Unfortunately, the audio for this episode was terrible, so in addition to the time-stamped table of contents, a full, edited transcript is included below.

In this episode, Marvin Barth and Mark Farrington reflect on a sequence of events that together signal a decisive shift in US strategy, from Venezuela to Greenland, and from emerging markets to monetary policy.

They examine how recent US actions have reasserted strategic deterrence, clarified a new Western Hemisphere doctrine, and forced allies and adversaries alike to confront an uncomfortable reality. Whether welcomed or resented, American power still sets the terms.

The discussion moves from geopolitics to markets, exploring what these shifts mean for asset allocation, the dollar, and global capital flows. Drawing on historical parallels with the 1990s, they unpack the case for a year of two halves, a steepening yield curve, bank outperformance, and a rotation away from debasement trades.

They also assess the implications of a more orthodox Federal Reserve, balance sheet contraction, and deregulation, questioning widely held assumptions about gold, bonds, and portfolio construction.

This is a wide ranging conversation about power, deterrence, and markets in transition, cutting through noise to focus on structure, incentives, and consequences.

Table of contents

00:00 Why this year feels different02:00 Venezuela and the return of US deterrence06:00 Allies have fewer choices than they think08:00 Nigeria and the logic of alignment10:00 Capital leaving China, where it goes next11:30 Greenland, power, and nuclear deterrence15:00 NATO tension is not new19:00 Why Europe wants out of US assets21:00 The 1990s playbook markets forgot24:00 Dollar fear versus earnings reality27:00 What a harder Fed really means30:00 Yield curve, banks, and rotation36:00 Gold is a risk asset, not a hedge40:00 Why the 60–20–20 portfolio failed43:00 Bonds may matter again46:00 Hawk or organiser, redefining the Fed48:00 Power, markets, and the next phase

Full, edited transcript

MARVIN BARTH

I’m Marvin Barth, and I’m here with my good friend and colleague, Mark Farrington, The Global Watchtower. We’re back to talk about some of the issues that we discussed in our last few episodes, where we got to interview some very interesting guests. We also changed our environment and are actually together at the Cross Keys Pub in Chelsea. Something I think we should do more often, do this in person.

MARK FARRINGTON

Absolutely.

MARVIN BARTH

What I wanted to start with is looking back at the Venezuela event and the David Kilcullen interview. Because that interview was unbelievable. Though it went way over time we could have talked to Dave for, I think, another hour or two if we had had the time. But for me, Venezuela set the tone for the year in the sense that last year, there was a lot of shock and awe from the Trump Administration, but there was never any clear definition. And I think other than tariffs, people didn’t get the sense of a real change in US strategy and position in the world. And then as we got towards the end of the year, we had the National Security Strategy, which we discussed back in December as widely misinterpreted. But it was abstract. Venezuela made the NSS tangible. First, it brought home very clearly the Trump corollary to the Monroe Doctrine, or the “Donroe Doctrine,” as people have been calling it.

Second, it demonstrated an exceptionally important point Dave made about need for the US to reassert strategic deterrence. After the Afghanistan fiasco after the disaster of Ukraine US strategic deterrence was basically nil and while I’m not saying it’s back and I don’t think Dave was either, I do think it makes it very clear that any adversary around the world has to think twice before they try to counter the US or at least how they go about countering the US.

I also think, and we’ll get into this more later, it also sends a very strong message to allies as well. Especially so given the contrast with how European allies handled the whole Greenland situation, Venezuela, as Dave said, wasn’t a flawless operation, but it was a very impressive show of capabilities, especially relative to the European show of sending a few soldiers to Greenland to, literally lay a towel on the ice. It clearly established to every ally that they cannot do this without the US. So, I think that’s going to be very important given how adversarial Trump administration has been in its rhetoric and actions with allies.

Do you read that differently? Or what are your key reflections from the Kilcullen interview?

MARK FARRINGTON

I definitely agree with all those points, and I think that point that Dave made about re-establishing US deterrence was a very important insight. I didn’t immediately put that together, but, you know, he did, and that was helpful. And I also think, explains a lot of behavior of the Trump Administration around Greenland. There’s also an element of reinforcing nuclear deterrence too. The slight difference I might have to how you described it is that I broke the National Security Strategy into three compartments. I was interested in what it implied for the new corollary, the Western Hemisphere corollary, but also what it means for projection of power in the Pacific, the first island chain strategy, and also what it means for Europe and NATO and the Middle East, etc.

So Venezuela definitely defined the Western Hemisphere doctrine clearly. And I think everyone got the message. It’s received the usual criticism you would expect anytime you use force. But otherwise, I feel like it has been surprisingly well accepted by the world and South America. I think it’s helped to tip elections in Latin America, as we’ve seen Costa Rica, for example, to the right as well. And I think it will be a successful strategy. Also, I would say Rubio deserves a lot of credit for that as well, not just Trump in this case.

And that Latin America views it as a Trump / Rubio strategy, which is helpful. So yeah, I would concur on all the points.

MARVIN BARTH

So, I don’t disagree with any of that. When I say that it was a defining event, I agree that it was a demonstration only in the Western Hemisphere and only of one slice of the broader National Security Strategy, i.e. the Western Hemisphere Trump corollary. But it had a broader implication as the first clear manifestation of the NSS and the complete shift we’re seeing in the US relationship with the rest of the world. That’s what it brought home to me, because one of the problems with the Trump administration is they say so many different things and he’s so good at misdirecting that you often are left questioning what is real. This made the strategy real.

MARK FARRINGTON

It definitely means it’s real for everyone in the Caribbean. Exactly. Cuba is immediately standing to attention.

MARVIN BARTH

But it wasn’t just there. And by the way, you remember Dave said, watch Cuba next.

Another really interesting point from the interview with Senator Dafinone of Nigeria, that you couldn’t join, that we should definitely delve into more here, is this tension between people being shocked and offended by how the Trump Administration treats them but realizing they have no choice because you’re either out in the wild by yourself or you have the protection of the United States. Senator Dafinone put that in very clear terms: the US Christmas Day bombings in Nigeria were not an imposition on Nigeria, we were equal participants; we wanted this. Yes, President Trump may be selling it at home in his own way that he needs to do for his politics. But for we Nigerians, this was about an ongoing counter-terrorism operation, and we were really happy to have a big, powerful friend come join us.

At the same time, however, he did express very clearly they were very concerned about the Venezuela operation. So it wasn’t just in Latin America, it was around the world. People said, whoa!

MARK FARRINGTON

No, it was a strong statement, and it has various implications. And I think that one of the implications can be, that you’re concerned, you’re either aligned with the US or you’re not aligned. But one of the other implications can be that if we have an overlap in our goals, it can be the most useful partnership that you can have. In this case, Nigeria definitely wanted and collaborated with that operation. It supported the government’s goals as well. So, I think the US will be used like that. Not as a policeman, but as the deliverer of the painful, punitive message. And perhaps that’s what the Trump posture will be like. Not a normal policeman, but standing ready to act, to create decisive change in the use of military force.

MARVIN BARTH

By the way, the Dafinone interview brought home another topic we’ve discussed that we need to devote a whole podcast to, which is emerging markets where we both have strong backgrounds. I was fascinated by the opportunity that Senator Dafinone described in Nigeria under the reforms that President Tinubu is undertaking, and in the broader context of these geostrategic realignments, in the competition for these regions’ resources, populations and hearts and minds. That latter point was well illustrated in the news after our interview was that President Tinubu went to visit Turkey and establish relationships with the Turks and increasing trade ties there. Separately, China and Nigeria reaffirmed their strategic partnership. All these pieces are in the mix, and that competition is potentially a huge opportunity in emerging markets.

MARK FARRINGTON

Totally agree. And if you look at the equity flows that we’ve seen so far in the emerging markets, there’s clearly a big outflow from China and then redeployment in emerging markets ex-China. So, for all of the West, which have some restrictions now on being fully invested or invested at all, in China, they’ve made that strategic allocation and so they’re on the search for new stories, stories which maybe are less impacted by geopolitics and where the country or the resources or the sectors have some potential to benefit from this great competition that we see going on now.

MARVIN BARTH

Yes, we definitely need to come back to that one and while we could spend a lot of time just talking about those two interviews, there have been so many other things that have taken place in the last couple of weeks, as has been true through the entire Trump Administration, it has been a very event-packed period. We’re going to want to get on to gold, we’re going to want to get on to the Fed nomination, all of those things. But let’s start with, I think, the next big trauma that started immediately after Venezuela, which was the whole affair with Greenland.

Perhaps you could start with your perspective on what was at stake, what actually was agreed – because I think there’s a lot of confused information about that – but my big picture question is, was this a disaster? Was it a strategic coup, especially when you consider how it landed at Davos for the United States? Or was this a bit of both? I mean, it does seem like they got something out of this and that this was a successful coercion, but I wonder at what cost?

MARK FARRINGTON

I think Davos was on the calendar and the Trump entourage definitely planned months in advance to go there, and now puffed up with overconfidence after Venezuela, they came in large and shocked the hell out of everyone. But I think it’s very strategic. It has been well thought out and planned. And while I think most of the world says, okay, yes, I can see the strategic significance for the US of owning Greenland, helps with the Greenland, Iceland, UK gap, managing all of the submarine traffic from Russia into the Northern Atlantic, the access to minerals, all of these sort of things. Even the clever people who looked deeper and understand the need for a backup substation to Svalbard’s satellite communication...

MARVIN BARTH

You’re referring to island above Norway where NATO has critical arctic radar and communications station...

MARK FARRINGTON

Yes, which could very easily be be sabotaged by Russian naval attack, so building a backup station in Greenland is just smart planning, and this relates to a bigger issue that has nothing to do with all of the theatrics that we saw in Davos and is instead about nuclear deterrent. So, this is a kind of a throwback to the Cold War detente that we had with Russia, where mutually assured destruction is no longer guaranteed because of the development of low-yield nuclear weapons and strategizing about local low-yield theater usage, etc. So Russia deployed intermediate missiles in Belarus last month. And the US needed to respond, Europe needed to respond, NATO needed to respond and they didn’t. So, this is like one of the first times I can remember where our historic Cold War rival incrementally moved the chessboard forward and we did nothing.

MARVIN BARTH

A lot of people watching/listenting aren’t our age, but you and I remember the whole Persian missile push in Western Europe and how controversial that was, but it was exactly what you were talking about. Soviets were moving intermediate range missiles into Europe. The US had to respond with them in Germany, right?

MARK FARRINGTON

Exactly. So, the US I think will not only build the base for its Golden Dome as a backup relay station to Svalbard and Greenland, but it will deploy a nuclear deterrent. That will bring the stakes back in line because detente requires you to remain in balance so that the first strike capability is never an option. And I think people don’t understand that while Denmark has been unbelievably flexible in granting long-term leases and revising the military treaties with the Biden administration, it’s still a part of Denmark, it’s a part of Europe, and it has actually a nuclear-weapons-free zone constitutional backing.

So, the way that the US has always got away with doing what it’s doing on Greenland is for Denmark just to look the other way. But putting nuclear weapons on Greenland during peacetime is actually an outright disagreement with the constitutional stance of both Norway and Denmark. So, I think Europe doesn’t understand how important it is when you have two superpowers which are providing the nuclear deterrent to have freedom to control the narrative, to control the incremental escalations without some second or third party intervening through legal means or constitutional means or just narrative disruptive means, etc.

So, I think this desire, this strategic desire to have Greenland is about the nuclear deterrence and eventually Europe’s going to get it. And eventually NATO will understand it and it will be resolved. I have no fear of a permanent rupture between Europe and the US. I think that this is getting conflated with some of the other end of a world order type of ruptures that our good friend Mr. Carney has put forward that the world is seizing upon. I think on the nuclear deterrence, it’s hard power and hard strategy that dictates things, and even the Europeans understand that.

MARVIN BARTH

Well, I think that you are perhaps more hopeful than me that NATO doesn’t suffer some ruptures, and I think you would probably admit that there are greater underlying issues issues for NATO to deal with.

But I do think that one of the things that is very clear from this whole process, and I think is an underlying issue that we’re going to see over and over in our discussion on all of these issues, whether it was the shock from Venezuela, whether it’s the shock from Greenland, whether it’s the shock around Kevin Warsh’s nomination, that all of these things are transitions back to things that we had before. Many of these things that people think are outrageous and are completely new are actually very much things we’ve lived through before. E.g. the Trump corollary to the Monroe Doctrine (which also had a Roosevelt corollary); these things have repeated a few times through American history here. As we discussed with the Pershing missile example, there was a lot of push back then, but since we have had 30 years of falsely perceived Western ascendancy, where people sort of forgot about all these security issues. And so we’re having to go through a transition to that.

This gets to my point that I worry about the cost of how the Trump Administration pursued this in terms of their aggressive stance on Greenland, threatening Denmark and NATO itself. I’m glad that you’re hopeful, or that you have no doubts that NATO is going to survive this. I am hopeful NATO is going to survive this, because I do think that, again, when push comes to shove, most NATO countries are going to see they have no choice. They have nowhere else to turn, and they are so far away from having the capabilities to defend themselves.

But how do you see that rupture in relations and this transition for asset markets? Because, you know, I’ve been doing a few different client dinners over the course of the last two months, even before Venezuela and Greenland, I have been amazed at European asset managers’ reaction to all of this. They say, “We don’t want anything to do with the US. We’re getting out of the US. We’re done with this.” There is a big narrative out there about de-dollarization, decoupling from the US. There’s an even crazier narrative, by the way, about, how Europe is somehow going to pivot to China as if that was somehow even remotely possible. But talk to me about these narratives, because you’ve managed big portfolios over decades, looking at major asset allocation relationships. How do you view this one and the potential for an asset allocation?

MARK FARRINGTON

Okay, that’s good. I mean, I think that it does favor those who’ve been in the markets for many years and have a little bit of grey hair. Younger people do not appreciate like how to favor the US dollar was and how aggressive the US government tactics were in the early 90s. Most people look back and think of the 90s as this blissful period of the Berlin Wall falling and globalization causing us all to dance around the campfire together and sing Kumbaya. It was not like that at all.

The US was using super 301 tactics to beat the Japanese into submission to open their markets because they wouldn’t import anything from the US, and the US dollar was in a free fall all the way to 1995 until the G7 begged the US to begin the “strong dollar” policy under Treasury Secretary Rubin.

MARVIN BARTH

Yes, you remind me, amid this whole dollar debasement craze, do you remember Lloyd Benson explicitly calling for a weaker dollar? Loyd Benson was President Clinton’s first Treasury Secretary, who before his successor, Bob Rubin, instituted the strong dollar policy directly called for the dollar to depreciate.

MARK FARRINGTON

But that was the tactic back then. It was a two-tracked strategy with Japan and with Germany at the time. We’re going to use Super 301 tariffs to bash open your markets and simultaneously drive the currency down to force you to comply, because we understood that most of their trade barriers were invisible.

We needed to balance the budget. We had a twin deficit problem at that point in time, too. So, you know, the federal deficit was not easy to resolve, so the focus was on the trade. So, we’ve been through this before, and the thing, if you go back and look at the 90s, the dollar can be in a downtrend and still the US asset performance can be fantastic. And that’s what all these emotional reactions from asset managers like those that you have met will soon learn. You can be angry at the politics, you can be offended by the way Trump shocks and behaves in order to create some movement in a frozen debate. But still in the end, you get paid to deliver asset performance in your portfolio. So, you can hedge your currency risk for a while, but then if US equities and US growth stories start to outperform, you’ve got to then lift your hedges and rotate back to the US.

So, the US will do what it always has had to do, which is to justify the strength of the dollar by performing, delivering strong growth and strong asset performance. And during the periods when it’s ebbing or oscillating, market will sell the dollar and then it will buy it back as soon as the asset performance validates it.

So, the first six months of this year is going to be one of those trials. They’ll try to sell the dollar, they’ll be skeptical about whether Warsh is good or bad for the Fed, etc. But then if growth and earnings come through by the second half of this year, the fears of dollar declines under Trump-Warsh investment will dissipate and this will be all forgotten. On the geopolitics, it’s such a longer time frame. I mean, what the US is going to try to do on Greenland is really a 10-year story, of which Trump is only going to be there for another three years. So, at some point, Europe has to start relating to what the long-term story is and who will be the next custodians of this strategy in the next administration, not just Trump. This is a strategic realignment for the US in terms of its nuclear deterrent. and its forward projection of power in the North Atlantic. And it’s going to be owned and carried forward by the whole administration, not just by Trump.

So, I think everyone will calm down. I even believe Carney will come around and Canada will join the Golden Dome. I mean, honestly, it’s emotional at the moment, but understandable because Trump speaks in a way that offends first. And then his administration backfills and sooths and delivers performance after the fact.

MARVIN BARTH

Well, you and I were discussing earlier that at Davos it was quite interesting that Friedrich Merz, the Chancellor of Germany, was of course, saying “we’re so offended, this is terrible.” But then went through a whole list of, “but we agree with the Trump administration on X, Y, Z...” Which is often the case with Trump that if you go down the list and stop to think about a lot of things they’re doing, and can step away from it being Trump and the offense his language can cause, there’s a lot that makes sense.

Now, I do want to come back to this point that you said about the dollar in the early 90s. I thought that was quite interesting. Because I think you and I have somewhat different views, but there’s some points of commonality, too. I thought it was interesting that you framed the discussion of the first half, second half of the 1990s, waiting for earnings to come in and see if there’s any follow-up. You’re aware I’ve done this research on what causes these big multi-decade swings in the dollar and the critical element there is the US leading an innovation wave and a related capital build out. And until that CapEx build out in the US peaks, the dollar doesn’t turn. So, I’m still very much in the camp that we’re having some tactical swings in the dollar right now that can be affected by asset allocation. But ultimately, until we see that hand over to the rest of the world, which I don’t see in the near term, we’re not getting a significant dollar down term. But, as I wrote in my yearend outlook, I very much do see this year as a year of two halves, and, so far, things are going my way: I expected the Warsh appointment...

MARK FARRINGTON

Great call. I think you deserve a drink for that.

MARVIN BARTH

Thank you. Wave to the crowd.

MARK FARRINGTON

A hawkish Fed. Who could imagine?

MARVIN BARTH

And now that’s a whole new question we’re going to discuss about what kind of hawk he is and whether he really is, because there’s a whole debate out there. But I definitely think he will end up being hawkish. In my view, watch for his plans for how they’re going to downsize the balance sheet. If you look at the entire Trump administration from day one, whether it was Secretary Bassett, Fed Governor Miran, or President Trump on the campaign trail, this has been the plan, and of course, poster child of this drive, the guy who, as he leaves the Fed in 2011, mic-drop moment, publishes this op-ed in the Wall Street Journal criticizing the Fed’s Q&E policies and saying, this is ridiculous, they’re not doing anything, and it’s just exposing the Fed to politicization. He’s been on this train longer than anyone else. So, I have absolutely zero doubt that they are going to massively downsize the balance sheet, and they can. And the key to that is, as I’ve described in my research, bank regulation reform.

But of course, even though I’m not a big believer that QT has that much effect on rates, I completely acknowledge, and in fact, I have a theme, Being is believing, that, if people believe something’s true, it will manifest. And so, I do expect the first part of the year to be a bear steepening in bond markets. And that was very much like those first few years of the Clinton administration where the dollar was a dog. I just think this is going to be compressed into a year. We’ll have bear steepening to start because I think Warsh has convinced himself that there will be a tightening of financial conditions due to balance sheet consolidation that will allow for lower policy rates.

But the economy is going to be doing well, inflation is going to continue to be above target, and they’re going to have to raise rates because the fundamental real rate underlying the economy is higher than what they think. And that means you’re going to get a bear flattening in the back of the year. It’s impossible for me to see the dollars not do well in that environment. And by the way, I’m saying that fully expecting that equities at best are going to struggle, and at worst are going to have some pretty significant downdrafts due to duration adjustment in real discount rates that I just described.

MARK FARRINGTON

I totally agree with that view, and I think the 90s are a very useful decade analog for this decade. The time compression might be smaller, as you suggest, but the sequence, I feel, is very important. The bear steepener, which takes place in the first half of the 90s,

is driven by the ultra-low rates that Greenspan put in place in the face of the jobless recovery after the S&L crisis.

MARVIN BARTH

Then the low in rates was, I think, like 3%?

MARK FARRINGTON

Yeah, 1% real rates or something. It was, yeah, it was stimulative. And of course, the dollar weakened so much that financial conditions were really very supportive. People forget, you know, dollar 5% or 10% or 50% weaker is also a huge support to financial conditions. It boosts the manufacturing base, earnings, etc. So, then we move into the latter half of the 90s and it’s all about this secular trend of productivity driven by the internet and technology investment, as you mentioned. But the earnings just momentum builds from ‘96, ‘97 until it gets to blow off at the end of the decade. So, I agree with you on the earnings blow off. We’re midway. We’re not at the end because we haven’t got a normal growth high.

I mean, last year, The MAG7 and all the super cash-rich companies were able to spend massively on AI CapEx. But the broad economy was just gaining momentum. This year, normal GDP is going to be very high. All of the businesses are going to deliver profit growth this year, it’s going to be a big earnings year for the US economy across many sectors, not just one sector. And that’s going to be more positive, building this momentum that starts to feel like the end of the ‘90s decade.

So, I’m not so much focused on the time frame, but the sequencing. Bear steepening offers banks an opportunity to engage the carry trade on the yield curve and bank earnings go through the roof. Nominal GDP higher, earnings across all mid-cap, small-caps, all regions of the US economy starting to fire, and then finally, belatedly, the productivity from all the AI investment starts to manifest, and then you get this powerful end to the cycle. So, yeah. I’m saying first half, second half, just because, I have to position and trade the markets and you’re trading a narrative as well as the data. So, it can be slightly longer, slightly shorter. I’m just more interested in the sequencing rather than the timeframe.

MARVIN BARTH

I think that sequencing makes sense to me. You touch upon an element there, rotation, that is another I’ve highlighted, particularly bank outperformance in relative terms, which we already have in Japan and in Europe. We have already seen it in the US, but I think its going to get a much better year for this year because you’re absolutely correctly that is supported by yield curve steepening.

By the way, we now have a positive yield curve from one year out to 30 years for the first time since 2021. That means that banks’ assets are going to pay more than their liabilities, increasing net interest margins.

But the other big support is going to come from how they slim down the balance sheet. As I’ve explained in various research pieces, this is 100% about Basel III regulations. All these people have been fretting that you need all these reserves in the system. No, that is 100% dictated by bank regulations. And the Fed has the authority to dial those back and give the banks more balance sheet for lending. If they have more balance sheets to work with, they don’t have to park it in reserves, they don’t have to park it in Treasury securities, then guess what? They’re gonna be a lot more profitable because those are just a huge drag on their profitability.

So, you get both of those events, the yield curve and the deregulation that are going to support banks. Then there is a separate duration effect. which is what I see this entire event as: a level shift upward in the curve over the course of the year, plus the steepening of term premia caused by concerns over duration supply to the market, all that in the first half of the year.

By the way, I think is a critical element of why gold is sold off: gold is basically a super long-duration real asset. That duration effect carries over across all assets, including equities, which are long duration: they’re basically infinitely-lived, variable earnings coupon bonds, and thus P/E ratios are effectively a measure of equity duration. So, if you go back and look at 2022 when we had the last big duration move it’s almost linear the relationship in terms of the duration of the equity i.e its P/E ratio versus its price decline in 2022. You’ll get the same sort of thing this year that could be very positive, in relative-value terms, for a lot of industrials, materials, especially in this geostrategic environment given state support for materials, and for small and mid-cap, since they’re going to be producing a lot of the things that the US is going to need on its re-industrialization path.

MARK FARRINGTON

That’s all really good insight and I was looking forward to talking to you on this because so far, the market reaction to the Warsh announcement has been mostly about speculative bubbles in the debasement trade collapsing. And so I think that’s a logical response. Maybe the reaction is driven by a number of other market dynamics like China banning the export of silver and things like that. But it really takes the wind out of the sail of this idea that term premium decompression at the long end of the bond markets is a correlated trade with the debasement trade of the dollar.

Because Warsh comes in and makes it interesting. The bear steepener we’re talking about now, which can be construed as this decompression of the term premium, is a very different story than the one that they’re trying to make in buying precious metals and selling the fiat currencies. He’s simultaneously strengthening the balance sheet and it’s a hard money strategy that he’s trying to put in place so the two data points don’t correlate anymore so they have to drop term premium aspect of their other story and they have to accept that he’s going to be at least partially successful and downsizing the balance sheet and for a lot of speculative assets.

I know you argued that the balance sheet doesn’t have that much impact on interest rates and credit creation etc, but it did have a very big impact on risk appetite, that was the thesis of the portfolio channel to drive down risk-free assets and create greater animal spirits in the risk asset classes. So, we’re going to see an unwind of that. So, this meaner version back to a lower level of risk tolerance, if you want to call it that can create some accidents. We’ve already had an accident in precious metals. We’ve had a correction in the AI stocks, partially due to a couple of single names missing on their earnings expectations.

But also, I think you’ll see froth taking out of the market and all of the most positioned risky assets. And as long as that doesn’t get out of control, then I think the stock market will consolidate and then all the other sectors that you mentioned that will benefit from strong nominal growth and a higher duration environment will eventually have time to catch up and deliver the results that will then offset because this rotation is going to be choppy and people will try to construe it as bearish.

But if you’re patient and you wait for the green shoots, then it might end up being positive for the second half of this year in a way that people didn’t expect and actually be a very bullish year for certain things, like even a rotation back to sovereign bonds in a return to a 60-40 portfolio after a big move into a 60-20-20. You just had the silver dagger in the heart after watching precious metals deliver 45 volatility on gold and 100 volatility on silver you, demonstrating that precious metals are not a substitute for bonds. They never have been and they never will be. But you know bonds have been through a bad patch I’m not calling for a bond renaissance or anything like that I think there’s a lot more but a lot of the most aggressive debasement stories about sovereign bonds in the developing world, I think those will now start to be rethought and calibrated.

MARVIN BARTH

Yeah, so that’s actually a really interesting point. I think we should spend a moment to talk about what happened with question for metals and whether we’re going to retest those highs again....

MARK FARRINGTON

Good call, by the way. In your metals piece, you kept flagging the 1980s episode, which is like the most extreme episodes. Everybody was dismissing it. But silver price, which fell on Friday, was the largest since 1980.

MARVIN BARTH

Exactly. It was literally a repeat.

MARK FARRINGTON

Well, of course, it’s still miles above that high, but in terms of percent fall, that was the largest one in decades, so awesome call.

MARVIN BARTH

But you actually had written something about that.

MARK FARRINGTON

Yeah, last summer.

MARVIN BARTH

No, I thought it was later.

MARK FARRINGTON

I wrote the first one in the summer just arguing that precious metals are a risk asset. They’re not a hedge. So, this is this 60-20-20 portfolio was just like, to me, insanity.

MARVIN BARTH

It makes no sense. So let’s come back to that. Let’s also come back to the risk. But I actually, I think the point that you just raised about bonds and then becoming attractive is really interesting here, right? Because, and I can see this coming in the sort of typical wave pattern that happens in the markets.

So, right now, we’re going to go in a direction of sell off, because the momentum is only going to build. There are questions about what Warsh really is, or what he really believes, and things like that. But I am firmly convinced he, the entire Trump Administration want a smaller balance sheet. So this is going to happen. There will be speeches on this. It will become clear, probably after congressional testimony, because you don’t want to rock the boat until you’re confirmed. But this will come along. And so we’re going to continue bear steepening, but at some point, there will be people who say, well, “Gosh, I don’t believe in the strong growth story” that you and I seem to accept for the US. That’s been the persistent bias of market for the whole time. And they’ll say, hey, There’s great deals out there. I’m going to go in and buy into these, you know, especially if we’re moving toward a sounder money environment, I just had to unload my 20% commodity portfolio. All of those things I’ve been supportive.

But I think this is really much more a second half story to your point. That’s what helps give you that bare flattening that I’m talking about in the second half. And it’s almost as much a pivot in the curve as a bare flattening. Because it is really the front end is rising, but the back end will actually rally to some extent, certainly on a forward basis, simply because you are actually dealing with inflation, you are dealing with a lot of the underlying concerns people have about dollars, and to your point, you actually are going to get paid. So there is a pretty good chance of a second half duration rally.

MARK FARRINGTON

I have a question for you on Warsh because like we joked about earlier you know what kind of hawk he is because for sure he’s a balance sheet hawk and for sure he’s we’re going to see a streamlining of regulation, but what he’s going to do on interest rates is not guaranteed. Everybody is constructing their narrative based on what Trump says. and imagining that, Warsh made some secret agreement with him in order to get nominated, which of course is completely unknown. So, if he’s downsizing the balance sheet, deregulating and maybe cutting rates, does that make him a hawk? Or a dove, particularly if the dollar is weak because, all the monetary conditions frameworks are going to show monetary conditions getting easier, while nominal growth is growing higher, and the balance sheet and the deregulation stories take a long time to play out?

So, I wonder, is there a risk that the impression of him as a hawk has flipped? Perhaps because they didn’t really understand what we meant by hawkish, i.e. that he’s more conservative, more orthodox than say Powell or Yellen, and represents a return pre-GFC monetary policy.

MARVIN BARTH

Yeah, so there are several different pieces that I think are quite interesting. And I really like the way you phrased that as he’s really just more orthodox. For a while in the Greenspan years and early post-Greenspan years, there wasthis idea hawks and doves don’t really exist anymore. Everybody’s a hawk now. The differences are how you pursue hawkishness.

MARK FARRINGTON

Everybody can’t be a hawk.

MARVIN BARTH

No, exactly. There’s definitely a significant portion of the current FOMC that are just flat out doves. I have no question, these people are doves. But I do think that there is an element of it’s just two radically different philosophies.

This was sort of brought home to me by Claudia Sahm’s take the Warsh nomination, because she very much embodies this view that I would say has been the dominant paradigm of people who’ve run central banks for the last 15, maybe 20 years, which is this view that they can micromanage everything and that there are no limits to monetary power. She specifically highlights and episode in 2010, where Warsh is critical of taking a big risk extending the balance sheet when rates already are at zero and hope that it somehow affects the economy. He questions whether that’s the right move and suggest that maybe this is where other parts of the policy, like fiscal policy or regulatory policy, need to pick up the slack.

Sahm is critical of his stance, characterizing it as giving up. And this is the philosophical divergence: I’m with Warsh on this, no you actually were at the end of the road for what monetary policy could do. To be fair to Claudia Sahm, at that point, even though we had 10 years of experience with this in Japan, which you were very familiar with, you could potentially argue that we didn’t know for sure QE wouldn’t work, even though Keynes told us it wouldn’t. Some made the argument that Japan just hadn’t tried hard.

MARK FARRINGTON

Or Japan was just too different. You know, just a different market structure.

MARVIN BARTH

But I think, 15 years on, it’s pretty clear that QE was totally ineffective. It did absolutely nothing for inflation. It did absolutely nothing for growth. It was just exactly what Kevin Warsh described it as, and to his point, created a massive political liability.

MARK FARRINGTON

It was an unbelievable call. I read some of Sahm’s comments on Twitter and for me it was embarrassing. It’s so clear she’s just data mining the minutes because she wasn’t there and she wasn’t part of the conversations and everybody knows the minutes are a distilled version of the actual conversation that was going on. It could have been even Bernanke asking Warsh to play devil’s advocate and talk about the risks on the other side. It could have been anything. He did put...

MARVIN BARTH

I think it was pretty clear he actually was adversarial.

MARK FARRINGTON

I think he would have volunteered to be devils advocate at that point. But they needed pushback from someone, and he was giving pushback. But if you attended the Monetary Policy Forum every year for 30 years like I did, you would see how the consensus, the debate, the devil’s advocacy, etc. changed all through that period. And the people who were constantly pushing back were very well known. It wasn’t one year, one meeting. It was this incremental induction to the cult that was going on post global financial crisis. And it just became so divorced from the guardrails for monetary policy before 2008 that any reasonable-minded person from the ‘90s or pre-2008 would have the same criticism. So, people’s ex-post opinions, like some who come back 10 years after the event with no connection to that phase in history...

MARVIN BARTH

She would not have been at FOMC meetings, but she was an economist at the Federal Reserve Board at the time. But I totally agree with you, and I think that’s kind of my point in terms of your question about, Is he a hawk? Is he a dove? My point is that it isn’t a hawk or a dove thing. It’s a philosophical divide: He was just saying, we’ve reached the limits of monetary policy, and I would say, the world has proved him right. And so that’s very different from him thinking that, as I do, that quantitative tightening is not going to actually have that significant effect. I think the rhetoric that you’ve seen people are ascribing it to a political pivot to curry favor with Trump – and there may be some aspect of that, everybody plays politics a little bit, nobody wants to admit that, but everybody does to some extent...

MARK FARRINGTON

If you’re in Washington, you have to. You have to.

MARVIN BARTH

...But I think it’s more than politics. He has actually convinced himself that indeed he’s going to be able to keep low rates with balance sheet reduction because it’s going to have this effect on financial conditions and that’s why I have this view of how it’s going to change over the year as he is going to stick with a relatively low rates profile in the front part of the year as they try and slim down the balance sheet and by the back half of the year, they’re going to realize, my goodness, the economy is still booming, inflation has not come down, we are not getting the balance sheet effects that we expected, and thus they’re going to have to raise rates.

That’s what I meant about everybody’s a hawk in that sense but the philosophy is different. And he will want to see inflation come down. No Fed chairman wants to be seen, as I’ve described Jay Powell, as the second coming of Arthur Burns, right? Nobody wants to be seen as that. And he’s going to be no different. He’s a rich, relatively young man. He’s gonna want to protect his legacy. So, I think, look at that. The other thing that I thought you said that was interesting is it’ll take a while for bank regulation. The Board, and especially if they start to get some of the presidents, I think this is the critical issue, start watching the presidents turnover. Because the Board, and particularly the chairman, can have a big, heavy finger to press on the dial of who gets those presidents. The New York Fed is probably going to come up soon. John Williams, thank God, will hopefully retire. Worst pick ever. That’s on the record!

MARK FARRINGTON

I always liked him as economist, but yeah, he his world view definitely deviated massively in the last five years from mine.

MARVIN BARTH

I’ve known him since our days together at the Fed and would not be that charitable, but anyway I would say that, first of all, they have the ability to change regulation very quickly. And the second thing is, if you go back and look, and you’re actually old enough to remember this, you remember the 1981 bank controls and bank deregulation and how quickly that turned the banking system on and off in 1981.

MARK FARRINGTON

I was a college student. I didn’t know $h!t.

MARVIN BARTH

This is a family podcast, Mark.

It was radical. It happens very quickly. Those regulations are super powerful. So, this is another reason why I think you will have less of an effect from that balance sheet effect than people think. Because if it’s accompanied at the same time by deregulating the banks, it’s going to be a big thing.

MARK FARRINGTON

Interesting okay that’s good to know, one last thing on Warsh: I’ve always understood your your point of view that QE has limited impact on rates and credit creation therefore QT in the reverse direction should be treated in the same way in my opinion what’s missing from that is that doing QE in an emergency scenario after a global financial crisis, which was to address seized up interbank market that was not functioning, is one type of QE. But when you started to do QE, in increments that were supposed to be equivalent to a 25 basis point rate cut, because you were at the lower bound of nominal rates, then QE became another animal, and that broke with a precedent that had never been done before. And that is what fed the animal spirits and the change of risk appetite. It was the break of precedent. It wasn’t the size or the incremental amount.

So, in my opinion, that is when the debasement vigilantes were born. And they have been running with that thesis through DeFi and Bitcoin and precious metals ever since. QT then should be treated equally as un-impactful as QE on the way down until we cross back through that threshold of orthodoxy and we get some commitment from a Warsh Fed that, for example, says we’re not going to do this again. We will, of course, be the backstop, we will come to the rescue if the market sees up and fails to function. But we will never again equate $300 billion of balance sheet expansion with a 25 basis point rate cut. If he makes that pledge, that’s putting the genie back in the bottle. I actually think that is different.

MARVIN BARTH

Look, I think everybody now calls any type of balance sheet expansion QE, but it isn’t. Central Banking 101, going back 150, 200 years was that in a crisis, you, the central bank, are the lender of last resort. That was the original function of central banks, not managing inflation. That’s financial stability stuff. I’m willing to take on all your assets when nobody else will.

MARK FARRINGTON

Exactly.

MARVIN BARTH

Of course, in a crisis, that has an effect. I’m saying exactly what you just said, that when you start saying, there’s no crisis here, I’m just buying assets for assets’ sake. First of all, it doesn’t have the risk effect that everybody thinks. Yes equity and corporate bond prices rose, but that was the effect of falling discount rates. If you look at what happened to credit spreads or the equity risk premium, they showed the opposite of the portfolio balance sheet effect: they widened in each bond buying session, because you’re taking away the risk-free asset from markets, and thus making the whole market portfolio riskier, and thus the only way to de-risk is to sell off the risky asset. That’s actually what happened.

Now, what did seem to change things was the rate cuts in 2019. If you look at that period, when the Fed very clearly showed that they were convinced that r-star was much lower and that they were always going to err on the side of cutting rates and easing conditions, it changed markets reactions. At the time, it didn’t look like inflation was getting out of control. And so as a result, if you look at that period, you do see the relationship between term premium and volatility flip. That is, instead of volatility leading to higher term premium, i.e., risk uncertainty priced into bonds, you the opposite because people expect exactly the effect we’re talking about. I think we are slowly unwinding that right now and, you’re right, a Warsh Fed, if it does what you and I are expecting it will be the final nail in the coffin and we will finally get some normalization that will allow us to have that bond rally that we were talking about.

MARK FARRINGTON

So, does normalization of the Fed mean normalization of finance market volatility Because if we go back to risk assets having higher, structurally higher vol, and risk free assets having structurally lower vol, then we’d go back to normality in terms of portfolio construction.

MARVIN BARTH

Yeah, and I do think that that’s part of, instead of having a floor-based policy rate system, we’re going back to a corridor-based system that even well into the late 90s and early 2000s on triple witching Wednesday could have fed funds rate spike to 35% as a normal occurrence, and nobody flipped out about it.

MARK FARRINGTON

Yeah, volatility was part of lives back in the ‘90s, it really was never the systemic you know canary in the coal mine that it has become and in modern markets.

MARVIN BARTH

We’re gonna have to call it off here and I think this has been a good discussion, as I said there was so much to cover today, so thank you again for joining me, Mark, and thank you to our audience for watching us here on The Thematic Edge and we look forward to seeing you again in two weeks.

MARK FARRINGTON

Excellent, thank you.

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