VALUE: After Hours (S05 E42): Daily Dirt Nap’s Jared Dillian on Small Value and his book No Worries

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In their latest episode of the VALUE: After Hours Podcast Jake Taylor, Tobias Carlisle, and Jared Dillian discuss:

  • The Sentiment Analysis Investing Strategy
  • The Culture At Lehman Brothers: NASCAR-Style Efficiency
  • Bull Steepener: The Trade That Fixes Everything
  • Use Twitter To Make Money Trading Panic
  • Market Exodus: Millions Have Abandoned the Markets
  • After 20 Years of Losing: Small Caps Finally Ready to Win
  • How Our Senses Limit Our Understanding of the World and the Market
  • Market Timing Strategy: Short-Term Bullishness Followed by Bearish Trend
  • The Advantage of Trading In The Futures Market
  • Tax Receipts: A Key Indicator to Watch Amidst Recession Fears
  • The Vanguard Myth: Why You Should Never Invest in Index Funds Alone
  • Best Personal Finance Book All Time – No Worries: How to Live a Stress-Free Financial Life
  • Regime Change Is Coming: How to Fight the Tape

You can find out more about the VALUE: After Hours Podcast here – VALUE: After Hours Podcast. You can also listen to the podcast on your favorite podcast platforms here:

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Tobias: We are live. This is Value: After Hours. I’m Tobias Carlisle, joined as always, by Jake Taylor. Our special guest today is Jared Dillian, editor of The Daily Dirtnap. How long you been writing the Dirtnap for now, Jared?

Jared: 15 years.

Tobias: Wow.

Jake: Holy cow.

Tobias: What is your schedule?

Jake: That’s a long nap.

Tobias: Yeah. Are you daily? Is it literally daily?

Jared: Yeah, it’s every day. Yeah.

Tobias: How have you sustained that for 15 years?

Jared: [laughs]

Tobias: Let’s talk about that.

Jake: Yeah.

Jared: I don’t know. When I left Lehman and I started writing the newsletter full time, three pages was kind of an effort. It used to take me pretty much all day to do it. But now, when I write three pages, I do it in an hour and a half and I have to cut myself off because I could go for another 10.

Jake: Wow.

Jared: A lot of people say like, “Good writers have something to say.”

Jake: That’s why we’re out, Toby. Sorry. [laughs]

Tobias: We’re out? Yeah. What do you cover in the Dirtnap? What do you consider your B?


The Sentiment Analysis Investing Strategy

Jared: Well, I cover all asset classes, so equities, fixed income, currencies, commodities. I cover everything. Cover crypto. But my B is really sentiment. It’s hard to summarize this in an elevator pitch, but I am sort of dismissive of fundamentals. It’s a bit stale and people are looking at the same information, and the same is true of technical analysis. But the one thing that is true of markets all the time is that, at the extremes, people are, either excessively bullish or excessively bearish.

I am not a trend follower by nature. I’m a mean reversion trader. I try to pick turning points in major asset classes where sentiment has gotten one sided, okay? So that’s really what I do. I do it individual stocks as well, but I don’t do as much in single name equities.

Tobias: How are you assessing sentiment? How do you know whether something’s excessively bullish or bearish–?

Jared: Well, the funny thing about this is that, over the last, I would say, five years, hedge funds have come to realize the value of sentiment. But they approach it very systematically. They’ve built quantitative models around it. I am not a quantitative guy at all. I’m a writer, really a right brain sort of person. So, I do it through anecdotes and tweets and stories and stuff like that. I tell subscribers this all the time, “I’m not the quantitative guy. I’m the qualitative guy.” So ultimately, being a sentiment analyst, really, your success depends on your judgment and your ability to evaluate sentiment. And sometimes I get it wrong, but I believe that my way produces better results than quantitative methods.

Jake: Them’s fighting words, Toby.


Tobias: I’m not necessarily disagreeing. I’m trying to learn. [Jared laughs] Maybe I’m going to join Jared.

Jake: Yeah.

Jared: [laughs]

Tobias: There have been a few interesting turning points recently. So, the 10-year was racing up towards 5% yield. When it hit 5%, I think it could have– I had no idea where it was going to go. I thought maybe it could keep on going higher than that. There’s lots of reasons why it turned around. Not for any investment purpose, really, just as an observation. But did you have a view as that happened?

Jared: Yeah. So, that’s really the trade that I’ve been focused on for the last few months. And to be fair, I was a bit early on it. But really, what developed around the higher rates trade? Keep in mind that bonds, if you look at the AGG, if you look at the AGG, bonds have been in a bear market for 39 months.

Tobias: Yeah. Wow.

Jared: So, if something’s been in a bear market– Or, if you have any trend that has lasted for 39 months. The one thing I say all the time is that, if you could make money by pushing a button, how many times are you going to push the button? You’re going to push the button over and over and over again until it stops working. So if shorting bonds has worked for 39 months, people are going to do it and that trade is going to die hard. But what I saw developing on Twitter was sort of a cult. You have to look out for cults on Twitter. You had a cult around Tesla, you had a cult around Tesla Q, you had a cult around bitcoin, lots of cults on Twitter. There was this minor cult developing around higher rates, and it was the higher for longer cult. They have this little hashtag, #H4L.


Jared: It’s this little club, like these Bridgewater guys started it, and everybody’s in the higher for longer club, and they get to be friends with each other, and it’s like social reinforcement. Whenever you see that developing, it’s time to head the other way. So, it’s nice that we’re doing this podcast on a day when the trend is totally reversed. My view has been proven right. This has been happening for some time.

Jake: And so, for context, if you’re listening not in real time, then the CPI print came out, I guess cooler than was expected, and so rates are coming down somewhat.


Tobias: Which has also had the effect that all of the equities are up a lot today. I don’t know where it is now, but at one point, the Russell 2000 was up 5%, which was– That’s a pretty big move on any given day.

Jake: Let’s go. [laughs]

Tobias: I’d feel so much better about that if I hadn’t been down 5% for the week beforehand.

Jake: Yeah.


After 20 Years of Losing: Small Caps Finally Ready to Win

Tobias: Let’s talk about things that I really care about that. When you look at those small equities, small, they’ve been in a pretty long downtrend. How do you feel about the sentiment for small equities?

Jared: Dude, I will even show you my newsletter from two days ago where I talked about small caps. About two weeks ago, I put in a chart that I stole off at Twitter. I don’t remember where I got it, but it basically showed small cap, large cap outperformance for the last, going back to 2000.

Tobias: Yeah.

Jared: Small caps have basically been underperforming for 20 years. 20 years. Like, with a couple of blips. Like, a couple of years ago, small cap value went on a tear and there’s been a couple of blips. But the trend has been towards large caps over small caps for 20 years. Same thing. If you can make money by pushing a button, how many times you’re going to push the button? What I saw was that, this small cap underperformance was becoming a thing on Twitter, and people were talking about it and posting charts and stuff like that. And I said, “Look, I think that it’s due for a reversal,” that we could be at the end of this secular trend.

I don’t really want to put this trade on, because it’s correlated with all my other trades, because I’m long bonds and I’m long gold and all this other stuff. It’s basically just part of the same trades. I don’t really want to compound my risk. But like I said, this could be the turning point for small caps. The basics of it are, if rates come down, small caps should outperform, because small caps are more heavily dependent on financing. Today, it happened to be the day that it worked, and the Russell is up 5% or whatever. So, I think this is going to continue. If you look at the chart of the Russell, you have a pretty defined head and shoulders bottom. You’re making a higher low and making higher highs. I think this could be the turning point.

Tobias: I looked at that. There’s a few of those different charts going around, but there’s one that compares SPY and [unintelligible [00:08:37] and that got to an extreme in 2000, the very peak of the dotcom bubble when SPY was outperforming Russell. It feels to me like for about halfway through there. It’s a gigantic smile. So it looks like halfway through. It kind of fell back. And so maybe from 2000 to 2007 or something was small caps. And then since 2007, which is a long time now. 15 or 16 years, it looks like it’s been SPY over small caps. You’re a bold man picking the turn and those things, but at some point, it does turn around and go the other way. I don’t know how long you need to make that decision, but do you feel like this is a turn?

Jared: I really do. I think it is. I don’t like putting on pairs trades because it eats up a lot of capital. But I think Style-box trades trend for decades sometimes. If you wanted to buy IJS, which is a small cap value, and short IBW, which is a large cap growth, if you just put that away for 5 years or 10 years and just forgot about it, I think you’d be pretty happy.

Tobias: What distinguishes something like what we’ve just today or the last few days and say, when we were in the similar position, I don’t know when that was at the end of 2020 or the end of 2021, where we’ve basically had a little bit of a round trip from wherever we were?

Jake: Well, [crosstalk]

Tobias: Yeah. It’s a couple of years, but it looked like– I think it was late 2020 until about mid-2021, the market bounce. The small caps bounce had a gigantic bounce relative to everything else. And then that just ran out of steam about June 2021, it’s been downhill since then. So how do you distinguish this from that?


Regime Change Is Coming: How to Fight the Tape

Jared: Ah, the short answer is you can. It’s hard. But I think that what I would look at is instead of looking at small caps idiosyncratically in a vacuum, you have to look at it in context of the overall regime. Markets operate in regimes. The regime that we’ve been in for the last two years is stronger dollar, higher interest rates, and the Magnificent Seven. That’s what’s worked, I guess over the last year. And today, all of those trades fell apart. Like, the dollar is weaker, small caps are outperforming, rates are down. So this, to me, it feels like regime change. You know what I mean?

Like I said earlier, being a mean reversion guy, I’m always fighting trades. It was funny because I was on the Charles Payne show last week, and we were talking about bonds, and he’s like, “Why would you fight the tape[?]?” And I’m like, “Absolutely, you should fight the tape. You should absolutely fight the tape.” You see how this data is coming in. You see how the economic data is coming in. We’ve been watching it for the last 12 months. It’s getting weaker. The market is ignoring it. The market will pay attention to it someday. As long as you have an asymmetric payoff where you have small downside versus big upside, yeah, it makes perfect sense to fight the tape.


Tobias: Let me just give a little shoutout. I always give a shoutout to where we’ve got people coming in from. Petah Tikva, Israel. What’s up? Santo Domingo, Dominican Republic. Kennesaw, Georgia. Milwaukee. Toronto. Norberg, Sweden. Picayune, Mississippi. That’s a good name. Campeche, Mexico. Have I got that right? Oops, just jumped down a bit. Vegas. Hamburg, Germany. Savonlinna, Finland. What’s up? South Africa. Mendocino, California. Antigonish, Canada. South Africa. Nanaimo. Have I got that right? Las Vegas. London. Dubai. Tel Aviv. Madrid. Valparaiso. Good for you. Is that Indiana? Not the one in Chile?

Jake: Yeah.

Tobias: Florida. Houston, Texas. Nashville. What’s up? Durham. Karl-Marx-Stadt, Germany. Romania. What’s up?

Jake: Oh. All right.

Tobias: That’s right. It’s a good spread.

Jake: Enough of this tomfoolery.

Tobias: Showing off?

Jake: Yeah. [crosstalk] Jared, what’s the new book that you have coming out in January?


Best Personal Finance Book All Time – No Worries: How to Live a Stress-Free Financial Life

Jared: So, it’s called No Worries: How to Live a Stress-Free Financial Life. It’s a personal finance book. It is the best personal finance book of all time, and I’ll tell you why.

Jake: [laughs]

Jared: So most personal finance books have people obsessed with small expenses. Like, whether you buy coffee in the morning, whether you go out to lunch. People spend the vast majority of their time thinking about whether they should spend 5 bucks, 10 bucks, or 20 bucks on something. The conventional wisdom is that, whether you have money is the sum of a million small decisions you make on a daily basis. If I buy these name brand pork and beans instead of the generic pork and beans, then I’m a spend thrift and I’m losing money. That’s actually not the case. You can do the math.

What determines whether you are wealthy in a personal finance sense is three things. House. How big of a house do you get, how expensive of a car do you get, and how much money do you spend on college? Those three things. If you get those three things right, you can drink all the coffee you want. [Jake laughs] It’s that simple. And so Americans, I think, have been trained to believe that it’s the little things that matters. There was this speech by an admiral, this Admiral McRaven, guy, I think it was at Texas A&M years ago. His commencement speech was all about like, “If you make your bed, then the rest of your day will be amazing, and you’re off to a good start, and it’s the little things that matter.” Absolutely does not matter. There’s nothing more false in the entire world. It’s actually the big things that matter.

The funny thing is that people sleepwalk through the big things without thinking about the risk. Like, buying a house is, for most people, the riskiest financial decision they will ever make. Buying a house in the United States is very institutionalized. We have real estate agents, we have Fannie and Freddie, we have banks that make the process very easy, and it’s very routine. People do not stop and think about the risk and think about the amount of leverage that they’re using, which is five to one. And if the price of the house drops by about 13%, then they’re underwater. Nobody thinks about that. Even 15 years after the financial crisis, people don’t think about that.

So a lot of the book is thinking about risk, because a lot of people think that big risks are small, and small risks are big. But the crux of the book is about eliminating your financial stress. And the two sources of financial stress are debt number one and risk number two. If you minimize your debt and risk, then you will be happy.

Tobias: What are your risks that you don’t have enough to retire on?

Jared: How much time do you have? [laughs]

Tobias: We’ve got-

Tobias and Jake: 45 minutes-

Tobias: -left.



The Vanguard Myth: Why You Should Never Invest in Index Funds Alone

Jared: All right. So, the conventional wisdom is that you should put all your money index funds, because index funds return the most. This is what Vanguard tells you. Vanguard has these ads. They put them on LinkedIn. They have this animation of a chart going up and down and they say, “Just hold on. Just hold on.’ Well, if you invest in an index, you get the returns of the index, which are very good, but you also get the volatility of the index, which is bad. The S&P 500 is a very volatile index. VIX averages around 16% to 20%. So your portfolio could move 16%, 20% a year, and you have massive drawdowns. From the top to the bottom in 2007 to 2009, you had a 57% drawdown.

So, let’s say, if Vanguard is right and you should just hold on for a 57% drawdown, even if you did hold on for that 57% drawdown, you would be miserable. You would be absolutely miserable. So why not structure your portfolio in such a way that you can cut your volatility in half and greatly reduce those drawdowns, and so you can stay invested and keep compounding. Vanguard knows that their customers don’t realize the returns of their funds. They absolutely don’t. They have this concept known as Advisor’s Alpha, where if you take a third-party and you have them as a chaperone on somebody’s portfolio, then their returns increase because people can’t do it alone. Nobody realizes the returns of those funds even in the context of dollar cost averaging. Like, people dollar cost average. But when the market goes up, they put in more money. When it goes down, they stop putting in money. It’s a disaster.


Jake: Yeah. What’s that famous–? Is it Ken Heebner, the CGM fund, where it had–? I can’t remember the exact numbers, but it was the best performing mutual fund for a decade. The actual realized return for the average person that was in it ended up being negative because their timing was just so bad with it.

Jared: Yeah, that’s what I’m talking about. Yeah.

Tobias: When you look around at the moment, what do you see as the great risks?

Jared: Like, economic risks? What kind of risks?

Tobias: Yeah, just in the current market.

Jared: Today is an interesting day to ask that question. I think the risk is that we will go into a recession, which I think is pretty much preordained at this point. I think it’s going to happen. It’s not going to be like the financial crisis. In the context of recessions, it’s not going to be a terrible recession. You see this at the beginning of all recessions, because the economic data weakens, rates come down, stocks go up in response to rates coming down. You saw this in 2000, you saw this in 2007. And then after a while, it gets real and the economic data really does get worse, and then you have unemployment of 4%, 5%, 6%. It doesn’t matter how many times the Fed cuts rates, the market still goes down.

So I think we’re going to start that process in the next couple of months. Stocks are up a lot today. Who knows if they get to 4,600 or 4,800? I’m not really sure. But I’m bearish and I’m waiting for a spot to short it. So, I think that’s going to happen soon.

Tobias: I’ve heard you talk about the yield curve inversion, but what are the other things that you consider?

Jared: What do you mean?

Tobias: Just in making the assessment that like there’s a recession on the cards.


Jared: Well, the 12-month moving average of payrolls has been in a downtrend for the last year. The funny thing about this recession in particular is that it’s extremely slow moving. I think part of that is a function of the fact that we pump so much stimulus into the economy, we still have $3 trillion sloshing around. Look, the yield curve inverted 16 months ago. The longest we’ve ever had to wait for a recession after yield curve inversion was 18 months. So maybe it takes 18 months this time, but yeah.

Tobias: Yeah, I looked at the 10-3. The 10-3 inverted in late October last year. And the longest in that is, I think it was 15 months, which would take you out to late January, early February, assuming that it follows that path, which is no reason why it necessarily has to. It’s already the longest inversion of the 10-3 that we’ve had. It was the longest weeks ago. So it’s well and truly the longest inversion we’ve ever had, which I think– I don’t think of it as like a technical recession indicator. I think of it as like an actual reflection of what the Fed is doing. And the Fed has got those rates pinned high relative to where the yield curve had been. And to the extent, it’s been closing, it’s been, I hate to have to use the term,-


Bull Steepener: The Trade That Fixes Everything

Jake: The bear steepener.

Tobias: -the bear steepener, yeah, where the 10-year rises rather than the front end coming down. So, I think it’s been inverting for the last six weeks.

Jared: Well, the bear steepener is the trade that makes no fundamental sense, but you have to respect it because it’s the pain trade. We had the pain trade of the bear steepener for quite a few months.

Tobias: Yeah. With the 10-year coming off, that seems to be over. That ended like late September, early October.

Jared: Yeah.

Tobias: Typically, the inversion normalizes, and that’s the event that most closely precipitates the declaration of the recession. And so that looked like that was going to happen by virtue of the fact that it was going to be a bear steepener. But now the 10-year is dropping, and so the 10-3 is reinverting as a resolve.

Jared: Yeah. The bull steepener is the trade that fixes everything. Like, when 2s are coming down faster than 10s, that’s the trade that fixes everything. That makes gold go up, that makes stocks go up, that makes risk assets go up. So, you have this period of time right before a recession starts where it feels really good. So, the same thing happened. I want to say, I had this trade on in like 2007, 2008. I can’t remember, but I had a steepener on and it was literally the exact same playbook. And so I put on the steepener at zero basis points, 2s, 10s, and I took it off at 100, and then it went to 250.

Tobias: So that’s anticipating the normalization?

Jared: Oh, yeah, absolutely. Yeah.

Tobias: Why wouldn’t you put that on now, or do you have that on?

Jared: Well, I have one leg of it on. So, I’m long 2s. I’m not short 10s. I don’t like putting on curve trades in my personal account, because it chews up a lot of commissions and it’s complicated, but I am long just a ridiculous amount of two-year notes. Speaking of financial stress, that’s been causing me stress for the last couple of months, [Tobias laughs] but that seems to be getting better.


Tax Receipts: A Key Indicator to Watch Amidst Recession Fears

Tobias: Aside from those technical indicators though, I mean, a payroll I guess is– I’ve seen a similar– I forget what the data series was now, but it’s tax receipts. Tax receipts have been falling–

Jared: Yes. Yeah, Luke Groman had a tweet about that yesterday.

Tobias: Yeah.

Jared: That is the ultimate indicator, because if the income that people actually report to the government is going down, that is the best indicator of a recession, for sure. Yeah.

Tobias: Do you have any sense of what the timing or how you interpret that beyond year over year down as bad and has been year over year down bad for the last seven months?

Jared: Well, I think he pointed at two other times in history where tax receipts were down for seven months in a row and they were both recessions. This one is also the 7th month in a row.

Tobias: Well, you can look back and you can see 2000– I think it was in the 20s before it was all said and done, lower mid20s. And then 2007, 2009, same thing. It might have even been longer. It was like 28 months of consecutive income declines. And then there’s a few– From 2016, there have been a handful of these mini personal income recessions I guess, or reported income recessions. There was one around the COVID pandemic lockdown, and now there’s this one. So, I think in addition to everything else that’s out there, it does seem to suggest that there’s certainly a slowing in the economy, whether that’s reflected in the official statistics or not, it certainly seems to be slowing to me. Would you agree?

Jared: Oh, absolutely. 100%. Yeah.


How Our Senses Limit Our Understanding of the World and the Market

Tobias: Jake gives us some vegetables. Gives us some long-term learnings. Do you want to hit us with those, JT?

Jake: Sure. Before I do that, I just looked to see what’s the value of value from Joel Greenblatt’s data set. Like, what percentile are we in right now?

Tobias: Probably 50, last time I checked. Where is it?

Jake: It’s 48. So, we’re looking at, perhaps, an average value set opportunity at today’s current pricing and fundamentals. Not sure what you do with that. It’s a lot harder to– chuckles] These middle ranges are kind of– I don’t know what you do with them. Same thing with market extremes as well.

Tobias: Still, expected return is like just under 40% over two years compound. So that’s high teens compound, which is still pretty good for his data set, which is the largest, 1,400. The 700 out of the large, just 1,400. But the way that data set moves around is not at all intuitive to me. It seems to me like, at the start of the year, it was in the 95th percentile, something like that, or 90th percentile, 90th, 95th. there’s been a little bit of value performance, but not enough to move it from the 95th to the 48th. And a week ago, it was like 56th. After it got beaten up all week long, it was still only like low 50s last on Friday, I thought. It’s a funny data set. I don’t really know how to interpret that one.

Jake: No, it does move a lot faster than I would expect. All right, so today’s veggie segment is around our five senses as a biological entity, and just gaining an appreciation for what can we see and what can we not see. I think you can draw your own extrapolations into, what does that mean for looking at businesses, looking at the economy. But we’ll just run through, and I’ll try to not dwell too deeply in there, but I might. So, first sense we’re going to go through is smell. There’s a study from the 1920s that suggested humans could discern about 10,000 different smells, which is actually quite a bit less sensitivity than a lot of our other senses.

There was another study then in 2014 published in science that estimated that it’s actually more like a trillion different sense that we could discern. They did some kind of clever math to figure that out. But when it comes to biological entities, we’re terrible, actually. The average dog’s sense of smell is 100 times better than a human’s. And a bloodhound is like 300 times better, and a bear is like seven times better than the bloodhound. The bear is like 2,100 times better than humans. [Tobias laughs] So we’re basically nose blind compared to a bear.

Now, how about the sense of hearing, sound? Humans can detect sounds in the frequency range from 20 Hz to 20,000 Hz or 20 kHz. And interestingly, human infants can actually hear frequencies slightly higher than that 20 kHz, but you lose that as you get older, as you mature. The upper limit of the average adult is often closer to 15, 000 Hz to 17,000 Hz. Lot of times, that has to do with how much loud music have you listened to. I know, Jared, that you like some of the harder, louder stuff, don’t you? [chuckles]

Jared: Well, first of all, I want to go back and say, I can smell like three things. [Jake laughs] Like, I can smell like bacon and body odor and maybe something else. But I have the worst sense of smell in the world. Like, the absolute worst. But yes, I have been to a lot of clubs, for sure. My hearing is impaired, for sure.

Tobias: And you’re a DJ too. What’s your DJ name?

Jared: Stochastic.

Tobias: Oh, that’s right.

Jake: [laughs]

Tobias: That’s right.

Jared: [laughs]

Jake: It’s good. So good. [laughs] All right, so then back to dogs. They can hear sounds up to 47,000 Hz to 65,000 Hz. So that’s that dog whistle is a super high-pitched frequency that we can’t hear. How about the sense of touch? This one’s actually been one of the least studied. And in 2017 though, a group of researchers from UC San Diego discovered that humans could feel the difference between a single layer of atoms. And so here’s how they did this. They took human subjects, and by dragging or tapping their finger along the surface of a smooth silicon wafer that had– It had a different single layer, topmost layer of a molecule. One surface had this oxidized layer that was mostly oxygen. The other was a single Teflon like layer made of fluorine and carbon atoms, but a single atomic layer.

Both surfaces looked identical, felt similar enough that some subjects couldn’t tell the difference. But in general, they would give you three different surfaces and you had to guess which of the two that matched. Across all the subjects, they correctly identified it 71% of the time. So that shows that they could actually tell the difference between a single layer of atoms on a silicon wafer. It’s wild.

Next thing, taste. Humans taste, they say it can be distilled down to five basic tastes, like, sweet, sour, bitter, salty, and then umami. Savory, basically. But some people have exploded that already and said, “Well, what about different tastes like astringency, like cranberries and tea, for instance, or pungency like hot peppers or ginger. Even like fat or starchy, or even like various metallic tastes?” So those don’t really fit the five basics. So I think that one’s kind of BS. But in general, the higher the molecular concentration, the greater the perceived intensity of the taste. But our thresholds for that actually vary quite a bit. It actually comes down to evolution.

So for citric acid, for instance, the threshold is 2 millimolar, but for salt, it’s 10 millimolar and for sucrose it’s 20 millimolar. This has to do with that you need different concentrations of salt versus carbohydrates, let’s say, because that was essential for making sure that you get the proper intake of it and you don’t get oversaturated on it, for instance. It’s clearly an advantage to have the taste system that can detect potentially dangerous substances. So bitter tasting plant compounds, for instance, at much, much lower concentration.

So, for instance, like quinine, which in different dosages is poisonous. We can detect that at 0.008 millimolars. So, it’s not even close to, let’s say, sugar. For strychnine, for instance, it’s 0.001 millimolars. We can detect it. Hopefully– [crosstalk]

Tobias: Does it taste bitter?

Jake: I would have to imagine. Yes. I’m not going around drinking too much strychnine, so I don’t know. [chuckles]

Tobias: Aren’t some of those poisons, like, they’re naturally occurring in almonds and some things like that?

Jake: I think so. Yeah.

Tobias: My kids can detect a vegetable in–

Jake: In anything?

Tobias: Yeah.

Jake: And spit it out?

Tobias: If it was nearby, yeah, they can tell.

Jake: [laughs] All right. And then I saved the best for last, and this is vision, obviously. The human eye can detect wavelengths from 380 nanometers to 700 nanometers. So that’s the frequency of radiation, basically, that we have that’s our visitable light spectrum. And the entire radiation that’s observable to the human eye, it’s a tiny portion of the electromagnetic magnetic spectrum. Do you have any kind of guess as to what it might be? What percentage of radiation can we actually see?

Tobias: I saw it at the Air and space museum. It’s small. It’s like 1%, something like that.

Jake: It’s 0.0035%.

Tobias: Wow.

Jake: Tiny. There’s all of this radiation that’s happening that we are just completely blind to. I find that to be rather humbling how limited our senses are when you look at the entire capabilities. I think that, for me, it brings to mind that whether we’re navigating some investment or some macro thing, boy, we’re also pretty limited in what we can actually measure and observe. And so we probably need to always keep a little bit of– It behooves us, I think, to keep from getting too overconfident about anything, no matter how much we think we understand a situation, there’s a lot of times things that we just can’t even know. The physical world provides us with that constantly, if we actually understand what we can see and what we can’t see.

Tobias: Still apex predators, top of the food chain, baby.

Jake: Go climb in the lion’s den and see if that’s true.


Tobias: I’d take a gun.

Jake: Hmm. Fair enough.

Tobias: So how do we bring this back to macro, to investment? You did. You did land it.

Jake: Yeah, just be humble, I guess. I don’t know, it’s really hard to recognize. We take all of these things, and we roll them up into piles and aggregate data to help us to try to understand it. But like anything, aggregations of anything can hide the true reality. Even just take something like an average PE, but what does that tell you about the dispersion of PEs around it and where opportunity sets might lie?


Use Twitter To Make Money Trading Panic

Tobias: So, Jared, if you’re looking across any number of asset classes, what draws your attention? What sort of anomaly or anomalous behavior are you looking for?

Jake: Yeah, what’s your frequency range?

Jared: I’m looking for noise. I’m looking for people-

Tobias: Twitter.

Jared: -talking about it.

Jake: [chuckles]

Jared: You know what I mean? You follow me on Twitter. So, I don’t know if you remember when natural gas prices were going up in Europe, and people were saying, they’re totally screwed.

Jake: Yeah.

Jared: I kept tweeting over and over again, “We will not be talking about natural gas in Europe a month from now.” Said that over and over.

Jake: [laughs]

Tobias: Yeah, I do remember that.

Jared: I said it recently with orange juice. I said it with lumber. Basically, anytime there’s a panic or a crisis or people are like, “This is unsustainable,” that which is unsustainable cannot be sustained. It’s just the nature of markets. The cure for high prices is high prices. The cure for low prices is low prices. It’s a natural argument for me reversion. Twitter is my number one tool. I’ve always told people, I would get rid of my Bloomberg before I got rid of my Twitter. I don’t need Bloomberg to trade. I can trade 100% off of Twitter. I don’t need to see what the price of something is. I need to hear what you think about it. That is the information that is important to me.

Tobias: How do you know that your Twitter follows are representative or worth paying attention to?

Jake: Good contrast.

Tobias: Yeah.

Tobias: Terrible track records?

Jake: Yeah. [laughs]

Jared: To get a little bit more in depth, there’s buckets of sentiment. So there’s a small percentage of people who are right a lot, and 90% of people are wrong a lot, and some people are wrong all the time. If you follow the same people for years, you get a sense of who is who. So if you’re in a trade where the wrong people believe one thing and the right people believe the other thing, it’s pretty obvious what’s going to happen.


Jake: Do you feel like, Jared, that there’s. I don’t want to call it Alpha, but let’s just say, like opportunity that is available for just the creative expression of taking the contra side?

Jared: What do you mean?

Jake: Well, just cleverly structuring how you want to express that thesis, the trade that you put on, for instance.

Jared: In terms of how you structure it?

Jake: Yeah. Do you feel like that there’s talent available there that you can add value to it? You could be right, maybe, and then there’s different ways of–

Jared: Oh, I see what you mean. First of all, from personal preference, I almost never trade options. Look, I started my career on the P-coast[?] options exchange. That’s how I started on Wall Street was trading options, and I almost never use options. Lots of times, I’ll be right on something, but not in the right time frame, and I end up losing money anyway. I don’t want to have to be right on the direction and the time. So usually, when I structure a trade, I do it with just deltas, just 100 delta Instruments, and then there’s an art to position size and risk management.

Tobias: Talk us through that a little bit. When you say, like, what’s a big position relative to your portfolio? You don’t have to tell us the absolute numbers. Just like as a percentage of your portfolio.

Jared: I would say I don’t get bigger than 40%.

Tobias: Oh, that’s still pretty big.

Jake: [laughs]

Jared: Yeah. That’s about the biggest I get. But I would say an average trade is 5% to 10% of the portfolio. I generally run a pretty concentrated portfolio. I don’t have 100 names. At any given time, I’ll have like 8, 10, 12 positions. That’s about it.

Tobias: So your current stance, it sounds like, you said that getting long, small caps would just be compounding what you’re already doing. So it sounds like in a pretty– You’re expecting gold to work, for example? You’re expecting equities in some way to work?

Jared: Yeah.

Tobias: Short the dollar?

Jared: Oh, yeah, absolutely. Yup.

Tobias: I don’t know, if that’s generally bullish, but that feels like a pretty bullish position. But then on top of that, you’re saying you expect a recession in the soonish. How do they all work together?

Jared: Yeah, so it’s different time frames. So, I think we’ll have a period of a couple of months, which is like Goldilocks, when we get the bull steepener and financial conditions ease. But then after a couple of months, the data deteriorates significantly and the Fed actually starts cutting. You can go back and look 2000, 2007, the point of the last rate hike and the point at which the Fed started cutting. It’s all a downtrend after that.

Tobias: So, you’re waiting for the Fed to cut as your indication is when you’re going to flip more bearish?

Jared: Well–

Tobias: Will you hold gold in that scenario?

Jared: Yeah, absolutely.

Tobias: Continued to be short.

Jared: But keep in mind that I don’t trade gold tactically. I started buying gold in 2005, and my thesis was that, over time in our current regime, it would outperform stocks. As it turns out, it’s been about a push. Gold has done about the same as stocks since 2005. I definitely haven’t lost anything.

Jake: How about expressing short things? How do you go about that? Do you use some of these ETF products, or do you actually put on a real short position?

Jared: I pretty much do everything through futures these days.

Jake: Okay.


The Advantage of Trading In The Futures Market

Jared: Yeah, I do everything through futures.

Tobias: What’s the rationale? More liquid, or is it the tax, or what’s the reason for doing it that way?

Jared: Tax, for one. Lots of liquidity. Gosh, that’s actually a good question. Why do I use futures?

Jake: [laughs]

Jared: Well, I guess, look, futures allow you to achieve an enormous amount of leverage with very little capital. So, with 2s, the margin requirements on a $200,000 contract are about 1,600 bucks. So, it’s basically 120 to 1 leverage. So, if I wanted to buy cash 2s, I simply don’t have the money to get that kind of exposure.

Tobias: You said you talk about crypto in your newsletter. How do you think about crypto and gold? Are they substitutes, or are you using the crypto in a different way?

Jared: I think they are very poor substitutes.

Tobias: Okay.

Jared: The nice thing about gold is that it’s not very volatile, especially recently. Recently, it has not been very volatile. It’s a 12-ball asset instead of bitcoin, which is an 80-ball asset. If they do the same thing, then which one would you pick? Obviously, the lower ball asset. So obviously, they don’t do the same thing. That’s a stupid thing to say, they do different things. You hold bitcoin for different reasons. But yeah, given the choice between the two assets, I picked the lower ball one.


Tobias: I think they do something similar in the sense that they’re both ways that people use to escape inflation or money printing. The people in gold probably have a lot– There’s a Venn diagram where there’s a fair overlap with the views of the people in Crypto. How do you feel about that?

Jared: I think that was true five, six years ago.

Tobias: The crypto people? I still see people like Preston Pysh would be out there saying. I still see those tweets all the time that you want to escape the financial system, you want to be in crypto?

Jared: Yeah. Honestly, if you want to escape the financial system, go buy some physical gold, and walk into a gold store, pay cash. There’s no record of it. Take it home, bury it in your backyard. Now you’re outside of the financial system, like, nobody knows you have it. Even in this nightmare scenario where they come and confiscate it, they’re not going to find it. So that’s outside the financial system. Like, crypto, forget it. I think it’s totally financialized.

Tobias: Yeah, you put that in the ground, so that the Britons trying to escape from the Romans. A thousand years now, someone can dig it up and do well.

Jared: [laughs]

Jake: We’ll have landed an asteroid by then, Toby, with all the gold anyone would ever want. [chuckles]

Tobias: Asteroid will have wiped out life on the planet Earth. It’ll be some other. It’ll be the lizard people back to run the show.

Jake: They like gold? I don’t remember.


Market Timing Strategy: Short-Term Bullishness Followed by Bearish Trend

Tobias: [laughs] So you’re more bullish in the short-term because the rates have come down, because paradoxically, we’re going to see some weakness which will make the Fed cut, and that makes you bullish in the short-term. And then that’s up to a point where the Fed actually does cut, in which case sentiment then deteriorates and you want to be bearish. Presumably, that lasts for a reasonably long period of time, if we go into a 2007, 2009 style bear market. Is that what you’re thinking? Like you’re saying unless shallow recession.

Jared: Yeah. That’s a pretty good approximation. I’ll get bearish when sentiment gets bullish, when the last knucklehead gets dragged into the market on the highs. When you go on Twitter and people are like, “Stocks for the long run” and all this– I’m just making this up. But when people are cheerleading the market, that’s the time to go short. So we’re not there yet. In fact, this move we’re having today is probably the middle of the move rather than the end of the move. So probably 45, 50 to 4,600 in the S&P, I think is probably a good time to think about shorting it.

Jake: It would be interesting to see– I don’t know how you could get this metadata out, but returns posted on Twitter, and just see-

Tobias: Oh, yeah.

Jake: -just the number of times that someone’s posted their returns, [laughs] it has to be incredibly countercyclical.

Tobias: That was a big 2020-2021 thing to post your returns.

Jared: [laughs]

Tobias: Haven’t seen a lot of that. Or, portfolios too. People posting their portfolios a lot.

Jake: Yeah.

Tobias: Haven’t met a lot of that more recently.

Jared: [laughs]

Tobias: There’s been a general– When people were locked down through 2019– Not 2019, 2020, maybe early 2021, there seemed to be an enormous amount of speculation in equities and crypto particularly. I think there’s just less interest in the market now. Is that fair? Do you see that?

Jared: Oh, much less interest. Much less interest. We talked about this before we came on the show.

Tobias: Yeah.


Market Exodus: Millions Have Abandoned the Markets

Jared: My newsletter, I don’t want to say I’m hemorrhaging subscribers because I’m not, but I’m losing some, and I’m not really replacing them as fast. The feedback that I get constantly is, I’m just not trading anymore. I give up. I took my ball and went home. Trading is too hard. It stresses me out. Lots of people have given up trading. Just think of all the suckers that went into GameStop and AMC. They’re all gone. They’re done. They just lost everything.

Tobias: There’s still [laughs] tough things to be [unintelligible [00:49:39] There’s a cult out there.

Jared: I would say millions of people, millions in 2023 have stopped trading, for sure.

Tobias: Yeah.

Jake: That’s still a relatively small number of the US population at 350 or whatever it is.

Tobias: But then how many people are actually trading? A lot, all the time, anyway. It’s probably a material number of the people who are actually doing it on a regular basis.

Jared: That’s a good question. I don’t know.

Tobias: At the fringe, probably a big number. I’ll bet you it follows that– I knew the guys who ran the Australian Intelligent Investor, which was this newsletter service. It was like 1,000 bucks a year, and they had like seven and a half thousand subscribers at the peak of the market. And at the bottom of the market, they had 3,250 subscribers.

Jared: Yeah.

Tobias: Literally, the number of subscribers matched the performance of the market like it was cut in half, and the number of subscribers was halved as well. I wouldn’t be surprised if it’s– [crosstalk]

Jake: Perfect correlations?

Tobias: Yeah. I wouldn’t be surprised if it follows that closely.

Jared: Yeah.

Tobias: I feel that a little bit. I think that there’s a lot less interest in the market. I just noticed that all of the rates of growth in Twitter subscribers and website subscribers, all those sort of things have definitely slowed and reversed after some sort of spasm, even though value wasn’t really participating through.

Jake: [laughs] Yeah.

Jared: [laughs]

Jake: You thought we’d been immune from all this. Come on. [chuckles]

Tobias: Well, I guess that newsletter, that part of the business does follow the popularity of it.

Jared: Oh, yeah, absolutely it does. Yeah.


Tobias: The people who are reading your stuff are reasonably sophisticated, if they’re– I hesitate to use the word, bear steepener, because it’s so inside baseball, but that’s a very common sort of– You understand. You’re talking bull steepeners and bear steepeners and using futures and so on. Why do you favor futures over say options? Because you’ve got the same time constraint with the futures, don’t you?

Jared: So like I said, when I started in the business, I started in the options world. A lot of derivatives guys, a lot of options guys, they are snobs. They’re very much snobs. Like, “Ooh, I trade something nonlinear that’s very complex with lots of math, and you don’t. So I’m better than you and I should get paid more than you,” and all this stuff. So that’s the way I was. And then when I got to Lehman, I really wanted to trade options and wanted to trade on the derivatives desk, and they said, “No, you’re going to trade index arbitrage.” Well, index arbitrage is a pretty slow-moving trade where you’re just arbitraging the S&P futures with the underlying basket. It’s a money markets trade. You’re trading short-term rates. It’s slow and boring. It’s an equity finance trade.

But when I did that job, I came to appreciate how the nuances of just trading Delta, literally, just trading 100 Delta instrument and the complex psychology behind that. I started to like it more than trading options.

Tobias: I confess I don’t know what 100 Delta option– Sorry, 100 delta Instrument means. What is that?

Jared: Well, basically, it’s a stock or a future or a swap or anything that doesn’t have nonlinearity, okay? Like anything that doesn’t have convexity or curvature. An option has convexity, but a stock does not.

Tobias: So, 100 Delta. The price of the instrument moves hand in hand with the price of whatever it’s underlying. So it’s 100 delta. Okay, I got it.

Jared: Yup.

Tobias: Futures give you 100 Delta? There’s no convexity in futures?

Jared: Yeah, 100%.

Tobias: Okay.

Jared: If you want to be really nit-picky about it, there is a little bit of convexity because when something moves, you get more variation margin, then you earn more interest on your variation margin. So, there’s a little bit of a Delta there, but it’s tiny.

Tobias: Yeah. But you’ve still got leverage in it because the future is giving you. What were you saying before? $1,600 gives you how much?

Jared: $200,000.

Tobias: Exposure. Yeah. So, it doesn’t leave much room for error though, if it moves against you, what are you doing? You’re just reloading if it goes against you, not worrying about it?

Jared: Yeah. If you had the cash, you just meet the margin call.

Tobias: You must assume that half of them are going to go against you.

Jared: Well, hopefully not.


Jared: Not if you’re good.

Jake: Yeah. What’s a good batting average?

Tobias: Yeah.

Jared: I don’t know. My batting average is pretty high, but my problem is, I generally take profits too quickly.

Jake: So, you truncate your slugging then?

Jared: Yeah, which I think is the problem of– I’ve been working on it. I’ve been working on getting better. But two note futures are trading 101, 20 and 3 quarters. If the Fed cuts rates to 2.5%, they should go to 105 or 106.

Tobias: What does that mean for a $200,000 position?

Jared: Well, basically that’s a 4% move. But if you consider that you have 120 to 1 leverage, it’s a 480% move.

Tobias: So, the 1,600 is up five times in that sort of scenario, so put close to $8,000.

Jared: Yeah.

Tobias: Okay. That’s a fair bit of sensitivity. So, there’s pretty big moves on anytime the Fed or anytime J Powell talking, do you take positions off for that, or are you just not affected by that because you’re not trading those instruments directly or how do think about that?

Jared: No, you kind of have to have it on for those events.

Tobias: Because that’s the move? That’s the [unintelligible [00:56:04]

Jared: That’s the move. Yeah.

Tobias: Right. Okay.

Jared: Yeah.

Jake: Jared, were you at Lehman during when it collapsed?

Jared: Yup, I was.

Tobias: Did you get the bits and pieces? Have you got a mouse pad or something?

Jared: [laughs] I got some souvenirs. Yeah. I actually have a really good Lehman tie that I got that. It is in the closet. I never wear it, but it’s a very cool tie.

Jake: Any good stories that are approximately four minutes in length? [laughs]


The Culture At Lehman Brothers: NASCAR-Style Efficiency

Jared: I’ll tell you a story which is the culture of Lehman. This is what Lehman was all about, okay?

Jake: Yeah.

Jared: So the guy who traded semiconductor options was a little bit of a hothead, and he would get mad. One day, he got mad at something and he took his phone and he threw it on the desk, but it bounced off the desk and hit his screen and cracked his screen, okay? Now one of his screens is totally dark. He’s all pissed off and he’s got no screen. And in any big bureaucratic bank like a JPMorgan or a Citigroup or something like that, you would have to call an admin, and they would fill out a form, and they would request a new screen, it would take a month, and it would just be a huge headache. So basically, the IT guys saw this from across the room. They ran over with another screen, and they had these drills and just like [makes zipping sounds]

Jake: Like a pit crew.

Tobias: [laughs]

Jared: They took out his old screen, and they put in a new one, and they plugged it in, and he was good to go in three minutes. It was like NASCAR. It was like a pit crew. No bureaucracy, no bullshit. Just like, “Just keep working, keep making money.” That was the ethos of that place.

Tobias: And still they failed?

Jared: Yeah. Well, it really failed because of the actions of a handful of people, not because of all the people at the firm.

Tobias: What was it that precipitated that was the two–? Were they Lehman hedge funds that went belly or they were their best earns hedge funds that went belly–? [crosstalk]

Jared: No, really. It was a top down decision from Dick Fuld and Joe Gregory to just keep plowing into real estate and mortgages and subprime. Like, it’s just they paly for the [crosstalk] firm.

Tobias: Music explain, and got to keep dancing?

Jared: Yeah.

Tobias: We’re going to be coming up on time here in a moment. Jared, if people want to follow along with what you’re doing or find the new books or the books that you’ve written, how do they go about tracking down all that stuff?

Jared: So a couple of things. First of all, the new book is No Worries: How to Live a Stress-free Financial Life. No worries, you can find it on Amazon. Just look it up. Preorder the book. Pre order the book. It’s going to be awesome. You have to preorder the book.

Jake: I heard it was the best personal finance of all time.

Jared: It’s the best personal finance book of all time. It is. If you want to subscribe to the newsletter, go to There’s a button that says subscribe, and you can just hit that button, send me an email. If you mention the podcast, I’ll give you a discount.

Tobias: Nice.

Jake: Nice.

Tobias: The code is VALUEAFTERHOURS or something like that.

Jake: [laughs]

Tobias: All right. Jared Dillian, editor of The Daily Dirtnap, thanks very much. Folks, we’ll be back next week, JT and I, with, huh, we don’t know who that is yet. We’ll try and figure that.

Jake: Uh-oh. All right. [laughs]

Tobias: See you then, amigos.

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