Michael Green warns that passive investing has quietly turned markets into a self-reinforcing bubble (Ponzi-like in nature) and reveals why bonds now offer once-in-a-generation returns.
In this eye-opening conversation with Maggie Lake, Michael explains:
- How passive flows are distorting market prices and fueling extreme valuations
- Why today’s AI boom mirrors the dot-com bubble, and what comes next
- How tariffs & government intervention are reshaping the economy
- Why the U.S. may already be in a recession (and why it’s not obvious yet)
- Bonds vs. stocks vs. gold—where he sees true opportunity right now
- Why small businesses are disappearing while mega-caps consolidate power
Michael makes the case that high-quality bonds, especially TIPS, are a rare long-term value, while most equities remain overpriced and speculative. He also warns of deeper structural changes ahead, from AI-driven labor disruptions to the slow erosion of small business.
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Michael Green 0:00
Does very much have that late 99 feel of you know the internet is here. You have to claim your ground, and then you will be positioned to succeed forever, right? Ai very much that feel we’re clearly in a bubble. If everybody is passive, then price discovery ceases. Money comes in, there’s nobody to sell to. Prices have to go to zero, and so you end up with extraordinary volatility.
Maggie Lake 0:31
Hello everyone. Welcome to wealthion. I’m Maggie Lake, and today I’m joined by Michael Green, Portfolio Manager and chief strategist at simplify Asset Management. Hey Mike, it’s
Michael Green 0:40
great to see you. It’s great to see you. Maggie, thanks for having me on. So as we tape
Maggie Lake 0:44
this, s, p and NASDAQ are sitting close to record highs. I just wonder what your what your sense of the market is, is this? Does it feel like a bubble that’s being stretched, or is this a sign that maybe earnings in the economy are holding up well, despite all the challenges out there? Well, I
Michael Green 0:58
think both of those can be true, right? And so the economy has held up probably better than most people would have expected. We’ve clearly seen a deceleration. Unemployment is higher than it was a year ago. The labor force is smaller than it was a year ago. And so there’s lots of indications that things are slowing down, and the tariffs are starting to bite across the supply chain, whether that’s showing up in higher prices at the retail level is not entirely clear if we look at the goods sector in particular that’s playing through. But the irony is, is that can be true at the same time that a bubble can be created, particularly if the primary source of inflow is money that’s coming in strictly through passive allocations. And so, you know, when I started talking about this on real vision a decade ago, you know, it was broadly seen as a form of craziness to articulate the passive investing was changing market structure. Today, we very clearly see that the academics have come out in support of it. Most market commentators will now acknowledge it, and unfortunately, it’s the reality of the world that we live in. If you give people a tax based incentive and a liability incentive to invest in a particular way, you’re going to see them do that. And that is largely what has played out. It’s led to an extraordinary concentration in the indices. Many people will point out that the valuation spreads between the US and other markets are somewhat explained by fundamentals. But at the same time, they’ll note that if we step outside of kind of those leading AI type companies, which, by the way, they are not AI companies based on their overall revenue streams by any stretch of the imagination, but if we look at those leading companies, they are truly exceptional companies delivering extraordinary high margins. The rest of the US market is just like everywhere else around the world, and yet it’s trades at a significant premium that is higher than it has been at any period in the past. And we know why that is. It’s obviously because the Federal Reserve is keeping interest rates too low. Oh, I’m sorry, that’s not what was driving it. What we know now is, is that it is passive, and you know how that plays out and how that reverses itself, is still the subject for debate and whether it will ever reverse itself. You know, I very clearly fall into the camp that says we’re just heightening sensitivity and raising the risks, but we’re clearly in a bubble,
Maggie Lake 3:19
yeah, so it’s, it’s interesting, the the and obviously you’re talking about four, oh, ones, right? You get attacked. You can put money before taxes away. You have an incentive for doing that. Everyone’s company, for those who have access to it, is kind of set up for it to be automatically happened. So that’s this sort of wall of retirement money that’s been feeding in. It’s also like behaviorally, it’s been working, right? So even, even, and I don’t know if you believe this, but you know the narrative is, after all of the volatility and market dislocation following Liberation Day in April and that big downturn, it was retail that stepped in, not institutions. I don’t know if you believe that, but And it worked. So even without the tax advantage there, if you’ve been putting your money in those stocks, it’s been working. And so it seems like it just reinforces that behavior that you talk about.
Michael Green 4:13
Well, it absolutely does. But again, it is because it is a tautology. If flows drive prices higher, and I add flows, prices will go higher, right? So until that game stops. Now the question is, are you getting a good deal with what you’re buying? That’s something that can only be answered in the future, and theoretically, it’s only supposed to be answered from the cash flows that are delivered to you by the underlying financial instruments. It’s very, very hard for that to be foreseeable when we’re trading, you know, at three times sales for the S, P in total. If I look at the narrower segment, segment of the market, you’ve got companies that are among the largest companies in history that are trading at, you know, 510, 15 times sales. You. It’s very hard for a company to grow into that, not impossible. There is a scenario in which it occurs, but it does very much have that late 99 feel of, you know, the internet is here. You have to claim your ground, and then you will be positioned to succeed forever, right? AI has very much that field, that feel of, we’re going to bury tons and tons of fiber, or we’re going to build tons and tons of data center capacity to meet the inevitable demand for it. One of the great ironies of technology is anytime you introduce a product that is priced at a premium, it creates incentives for people to figure out ways to use less of it. And so if I consider the vectors that existed in the.com cycle with the rollout of fiber and internet connectivity that really drove that boom. You know, the key innovation was not actually laying fiber. The key innovation was on the switching technology and the amplification technology that enabled that fiber to carry 1000 times more per fiber than we had originally forecast. Even today, after 25 years of growth of the internet, where it’s become ubiquitous for most regions of the world, we’re still actually under utilizing the fiber that we laid 25 years ago. I’ve got a sneaking suspicion something similar is going to happen on AI. And I, you know, hesitate like if AI actually turns into AGI, if it truly has the breakthroughs that people are anticipating, imagine what happens when it turns itself back upon itself to optimize for efficiency as compared to optimize for processing capability. Very classic evolutionary process. The same thing that happened in the.com cycle with telecommunications is almost inevitable to happen to AI. We’re already seeing that, right? The key innovation from deep seek was not actually better processing, it was more efficient processing. And so that is that’s flowing through. We’ll see that play out. But my hunch is, is that there’s an awful lot of excess investment that is playing out right now,
Maggie Lake 6:59
excess investment and maybe no moat, right? That’s the other concern around this. Well, I
Michael Green 7:05
think that’s one of the most interesting things that’s also happening at this time, is that even within the Trump administration, we’re seeing more and more antitrust activity that is effectively eroding the moats that businesses already have, right? I’ve used the expression. Why are you reading this now with you? E, W, E, right. Why are sheep reading this now to help people think about the underlying concept of, why is this news actually making its way to the front? The simple reality is, is that multinational companies are increasingly having their activities dictated by governments, even as we declare that, you know we’re going to deregulate. Simple reality is that the political powers are taking an increasing share of the decision making. That is what you see with the political uncertainty. That’s what you see with tariffs. With the stroke of a pen, a president is able to change the economic fortunes of 1000s of companies and millions and millions, if not billions, of individuals that’s a lot more powerful than, you know, Satya Nadella, or, you know, whoever it is that’s running, you know, Facebook these days.
Maggie Lake 8:10
Yeah, do you see that as a threat that seems to me to be would be of great concern for people who think we’re operating in a free market.
Michael Green 8:18
It should be. But the answer is, is that there is no mechanism for it, right? So if I’m sending my money to Vanguard or to Blackrock through a target paid fund, does anyone stop and consider these forward looking components? No, they have a very simple algorithm. Did you give me cash? If so, then buy. What am I going to buy? I’m going to buy things in proportion to their existing market capitalizations. Well, those existing market capitalizations don’t reflect that underlying risk, then it has no impact on it, and I’m going to steamroll over the people who are expressing that concern, and that, unfortunately, is what translates into bubble like valuations.
Maggie Lake 8:57
If you have any questions about how to navigate the current environment, wealthion can help connect you with a vetted advisor to get a free portfolio review, just click the link in the description below or head to wealthion.com/free there’s no obligation, and it will just take a few minutes of your time. Again, that’s wealthion.com/free thanks so much for joining us. It’s a really, really important distinction, and I’m going to guess that a lot of people listening to this, have, you know, are expressing their equity exposure in that way, because that’s what the system was set up to do. When you’re talking about 1999 it’s worrying, because, you know, I, I’m sure that we could rattle off a bunch of names of companies that don’t exist and and we know that people were really hard hit and had a hard time building back from the loss, especially those closer to retirement that came when that bubble finally burst. But as you point out, a lot has changed. Do you think the nature it sounds like you’re not sure that a bubble can burst based on the flow and the passive flows we see right now? Oh, I
Michael Green 10:00
think it’s inevitable that it will burst. I want to be very, very clear on that. The question is the timing of it, right? So each incremental dollar that comes in as passive gain share becomes exponentially more powerful, because the residual market, the remaining market participants are never going to sell unless given an explicit instruction, right? So, Cliff Asness has done a good job of raising, you know, this theoretical issue that you face in finance, like, if we think of the world as passive versus active, John Bogle said the same thing, right? If everybody is passive, then price discovery ceases. Money comes in. There’s nobody to sell to. Prices have to go totally asymptotic. Money goes out. There’s nobody to buy from you. Prices have to go to zero, and so you end up with extraordinary volatility. If you hit the limit of the last dollar goes passive. The question is, what happens when the second to last dollar goes passive, or the third to last dollar goes passive? And the answer is very straightforward. The market becomes more and more volatile. It approaches that asymptotic volunt volatility over time. It doesn’t happen immediately. All my work suggests that we are now well past the point at which passive behavior is volatility enhancing. And you know, as of today, not to make this a timely you know statement, but you saw Kohl’s take off and rise 100% you know, overnight, open door traded, give or take as many shares as the rest of the market put together yesterday. These are really silly ways to use markets for capital allocation, right? The objective of these of markets is to basically provide secondary market pricing on the cost of capital to facilitate the allocation of capital to various businesses. That sounds like an esoteric demand, right? But the simple reality is that’s what they are for a market exists, not for retirement purposes and not for retirement services, but instead for the benefit of companies and investors that are trying to set that marginal cost to capital. We’re not using them properly. We stopped using them properly a long time ago. We treated them like a utility. And anytime you abuse a natural resource, whether it is too much carbon being released into the atmosphere or whether it is too much speculation in financial markets, you’re going to corrupt that process, and you’re going to turn it to bad outcomes as compared to good outcomes. So
Maggie Lake 12:25
against that framework, are equities a dangerous place to have your money if the if they’re the market’s not even functioning for what it was originally set up to be, and it’s corrupted? Well, I think
Michael Green 12:36
it really depends on what you’re trying to accomplish, right? I mean, you know, is a casino a good place to plan for your retirement? No, but will some winners emerge? Yes, right. And so the question is, are you playing a skill game, or are you playing a luck game? If you’re playing the luck game, the odds and higher volatility is stacked against you. If you don’t really know exactly what you’re doing, then the odds are stacked against you. You may get lucky for a streak, you may, you know, tip the cocktail waitress an awful lot, and feel very comfortable in your skin, but the simple reality is you’re playing on borrowed time. You’re not the skilled player. I’m just going to lay this out very quick, quickly for you. Susquehanna, Citadel, Millennium, those are the skilled players that are slowly taking more and more money away from the retail investor, even as the aggregate wealth rises in that process. The simple reality is, if you own shares in the s, p5, 100 ETF, you own a speculative ticket towards prices going higher. You’re not capturing significant cash flow. The dividend yield is non existent, right? You’re not necessarily buying a significant stream of earnings because you’re overpaying for it so much so the cash flow that you should expect to generate from that asset is de minimis, and yet, we’re being forced into it by policy.
Maggie Lake 14:00
I hope everyone hits pause and replays that sentence to understand exactly what you’re entering into when you when you invest, because it doesn’t feel like that is there another asset class that is an alternative, that is functioning properly, and is a where you have you have more you’re on more of an even playing field. Well,
Michael Green 14:25
I think that there are asset classes that have characteristics that don’t lend themselves to this type of behavior. The one that I keep highlighting for people is, unfortunately, bonds. I do think that bond prices are heavily affected by the way we choose to invest. I think that’s actually creating opportunity right now. Interestingly enough, the Bank of Canada just released a report two days ago that’s actually talking about the impact of investment flows on the behavior of interest rates in Canada, and identifying that there’s ways that that can be manipulated. This is built. Off of the same research that backs my work on passive the inelastic market hypothesis by Gabe and coydon. So we’re growing increasingly aware that bond markets are affected by it. The question is, how are bond market effect? Bond markets affected by it, and what do they look like over time? I’m happy to share some slides, because this is actually areas of new research that I’m spending a lot of time on. If you’re Yeah,
Maggie Lake 15:23
go ahead, yeah, please. Well, I think this is very interesting. And once we walk through your thinking, we can talk about, there’s a whole group of people who just say bonds are uninvestable right now based on debt levels. So I think it’s really interesting to it’s going to be interesting to hear your thoughts on this, and then I would be great if you would respond to
Michael Green 15:40
that. Okay? So I apologize that these are terrible charts, right? But So just very quickly, if you think about what happens with equities, equities are effectively an unbounded cone of possibilities, right? If I put $1,000 in, I could theoretically lose, you know, 80% of my money, my expectation is something in the neighborhood of six to 10% a year. And there’s also an upside scenario, that these are effectively unbounded, right? So there’s a widening cone of possibilities in a passive world, right? Where the only thing that is decided is, did you give me cash? If so, then by where that cash goes reinforces or rewards companies that have gone up since the last time I bought buying more of those, it actually drives this cone of possibilities and becomes quote, unquote, Ponzi, like in its framework, in that the exit price that I receive is simply a function of what somebody else wants to pay. If that somebody else is a marginal player, like a passive player who simply says, well, whatever the last price is, I’ll buy it. There you get this widening cone of possibilities with an upward bias. They become Ponzi like bonds are very different animal. While you have a positive expected nominal return, there’s obviously debates around inflation, but at the end of the day, a high quality bond converges on par plus the interest that is received. And so instead of a widening cone of possibilities, it’s effectively an American football in flight, right? This is a terrible illustration of what an American football looks like for those who are actually looking carefully at the graph, but you get the general idea there is a high interest rate path in which bond prices fall and then recover towards par, generating a higher return. There is a low interest rate path in which the bonds trade at a premium, right? So that makes sense. But at the end of the day, you’re forced by the cash arbitrage, the endogenous liquidity that exists within bonds, back towards par over time. Bond trading at 85 cents, if it’s a high quality bond, will eventually trade at bar at par. A bond trading at 150 if it’s a high quality bond and not a convertible or something else, will eventually trade at par. We know these things to be true, so that actually creates a really interesting phenomenon in interest rate space, which is the passive impact on the bond itself based on how they’re held. Okay, so now let’s think about what’s actually happening in the bond markets right now. And so this is actually looking at the total bond market index. This is the Vanguard Total mon bond market index, and it’s looking at the holdings relative to the face value of the bonds that are outstanding. And something really interesting pops out right, which is that because so many bonds in the 10 to 20 year range, and so many bonds in the 20 to 30 year range were new issue bonds at kind of that 10 year point, that 20 year point, or the 30 year point during the period in which interest rates were really, really low. So if I issued a 30 year bond in 2025, or, I’m sorry, 2020 at, you know 1% interest rates that bond is currently trading at somewhere around 65 to 70 cents, that means that the bond indices themselves are underweighting those bonds. And so the next dollar that comes in buys less of those bonds than it would of a new issue bond, or, more importantly, the front of the curve. And so a lot of the behavior, I think, that we’re seeing where there’s been a an extraordinary increase in what’s called the basis trade. This is where hedge funds are short Treasury futures, which trade at par and then long the off the runs. That gives you effectively a positive convexity bet on lower interest rates. That bond that’s at 85 cents can go to par as compared to the futures, which would not do anything like that. Again, anytime you see this, it’s telling you that there is effectively an index ARB play that is going on in the hedge fund community where they figured out that passive is distorting something in some way, shape or form. And unfortunately, I think this is exactly what’s happening in the bond market. We’re seeing relative. Weakness at the long end the duration components, where the passive bond indices are just structurally underweight because of the way the indices are constructed. So I actually don’t think there’s anything wrong with the bond market. I think the concerns about debt to GDP being too high, for example, fly in the face of the very obvious evidence that China has even higher levels of debt to GDP, and yet its bond market has done the exact opposite of what the US has done. Its bonds have gotten cheaper in terms of yield, higher price. That’s because they’re directing the flows internally in a way that we aren’t in the United States, like it just makes absolutely no sense. I mean, I’ll give you a really simple example to pull up one last chart. So here are Western rates, China, US, or, I’m sorry, US, UK and Australia. And I include Australia for a really important point, Australia’s debt to GDP is 25% basically has no issue with debt levels or deficit levels, etc, yet its bonds are doing exactly the same thing as other Western countries. In contrast, China, which is far more levered than the United States or any of these other countries, is actually seeing its interest rates fall dramatically over the same time period, right? I could show you another example like the current argument that’s out there is, is that you know us, mortgage rates would go up. If the Fed were to cut interest rates right, the curve would steepen dramatically. There’s just no evidence for that, but we’re actually seeing is, as a US, mortgage rates are doing exactly what they’ve always done. They’ve followed. They’re following the two year yes, spreads are high for the very real reason that people are worried about the convexity or the maturity profile that would change radically as people refinance their mortgages at lower rates. But the simple reality is, there’s no mystery to what’s happening with us. Rates the Fed has stopped cutting, and there’s significant debate about whether the Fed will hike again. Now that they would do that with incredibly high real rates, is beyond me. I don’t understand why they would do that, other than making a mistake, but in my analysis, they’ve made many mistakes over the last several years. So I wouldn’t put it past them, but that’s just telling you everything that we’re actually looking at. Do you see this western race? Yep, I’ll stop sharing that now. Yeah. But the really critical point that I would raise is that if you are trying to do what David Einhorn and others have argued that you should do, which is find markets that are less corrupted by passive in which there is endogenous cash flow, where the return is generated by the instrument itself, not the Ponzi like characteristics that others want. You know, the simple answer is, this is your, you know, this is where you want to go, right? Being given opportunity by passive at this
Maggie Lake 22:46
point. Yeah. So, so first of all, it’s an opportunity because passive is kind of distorting it. So don’t pay attention to that. It’s still you’ll benefit by getting in and ignoring that.
Michael Green 22:56
Well, you have to pay attention to it, right? I want to be very, very clear, like, you know, if it is influencing, and it’s going to continue to continue to influence, it’s not going to stop, but it is giving you an opportunity by ignoring those areas, the same argument, by the way, that people would make who say that small cap is ignored, or international is ignored, and those are absolutely true statements, Right? We see relative underperformance of US Small caps, but the simple reality, small caps are not cheap, right? Everything in the equity world has been inflated by this passive component. It’s just a question of by how much?
Maggie Lake 23:33
So what about the argument that many have made? And this is why I think that they say they feel bonds are not investable, is that you’re in the beginning of a generational downtrend for the dollar. So there’s, you know, there’s currency, Fiat, Fiat, currency devaluation, which is going to make bonds on investable.
Michael Green 23:52
I mean, look, it’s, it is a narrative that you can adopt, and you can tell yourself why you don’t want to buy bonds. The point that I would emphasize is, is that, you know that narrative is useful to explain why you’re not doing what you should be doing right, and what people, by and large, I would argue, are trying to do, for the most part, is explain the price behavior in markets. When I get calls for commentary on, you know, why is the S, P up, or why is the NASDAQ down, or why is this happening? Et cetera. What people want is, they want the answer to the price behavior, right? They’re not actually interested in, is it a good investment for the next decade? And that’s really what you should be trying to ascertain, is, is it a good investment for the next decade? Not? Is it a good investment for the next 15 minutes?
Maggie Lake 24:41
Yeah, when? And that’s that sort of short termism. Is something that I think is also corrupting the system
Michael Green 24:48
in a world in which calls can rise 100% in a few seconds, I can understand why that is right. It is a like. It’s a very understandable impulse, right? When those around you are. Getting rich off of an apparently random pull of a, you know, casino slot machine. There’s a very strong incentive to put your quarter in there too.
Maggie Lake 25:10
Yeah, so I what is driving what? Or what will drive bond yields from here? Is it? What traditionally so that we know the flows are impacting them. Does that mean things that used to dictate bond where yields were, like the economy, like inflation, we now know, like fiscal policy? Are those things still having an impact, or is that muted because of this our play that hedge funds and others are doing
Michael Green 25:44
well, I think the answer is yes, right? It’s both. The simple reality is, is that fiscal policy determines the supply of bonds. Mon you know, the policy within the Treasury determines where those are being issued on the curve. For all the hoopla about Janet Yellen should have turned out debt. We’re now seeing Secretary Besson do effectively the same thing, issue at the front end of the curve. The simple reality is, is that the US distribution of maturity profile is actually quite long relative to its history. There is more duration risk out there in the markets than there has been historically. And us issuance while it’s currently focused at the front end, that’s where we used to do all of our financing. Now the scale at which that financing is occurring is an issue, and it can be affected by fiscal and it can be reduced if we enter into austerity measures or raise taxes or anything else. What I think is so fascinating is people are very fixated on the idea that the Trump one big, beautiful Bill has significantly increased the quantity of debt that is going to be issued, according to the CBO, and that is unquestioned, right? Guess what? If you extend tax cuts, it’s going to cause more debt to be issued. But those analyzes fail to take into consideration tariff policy, because by and large, people are treating tariffs as if they are a one time or a short term event that will eventually be removed with negotiations. That’s possible. But you know what would be disastrous policy to introduce tariffs and then take them off, because what you’re actually doing then is you’re sending the signal, no, you actually can’t invest in the United States, because the price umbrella that we’re trying to create for you that would allow you to compete on the net, on the global stage, is totally variable, right? It’s like trying to dine at a cafe where a waiter comes and randomly opens and closes the umbrella. Is that a very enjoyable experience? Do you want to eat there? No. Do you want to eat there if it’s raining? No, absolutely not, right, because the umbrella is basically being randomly taken up and put down. It does no benefit for me. All it does is leads to me not making investments. So you know, my interpretation of of tariff policy is, is that it’s probably here to stay, and that will manifest itself in higher prices for goods and services that are affected by those tariffs. Almost all services are going to be negatively affected by those tariffs. We’ll see an acceleration in prices down lower for those but many things are going up in cost, and you know, we have to accept that, and particularly something like CPI, which is a fixed basket for a period of one year. There’s no mechanism for it to adjust its weightings quickly enough in this type of period of dynamism. So we’ll unquestionably see higher CPI for the remainder of 2025 but almost all of the metrics that are out there in market based measures, things like a one year one year inflation swap, or a longer term inflation swap, they all tell you the same message, which is, this is a one time shock to the price level that, in turn will lead to more disinflationary or deflationary outcomes going forward. And that’s demand drops. Yeah, because demand falls, right? I mean, price goes up. And, you know, with many, many households, basically on the margin anyway, what you’re really going to hit here is new household formation. It’s becoming more expensive for you to move out of your one bedroom apartment into a three bedroom house, because the cost of furniture has gone up. The cost of home furnishings have gone up. The cost of appliances have gone up. The price of your home insurance has gone up, and, oh, by the way, your interest rate on your mortgage is at a level that is at generational highs. So we’re seeing exactly what you would expect, a significant decline in household formation. That means that many pantry items, right? Like, how many paper towels do I actually need? Well, if I’m living in my own house, I probably need six paper towels. But if I’m an incremental member of my mother’s house or my father’s house, or, you know, my sister’s or whatever, I probably only add one to two paper towels of incremental demand, right? I’m giving a really simple example there just to illustrate pantry effects. But all of that translates to lower demand. And so. You know what people are not fully capturing, I would argue, is the actual taxation and the reduction in government debt issue, which we’re already seeing, by the way, on the supply side.
Maggie Lake 30:12
So do you think we are in a given that we are going to see some high inflation before that demand destruction sets in and we see, are we in a higher interest rate environment in the US, or do you see them moving lower because of the once we get past that initial tariff?
Michael Green 30:28
Well, I think ultimately that they’re going to be forced significantly lower, because ultimately interest rates, the nominal interest rates, should reflect something along the lines of inflation plus real growth potential. Real growth potential is bound by a very simple equation, right? It’s output per hour, number of hours per worker, and number of workers in total. We’re not seeing a revolution in output per hour. We will see improvements, continued improvements in output per hour, things like AI will help that, et cetera. But the reality is those numbers move very, very slowly, and it relatively fixed levels. And candidly, for the past 40 years, the only meaningful improvements in productivity that we’ve seen is during recessions in which, effectively, low productivity individuals or people who are not particularly good at their job are pushed out, replaced by the people who are there, who are good at it, who just do more work, right? And so you end up seeing that sort of productivity push. But it is a reorganization that occurs during recessions. It’s rarely one that happens smoothly during normal economic functioning,
Maggie Lake 31:35
yeah, although you mentioned we face AI now, which, by all means, is is coming and potentially going to result in job losses. I mean, do you see a picture where the US is headed to reset toward recession, or are going to enter recession or higher unemployment because of the combination of these higher prices and maybe AI picking up the jobs
Michael Green 31:57
more Well, under most metrics, I would actually argue that we are probably already in a recession. And so if I look at things like full time jobs, those particularly if adjusted for the population controls that the BLS and Census Bureau just introduced, you know, we have been flat in full time jobs now for an extended period of time, we are seeing clear signs of oversupply in some sectors of the economy, particularly those amongst young people graduating from college with degrees that are increasingly marginal in terms of their their potential impact. I mean, one way of thinking about what is being done with the tariffs it is, it is a very clear attempt to reallocate us resources away from services and towards production. And really the only way that happens is, is that you take young people and you push them into these roles, right? So it means that you will end up seeing young people gravitate towards industrial manufacturing. Are they actually going to be working on an assembly line? Laverne and Shirley style or, or, you know, I Love Lucy style, absolutely not. But will they be there, maintaining the robots and making sure that things are working well in an automated facility? Almost certainly or simply guarding the facility right? All of these things will see jobs created. But it’s almost implausible to think that you’re going to take a paper pusher from the DMV and reallocate them towards systems design and, you know, automated factory manufacturing, so there will be disruption associated with this. That’s what the late 19th century and early 20th centuries were all about. The reorientation of our society away from one that has traditionally been dominated by agriculture and people working on small farms, people living in cities, working in factories, and then moving out to the suburbs to work in factories and office buildings, et cetera. We’ve just entered into another restructuring cycle, and you see this in the resources that are being created, by the way. I mean, San Francisco has 34% office vacancy, right? Right? The only way that that gets consumed is by repurposing that into a different mode.
Maggie Lake 34:06
Yeah. So when you’re looking at when you’re looking at bonds, are you does it look like government bonds are attractive, or are corporate bonds? Well, how do corporate bonds fit into that?
Michael Green 34:17
Yeah, so, so I lean actually towards the category that says the government bond itself is the most interesting asset. The most interesting asset, I would broadly argue, is actually an inflation protected government bond, which is offering you, again, generational high levels in which you can lock in a Inflation Protected rate for the next 30 years. That is dramatically better than what we were getting on short term nominal paper rates just five years ago. Right like dramatically, dramatically better the yield on a 30 year tip right now. Let me actually just pull it up here.
Maggie Lake 34:59
All. Um, I love the real time price check,
Michael Green 35:05
yeah. Well, I just want to make sure that I get this this number right. Yeah. So it’s 2.6% right. Just to put that in perspective throughout the entire period of the 2010s that was basically the nominal rate, right? So now you’re picking up a real rate that is equivalent to the nominal rate that was available to you over the past decade. Give or take, that’s an extraordinary, you know, return profile. I’ll say it another way, like people want to sell bonds after bonds are down 50% it just and again, these are instruments that are high quality, that you know are going to actually recover to par and so nobody has any interest in it right now, for the very simple reason that it is ignored or heavily underweighted in passive bond index construction, it provides people with their very convenient story, right? Yeah, I don’t want to buy these things because they’re doomed by inflation. What am I going to buy? I’m going to buy Microsoft trading at six times sales, right? Okay, that makes perfect sense, right? What’s, what’s your argument for that? Well, inflationary growth like, Well, wait a second here, inflationary growth is actually already captured in that because a price to sales ratio is taking a nominal price versus a nominal price, right? That cancels out. Gives you a real metric. It should be relatively unaffected by it, right? The simple reality is that that is just what people are telling themselves, to make themselves comfortable at this point and to allow them to do what they don’t want to do, right? Which is change. Nobody wants change.
Maggie Lake 36:47
Yeah. And to be fair, there’s a there. You know, there’s a lot of doom mongering out there about the fact that debt levels are unsustainable. We’re headed for a sovereign bond crisis. Japan’s the canary in the coal mine. Everyone’s losing control of their bond market. Bond vigilantes are back. I mean, this is probably rattling off of a few of the headlines that over the past two weeks only.
Michael Green 37:09
Yeah, I know. I think that’s pretty straightforward. I mean, you know, I would encourage people go check out Vanguard’s website. They actually have asset class forecasts, and it will tell you their expectations for bonds. By the way, it’s almost impossible not to have a 30 year real return of 2.6% when that is you know what the nominal yield is, because it is capturing the inflation component, right? So like, you know what you’re going to get over the next 30 years. If I look at equity forecasts from Vanguard themselves, they’re going to tell you that the expected returns are terrible and well below bonds. Does that change their asset allocation framework? Not at all, because
Maggie Lake 37:47
it’s, it’s it’s sort of set and again, remembering that cone of a possibility if you’re trying to plan for your retirement, you know you’ve got to hope that you’re smart enough to time the market for all the probabilities that might be out there. What about, I know we’re going to get comments about this. What about bonds versus gold? And I could throw in Bitcoin, but we’ll wait on that for a second. But let’s just take gold, because that’s the you know, the gold club has been banging on about hard assets are the only place to be right now.
Michael Green 38:20
Listen, I think that it is always important that you acknowledge what you’re getting with gold. It’s effectively an exit ramp from the fiat system, and Bitcoin ostensibly falls into the same category. We can come back to that in a second. We know what’s powering gold right in June of 22 when the US decided to take away China, or take away Russia’s foreign reserves in US dollar terms, it became a very clear signal that it was not safe for foreign countries that expressed interest at odds with the United States to hold all of their reserves in US dollar terms. And from that point, gold has diverged from interest rates or every other metric that you would historically have associated it with to reflect the fact that it is one of the diversifying vehicles that is available for a country like China, and we know that this is actually what’s happening now, as Western investors grown join that party. You know, the flow into gold has powered the price of gold higher. There’s nothing nefarious about that. It doesn’t tell you that it’s a good deal or that it’s a bad deal. It simply tells you what is and so your question is, is more and more of that going to happen? You know, the answer is probably right, but at the same time us tariff policy is now actually going to reduce reduce the flow of funds that can be used in that manner. And so this is actually another critical component, right? Remember that when tariffs were introduced, tariffs are a tax on consumption, right, tax on consumption generated from foreign goods, theoretically services as well. Although the US runs a trade surplus there, what that means is there are less dollars. Is available to China to buy gold with. Right as the tariffs bite, it theoretically reduces the quantity that is being sent into gold. Likewise, tariffs reducing us purchasing power means more of our disposable income needs to go buy those goods and services, and less of it is available for financial speculation, like buying gold. This was supposed to manifest itself in that relative shortage of currency, right and dollar strength. That’s what everybody expected coming out of Liberation Day or into the tariff announcement. Obviously, people traded ahead of that. The dollar strengthened sharply into 2025 and it is now given that back. But the simple reality is, the math remains the same, right? So what you’re likely headed towards is a period of dollar strength, even though I realize how unpopular that is. Could it be offset by other policies? Yes, if those emerge, and you know, the government decides that it massively wants to weaken the US dollar with various techniques. Great. More power to you. Let’s see it come. But it’s not there now, and so almost all of the evidence is is that we are about to enter into a period of dollar strength that would be very positive for bonds. It would allow bond rates to fall and offset part of that, people have highlighted that the dollar has diverged sharply from interest rate parity. That’s telling you what’s happening. People are expressing that uncertainty, just like they are diverting resources away from US Treasuries to buy gold. They’re also saying, You know what, I’m less confident in the dollar than I was, therefore I’m going to hedge that, therefore those flows that typically would flow through to interest rate parity if there’s an increase in hedging activity that shows up as basically dollar weakness, because it is a net dollar sale, right? It’s synthetically creating those hedges roll off and creates artificial buying of the dollar when it occurs, right? So, like almost everything, suggests that our immediate reaction to this stuff has, by and large been a function of the uncertainty around what’s going to happen to our employment numbers, what’s going to happen to the flow components, etc. Those aren’t going to change immediately, as I’ve emphasized over and over again, uncertainty doesn’t beget action. Uncertainty begets planning, right? It begets preparation. Am I going to take the right fork or the left fork? Well, let’s scout out the two areas, which is the better one, etc. Let’s make a decision, because once we’ve done it, it’s more difficult to go back. You’ve got a meandering river and a painting behind you right at every point it faced an obstacle, and ultimately had to pass it right. But the process of doing that is that it dams up, slows down, nothing happens, and then a rush of activity occurs. I would argue that’s largely what you’re seeing in the US economy. We are seeing the large companies making a list and checking it twice of all the employees they want to fire, right? You know that is really what is underway right now. Does that manifest itself as a dramatic increase in layoffs? Well, we’ve seen the Warren notices rise. We’ve seen the hiring slowdown. We’ve seen that uncertainty expressed, and it is somewhat stochastic at this point. Do we see far greater demand for US goods and services domestically, offsetting that that import, that import bill and reflecting the tariffs, or do we just see a dramatic slowdown in consumption overall that manifests itself as what we call a recession? Little bit hard to know, although I lean towards that recession component,
Maggie Lake 43:33
yeah, what about, uh, rest of the world? So you made the case of for bonds, for US Treasuries, and it sounds like longer duration, but correct me if I’m wrong on that, and what about the rest? What about the rest of the world? Are you? Do you feel the same way about other bond markets? Or is this a US bond market opportunity that you
Michael Green 43:53
say? I think it is largely a US dollar US bond market opportunity. I do think that rates will ultimately be cut around the world. Those Western rates are elevated because the Fed has elevated rates so high. You know, a lot of people will say that monetary policy is loose, that the Fed should not be cutting my analysis suggests that that the Fed has hiked far too far, and what you enter into in a regime in which you hike rates way too far is again, that uncertainty, right? Who is eventually going to fall there’s an incentive that you’re basically playing a waiting game to see which of your competitors are driven into bankruptcy before you act yourself. Right? That last mover advantage is really quite critical, and so it behooves you as a company to basically pretend nothing matters. Right? No interest rates going higher, that’s an opportunity, right? Interest rates going lower, that’s an opportunity, right? All your customers dying in a pandemic, that’s an opportunity, right? That is your incentive structure, because you want to play in the next round of the game, and the better you position yourself, the more likely it is that your competitors exit. Hmm? Yeah, and I think we’re seeing a large portion of that, right? If I look at Gap earnings relative to real earnings, you know, reported earnings, right? Nobody wants to acknowledge the costs associated with this stuff, and so we’re seeing a divergence between those two. That’s just another way of saying, everything’s fine. Totally cool. If you’re waiting for us to fail, don’t bother. You should probably shut your doors first.
Maggie Lake 45:25
Yeah, yeah, that, I mean the standard line and something we see, by the way, a quarter to quarter investors will kill you if you actually try to say something that is, you know, close to real for six months. So last question I want to ask you before we wrap is, you know, I know you go way back and started looking at small caps. So do you do you see any opportunity in stocks, even if it’s not in the US? I think you made a really powerful case about passive and obviously the large caps are feeling it the most. But when you look around the world, do you do you see an opportunity in some companies that have been kind of left behind by this, all, us, all, AI, mag, seven trade, or is, is, do you feel, for all the reasons you laid out, that really the opportunity is bonds, and that’s really what you’re looking at.
Michael Green 46:14
So I really think the opportunity is bonds. I am sympathetic to the argument that people are making on a relative value basis, right? The US equities small caps are better positioned. It’s not quite 1999 right? So 1999 US small cap value was deeply discarded and depressed. You had companies trading at 123, times. Earnings, book values way below zero, etc. Almost every US company is captured in the broadest indices, those total market indices, and as a result, they have experienced positive pressure on their valuations. We’re somewhere in the neighborhood of the ninth percentile on a sales basis. We’re somewhere in the neighborhood of the 50th percentile on a PE basis that tells you the margins are extraordinarily high, even across small caps. And then I think it’s the other factor to consider is, is that, you know, when we talk about, like, who’s going to shut their doors? It’s not a $2 billion company in the Russell 2000 that you need to worry about shutting their doors. It’s the local mom and pop and that you know that divergence really defines almost everything we’re seeing. If you are a small business doing somewhere in the neighborhood of 50 to $100 million worth of turnover, I guarantee you that the strategic discussion that you’re having is, when do we sell to private equity in a roll up so that it can be consolidated up to a public company type level, right,
Maggie Lake 47:44
everywhere, by the way, seeing it everywhere. You know,
Michael Green 47:47
absolutely, if you are a local mom and pop retailer, if you are the local stationary store, etc, the reality is, is that your business model was built during the 20th century in which people were suddenly gained access to cars and strip malls, and shopping malls became destination locations in the same way that the general store was an anchor to a 19th century or early 20th century town. Right? That’s going away as we develop last mile delivery technology. Many of those businesses simply can’t compete, among other things, they can’t find employees who are willing to stop looking at their phones long enough to actually check the customer out, right? And that is what we’re seeing in the data sets, right? I mean, the real challenge in finding jobs is finding a young person that wants to sit at, you know, the local frozen yogurt stand and have customers berate them for not getting correct the quantity of, you know, mini Hershey’s Kisses that they’re dropping on top of their, you know, twists strawberry, chocolate frozen yogurt, right? Those are terrible jobs. No human being wants to do it. No human being wants to sit there for that sort of of, you know, abuse. And I get it. I understand that there’s older people screaming at the screen saying, I had to do that. Et cetera. Well, you didn’t have to do that in an environment in which vagrancy and homelessness were tolerated and people could spit on you, and there was really nothing you could do about it. Et cetera. They’re just far less and by the way, you didn’t have any distraction except pulling out these archaic things called books, and you could read them during your downtime.
Maggie Lake 49:24
No, there were influencers making a million dollars, doing nothing. You know, there was no, yeah,
Michael Green 49:29
exactly. So, you know, like that, that is what we are seeing. We’re seeing a bifurcated economy in which truly small businesses are slowly being driven out of business. They don’t have access to the capital and so perversely like it, I can point to the larger companies and say, we’re going to continue on this path, but then I introduce Why are you reading this now? Why are we hearing more and more about antitrust? Why is antitrust pushing down to lower and lower levels? It’s not just the Googles that are being investigated now. It’s, you know, autopilot. Software that is being investigated, people are waking up to the realities that we have facilitated a an increasingly concentrated system of capitalism that represents corporate cronyism far more than it does true capitalism that will correct itself. We are seeing elements of that, I’m hopeful of that the fear, of course, this is the administration is so corrupt that you end up in a situation where all I have to do is buy a million dollars worth of Trump coin and then I get special treatment, right? Or maybe it’s $200 million of Trump coin and a 757, you know, we don’t know what the threshold is, but that is the key risk, because all it does is mean that democracy no longer matters. You effectively can buy special treatment in that system. We cease being a nation of laws and become a nation of men, and that that’s the risk that we’re all struggling with.
Maggie Lake 50:56
Yeah, it is certainly the risk. But there is no doubt that there’s a lot of disruption coming. And I think that this conversation really laid out some important things for people to think about in terms of how, at least individually, they want to prepare themselves and try to sort of educate themselves around what they might need to do to preserve their wealth and grow their wealth. So Mike, thank you so much. As always, it’s so fascinating, and it always makes me think so much. I’m gonna have to replay this myself and watch it again. I thank you so much. Appreciate it. Take care. If you have any questions about how to navigate the current environment, wealthion can help connect you with a vetted advisor to get a free portfolio review, just click the link in the description below or head to wealthion.com/free there’s no obligation, and it will just take a few minutes of your time again. That’s wealthion.com/free thanks so much for joining us. We’ll see you again next time.
