WARREN PIES: Welcome to the Real Vision Daily Briefing. It's Friday, April 8th, 2022. I'm Warren Pies, founder of 314 Research. Today, I'm joined by Jeremy Schwartz, Global Chief Investment Officer at WisdomTree Asset Management. Jeremy, how are you doing today?
JEREMY SCHWARTZ: Warren, good to see you from Miami. Good to talk to you.
WARREN PIES: Yeah, same here. Well, I would categorize today's market action is really a continuation of a number of trends that we've seen in place throughout the first quarter of 2022. We had rates jumping, dollar strength, especially against the yen. Commodity strength within the market. We saw energy sector leading the rest of the sectors and tech sector taking up the rear. Really the same trade.
We've seen the markets held at these levels about 4500 in the S&P 500 right around the 200 day, 150 day. Two key levels that we've pointed out in our research that you're familiar with, and that we've also discussed on these Daily Briefings before. That's the way we see it. And Q1 now behind us moving into Q2, Fed's fully in gear with their tightening cycle. What do you see? How do you put them day's price action in the context of the bigger picture where they these moves are continuations?
JEREMY SCHWARTZ: Yeah, it's interesting. For the year to date moves, you have the NASDAQ which I was looking today down about 12%. The Q's down almost 12% on the year. It's the exact opposite for values. You've had this major factor rotation. If you look at like a high dividend basket, it's up 10%. So, you've got 2000 basis points spread. That's again, what was happening today between high dividend value versus the growthy tech.
Our theme for the year has been inflation. Our macro economist that I've worked with for 20 years, Professor Siegel has been calling the Fed very biting the curb. We've been saying for some time that they're going to be more aggressive than people expect. I'd still say people don't believe the Fed, they say that they've been skeptical that they're going to do as much as they need to do like, that they are you going to just let this inflation go. I think part of the reading of the minutes this week, was that even the most dovish are saying we need 50 basis points.
Then the question will be how many of these 50 basis point type hikes do they get? Are they more like a Bullard who say we need to end the year over 3%, or is it going to go slow? I think people have gotten used to, this Fed is going to stay low. And not thinking about this new regime, and it's very possible, we're in a much new regime for the Fed, and that's been our baseline view. I think that what you're seeing today in on the bigger picture for the year.
WARREN PIES: Yeah. I think it was Goldman came out today and said 4% on Fed funds rate. Our position is that the economy is going to [?] before we get to that place. That's more or less what 314 has been saying. I think it's cycles are compressing. One chart that I wanted to throw your way and just see how you or I have a lot of respect for Professor Siegel. I've been on your show, and he's been there a couple times as well.
One chart I want to show up is the one year nine year forward inflation rate versus the 10 Year break even inflation rates. This is a chart from the 314 Chartbook, Q2 Chartbook that we just released. What you're seeing here is the 1-Year by 9-Year forward inflation rate, really not reacting as strongly as that full 10 year breakeven. The point that you would get from this chart is that so much of the jump we've seen in inflation expectations is bunched up in the next 12 months and that really has happened.
We have another chart that I don't have on this call. It shows how post pre-Russia invasion of Ukraine and post-invasion, that jumped when it really happened is when that first 12 month inflation really started spiking. The takeaway here is that the market's pricing is really strong inflationary impulse over the next 12 months, probably war related. And the question is, is this something the Feds equipped to really battle? Do you think that would your base case or the professor's base case be that we're going to see the inflation expectations in the market start to bleed into the out years beyond just that 12 month period?
JEREMY SCHWARTZ: Yeah, so that's what we've been saying. It's not just this Ukraine situation that it's actually a money supply situation that you've had this record growth and empty money supply. And the Fed, because inflation was so for so long, they forgot about the money supply. They don't care that the money supply is increased at levels that hasn't increased in 150 years.
And so, that is money. That's different than during the last time the Fed was doing the big purchases after the financial crisis where all of the excess reserves, all the QE status excess reserves and banks, it didn't get out into the real economy. This time you had fiscal and direct payments to people. This is money in people's checking accounts. It's very different.
That is part of the underlying buildup in pressure of why there was this move with COVID from services to goods that could say opening up, there'll be a re-shifting of how we're spending, and maybe that will alleviate some of the pressures, but you have record employment levels. You can't fill the jobs. There's so many openings, you can't fill it. There is a lot of underlying strength in the economy, and there's money people check out. We do believe it's more like a three to five year story. Now we're like one year into that inflationary impulse, maybe so have three years left.
We're not thinking it's just a 12 month period, it's more like 5% inflation for a number of years. And so that's why we are, I guess I would say I'm on the more hawkish side. The market has come a long way. We were the only one saying 2% by the end of the year before we were saying three or four hikes. The market has come a lot, but it probably still has even more than skeptical how long this inflation is going to be starting to price cuts again very quickly. And so, I think that's where our biggest outlier view is.
WARREN PIES: You guys have been dead on your expectation for Fed hawkishness. And we're skeptical full really in maintain some of the skepticism even now, I'd say. The question, I guess on the intersection of a lot of these things is, do you see the economy strong, and the economy does look strong, especially on a rearview mirror basis? We look at tax receipt data, and everyone is flushed with cash.
For most perspectives, the macro backdrop looks good. When we look out into the future, though, one of the pieces of this chartbook and it gives you a good view of just the 40,000 foot view of the markets, is you have the combination of housing cost in the form of mortgage payments and housing appreciation up 30% year-over-year, which is the biggest spike we've ever seen in real housing costs in this short of time. You also have oil up 80%, 90% year-over-year with upside. I'd say to that.
The question is, if the Fed starts laying on this kind of hiking cycle, this quick hiking cycle, do you think the economy is strong enough to hang in there and allow for this full cycle to play out, or does the economy start to weekend? How do you factor that into your outlook?
JEREMY SCHWARTZ: I think that's definitely the question for next year and beyond. I think this year, we're still on the sense that it's still pretty strong. I love those charts that you have out there on the housing and the oil price increase. I think those are key issues of right now. The 5% mortgage rates is a key issue for all those things. You got to see, are there other risks of COVID flaring back up what's happening in China, what's happening in Europe, all those things are going to put the downward pressures on the economy.
The US is in a very strong spot. It's somewhat insulated, but obviously, it's a global economy and all these things can have implications. We understand that. But I think the money in people's checking outside of the things, putting the pressure out on the full system. And so, they're better served than some of the past. And we have really had this inflationary impulse in 40 years, so you have to see how that all plays out there.
WARREN PIES: Yeah. I think that we're really getting the pulse of what the big debate is in markets right now. It's like, how much can-- we have these external shocks, cost shocks, supply shocks, that are being thrown at the market in the economy. Then you have the Fed. The one point that we didn't bring up, and that I think is the real-- just to maybe draw a little bit of a distinction. I think that the Fed could go as hard as you think. My guess would be a policy mistake.
The Fed can see the same things I can see, which is that when you look out at the break even curve and the foreign inflation curve, this is really a near term problem as predicted by the markets for right now. Why would the Fed keep pushing, in my view, a political environment? The Fed is now becoming-- They've always been a political institution, but this has become a very political environment. You've seen lawmakers move from like, just Few years ago, President Trump yelling at the Fed and saying we need you to cut rates and do more QE.
You have Joe Manchin and other prominent lawmakers arguing for immediate hikes, ending QE, getting more austere on the monetary policy side. So, the political pressure is real on the Fed on Powell, at this point. One way to measure that is through another chart that I throw up on the screen with the midterm election year. When this chart, we're breaking out how the market performs. First every other year, that's not a midterm election year. Then how we perform historically during midterm election years, and it's not a pretty picture.
Then when you take it one level farther and say, midterm election years, when the Fed is hiking rates. Those are the worst years ultimately, typically in the market, and then we track 2022 performance. Yeah, we've been pretty bold on the downside, but now ultimately right in line with what you would expect as a lagging calendar year, given that the Feds hiking rates, and it's a midterm election year. Do you have any thoughts on the political pressure that the Fed's facing?
JEREMY SCHWARTZ: It's great chart, very nice visual. It shows the markets do not like uncertainty, that uncertainty creates more volatility, and you see that, and that's both from the election cycle as well as the Fed hiking into the rising Fed rates does put pressure on valuations, and that's related to what's happening now is, the cost of capital is going up. With the 2.5%, you're at zero. And not so long ago, it skyrocketed. Today, you could actually earn some returns on just safer capital is a reason why stocks should have a lower valuation multiple.
And so, the ones that were the highest multiples are the ones getting hit the most. The ones that have, again, those high dividends, current cash flow being returned or being hurt less, or even positive. And so, I think that's a very different dynamic. It's playing out exactly what you think with a Fed cycle moving that way.
WARREN PIES: Just one more quick chart that I think gets to your point exactly is this multiple compression that we've seen in the stock market since the beginning of 2021, when rates have really started screaming higher. In this chart, we're looking at earnings growth. And so, we have obviously, like you described a really strong economy powering earnings growth. And it looks like when you look out forward estimates, we should continue to get that, maybe double digit the S&P operating earnings growth this year.
When you look at years when or the periods when rates are rising, you'll get multiples contracting. We've seen multiples contract more than 30% since the beginning of 2021. This is where it gets difficult to measure how the strength of the economy, these external shocks, and then how you have to rerate multiples, given the fact that there is, as you said, the risk free rate is coming up. This is an interesting mix.
I think the one of the big questions I wanted to throw your way, and you mentioned before the call was, what do you do with the long bond here? I get a lot of questions on social media and even clients saying, is it time to buy TLT or add duration to our portfolio? You had an interesting thought on that?
JEREMY SCHWARTZ: Yep. WisdomTree, as CIO, I oversee both our ETFs indexes active strategies and model portfolios. One of the largest firms in the model portfolio space and largest asset managers around recently added to duration. They saw the spike in yields and said, hey, we're going to add to duration. We did the exact opposite in our model portfolio. We as the 331 through rebalance, we actually shortened duration. We sold some of our core bonds, long duration bonds, and bought floating rate Treasurys.
Yes, yields have spiked, but you look at the longer term charts, if you're just a technician, you could say above three to 325 is really another stopping point on the 10 Year. Our view is, again, we're in the hawkish camp. They're starting to talk about, rolling off the balance sheet, all this talk is on curve inversion. You've had a lot of inverted curves. The Fed was buying bonds. They were still buying bonds. They're just starting to stop but it's going to start rolling off and they had added 5 trillion to the balance sheet through COVID.
The details through the minutes start saying we're going to start rolling off 95 billion a month. How long is it going to take to get 5 trillion? It's a long time. They're going to need to do more. And so, rates could still have some pressure higher. We like that floating rate. Treasury basically is stable. It catches the Fed expectations quickest because it's tied to weekly T-Bills auctions. If you're going against that duration plays floating rate Treasurys to stay stable best performing Treasury, obviously, this year has no duration. And we still think that's the trend.
WARREN PIES: Yeah. You recommended that trade to me earlier in the year in a private conversation. I think that's been a pretty solid recommendation, a great spot to park some cash. I'm with you. I don't think I want to take on a bunch of duration right here for all the reasons you described. You did mention the yield curve inversion, before he moved on, I wanted to just pick your brain there. How are you taking that?
We've seen this divergence in different yield curves, some inverting, some steepening still. And it seems like you can pick which one you want to look at and focus on to drive your narrative. How are you parsing through that in WisdomTree?
JEREMY SCHWARTZ: A few different ways. You could say the three month 10 Year has been widening. And so, if anything like that telling you, it's a very opposite story of the 2 Year. You'd say, well, people are things could be in quick cycle, and they're going to start reducing again. I think that's where some of those curves come in. Siegel has been out there saying the curve is going to be much more inverted, much more than people expect.
That over time, because of the way Treasurys have played as this risk off hedge, there's more demand for Treasurys than they're used to be in some ways, and that's going to depress the longer end, and you shouldn't be as scared about the curve inverting. Now, the Fed often will get scared about the curve inverting, and it'll be very interesting. I think that's going to be interesting is they see, what is the impact of rolling off the balance sheet? What's the impact of the increasing rates?
We're not as scared about the curve inverting because of those factors, but that's going to be one of the big narratives, because again we think the Fed's going to be hawkish quicker. And so, that's going to bring the rates up. How long does it stay inverted? That floating rate Treasury will probably be the highest yielding Treasury by the end of the cycle. And it'll be interesting to see how much more that changes the tone of the conversations.
WARREN PIES: Your thought then is that something we've talked about. Maybe I get your opinion on this, is that we've seen term premium actually go negative. And so, it's a weirdly a term discount. We've argued, you can see that happen right around the time that QE started. The most important factor, I think you alluded to is, since the stock bond correlation flipped negative, which is like late 1990s, early 2000s, it looks like long bonds have been a hedge a portfolio for equities. And so, that's kept them lower. You see the same thing?
JEREMY SCHWARTZ: It's interesting. I'm going to have a piece coming out on Monday talking about-- I love your piece last year, and we actually did, because we were client, were able to publish it on our site and talked about the commodity correlation. On Monday, I'm going to write a piece, or it's coming out, about the dollar has been one of the most negatively correlated assets to the markets. When I look at the rolling 3 Year correlation on the dollar versus the S&P is like negative 0.46.
The slope is just as downward trending slope, and the dollar, it just keeps trending more negative on the correlation. That's becoming an interesting hedge also. I think it's also a hedge for what's going on right now. We could talk about the end which is the currencies spiking the most. I do think commodities also have a very different story that we could talk about, which is they were so bad for so long. The cost to roll them was so bad.
Go back the last 20 years, commodities cost you 7% a year to roll the futures because of the shape of contango. I remember taking the CFA, and this was well over a decade ago, around the 20080, 2009 periods. I remember them teaching you in the CFA textbooks, they are like of the 9%, 10%, whatever the numbers were in commodities, a third came from collateral, a third came from spot, a third came from rolling the futures, and they taught you there was this natural backwardation in the curve that you got paid.
Should I answer this how it actually is that it's very deep contango? Or should I asked [?] how they teach you in the textbook? You know what, people would mock like the oil funds that you had spot doing certain things and the rolling the futures cost you double digit rates during a lot that period that. Well, it costs you 7% a year for the last few decades. Now