Energy Shock and Rate Hikes Could Cause a 2022 Style Bear Market | Eric Wallerstein | Clocktower Group

Eric Wallerstein (0:00)

A garden variety bear market, that's increasingly becoming my base case, or it's getting close to it. We're hiking into it with a supply shock. I guess I see more downside risk than the committee, and the committee says there's no downside risk to GDP. It's all upside risk. I think that without AI, more people would say that we're like in substantially restrictive territory. We can't build anything that's on a data center. It's not great.

Residential looks really bad. We all know that. I can't afford a home. Certainly not on the west side of LA.

Jack Farley (0:32)

This episode is brought to you by Plutus. Later on, you'll hear more about how Plutus is bringing model portfolios from research providers like Citrini, HFI Research, Aurelion, Le Shrub, AP Research, and Elliant Capital to your self-custody brokerage account. Let's get into today's interview. Welcome to Other People's Money. I'm your host, Max Sweety, and I am joined today by Eric Wallerstein, Chief Macro Strategist at Clocktower. Eric, thank you for joining me today.

Eric Wallerstein (0:55)

Thanks, Max.

Jack Farley (0:56)

We obviously got the rate hike that the market had priced in. I think what was more surprising was the relatively hawkish press conference and the summary of economic projections that certainly signaled higher for longer. I mean, when you look out at what investors can expect, do you think higher for longer is what's in store?

Eric Wallerstein (1:16)

It's coming in the near term. I'm not totally sold longer term. I mean, it was, you know, relatively hawkish in the sense that the 2028 dot moved up 50 basis points. For me, going into the meeting, that was the most important thing by far. I think the market just had a totally different view of neutral than the Fed did. There was like a 125 basis point gap before this meeting between what the Fed thought like intermediate term neutral was and what the market had. So I thought that was really important.

I guess I'm just not totally seeing the re-acceleration past what happened in Q2, which was kind of a pop-up jump that maybe Chair Warsh is seeing or some others are seeing. I'm still at this kind of like okay trend for the US, and then we're hiking into it with a supply shock. So if I combine a fiscal drag, a supply shock, and rate hikes into next year, I guess I see more downside risk than the committee, and the committee says there's no downside risk to GDP. It's all upside risk. So I'm in a different spot and I'm happy to be proven wrong. I prefer the economy to do well and for beta to perform. But I will say that a lot of the movement in front-end rates globally has just been driven by energy. Actually, the entire curve has just been driven by energy. So we had 95 percent chance of a hike going to this meeting, had oil not been at 105, it's very likely that would have looked like 65 percent or 70

There's nearly a, I think, 70 percent chance of a hike in Canada at the next meeting. Canada's economy didn't grow at all from the first quarter of 25 to the first quarter of this year. They're facing a really tough trade war with their largest trading partner by far. So I think people are reading a little too much into the corollary effects of the Iran war and move in energy prices and maybe over extrapolating out what that means for the economy longer term.

Jack Farley (3:22)

Growth in the US, at least on the surface, seems strong. We just got a Atlanta Fed GDP now cast of 5.1 percent. Rates historically on the long end hover around 50 basis points to 100 basis points, like below growth. How crazy is 5 percent yields in a world where growth is that strong? It sounds like you don't think that growth will be that strong. That's why you think that the risk is to the downside. So I'm interested in the degree to which you think it's the strong economy that the rest of the market is seeing and why you don't see that strength.

Eric Wallerstein (4:01)

No, it's a combination. Growth is good. I just think people are over reading into what is decent growth and then thinking that it's going to be great and keep re-accelerating. So if you look at PMIs, manufacturing has been much better, bank lending has been much better.

But I tie these things more to the one big beautiful bill and kind of a catch up to what was a sag especially for bank lending, post SVB and post Fed tightening. I just think people are seeing we were really downbeat in Q1, we did much better in Q2, and people think that it's going to keep going higher. Rather, I'm looking like it's oscillating around a trend. And I think that trend is under threat from a few different factors, which I just mentioned. But if you do look at the 10-year yield, or any 10-year yield globally, and you just look at oil prices for the past month or so, it's the same chart, it's literally the exact same movements. So take away oil, let's say oil's at like 70 bucks, 10-year yields probably four and a half, four, four. It's not at three, but I do think a lot of this worry, oh, the Fed's behind the curve, buybacks didn't work, which I think is not true. I think buybacks did work if you look at the curve or swaps.