Crescat Capital Macro Strategist Tavi Costa explains how rising U.S. interest payments and unchecked fiscal spending have trapped the Federal Reserve, forcing last week’s aggressive rate cut that could reignite inflation and weaken the U.S. dollar. As recession risks grow and equity markets hit peak valuations, he joins James Connor to unpack why commodities like oil and gold are poised to thrive, offering critical insights into the economic challenges and opportunities ahead.
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Tavi Costa 0:00
This obsession that every market participant and analyst and strategist and portfolio managers have over inflation and labor markets are not as useful in this market right now, given the fact that we depend so much on fiscal spending, the Fed is showing their cards of how constrained they are, how trapped they potentially are.
James Connor 0:25
Hi and welcome to wealthion. I’m James Connor. My guest today is Tavi costan Tabby is the macro strategist for crescat capital, and we’re going to get his views on what the first of many interest rate cuts means to the economy, to inflation and to the US dollar, and how we should reallocate capital in a falling interest rate environment.
James Connor 0:48
Tabby, thank you very much for joining us today. How are things in Denver?
Tavi Costa 0:51
Thanks for having me. Things in Denver are great and perfect weather and and here I am working at the office.
James Connor 1:01
Yeah, yeah, I know it’s the same way in Toronto, I cannot get over this late summer that we’re experiencing. The weather is just amazing. Yeah, it’s awesome. So Tabby, I want to start our conversation speaking on the economy. The Fed cut 50 basis points, as everyone knows, and thank God, because we’ve been talking about this for a year now, so they finally did it, and in December, we were expecting six interest rate cuts, and here we are in September, and we’ve only had one. But you said recently in your commentary that you think this was a very aggressive policy change by the Fed. What do you mean by that? Oh, it’s
Tavi Costa 1:37
a lot of unpacked there, but the aggressiveness of the Fed policy shift, I think has a lot to do. I mean, you can’t really justify that on the data. In my view, there’s not much of a tremendous weakness in the macro data to potentially drive that. I mean, potentially, you can say that the labor markets are starting to show some cracks, but I think there’s a lot of noise in that, in that view as well, just because of immigration and other things. But the real, I think the real change here, in my view, has to do with the interest rate payments that are clearly surging and starting to eat into fiscal spending. And as we see that occurring, I think that’s going to be forcing more and more monetary policy to be driven by that, not in a really constraining monetary policy, to actually having to suppress the cost of debt to allow the government to spend more money. And so to me, that’s, that’s what it comes down to. So I’m actually, I think, on the back of that view, you start, you start developing other ideas, you know, especially the the weakness in the fragility of the US dollar, not only versus hard assets, but starting to sort of spread that weakness towards other fiat currencies, you know, the Australian dollar, the Canadian dollar, even the Japanese yen recently, and the the euro. That a lot of which, I think it’s completely out of consensus type of view, where most of the of market participants actually have a more bullish view on the dollar, so versus other few currencies. And so, to me, that’s that’s a big takeaway. The Fed is showing their cards of how constrained they are, how trapped they potentially are, and that’s that’s going to have a ramifications in FX markets as well, right?
James Connor 3:27
So just to clarify or quantify, what you’re saying is the Fed has, or the US government has, $35 trillion in debt. The interest payments are about a trillion dollars every year. It’s the largest line item now in the budget, and that number is only going to grow. So you’re saying the Fed is concerned about these interest payments growing every year, so therefore they’re in a rush to cut rates now. Yeah,
Tavi Costa 3:49
and you know all, I think that the counter argument to the fact that you can make a, you know, creative view about the dollar, given that idea, is that, you know, other economies are also seeing the same issue. And I used to be of that view, until I really dive into the idea of looking at interest payments relative to GDP across, you know, different economies and the US is by far running the highest. You know, we’re approaching 4% when you include local governments. Other places in the world are actually running sub 2% some places even sub 1% and so the readjustment, I should say that there’s an inconsistency with interest rate policy even after the 50 basis points cut relative to how much we’re spending on the fiscal front. And so that inconsistency creates a sense of urgency of the Fed to move quicker than other economies, because foreign the currency markets are really a relative game, as we all know, and so you have to think about how much will the Fed be likely to change their policy relative to other. Central Banks. And I think that that comes down to a very large potential for big changes here in the US, for further reductions in the interest rate of the Fed and relative to other places in the world. And so therefore, why that view the fiat currencies outside of the dollar can actually start performing better than the actual dollar. And so this is all very linked. And the other aspect of this is looking back throughout history and charts of us break even rates, which is one way that the market uses to analyze and have a view about where CPI will be 10 years from now, whatever the duration of the break even rate really is, and you’re looking at those charts, you know, clearly shows to me that we’re actually forming a support, a major, a technical support, in those charts. And that’s, you know, if you look at breakeven rates in line with oil prices, they all tend to move very, very, very similarly. You know, they’re very connected, and so that, you know, also creates a view about potentially inflation, actually resurging, you know, especially on the back of this rate cut, that is more aggressive than you know, I would say most have expected. And so this is, this is a big change in the macro landscape, in my opinion.
James Connor 6:20
So let’s talk about inflation now. Jamie diamond spoke recently, and he said he thinks inflation is still an issue, and there’s going to be more inflation on the horizon because of government spending. And he also expressed concerns with the possibility of stagflation, that is a slowing economy with higher inflation. Do you think the Fed is making a policy error by cutting rates too early,
Tavi Costa 6:43
a policy error would would basically, you know, assume that they have a lot of options on the table. Like I said, if you’re, you know, let’s think about this for a minute. You know, since the global financial crisis, and I’ll give you some context before I answer that question, since the global financial crisis, what has been one of the biggest beneficiaries that cause us markets to outperform any other place in the world. And I would argue, yeah, technology has been a big one but but even potentially, even more important than that has been the fiscal exceptionalism we’ve seen in the US. You know, this allowance of the us being able to spend more than other economies. You know, in fact, if you look at the average of fiscal spending in the US, all the way back to the global financial crisis, we approach close to 8% and annually. And you know, the second one would be Japan. Japan is at about 5% but Japan, majority of that spending is not pro growth, right? That that spending goes to entitlements and all those things. And believe it or not, in the US, the 8% a large percentage of that, actually goes to pro growth policies, which creates growth economically versus other places in the world. And hence why you tend to see the premium on valuations versus other places in the world. Again, this is just my view of an analysis on the fiscal spending side. When you have interest payments now becoming 70% of the deficit right now, it becomes a problem. And the question really is, how do you adjust that? Do you lower fiscal spending, or, you know, to adjust the issue? Or do you actually adjust this, the interest rate aspect, and suppress the cost of that, to allow the fiscal spending to be, you know, to continue to be larger. Because if we don’t see that, then it’s going to start that interest payment is going to start eating into the deficit. And by definition, if you don’t increase the spending, then your your actual spending that is pro growth is going to be shrink. And so this is a this is actually a critical problem. And so the going back to your question now, I don’t think the Fed has a lot of options. I think this obsession, I’ve been saying this firm some time now, this obsession that every market participant and analyst and strategist and portfolio managers have over inflation and labor markets are not as useful in this market right now, given the fact that we depend so much on fiscal spending that if interest payments are really eating into that pro growth spending, then we have to adjust that regardless of where inflation is, regardless of where labor markets is, and so this is why I am laser focused on that, because that suppression of cost to allow the government to spend more, you know, has a lot of ramifications in other asset classes. So no the the steepener or the steepening of the yield curve could be a, you know, a another, another mechanism or another way of unleashing these, these policies that could be, you know, potentially as well, very another, another idea here in the macro side. And so there’s all sorts of things outside of the dollar weakness, emerging markets could do very well on that front, the reemergence of. Deflation. All these things, to me, are real potential changes in the macro landscape.
James Connor 10:07
So you just touched on the yield curve, and you wrote about that recently, and you said the spread between the two year and the 10 year was altering. And you think this is something investors should pay attention to. Maybe you can just elaborate on this and why investors should be concerned with what’s happening between the two and the 10 year.
Tavi Costa 10:27
Yeah. Well, I created an indicator called the percentage of yield curve diversions, which looks at all the possible spreads in the yield curve, and then it calculates how many of those are inverted, and it looks back in history all the way to the 1970s 60s, even 50s, depending on the chart we created. And in fact, IMF invited me to to present about this, about this, this indicator, because we’ve done all, you know, a whole research of how this tends to to be a recessionary signal, not not, not the actual inversion, but the the number of of inversions in the curve, you know, have an even better timing when it comes to, you know, predicting recessions than the actual single inversions that people tend to look at the two versus tans or others. And so, you know, in my view, what you tend to see is, is, you know, the build up of inversions number one, and then this abrupt moment where the disinversion happens. That is, that is usually not kind of a classic, more recessionary indicator. Now, playing the recession game, you can play it in many ways. Now, a lot of people short the equity markets. And the other way to do this, you know, if you’re if you have a having issues, having a view about the equity markets, you know, one idea is to definitely look into more of the yield curve inversion, or uninversion process. And so I’m of the view that this uninversion process, or the steepening of the yield curve is, is probably going to continue. Now, then the question becomes, you know, a lot of people ask, is that a bull steepen? Or is it a bear steeper? I don’t really care, because, you know, my view is that it will probably steep it. And I don’t care if it’s more on the 10 year versus the two year. Now, to address that question that a lot of people ask a few, you know, months ago, I was of the view that the two year was going to be the one that would really drive that view, meaning the two year would fall much quicker than the 10 year would rise. Now I have flipped that view recently because of my views on energy, my views on inflation resurgence. I actually think that the two year yield needs a break, and what is likely to happen more and more in the following months is that the 10 year yield has a lot of room to grow much further. And so I am laser focused on that, because I think that that’s in line with this view that inflation expectations is like to bottom. Energy prices could start rising in cyclical commodities in particular, could benefit tremendously in this in this environment as well. So
James Connor 13:07
what’s the yield curve telling us right now about the economy? Or more specifically, if the economy is in a recession or
Tavi Costa 13:14
not, it’s not positive. It’s not a positive signal. It’s a very negative signal. And a lot of people trying to justify the yield curve steepening after being deeply inverted. I think that’s that’s very misleading and and I would you know when you when you’re an investor, you don’t know what you know, what how things will play out. So what you do is you kind of have a checklist of things that you pay attention to. And so this is one of them that I would put at the very top as a recession signal. You know, if you’re not paying attention to that, I’m not sure what you’re doing. So that’s that’s a very critical one, especially given how valuations are. You know, you can look at valuations on the cape ratio, and now you know, on top of that, being in a such an overvalue equity market, and you also have steepening of the yield curve from very deeply inverted levels, and one of the longest inversions we’ve seen in history, which I think only adds to the case that we’re going to see an even, you know, more abrupt an inversion process. It all really adds to that case in a big way. And no, don’t forget, what we’re seeing in terms of the 50 basis points of cut and the interest rates, although I have a view on interest payments and all that, you know, when was the last time we’ve seen this, you know, a 50 basis points cut? I mean, in the last 30 years or so, or since the 1990s all these, you know, 50 basis point cuts actually happen, you know, either preceded or coincided with recessions and so that’s that’s also, you know, a real, a real problem, because there has been a lot of discussions in the macro community if this is sort of a mid cycle, you know, soft lending, or something along those lines. Like we saw in the mid 90s. The mid 90s, actually, we did see that, but the mid 90s, the interest rate cut that we saw from the Fed was only 25 basis points. Was never 50 basis points. So this is definitely a change, and I think it plays more negatively in this. I also would point out to other things that could potentially be more negative for the economy, have to do with, with the consumer. You know, if you look at the one example that anybody can can look into and that, I think it’s a very interesting perspective, is looking at the auto market. You know, when you have a car loan, look at the divergence between two interest rates, the five year yield by the by by the US government, which is basically a risk free rate, by five years. And secondly, look at the car loan rate, or in other words, how much a lender in the carts in the outer space is is offering in terms of interest rates out there. And you’re going to find is that we’ve seen the five year yield fall recently, but if you’re actually trying to purchase a car, those lenders are still charging you a much higher interest rate. Why is that? Why is that not following, which historically tends to follow? Do you know the only times that divergence happens is in recessions, and that’s because, from a lender’s perspective, they are seeing that the consumer is not as as positive or or as healthy, and therefore they keep their interest rates slightly higher. So I pay real close attention to this, these signs, because I think that they tell you a lot about the health of the of the consumer. So if the lender is not willing to take the risk to lower their interest rate to match the falling five year yield on the risk free rate, then that means that their perspective about the consumer has changed. And so that’s something I pay very, very close attention to.
James Connor 16:52
Yeah, interesting points, and I gotta say, I want to digress right now, because I always, I just bought a new car recently, and I always hate going and buying a new car because I feel like I’m getting screwed over by the dealer. Yeah, but you mentioned you were talking about the Fed, they cut 50 basis points, and you were quite surprised by that. Do you think that they see something on the horizon, a potential problem, maybe just showed up here in the last month, and that’s why they were so aggressive? Or do you think maybe they just said, Okay, let’s cut 50 points and let’s wait until January before we do it again. Look, I’ve
Tavi Costa 17:27
been calling for and then this has been my mistake as a, as a strategist, as a portfolio manager, as a, as an investor myself, I’ve been very concerned about US equity markets for some time now, no, that’s full disclosure. On that view, been very bullish, commodities, very bullish, hard assets, very bullish, emerging markets and other things that have worked as well. And so to me, this is, it’s a tough one. I am. I do think there are, you know, when I look at my checklist, I see a lot of issues now when I try to look at the economy from the fads lenses, meaning inflation or labor markets, you know, I think inflation there, there has been some progress on that front that justifies the rate cuts, but not massively. I mean, if anything, you know, look at what’s happening today, you know. I mean, the Fed, if the Fed is just saying that, you know, we’re we want inflation, the inflation, the inflation war. I mean, look at what commodities are doing right now. You know, they’re surging in prices. And so does that mean we killed inflation? Probably not, and that’s because it’s structurally the commodities trade or the or the inflation problem is still here with us. We still have de globalization trends intensifying. We still have the under investment in the commodities industries, and all these things are going to still, you know, cause the commodity space to be constrained on the supply front. And every, you know, every, every now and then we’ll see commodities actually rotating on the upside. And so all these things, to me, is the concern. So I don’t think the picture, to answer your question, I don’t think the picture has really shifted from the economy front, and I still see the economy very fragile. Maybe the Fed is seeing something worse than the markets are seen and investors are seen. I think that’s a possibility, sure, but if anything, I do think that what’s happening is the the you know, especially coming from senators now writing letters to the Fed to cut interest rates, you know, to, you know, basically forcing the Fed’s hand to actually act on a political front and and start cutting interest rates so it doesn’t kill the economy. So to me, it really goes back to the fiscal spending side. I think that the fiscal spending is such an important aspect of this economy, and I imagine the economy. Has so many issues and so many, you know, and some other aspects that are still positive. But think about, if we just take it away, all the fiscal spending now, where would we be? You know, we’re now spending in terms of the deficit close to over 7% if you add, you know, the trade balance aspect, we’re running a 10% twin deficit, meaning trade balance is negative and the fiscal is also very negative. No, it’s okay. I mean, if you’re, if your reserve currency, you want to run a twin deficit, but not 10% you know, if you’re running 10% all the time, of course that’s going to have an impact, a very negative impact, in your currency. And so this is why. Again, it goes back to that dollar idea. And so, yeah, I’m, I’m definitely concerned about about the economy. It’s just, it’s such a difficult view to have in markets, because it’s just been delaying for so long all these signals that have been lining up for a recession, and it hasn’t happened. But I don’t, I, you know, I don’t think that the fact that it hasn’t, we haven’t seen one really, really changed the probability of one, of one happening. In fact, I think it only adds to the case.
Andrew Brill 21:08
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James Connor 22:32
Yes, I have also taken a very defensive view in the last couple of years, and it’s cost me a lot in terms of performance. But once again, it comes back to the point that you made about fiscal spending and spending trillions of dollars. You know, when the government spending that kind of money? Of course, assets are going to get inflated. So let’s talk about market valuations. And we had a pull back in early August, which was followed by a very nice rally. We’ve seen a little bit of volatility here in the last couple of weeks, but the S P is up 20% on the year. The NASDAQ up 20% on the year. Nvidia, I gotta mention that one. It’s up 140% on the year. And you have written extensively about equity valuations, and you also compared this time period to the tech bubble of the early 2000s maybe you can just elaborate on that.
Tavi Costa 23:19
Yeah, definitely. I think valuations have been very frothy in this, today’s markets. And, you know, more broadly speaking, it’s not just, it’s, it’s not just a technology space, although technology’s been, you know, certainly leading a lot of that capital flows and causing valuations to be so inflated, but there are other things inside of the economy that I think, look, you know, in my view, problematic. Now, let’s talk about the consumer discretionary picture. You know how much leverage today in most consumer discretionary companies have versus other times in history, it’s one of the largest, debt assets ratios we’ve seen in history of that sector, and, you know, looking at the valuation itself of most companies, you know, trading, you know, crazy multiples from a revenue and the bottom line standpoint as well, it concerns me quite A lot, especially you also know that foreign investors have already, you know, piled on US equities for for too many years, for too many decades now, and understanding that leadership in markets changes every couple decades, meaning, you know, you have US markets leading the way, and then turns into Emerging Markets lead the way, which causes commodities to do very well. And so I think we’re kind of in this turning point that doesn’t happen all at once. You kind of have lots of signs of things and then, and then things to start kind of taking shape. And you know, that’s why emerging markets, some of them, have been doing well already. I’ll. Side of China, especially the resource driven ones. And then you tend to see some resource companies doing very well as well on the back of that. And so I think these are all kind of trends unleashing. They’re not, they haven’t fully unleashed, but they’re unleashing. You can see that in the currency markets as well. You know, British Pound broke a major historical downward trend and now potentially starting an upward trend. I mean, the British pound, I mean, that’s probably one of the most hated currencies in the last few years. Same thing happened with the Japanese yen. No, what if this is the beginning of a trend? You know, if you look at those charts over 2030, years, it certainly looks to me like we could be actually at the very beginning of of a movement. And this is completely out of consensus view. So all these things to me, are very interesting. I think that they play into the equity markets again, because equity markets have benefited tremendously from these flows. And US dollar, you know, the fact that we had all this, you know, exceptionalism from from the government spending side in the US relative to other places. And as we see these things shifting, and the interest payments kind of beating into fiscal spending, I think that that’s going to also have a ramifications in equity markets. And that divergence of the premium that you have on a business run being run in the US versus a business being run in, say, Brazil or some other country, I think that’s going to close that gap slightly more. That means opportunity on one side. That means risk on the other side as well. So yeah, I’m very concerned about valuations in the US, especially if you’re of the view that I am, that 10 year yields could be rising here. And I think that could be actually long term yields start rising. That can also be a very important aspect. And notice the fact that utilities as a sector have been leading the market this year. I mean, that’s the most defensive sector of the overall economy. Why? Why are they leading? Is that because we’re seeing too much spending on data centers and all in electricity consumption and all those things are causing utilities to rise? Or is this a signal that the economy is not doing as well? And potentially, it’s just because it’s most offensive sector that is starting to attract all the money. I guess you can answer both ways. But if it is because of electric electricity consumption, if it is because of of spending in data centers, is there anything more bullish for commodities than that? I don’t know. I don’t think so. So you know that to me, is is also very attractive from my hard assets standpoint. So you can see how I’m tying up things together here. But yeah, I’m not. I’m not, I don’t. I think that the time to be bullish in tech and bullish in US equities was, was a decade or so ago, not now.
James Connor 27:57
So we only have 10 days to go before the end of the quarter. It’s going to be very interesting to see what what we hear from a number of companies, especially the ones focused on consumers, and what they’re saying about the health of the consumer. In q2 we saw a lot of companies, including Amazon, Nike, Starbucks, McDonald’s, so many more, all said that the consumer was under pressure. And it’s going to be interesting to see what they say for q3 Yeah.
Tavi Costa 28:23
I mean, the consumer companies are consumer discretionary companies are certainly a segment of the market that I am paying close, close attention to, the restaurants and others, you know, back in the covid times or a little bit before that, actually, what you saw was that most of these companies levered up massively. You know, some of them went from having very small amounts of debt to 60, 70% of leverage all of a sudden. And so now these companies are all having to roll their debt. And as we all know, interest rates are much higher than they were two three years ago. And so these companies have to roll their debt much higher now. And that’s, you know, that’s going to start creeping into that’s this is why tightening of monetary conditions works with a lag. Is because when you raise interest rates, you know, for a year or two, that doesn’t really reflect in the markets just yet, because a lot all these companies have locked in interest rates from a few years ago, and so until they start rolling their debt, you start seeing those issues, you know, come into the market. So I’m, yeah, I pay close attention to leverage right now. I think balance sheets are, you know, are going to be key here, moving forward, because of where cost of capital is. Forget about 50 basis points interest rate cut. It doesn’t really change the picture from if you’re running a business and you have to, you know, and you’re, you’re, you’re borrowing capital, you know, call it, you know, three, 4% not, not too long ago, and now you’re. Borrowing at close to 10% that changes your capital structure in a big way, so you know, and it’s into your margin as as as we see interest rates and interest payments as well, uh, starting to hurt companies, corporations and so all these things are important. So I, you know, I’m paying close attention to this as well. So
James Connor 30:20
let’s talk about commodities, because you mentioned oil a couple of times, and I believe oil is flat on the air. A lot of the stocks are down on the year. And what’s your thesis on oil? And why do you like it? Definitely
Tavi Costa 30:31
building a conviction in the oil idea. Started with natural gas, looking at the what’s called the BTU spread, looking at the oil price versus the natural gas price, and adjusting that by the BTU scale, and you find there is no things are really historically have not been that way in a very long time, which makes me very bullish in natural gas to begin With. So started building that position. First also looked at the contango in the natural gas market, which shows that, you know, we have a very, very steep contango, which means that the further contracts are much higher than the closure contracts in the future markets and and so that sort of, you know, looking back in history, when you have steep containers, it tends to mark a bottom in markets. And so, yes, that’s those. Those are things that are very interesting from a macro standpoint. And natural gas has been demolished, and nobody cares about it. Everybody thinks it’s gone, and we have too much supply of it. And I think that, though, most of those things already reflect the price, in my view. And so that’s one thing. The second thing is, I start looking at oil itself a little more. I realize, I think a lot of people have realized that too, the correlation between that and us break even rates, which is the inflation expectation chart, and you can see that, if you were of the view that inflation is starting to form a bottom after, you know, we saw a big surge of inflation, and then we kind of saw this consolidating period now. And the same thing is happening with oil. Now, oil was in a very, you know, downward trend all the way back to a weight or so. And, you know, it been hitting a resistance. Then back in 2021 after elections in 2020 we saw a surge in oil prices. And then after the oil prices kind of broke the downward trend, we’ve been kind of consolidating since then. And and you look at positioning, so the future markets offer great you know, CFTC positioning, you can see that, you know, it’s one of the lowest amounts of long positions that we’ve seen in the last two decades. And so that adds to the case. It kind of sets the stage for a reversal in the trend of energy prices in a big way. So, you know, yeah, those are, those are the main reasons why I have forming a strong view in oil space. And I think that this whole idea that elections have an impact in oil prices is totally overplayed. The the baby, the drill, the drill, the drilling. I mean, if, I guess, if there was something to learn about the debates that we heard recently was that, you know what Kamala said, how many times that she’s going to be is going to be drilling, and it’s going to be, you know, promoting production. And I think that even that didn’t cause oil prices to really move, and maybe that’s just the market not agreeing or not believing that that’s going to come true. But, you know, my views is that that those things are really overplayed. They’re kind of hiding the opportunity. The opportunity is that, you know, geopolitically, the risks are there, that things can actually get more and more disrupted, and if that happens, I think oil can trade a lot higher. So it wouldn’t surprise me at all to see big changes in oil prices like we saw in the past. And I think that volatility suppression in the oil market is is, is short lived. And so I’m of the view that we can see big spikes in oil prices that can change the dynamics of inflation,
James Connor 34:15
big spikes like hell, high it’s currently trading around $70 a barrel.
Tavi Costa 34:20
I would love to tell you the answer, but I can’t, for compliance reasons. I can’t tell you target prices. Unfortunately, I can’t say I can tell you that I do think that oil prices are very cheap. And, you know, wouldn’t shock me to see, you know, numbers that we saw in the prior in the recent prior peak, which was trading at $130
James Connor 34:44
a bear or so. So if I take the other side of that argument, we got to slow down in the US economy. We got to slow down in China, the two largest economies in the world. How do you make a bullish case for oil?
Tavi Costa 34:57
Well, I think the other side, which is. Is everyone and their mother also have been making that case. It’s funny, you know, I had a, I had a chart showing, you know, when oil was trading at $130 a bear, everybody was knocking on the door and saying, I’m bullish, I’m bullish. And now that the oil is at 7060, plus, you know, everybody’s like, no, it’s, I won’t touch it. And, you know, that’s normal. That’s sentiment right there for you. And I take to heart what happened in the 1970s because I think this is a very similar environment where inflation is highly embedded in the system. And actually the rise of during that time, what we saw was that the economy was not doing very well, but energy prices were were going up, and so there was a correlation that change in that period where when inflation reemerged, the market didn’t like that, because obviously that means that the Fed had to do more in terms of reacting towards The inflation problem. So now we can debate how that would play out today, because of the debt problem, because of the interest rate, you know, payment search that we’re seeing, and all that. And I think that those are very important discussions. But I think that what we can see here is is the bottoming of, of especially inflation, that can actually become or create a more stagflationary environment later on. And so, yeah, the weakness, you know, ultimately, you tend to see that later on, that the slow down the economy should cause markets in the oil space to to react all the way. But you know, it’s funny that oil markets have already reflected a hard landing while equity markets are reflecting what. That’s not a hard lending that’s, you know, it’s everybody’s party. And so, you know, I’m of the view that the oil markets already, already made that move for us. And so, you know, if anything, I’m not saying we’re going all in on this idea at all, but that’s I can I can tell you that the positioning is off balance, historically speaking, with data and so at times like that, when you have a view about where the constraints are in terms of supply and on top of it, the the correlation of that and de globalization, trends that continue to manifest themselves, and global, globally and de globalization. And I think that that’s that could have an impact on oil prices. You’re soon,
James Connor 37:32
yeah, you made mention of the fact when it went to 125 130 a barrel. And I recall in q1 of 2020 when it went down to $25 a barrel, and everybody was saying, that’s it. We don’t need oil anymore. It’s going to zero. And it’s, I guess, your analysis, it’s the same sort of thing you’re looking at it from a contrarian point of view.
Tavi Costa 37:54
Yeah, I look, I’m not a you know. I love when you are able to find an asset that already reflects a negative story and and you have enough contrarian points to take the other side of the that that idea, and there are not many things like that today, and I think oil is one of them, natural gas. I mean, there’s some regions where natural gas was being sold, the negative prices right now, just like that period you just mentioned, where oil prices were negative in 2020, and so it’s normal, you know, like I was showing a chart the other day of the gold not to digress as well, but there was a good chart that I was showing from gold miners relative to Gold, which for 3040, years, have been only going lower, and no, recently, we’ve been forming a bottom. And looks to me like the miners are starting to outperform gold itself. And that’s just such a you know, nobody believes in it, right? Because everybody gets been hurt so many times, trying to take that view, that it’s just normal. It’s plausible to see people be very skeptical about that normal. But clearly on the data, we’ve been forming a bottom and, and so, you know, it’s, it’s, it’s interesting how, you know, I, every time I post that chart, people say, Oh, I’d rather see, you know, further confirmation first. And you know, that’s the difference between buying something cheap and buying something more expensive. You know, you you have to have that mentality, and I think that’s in your gene or not, to be able to to, to have conviction to act on on something that is very cheap. So, you know, and sometimes things are always cheap for a reason. There’s an understanding that risk you’re taking is is absolutely critical in that when you’re when you’re taking a contrarian view on on something in the markets.
James Connor 39:50
So let’s talk about gold. You and your team have done a lot of work on gold and gold equities, and what are your views on gold in a falling interest rate environment like we’re exp. Parenting right now. Boy, we’re
Tavi Costa 40:01
in such a pivotal moment for the gold space, because we’re finally seeing, you know, acquisitions and mergers happen in the space, something that usually marks a big change in a cycle for this industry. We’re finally we’re still seeing production falling apart for most of the majors meaning it’s not like they’re producing more. You know, Barrick as the second largest gold miner in the world, and they’re still their production is the lowest in 20 years. They’ve been shifting their focus from gold to copper. That’s basically the narrative across most of the the major companies. Is that, you know, this is reflecting as well, and the multiples of a project. If you’re trying to buy a project, a gold only project, you know that doesn’t have any copper, you know that has a lower valuation than a copper and gold project, and that’s because there is institutional capital chasing battery metals, electrification metals and other things. And so you tend to see that reflecting on the valuation of that, you know, of those projects. And so I am of the view that this, the gold space in particular, is a legacy space. It’s a place that been there for for many, many decades and and now we’re seeing sort of a secular upper trend on the price of gold, in my opinion, that can, that can create a big driver for, fundamentally, for these companies that remain with multiples that are, think, reflecting no growth whatsoever. And so that’s key. You know, when you find something that has compressed multiples with, you know, very significant growth drivers that can that can be expanding those multiples in a big way. And so I love that space, and I think that space offers one of the most inefficient segments of the market that I’ve ever seen. And inefficiency is a cool word for opportunity a lot of times in the investment world. And so I’ve been, yeah, I think that this, this industry, is poised to to perform very well in the following decade. And so the way we’ve been playing this is, you know, obviously there’s producers, developers and explorers. The explorers look to me, very interesting, because again, the more you go to the early stages, you tend to see more geology expertise driving the valuation of these companies. And the reason that we have a lack of geologist, especially, you know, mining geologist, because majority of geologists have been going to the oil space because it pays better. But overall, Geosciences have been out of favor. Everybody wants to be a technologist, and so nobody is entering the geology industry. And so what you see there, as a reflection of that, is that that inefficiency on in markets in the exploration segment. And so we’ve been accumulating assets there that we think are high quality, that have intrinsically improved their probabilities of finding major discoveries, but are being priced as as total failures. And so it’s almost like call options. You’re accumulating those call options and seeing, you know, which one could potentially become a unicorn, in other words, having a major discovery that becomes a multi billion or billion dollar company. And so to me, that’s, you know, sort of that venture capital approach and mentality applies very well in this industry. And I would say that this dog, the way that is also very attractive is that what I mentioned about some of these projects, they get out of favor. Now the narrative always shift is in the you have to be disciplined so you don’t get into those narratives. And the new narrative, as I said, is, we want copper. We want, we want, you know, cobalt. We want zinc, but the gold only space is it looks really attractive to me, particularly those companies, the larger companies, that are selling projects for different reasons, you know, maybe because they’re tier two assets, maybe because they just want to be more in the copper space, or whatever that is. And so when you find those gold only, only projects, they’re very attractive right now. And so especially if you take them privately, given the fact that the market is still fundamentally broken, and it’s not really given, you know, awarding companies that have high quality assets in the mining industry. But I think that’s going to change. I think we’ll see those changes. We just have to be patient. And so I’ve been an accumulator of assets I perceive as high quality.
James Connor 44:43
I can’t believe Barrick is the second largest producer in the world, and their production has been declining for 20 years. That’s shocking. It
Tavi Costa 44:51
is shocking. And you know not, not to be a downer, but you know Barrick is, is the image of this industry. In a lot of ways, right? And, you know, it’s an iconic firm, and not again, not to be I don’t want to cause disruptions here. But when you look at the performance, and I’m saying this because I want other people to do it, I’ve done it. I know how to looks like. But look at the performance of Barrick relative to the overall industry, what do you see? I mean, this, this company has been underperforming. And it’s not like the industry has been doing well, we all know this industry has been doing terrible. Now look at the miners versus gold ratio. Boy, down. What 40 for 40 years? You know, 30 years, just a total decline. Look at the now. Take a look at the Barrick to the overall industry index, GDX, Gd, x, j you can take the x au index, which is the Philadelphia index. A lot of people use it. Look at the Barrick, relative performance versus that. What do you see? 30 year decline. And so in any other industry, you would have seen an activist come in and say, we’re going to clean this up. Who is leading this? Nobody’s leading this. This is a mass right that that’s what you tend to see in the back of those things in any other industry. But in the mining space has been so forgotten, neglected, that people look at these things and they think this is normal. It’s not normal. You know, this is not the face of the industry. They lack vision. We need people that with vision. We need to form the new majors. You know, again, I’m not here to bash on anybody, but I think leadership is is key in this industry, and the market is starting to really this is the time to be taking leverage, right? And, and, and as as a producer, if you’re a producer, your focus shouldn’t be on returning capital shareholders. We’re not in a recession for mining. You know your your focus should be on growth. Your focus should be on resource growth, and you should be laser focused on that. And so I think that that I’m not sure how to change the industry like that. So I guess pointing out those things is important, and hoping that somebody else wants to take the lead on that, because I’m not willing to go in the fight with with Barry, can change management and all that. I think that’s the conversation for somebody else. But you know, I’m willing to say that, that there’s something wrong, and if you’re seeing that performance the way in any other industry, that CEO would have been gone. So maybe that’s what’s going to
James Connor 47:38
happen. We’re going to get an activist involved, because they’re going to look at the cash flow. They’re going to look at to look at dividends and just the future potential, and maybe somebody else does get involved at some point.
Tavi Costa 47:49
If you, if you, you know where you heard it first. So you know this, I think this requires a change. Fortunately, I’ve got time with other things, but, yeah, like, who, needs to be the new leader of company like that? You know, we need, we need somebody to to take the lead here. And
James Connor 48:06
once again, your thesis for gold is interest rates are going lower. That’s going to result in a lower US dollar, and therefore higher gold.
Tavi Costa 48:15
My thesis for gold, I mean, I think there’s a lot of things here. My thesis for gold is long term, 510, years, you know. And I’m not a gold bug, you know, in in 10 years from now, if mining stocks do what I think it would do, I could change my view in 1510, years from now, I could be, I could be, you know, I could be doing something else with my life, instead of, you know, spending all this time with mining. I think gold is in a secular bull market. I think central banks are just starting to buy gold. I’ve presented many charts that show the central banks as a percentage of their assets now own less than 20% of gold relative to treasuries and other fixed income instruments, and they’re just in the process of accumulating those gold. And you know, back in the 70s, used to be 70% of their balance sheet assets. So if you calculate those things, and you think about the probabilities here on the central bank front, there’s a lot of upside potential on the demand front for gold. So I’m extremely bullish gold. I think we could see much higher prices. And then if you study gold prices, you know that other metals tend to follow. So, you know, yeah, we try to be cute and talk about cyclicality on the copper side and other things. But if gold goes up, and this is a secular bull market for gold, indeed, and then then copper will probably follow and do the same, and other things too, zinc and you have cobalt, manganese, all sorts of things that can do very silver, you know, is, is potentially an even bigger, you know, beneficiary of something like that. So, yeah, all my views. But then near term three, no, call it, you know, I think more a lot of people think it’s more, longer term. I call it one to three years. I think that the dollar is in real trouble. If you ask me, what, what are you most worried about the US dollar? I actually this is, I don’t think it’s the end of the dollar as a reserve currency. I’m not going that far. I’m a macro guy. I’m not a, you know, not trying to be a, you know, to make headlines saying that this is the end of the dollar? No, I’m just saying that the dollar would be, I think, under pressure because of the sense of urgency of the Fed, having to act more than other central banks that will have an impact in interest rates, and ultimately should drive the dollar lower versus other places. And then the positioning is really off, and when we see that positioning coming back, I think will actually trigger a major breakout for most currencies that are kind of in the brink of that break breakout. And once we see that, I think it’s going to gain momentum. And so, yeah, I’m very bullish in other currencies, versus $1 which I think adds to the gold, the gold case in the near term as well,
James Connor 51:00
all very interesting points, and I want to thank you very much for spending time with us today. And if somebody would like to follow you or learn more about cresca capital, where can they go? They
Tavi Costa 51:10
can go to cresca.net as a website, and it can also go to Twitter. Uh, Tabby Costa is my handle, and they can also find me on LinkedIn. I post a lot of things on LinkedIn. Just look for my name, tabi Costa, and you’ll find it a bunch of my posts almost daily that I, you know, share some of my views. I’m a follower, by
James Connor 51:28
the way. Well, thank
Tavi Costa 51:29
you very much,
James Connor 51:32
tabby. Once again, thank you.
Tavi Costa 51:33
Thank you. Well, I
James Connor 51:34
hope you enjoyed that conversation with tabby. Costa on the economy, as Tabby mentioned, he’s very bullish on the gold price. And if you would like to learn more about gold and how gold can benefit your portfolio during these uncertain times, visit our sister company, hard assets alliance.com. Hard assets Alliance is a trusted platform that’s being used by over 100,000 institutional and retail investors to buy and sell gold bullion and gold coins, once again, that’s hard assets. Alliance.com there’s a link below in the show notes. I want to thank you very much for being with us today, and I look forward to seeing you again soon. You
