we ride the bus. I definitely think there’s a contingency of people that they’re thinking literally with that. God bless them.
Tavi Costa: Well, on trade with China, I don’t think Germany is doing that by design. I think they’re just not thinking through the whole thing. So I agree with you and I know of people here that also drive electric vehicles. Absolutely clues of where the energy is actually coming from. It’s definitely happening in areas like the US and other parts of Europe, but I think there are some parts of the world that is actually being.
Keith Weiner: This.
Tavi Costa: It’s a well planned idea, there’s no comparison to what’s going on, Europe and the US. But that’s my two cent on this. So it’s a tough question. I do think institutional capital will continue to chase those commodities. The question I get the most, which I have such a bullish view on commodities, but I struggle with just one of them. That is just I get so often this question asked when I talked to a capital, allocator majority of the questions is are you guys investing in lithium as well? My goodness. I think there’s so many people clueless about the complexity of the lithium business in general and I think a lot of people are going to lose a lot of capital in that part of the industry.
Keith Weiner: Yeah, kind of like the marijuana industry for different reasons. I was just thinking about capital was chasing the green stuff and I guess that would take the form of ESG investments. Just occur to me that there should be or that one could measure an ESG to the browntech spread in terms of expected yields, since there are some institutional investors that have a mandate that has to be SG. If one said I don’t care about SG per se, I care about overall absolute return. And once they find higher return to non ESC related things because some investors are restricted and therefore they won’t be put up as high and therefore they get a better return. I wonder if somebody publishes or could publish, how much more can you get if you look outside the ESG and then how wide can that spread? Cat before the return is so attractive that it just pulls more capital in.
Tavi Costa: Well, it’s interesting, it’s just so new what’s going on. The SEC is going after funds that are supposedly allocating capital in ESG space quite heavily. And so you have to be very careful to what you define as ESG investments because there’s a lot of gray areas and a lot of people are getting in trouble for that. It is not what we invest, but there’s a lot of funds creating a lot of issues in that front. Your point is valid about the yield chasing. I’ve done some research on this because I think there’s so much financial engineering happening nowadays which is a sign of how speculative the macro environment really is. You can just look back with the buybacks companies doing extreme levels of buybacks and dividends and so forth, and you would think that a company nowadays doing significant amounts of share buybacks would actually be delivering some or creating some value to their performances. But amazingly, in the last three years, if you look at the top 100 companies doing those buybacks, they’re barely making any money. In fact, they’re actually, or I should say they’re actually underperforming the equal weighted index of the S&P 500, which is fascinating because they spent over 89% of their cash flow buying back shares, not investing in their own businesses, just buying back their own shares at ridiculous prices. Tavi Costa:
I mean, this is Finance 101. You don’t buy your stock back if the multiples are high. You buy it when it’s low. But I guess everyone skipped that class and everyone’s just buying shares at record multiple.
Keith Weiner: The other class, though, is Agency Dilemma that says suppose you had a CEO and CFO, this compensation is tied to the share price and the company can borrow at 2% and the dividend yield is 2.5% and they’re going to personally take home a big payday by driving the share price up. What are they going to do from a behavioral finance perspective? And of course, it’s not their money. So if a company goes out of business, they got their payday and they move on. And then if it works well, head by win tells you lose. Does that explain the phenomenon?
Tavi Costa: It’s a real problem because if you guys looked at the list of CEOs leaving right now, resigning, or coming up with all sorts of excuses to exit their role, it really is fascinating what’s going on. It’s like every day there’s a popular CEO pretty much resigning or exiting their role. And again, it’s something that happened before. There’s not a lot of data on this, but the data I found, it goes back to the prior times before the global financial crisis and was a very good leading indicator. Those are all things to think about. It just because Co confidence is low, you’re not seeing them really reinvest money into their businesses. And so where are we going to get this productivity to get the because that’s the biggest, I guess, question to my thesis is if we get back to some sort of technological advancement that changes the whole environment in a way of we start creating more units of growth relative to units of debt, something we haven’t seen in a very, very long time. I am very wrong about my gold thesis. I’m very wrong about commodities are very wrong about tangible assets and I need to be very careful.
I just don’t think that’s going to happen. Especially when you see companies, like I just said, using 89% of their cash flow to buy back shares rather than invest in their own businesses. I don’t know.
Keith Weiner: I can give you an assurance on your thesis if your thesis comes down to that. I follow something called marginal productivity of debt. Because not total debt or debt to GDP, but rather changing GDP divided by changing debt. Or for every new dollar of debt, how much GDP does it add? You should want to see that number above one that would be a really good sign. A dollar 20 with the GDP, that would be a good thing, right? Well, that number has been in secular decline since at least 1950, and I only say at least 1950 because that’s the oldest data that I’ve been able to get my hands on by looking around the Internet. And the St. Louis Fed has something called Fred, which is probably one of the best macro and raw data sites out there. And if you plot marginal productivity debt, as I do from time to time, it’s been in a secular decline with a lot of volatility, but it’s a clear line down, which means that relative to debt, productive investment is in continual decline. And so if your thesis comes down to that, your thesis is very safe.
Tavi Costa: Yeah, I mean, just look at the so called growth stocks, right? The fang stocks, facebook, Apple and Amazon and Netflix and Google’s of the world. They’re not growing anymore in real terms. In fact, this was the first quarter in two decades that they’ve had a contraction in real growth in revenues. And so if you’re a company, you’re not growing up, call it 10%, you’re just not keeping up with inflation. It is what it is. It’s just a fact of what’s going on right now, what we’re facing. And so, yeah, I mean, I don’t even know why we’re calling them growth stocks in the first place, to be quite honest.
Keith Weiner: Just to pick on two of those. I’ve written about Facebook from the perspective of platform governance. As a platform company, the single most important issue is governance. And from the perspective of, let’s say, 2016, you would look at it and say, how could Facebook possibly lose? They’ve got it locked up. The network effect is so powerful that everybody you know and want to be friends with is on Facebook. You have to be on Facebook. That’s it. And somehow between the Trump election and then COVID, they decided that governance meant becoming the arbiters of truth. And if you say something on certain topics, including election and COVID, they put a little sticker over your post that says, maybe Keith is full of you know what, click here to find out the real truth. And then they started blocking people and saying, you’re not allowed to post for 24 hours, and all these things and completely snatched the feet from the jaws of victory. Just an incredible thing. Netflix, I wrote this in maybe 2017, and I argued that the marginal utility of the utility of the next hour of video content is zero. We’ve gotten to the point where capital is so cheap in the video production business, they’re producing so much of it.
And at that time, Netflix was floating the idea of maybe we could put ads or make people pay a higher tier to get video. And the resounding think of like 75%, 80% of their customer base said, absolutely not. We cancel our Netflix if you try to do these things. And I said there’s no utility for that anymore. I remember in the late nineteen s, seventy s when you get bored of TV and you say there’s nothing on TV, I’m going to go play in the woods. Because it literally was nothing interesting on today. We’ve reached a point where they produce so much video. Essentially you could waste a lifetime watching it all trash problems have the problem, but you can spend a lifetime watching it and never keep up with the rate that they’re producing it. So you’ve got one company that shot itself in the foot and the other company that overproduced itself into such a blut that unlike oil, video content is there forever. And what do you do but relicance it and rebadget it and repackage it and re colorize it. But I know not to take away from your broader theme, but I think all of the so called growth stocks may not be growing in this new phase of the economy.
So Jim Brown just posted an article to substack LinkedIn, I forgot where he posted it. They basically said, are we in a recession or are we in a banana? And it was because and he was talking about an economist, I don’t remember the guy’s name now under the Carter administration, that Carter didn’t want to admit there was a recession and he thought it would hurt his chances in the election. And so the guy said, oh well, he was told you’re not allowed to say the word recession. He said, I’m going to say the word banana. Jim in his article was talking about, well, I think we’re in a banana. But he talked about the same thing you talk about. Employment is a lagging indicator. Nver is going to wait until all this data is settled and revised and finalized and refinanced before they declare it, by which time it’s probably already over. So it’s too late. You can’t address based on that declaration of recession. Right. Anyway. There’s a couple of random thoughts based on what you just said and to.
Tavi Costa: Be in a place where it should be favorable for growth stocks. You need to be back to this kind of. This inflationary environment. Which again. It can be arguably not the right term that we went through the last three decades. Given the fact that a lot of things went up in prices and a lot of things were inflated. Right. Especially financial assets and other things like medical costs and college tuition. But in general, in general think this inflationary forces maybe outweigh the inflationary problems that we had in the last 30 years. But now that’s changing in a big way. Part of it is to do with the natural resources industries. And when you really dig deep on, let’s just say the Fed decides to stop raising rates and does anybody really think copper will care about that or oil will care about that? Where do people think the price of those commodities will go to if that happens? I mean, if you have not fixed the supply issues at all? Production is nowhere close to where it was for many of the metals and many of the other energy commodities and so forth. Nowhere close to where it was at prior peaks.
We’re nowhere close in terms of capital spending as well. So for not fixing those fundamental problems, how in the world everything else in terms of inflation will be resolved in the next five to ten years, well, it’s probably not going to get resolved. And so I don’t understand why there isn’t a lot more government support towards natural resource companies on trying to figure out a way of creating facilities and programs to help them to really find new resources but also increase production significantly over time. But I don’t know, I think we’re kind of so far away from that that it just makes me so bullish about this whole situation because I do think it’s a sustainable move to the upside. It’s not very different than financial assets and growth stocks that will be much more challenged in an inflationary setting.
Keith Weiner: And if anything, governments are not only not helping but actively hurting licenses, denying permits. Every once in a while you get a politician of a certain party, whichever be nameless, it says, oh, but if they drill more than people will just burn more gas. So it’s not going to help. And you can’t drill your way out of a pelling shortage when they say these things and you’re like, did you just say that aloud? But one thing just to kind of running out of time here, but to wrap up and touch a theme that’s near and dear to my heart and to most like metals is the distinction you’re making, I think, kind of implicitly. But I want to call attention to it between just betting on the price of owners at metal versus investing in productive enterprises that are working to solve a problem that our civilization faces and the idea that investing is financing production, it’s not just a bet. And of course, if you get it right, the investment you make in the producer will be geared significantly to the price of the commodity. So if the commodity doubles and you pick the right producer at the right time in the cycle, you’re getting a lot more than a double, not to mention some dividend yield along the way, hopefully.
Anyway, that’s a theme that we write a lot about and I think resonates with our viewership, our listener base as well.
Tavi Costa: Yeah, I don’t own a lot of the producers and the larger companies in the space, but as a fund we try to specialize in a niche which is more exploration and parts of the development phase of the industry. But I wouldn’t shoot the producers. I think they can do very well here and liquidity comes in. People are I would say majority of fund managers and politicians can barely put two sentences on mining. So what do you think you’re going to do with capital? First and foremost it’s going to go to the barracks and nuance of the world. They’re going to be the first ones to really benefit from this and that’s absolutely fine. That’s just how the industry works, how cycles work and then things will go fit into the other parts of the industry. And so another thing that we’ve been very focused, especially on the exploration side is a lot of times in other cycles that we’ve seen that drove a lot of capital were very large and significant discoveries of a mineral. So let’s say every few decades you have a major discovery of gold that drives a lot of attention to the industry and then capital starts flowing into the space that may happen.
We’re trying to do that. I know other majority of the majors are not doing that and the majority of people are not doing that but we’re trying to accomplish that. That can drive some capital as well. So I’m just trying to think about what drives liquidity into the mining space in general. Not just exploration or production but the whole industry. And there are a lot of ways the value to grow transition is the situation with focus of governments having to pause most of their actions against natural resource industries. There are so many ways institutional capital chasing green revolution institutional capital chasing gold rather than owning Treasuries. I mean that’s a very real possibility. Why own Treasuries when you have gold? I don’t understand. I really much rather own gold than Treasuries personally. But that’s just my two cent and I think a lot of countries will figure that out soon. I mean I think we’re seeing that already.
Keith Weiner: Unfolding, that’s the bull case for gold right there. The treasury is insufficient yield even now and it’s the credit paper of a counterparty so profit that it makes drunken sailors look conservative by comparison telling the treasure you’re lending them your money.
Tavi Costa: People make some very intelligent cases for owning Treasuries, especially right now if you think the economy is going to have a downturn and maybe the federal being forced to not raise the rates as much. And so in the last 30 years or so we’ve had Treasuries rallying in those environments and Treasuries are kind of rallying recently and that’s a fine way to play it. But my two cent on this is that it amazes me how no one is paying attention on the size of the Shui is that we’re seeing in the treasury markets, particularly in the back end of the curve, meaning the 20, the ten year, the 30 year yields are basically we’re seeing a flood of issuances of those to fund fiscal symbolis or Ie the inflation act. This is ridiculous. While you have rare and. Issues with supply constraints in the commodity space. You have this flood of supply and Treasuries happening. Not just Treasuries, it’s happening German bones, it’s happening with JGB’s and the list is long of developed economy is doing the same. But the Fed is not purchasing those to the same degree that was before and in fact it’s letting those run off now in the balance sheet.
They should be doing a lot more than they’re doing, but they’re not buying as much as they were before. Let’s just agree there. But to me it’s a hard case for owning Treasuries and so the signal that we’re not seeing of Treasuries really rallying with the deceleration of growth maybe has to do with the supply side, not the demand side of the equation.
Keith Weiner: Right. I think that and I would be in this camp saying treasury as a good trade and I think yields will go lower, which means treasury prices will go higher. But the longer term, if you really want to get a macro view, is that why lend to the US government? Can you think of anything more crazy than that? I mean, it’s not in a sheer madness other than man, that’s sure, it’s been a good trade and it’s worked. I’ve used this becoming a tired cliche joke for me. I’ve used this several times in other contexts, which is the guy is at a cocktail party and the guy next to him is a psychiatrist. So you’re a psychiatrist? Oh, yeah. My brother is kind of crazy. He thinks he’s a chicken and the psychiatrist gets all serious and says, wait, is he seeing professional help for this? Well, yeah, we would send him to a shrink, but we need the eggs. The treasury to lend to the US government is completely insane. But it’s been a good trade.
Tavi Costa: Yeah.
Keith Weiner: How can you sum up today’s macro world other than sum up this episode of the podcast, other than to say something like that? I don’t know.
Dickson Buchanan: That’s probably a good place to end it for us. We’ve gone a little bit long. Toddy, appreciate your time. This has been a great episode. I think our listeners are going to get a lot out of it. And you set yourself up nicely for a follow up with everything you said about leading and lagging indicators. So I’ll have to have you back on six to nine months from now to see where we are in the cycle. So thank you so much again. It’s been great. Look forward to having you back on.
Tavi Costa: Well, guys, thanks for having me. Great questions. I enjoy this conversation and look forward to be back here.
Keith Weiner: Yeah, thanks for coming. I had a lot of fun chatting with you.
Tavi Costa: My pleasure, Keith.
Keith Weiner: All right, take care!
Tavi Costa: Take care.
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In this paper we look at how conventional gold holdings stack up to Monetary Metals Investments, which offer a Yield on Gold, Paid in Gold®. We compare retail coins, vault storage, the popular ETF – GLD, and mining stocks against Monetary Metals’ True Gold Leases.
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Adding gold to a diversified portfolio of assets reduces volatility and increases returns. But how much and what about the ongoing costs? What changes when gold pays a yield? This paper answers those questions using data going back to 1972.
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