Cem Karsan: What’s Really Driving This Market Boom?
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Welcome back to Real Vision. I'm Ash Bennington. Today, I have the pleasure of speaking to a Real Vision fan favorite, Jem Carson, founder of Kai Volatility. Jem, welcome back to Real Vision. Thanks for having me, Ash. Always great to be on. Well, it's always a pleasure to have you with us, particularly now at this inflection point in markets post-election. Obviously, equity markets have been ripping more generally. Big picture, 50,000-foot overview. Where are we right now in your view, Jem?

Right where we said we'd be, right? Post-election, you have an event vault that exists in the market. It is fear, the wall of worry, call it whatever you want. When it is removed, regardless of the candidate, again, the narrative is such that it's a Trump rally.

I will remind people that people were worried about Trump in 2016 market dropped overnight and then rallied dramatically. People worried about Biden and then the market rallied dramatically. People like the narrative, the flows tell a different story. There is a structural bid to downside protection and insurance in the market that once it comes off the market leads to positive flows. Pair that with the rebalancing of re-leveraging

That happens at the end of the year on the positive flows and the seasonality that comes from extended holidays and time off. And you get a positive outcome. It's that simple. Now, that's the broad market.

I want to unpack all of that one by one because these are such important points. And I think foundational to setting up your thesis here, by the way, I should say, the market's giving back a little bit here on the equity side. S&P 500 off about a quarter of a point down below the 6,000 mark again here today. It looks like Russell 2000, which has been the big gainer, off about 1%, 24.08 on my screen right now. But Jim, let's drill into what you just talked about there, particularly about volatility, volatility.

and structural flows, because I think this is so important for people to understand in order to understand your vision of the way markets work. Yeah. At the end of the day, the market is a function of supply and demand. People can paint narratives to what drive may or may not drive that supply and demand.

But in the words of Benjamin Graham, the market is a voting machine in the short term. It may be a weighing machine in the long term, and that long term is years, sometimes a decade, right? But in the short term, what are the buying flows and what are the selling flows? I think that story doesn't get told. Where the rubber meets the road is not...

what people say on most networks or on most media sources. Most people are focused on some story as to why things go up or down. The majority of flows are not individuals. They are not people coming in and saying, I want to buy stock or I want to sell stock.

They are structural flows that happen as time moves forward and as risk needs to be rebalanced. There is a warehousing, a positioning that exists in what is otherwise market neutral positioning across the board. That's at banks. That's at market makers. That's at hedge funds and others that are warehousing risk. But the rebalancing of risk is the majority of flows in a given day.

What drives that rebalancing? Well, it's the decay of different structure position across the distribution. The world thinks that the most positioning is long the market or short the market. There is a tremendous amount of positioning that is not long the market or short the market, that it's much more nuanced. Some of that is structured products, some of that is all kinds of other positioning in an options land, other derivatives swaps, we can go on and on.

Those things do not move in two dimensions. They move in multidimensional space. And one of those dimensions is time, and another dimension is volatility, implied volatility. Implied volatility declining has delta effects. Those are called VANA.

Time moving forward has delta effects on that warehousing of risk. That is called charm. The market moves. That's another dynamic that has another dimension. That's called gamma. People focus on the gamma because, again, it's tied to two-dimensional moves. The market, people don't like to think about time. That gets confusing or implied volatility. That gets confusing to people.

but the movement of implied volatility the movement of time move on in some regular predictable way based on on on the market move or the passing of time um and those lead to positive flows historically because you have downside skew and insurance in the market so differing uh over different times the amount of vomit and charm uh flow at different

different amounts. That's a function of the position. Can you unpack those? Because we're talking about second order derivatives here. I know this gets confusing, but could you explain what you mean and what these are measuring relative to the underlying price? I know it's twofold removed, but if you could explain a little bit about how Vama and Charm work, those dimensions, it's so important, I think, for people to understand. Yeah, I think this making it up to second order derivative, it overcomplicates and confuses the matter. The

The reality is that there is downside hedging that happens in the market. There's positioning of short upside exposure relative to long downside exposure by the street. That's warehoused by dealers. They are short out of the money downside insurance.

and they are long upside. As that downside insurance decays, it goes away because time passes, much like you pay insurance for your home. Your insurance, if your house doesn't burn down, that insurance goes away and you need to buy new insurance. The hedging of that positioning needs to be unwound over time. And that's the essential idea, that essentially there's short positioning of the underlying

by dealers and the street to hedge out the risk that they take on by warehousing what is a great structural positioning, taking on a very high vol of an out of the money. But the world is an insurance business for the long market. Everybody is long. If you live, you sleep, you eat, you breathe, you work a job, you own a home, you're long. You own stocks, you're long. Anything is long. Living is long.

which means the world needs to hedge and the world needs protection. And somebody has to provide that protection. And there's a world, the markets essentially digest and warehouse that protection.

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for excuse me, the markets are an insurance company for the world. Essentially, what you're saying is there's long positioning. People are long the market overwhelmingly. And then there is the flip side of that, the hedging on that, which is the dealers taking the opposite proportion of that, taking the opposite position in a proportional way against those positions to hedge that risk. Is that roughly right? Yeah, I think that's the basic idea.

For sure. And at the end of the day, that means that somebody has to be short, right? And so that short positioning makes up

is the second part of the biggest carry trade on the planet. It's bigger than a yen dollar. It is essentially short downside exposure, long upside exposure, and hedging that exposure. And it's a carry trade because it's an incredibly profitable trade. Out-of-the-money puts at about the same amount out-of-the-money as calls a year out trade at three, four times the volatility.

You can sell an out-of-the-money put, 15% out of the money on a 35 vol, and you can buy a 15% out-of-the-money call on a 10 vol. They're both volatility. They both, if hedged, have downside and upside exposure. One just increases in that volatility as you get a decline and have more convexity to the downside. If you sell a put,

and you buy it out if you buy a if you start if you sell a put out of the money and you buy a call out of the money and you sell stock you get a credit you get a credit to uh if the market goes on nowhere you make a ton of money the mark goes up a little bit you make a little bit of money if it goes up a lot you'll probably lose some money up until a point that it goes up a lot and start making money again it is a net very positive payout structure it is a very profitable trade it is essentially an insurance trade

And the world has that trade on. If time passes, that decays and that needs to be unwound. And the world has a constant amount of charm being bought back as a function. And the decrease of all as time moves forward also has an effect that feeds into that, which is called bottom. These are just structural flows. And again, they seem complicated. They seem, but they are market structure at its core. It is why when you hear, oh, the market goes elevator down, you're

escalator up. It's not just a function of, oh, people panic to the downside. No, there is actual positioning on the downside that dictates that markets have to move quicker to the downside, but that over time, that the market is right biased, that it is going to have positive flows as time passes and compresses.

Every single market adage since the beginning of time can be explained by these dynamics. It's pretty crazy. Throw me an adage and I'll tell you how it's explained by this market structure. Climbing a wall of worry, right? A worry is biggest. You know, these flows that go up are a function of when there's a lot of hedging you get hedging.

event fall decline, which then pushes about much of positive buying into the market. It is not just short interest or under investment. It is actually a mechanical effect of the net effect of positioning in the marketplace. Seasonality, all parts of seasonality, the Santa Claus rally, the January effect,

You talk about the summer doldrums, the fact that February is the second worst month of the year. We can go through almost every single piece of seasonality that people refer to. And I can point to the exact and not calendar month to month. You can go to the actual weeks and point to where the positioning is that drives that part of seasonality. It is the biggest and primary driver of these day-to-day, week-to-week flows. It's not the only thing. It's not the only thing. There are other things. Yes,

Fundamental news matters on a single stock basis and broadly against across the market and interacts with these flows. But if you're not watching these flows and you don't understand how they are affecting outcomes, you are missing the big picture. You're falling into some narrative story that is very compelling and makes for good TV. But it ultimately is not the truth about the imbalance between supply and demand. Hi, Raoul here.

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Okay, I'm going to go one level more foundational and ask you to explain why that market structure exists. I mean, it seems if I'm understanding the explanation, it's basically in essence because you have...

positive flows into U.S. equity markets, which generally rise over time, and those have to be hedged. And in order to hedge those positions, you have to take the opposite side of them in a proportional way. And that's what the delta measures. Is that roughly correct? Is that how you would explain the true foundational basis for why this market structure exists in its most simple and primitive form?

Yes. At the end of the day, the world is long and the world doesn't hedge. You don't hedge the upside of the growth of your home. You hedge the burning down of your home. Right. If you own assets, what positioning do you need convexity on? What side do you need some level of protection on? Always downside. Yeah, it's always downside. S&P 500 always has positive skew. Always. It never has had negative skew. Ever.

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Buy rights dominate the options universe. Things that ultimately sell upside vol because everybody's already long. They're like, oh, I would sell this here. So why not collect the premium? So it's two-sided. Selling calls on the upside and buying downside puts protection are part of the market structure. And it's much more than just what's long, by the way. People do buy protections so they can take other risks.

Owning the tail allows you to take risk in the marketplace, not just be on the market, but do all kinds of other things. It allows companies to make investments. It allows banks to take leverage on portfolios. Downside skew, owning the tail in terms of economic liquidity, hedging the market, ultimately allows for basically all productivity and leverage to exist. That is the whole point of hedging.

so that people can take other risks and still continue to operate. Jim, give us some examples of what owning the tail means. I mean, there's plenty of examples, but the simplest is just owning it outside, out of the money. But the further you go down the curve, the further out of the money you go, the cheaper it is. At some point, you can buy something for a nickel or a penny that people perceive to have no value. But if...

Something happens. And if you get some multiple standard deviation move in that scenario, that thing can be worth the same as being short stock. It can go from a 0.001 delta to 100% delta into short YAML.

So that's, if it's a 0.1 delta, that's a thousand X change in your delta, your positioning on the market.

If it's worth a penny, that means it can go to, in the case of the S&P, hundreds of dollars. I mean, that is convexity by definition. Your investment can have dramatic outsized returns. So limited downside, that's what insurance does. It gives you a fixed premium that you can lose and infinite upside.

And assuming you're a buyer and not a seller. Correct. Yeah, that's what we're talking about. And that's why people who are law on the market buy protection. And then they may write protection to cover notionally what they're already long to pay for it or to do to make some income along the way.

But the net effect of the positions, again, is short positioning and not linear short positioning, convex short positioning in the marketplace.

Talk a little bit about that convexity. I know we've been talking about it.

And if you go analyze those trades, guess what? There is a structural unwind of the deltas against the carry trade on a day-to-day basis. That is what moves currency markets. People know that one of the primary flows in currency markets are these carry trades. People talk about them writ large. People don't talk about, interestingly enough, the massive carry trade that exists in the broad market itself. It is way bigger than the yen dollar carry trade or yen lira or whatever other yen carry trade that's existed all this time.

And it affects day-to-day underlying equity moves in the market in a dramatic way. At the end of the day is the most predictive flows in the market. And that's why it's so important to understand. A lot of the other flows are much less predictable, much less. And honestly, these flows have grown over time. The amount of insurance and hedging and structure positioning in the market is bigger than ever. It's always been there, but it's bigger than ever. And

And again, people have focused over time on the gamma effects. People talk about 87 and all the other kind of crashes and issues that have been caused by portfolio insurance. But very few people appreciate, which I think is more important, the day-to-day effects that these things have on markets that are not just tied to convex, the acceleration of trades into convex positioning.

So, Jim, we've talked a little bit about the theoretical foundation here, and I want to turn this to the practical. We've got a question actually from Jonas, who is asking, is JEM still looking for that potential peak in January? Should the higher vol into a rally be a road sign for reversal? So asking this question about what the thesis implies for what's happening in markets right now, are you seeing, in your view, a peak in January? And should higher volatility into a rally be a sign of

of a potential reversal? So rising vol into a rally is always a good sign that a bigger reversal is more likely. I'll start there. Why? Because as you rally, again, I mentioned people aren't, the world isn't just long puts, they're short calls. And so naturally as the market rallies, you slide to lower and lower implied volatilities because they're skewing the market.

That's you eventually gets, you know, that ball at the money eventually gets low enough that the, and the world is net shorted at some point, because again, they've been writing calls against the positions that, that as the market continues to rally at some point, there is a force buying back of all right. As that happens,

and vol begins to go higher, that's a sign that dealers and market makers are no longer massively long vol. They're being taken out of their vol. And there's a reflexive effect to implied volatility to actual realize. What do I mean by that? If dealers are long implied volatility, which they are right now, for example,

They will, as the market moves, they hedge their exposure. So if the market goes up, they're long volatility. They need to sell. The market goes down. They need to rebalance. They need to buy. And this reflexive buying and selling, when vol is low and the dealers are long, forces realized vol compressions.

It's what you've seen the last several days, right? We saw the market go up and then come back to zero. We saw the market go down overnight and come right back to zero, right? You see this kind of push and pull that happens as time passes and goes down. In 2017, there was massive all-selling on the S&P 500, historic in the form of iron condors and all kinds of other structured products at the time.

We saw in 125 years of history, by 30%, the lowest realized volatility of the S&P 500. We did not have a decline in all of 2017 that was bigger than 3%. That was a year that most people wouldn't think much about because everybody thinks in two dimensions. But that was a historic year, a dramatic outlier to history's market structure. And that was a function of an unbalanced vol selling and dealers being dramatically long vol in the S&P 500.

How do we know that? What gives us confidence that that was the case? We also, in equal amounts, saw a 25% lower correlation between the constituents of the S&P 500 and the index. So we had a massive correlation breakdown. Again, 125 years of history. This year, at the same time,

had the lowest realized volatility by 30% and the lowest correlation of its constituents by 25%. Dramatic outliers. That's probably not a coincidence, right? So you put those two together. Why would that happen? Why would that happen? How are those two things connected? Those two things are connected because at the end of the day, if the index is being pinned by something, right, and can't move,

If something that idiosyncratic risk still exists, if a stock comes out with killer earnings or a CEO passes away or something happens in the world, things, the underlying stocks, which are not those vol centers, still need to move. And if they move and the index is pinned, that means things have to, by definition, by arbitrage, go the opposite way. So something we know was pinning the index.

What was pinning the index? We know something's been in it until you firsthand, because I was on the other side of those trades. It was all the ons, it was a harvest, it was a catalyst funds, all the entities dramatically selling S&P 500 ball and forcing dealers like myself. I was a market maker at that time, right?

into long volatility so that the market, when it moved, we were long gamma, we had to buy. And the market went up, you had to sell to the point we would pin, literally pin the strikes that we were forced into. The market would move exactly to the strikes. It's not a coincidence. The S&P 500 was pinned and the constituents continued to move. And by definition, that forced dispersion. So this is the way markets work. If dealers are long ball and long gamma,

It naturally reflexively compresses volatility of the index. But ironically, it actually increases the volatility of the underlying constituents relative to one another. It breaks down correlation. And that's actually what you're starting to see now, right now. And I believe we'll see for the next three weeks to a month as implied volatility is very well offered in the market.

And is forcing realized volatility lower at the index level. We've seen this in other periods in recent history as well. This summer was a great example. We saw significant volatility this summer in May and June and July of the constituents, but the index was pinned. It did not go anywhere until August and when vol all of a sudden went higher.

Anyway, this is the way that... Go ahead. So this is this paradoxical effect where you have volatility pinned, but internal dispersion within the index itself increases. Exactly. Exactly. And these two things are dramatically tied. So...

When you ask me what's going to happen here if vol starts going higher, when the market starts going high enough and vol slides to a low enough level, these reflexive buying effects of SKU, the VANA and CHARM, which are pushing the market higher, get us to lower and lower vol. And eventually that brings people back in to hedge and to buy vol. And that takes dealers naturally out of their vol when that begins to happen.

When the realized ball of the market, which is because of these other skew effects and other flows, pushes us into too low a ball, the dealers start giving back their ball and gamma to the street. And that all of a sudden unpins the market and allows the market to start moving again. It unpins the market.

And that generally after a big move allows for some volatility to enter back into the market. So it is one of several things that can cause a topping pattern. If you look at tech, you know, the tech years, 98, the tech bubble, 98, 99, 2000. In 99, 2000, upside calls exploded. The upside skew went higher and higher. And the unpinning of balls would ultimately escalate.

uh, allowed the market to top and for a blow off top to happen. And for the market to decline, we've seen these blow off tops throughout history. And it's one of the main reasons that this type of structure tends to exist again, again, the combination of this bond charm, these structural flows, everything that's going on on one end. And at the other end of that, we're sliding the lower, lower balls. And eventually that ball becomes unpinned on the upside. That is a great indicator, great signal that, that, that a bigger top, um,

is coming when it happens. We haven't seen it yet. The prediction has been that you're heading in that direction and that we'll likely see that come January of this year. There's several things culminating that are pointing to that being a high probability now. Again, we've been able to call

The rally, we said 20% or so this year, starting in February. The summer doldrums, the vault compression. We've been able to talk about a wobble that was coming in the fall after that summer. We did get that in the form of an August 10% correction, and we said that this market would close on the highs somewhere between 6,000 and 6,200 dollars.

And that is also what we continue to believe. Now, next couple of weeks, you can expect that we'll likely see some sideways kind of back and forth, maybe a small pullback. It'll be a viable dip again and likely close back higher into the end of the year, given the positive flows. Again, that will likely mean something in mid-January where you would want to really be cautious going into a new year.

Yeah. So we're trading right now at 5980 on the S&P. It kissed that 6000 level that you just mentioned, I guess, yesterday on Monday. And there's that. That's the call that you have for January. Let's talk a little bit about these relative returns here. A 35 percent, almost 36 percent a year to date here on the S&P. Excuse me. Trailing 12 month on the S&P. The data is actually lower. Russell 2000 trading.

trailing 12 month up 41%. Talk about those relative returns and what you think is driving that.

Well, again, at the end of the day, this was an election year. We've talked about this maybe on this show before, but I want to reiterate, we are in a broadly structurally inflationary period. I won't get behind the whole thesis. That would be another hour here. But I've talked about it before. During these structurally inflationary periods, these populist periods, you tend to get very poor long-term market results.

uh returns i'm not the only one out here saying that again a pretty unpopular opinion right now because uh you know markets up uh again as you mentioned 30 35 40 and in the trailing 12-month period

But you tend to get really poor market returns, 68 to 82. Last time we saw interest rates go bottom left to top right, which is, again, what we believe we are now in the process of seeing for the next 10 years. We saw the market return zero in nominal terms and lose 67% of its value last year.

That is the type of thing that you can see. The market just goes sideways for a decade. By the way, I'm not the only one saying this. Drunken Miller is out saying something similar. BlackRock has put out some verbiage saying this is likely to be a lost decade. But these are the reasons. That negative return is in real terms. In real terms. Yeah. Which is what matters. Nominal illusion that we can talk about all day long. That's what people like to focus on. But the reality is what is a dollar worth is all that really matters. And in real terms, again, 14 years.

67% decline. Nevermind the opportunity cost loss over that period. Bonds, obviously the long-term bonds did incredibly poorly as well, right? Because if interest rates are going from three to 20, you probably don't want to own a three, 4% yielding bond. But during ironically that same period, that last time we saw increasing interest rates, every single election year was up double digits.

Every single election year was double digits. And the average return over those elections was 21%.

Pretty, pretty crazy, right? That you'd see a 14 year period of 68 to 82 of 0% nominal returns, 67% negative real returns, but with 21% on average returns on election year. Why? The populist periods. That's when all the fiscal spending, monetary stimulus, all the liquidity comes in the market because these are contested elections and the incumbents in power are trying to juice the market to make sure it's positive returns.

That's what happens. And by the way, if you pull out those populist election years out of 110 years of market data, election data, the average return of election years is 5%. It's populist years that are positive for elections. It's not all the other years, despite what people tell you. And guess what the last two elections have returned? 21%.

But we're beating that right now. Yeah. So it's not, we're not going to close exactly at 21. That's the average, right? The point here is that these years and populist years are incredibly positive. Every single one, that's a hundred percent populist year elections, a hundred percent double digits, average of 21% full amount of the data set. Every other election is 5%. And in those populist periods, 14 years,

markets do awful. So it's even more kind of, uh, the contrast is, is incredible between those two. So, um, Jim, let me just ask you this. I don't know if you happen to know off the top of your head, you're you make the point that 21% is the average. Uh, we're sitting here and, uh,

on a trillion 12 month basis to 35. What does that distribution look like? What is like the, uh, what is like the top decile, uh, look like in terms of return? Uh, the, uh, let me see if I could actually find it, but the, the, what I can tell you is every single one is positive and the lowest was 11%. So it's not going to be 50%, right? You're talking about, uh,

It's somewhere between 11 and 35%, right? So, but you're referring to a 12 month trailing. I'm talking about an annual year. So we're talking about January to January.

you know, January 1 to the end of the year. And again, for that, I think we're up like 23%. What are we up for the year to date? So YGD on S&P is 26%. 26%. So we're on the higher end.

But the point here is that lows are structurally positive. It would make sense to push higher here into the new year. The flows are generally positive till the Monday of January expiration. That first week and a half or so is very positive as well for the S&P.

But it would not surprise me to see market up, fall up to answer your question, and a top that happens in January. We called this almost to the day in 22, six months out, by the way. If you go look at when we topped in 22, we were very kind of spot on with this. These are, again, the power of flows.

By the way, from a political perspective, we want to just go to election real quick and also just not market trend, but what's likely to happen. I mean, you look at 60 from 61 to 82, sorry, 60 to 82. And what happened in elections in the last time we had a populist period, right? Hi, it's Raoul here.

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So head over to realvision.com forward slash Black Friday to get your deal. And let's take your financial future to the next level. That's realvision.com slash Black Friday. See you there. We saw Kennedy two-year election or, you know, before his assassination. LBJ got reelected for one term and got kicked out. Nixon got elected, reelected and kicked out of office. Ford was in for one term.

Sorry, not even one term, a half a term, Carter for one term before Reagan. So completely, it's a disadvantage to be an incumbent during these periods, whereas every other period, you see the complete opposite, that it's a huge advantage to be an incumbent.

So not a surprise that we've seen turnover from one party to the other again and again. It is a difficult time. People are unhappy. People are looking for solutions. And what people don't realize is that is an effect of 40 years of monetary policy and inequality that's been created. Politicians point the finger in opposite directions. But each party is

is populist now everybody is trying to give people who are unhappy at the lower end middle of of the the distribution of wealth more money and that is structurally inflationary whether it's tariffs or immigration policy or fiscal spending you can go down down the line but that is both sides are getting the same policy and to that end it's this isn't a Trump rally

This is a market rally, and it's done much more a function of structural flows than anything. And the long-term outcomes are also much less tied to who's president, but much more the will and the trend of generational inequality and what people this generation now wants.

Hey, I want to ask you to give a little bit of more color around this idea of 40 years of monetary policy leading us to where we are today. Talk a little bit about that, how we got here and what the implications are. Again, this could be an hour long show on its own, but I'm happy to dive in because this is a big, big idea. America was founded on the principles of capitalism.

of some level of equality and fairness, justice. Those are not natural constructs. The natural world, your mom probably told you when you were a child, life isn't fair.

They're all ideals that we love, that we, as individuals, you know, the human condition is such that we have a big frontal cortex and we see ourselves as cells much more than other animals. And by defining ourselves as cells, we look across at somebody else and say, oh, well, this has to be fair. We need to be equal. We're both independent individuals. Fairness is not an actual thing. It doesn't exist in the natural world.

But because we as a society believe in it, we've created ideals to help underpin that and to give each other freedom and liberty and justice. We have created a structure to help support those ideals, right? These checks and balances to help make sure that absolute power doesn't corrupt absolutely.

And at the end of the day, those things decay. They entropy because they're not natural things. Those structures decay over time. And our world, our founding fathers created this system that made it very hard to change to corrupt the system. But because there's entropy, at some point, eventually you get crisis. And those crises were meant to be a unifying time to bring politicians together to solve problems, to pass laws, because it was really hard to pass laws.

We created a Federal Reserve to help smooth the business cycle because we didn't want volatility in the business cycle. But when you remove volatility from the business cycle, you remove the whole thing that allows the system to work, to burn the underbrush, to restructure the system so that things don't –

become structurally that break the whole thing, right? And so what we've done for 40 years, which is longer than ever, once the Fed, once we took ourselves off gold, right, as a country in 1971,

We unconstrained this Fed that we had created before to help smooth the business cycle to have almost infinite power. With the exorbitant privilege of the US dollar, the Federal Reserve has immense power to stem liquidity and to run essentially the whole economy. The problem is the Federal Reserve is a very simple thing. It has one tool, monetary policy, and it has two mandates. The very simple function is

Manage price stability while maximizing employment slash GDP, right? Maybe three, maybe three. Well, it doesn't have three. Oh, what's STEM volatility? Is that the other, the third? Yeah. So exactly. And that was the original, to be clear, that was the original idea is we want to smooth the business cycle.

We want to slow volatility. That's the whole point of the Fed. But at the same time, it has two mandates, right? To do that in the context of maximizing growth while managing unemployment.

Not managing, sorry, price stability. I apologize. Now, if you put that function on an academic institution, you say, go, you're in charge of the economy. Go, you need to control these two things. Everybody responds to incentives. What do you think happens? Well, you're going to try and find the cheat code that allows you to manage lower inflation and create growth.

What is that? Well, monetary policy. If you keep doing it, keep doing it. You just keep sending money to the rich. You do things like QE. You send money to capital again and again.

Instead of sending money to people, you don't get inflation. Meaning capital over labor. Yeah, capital over labor. Because capital is not inflationary. If you send a million dollars to capital, they'll try and create more profit with it, which means they'll lower the cost of production. They'll export to China. It'll increase globalization. And at the same time, they will try and create technologies and innovation to replace their input costs, which again is primarily labor. Right.

And this is because when you send it to capital, they have a much higher marginal propensity to save and invest rather than consume, which would be what would happen if you sent it to labor, where you would see that inflationary push. To invest. Yeah, I'd say it is not necessarily, but yes, to invest. You're sending money to the top. If I send a million dollars to somebody like Elon Musk versus to send it to somebody who's homeless, what do you think? How do you think each of them spend their money?

The homeless person will go buy all the things that they need to survive and to live in a meaningful way. It'll have what economists call a 100% velocity. The velocity of that money is 100%. If I send it to Elon Musk, it's going to go right into Tesla and hiring people to build more cars, to improve the technology, to output more profits.

And maybe even higher than 100% because people will get credit against their improved credit profile and borrow more money. Right. And the theory has always been politically, at least this has been the cover for this type of policy, has been that this type of policy has trickle-down effects. It trickles down to people.

largely proven not to be true because a lot of that investing replaces labor. It creates technology that replaces labor. It creates globalization where the money, the labor goes to the lowest place, right? So companies can create profits. At the end of the day, monetary policy creates profits for corporations at the cost of

For 40 years, we've had 1.75% GDP growth in real terms. 0.75% is the amount that median incomes have gone up in real terms over that time. What happened to the other 1%? That's more than 50%, right, of those profits. What's happened to it? It's gone to the top 1%. Now, 1% of GDP growth, right, to the top 1% is equivalent to 100% growth for that cohort.

Over 40 years, compound 100% at 40 years. The numbers just explode, right? It doesn't, the numbers become irrationally almost infinite. And that's what's happened. And the net result is dramatic inequality. You've seen the Gini coefficient, which is the distribution of wealth in the United States, go from 0.35 to 0.47. We are now in line with emerging market economies in terms of distribution of wealth.

So this is the net effect. Now, again, it's a great way. If there are no humans in the system, this is the optimal system. Free market economics creates more growth, creates more technological development. It is the right way if there are no humans in the system. But guess who the profits accrue to? The profits accrue to the top. It's survival of the fittest.

This is how the world has worked for a million years of human history, for four billion years of animal history. This is how the systems worked. In the context of that, we've had a millisecond, a 250-year period where we created this grand experiment of freedom and justice and liberty and equality.

In order to protect this unnatural thing, it takes government intervention. It takes checks and balances. It takes a very complicated system. It is an entropy. And it is an entropy because of 40 years of no crisis, no dramatic, meaningful crisis, which has been created by the Federal Reserve. And that inequality that exists,

is now, much like it always does, eventually leads to a crisis. Eventually, you can't stem the bigger crisis. It just gets bigger. And that crisis is a populism and a rebalancing of that inequality, which has been coming for some time, but was released in 2020 on the back of COVID in terms of the stimulus. Trump is a vehicle of that, much like AOC and Bernie Sanders are vehicles of that. Everything has moved left.

The difference is there was a right and there was a left, and Trump importantly brought the right-left in terms of populism. Rusted out cities in middle America, right? Tariffs, China tariffs, immigration policy. These are populist. These are not free market economic ideals. No matter how you feel, this is not a political statement. This is just the reality. And so we as a society, and it's not just here, it's globally because the U.S. dominates the global system.

are now heading through a period of populism, of protectionism. And importantly, when you're going through a period of protectionism, populism, protectionism is one and the same. You care about your people, not the people of the world. So you put up boundaries, put up tariffs and immigration policy that closes borders and puts up walls.

That leads to global conflict. The last time, 68 to 82, we saw this. We had a Vietnam War. We saw the Cold War kind of grow. And these are inflationary periods. These are the drivers. If you look at the inflationary period of the 60s and 70s and say, what caused this? You look it up, Google it. What is it? You're going to have three things come up. They're going to say fiscal policy, the Great Society Program. It's going to say the Vietnam War, global conflict. And it's going to say the OPEC crisis.

Sound familiar? Anything else? These things sound like we might be heading down that path. Not a coincidence. These things are all tied to populism. Populism itself is a function of

uh, of, of global macro trends. So this is the thesis of why we have a higher, likely have higher increasing interest rates. The generation that has experienced that 40 years are millennials on down. They are now the primary voting members of society, and they are speaking loudly with their political decisions. And those political decisions just push their policy. It is not a Trump issue. It is not a Biden issue. Uh, it is a political populist movement. Uh,

that is going to find its way. And trust me, it'll go from one politician to spit them out to the next politician next time. Well, folks, there's your big idea for the day. Your big idea for the month. Jim, I want to coax you away from your Bloomberg terminal and convince you to write a book with me about this. This would be an incredible thesis. This, this broad scope of big history. I guess that the first question that I have is, is there any way out of this box? How do you fight entropy? I mean, the last progressive era, uh,

was consequent upon the Gilded Age, which came before it. Then we had the 20th century, which was clearly the American century. Is there a way out of this box? To be clear, we have tried to get ourselves out of the box. That's why we're here. We have tried to smooth the business cycle. We have tried to remove volatility from the system. It is not possible. If you don't burn the underbrush, you get a bigger fire down the road.

That's just how the system works. Now, the good news, I don't want to sound so negative, is crisis is good because it allows for a reinvigoration of the system and a lasting of longer prosperity. If you think this is the first time we felt worried or scared, no.

How do you think people felt in the 60s? Go talk to somebody. People felt like the world was being torn apart at its seams. Race riots, assassinations, right? We were at war in Vietnam. There was a draft. This is nothing. Go think about the greatest generation in the 1930s and 40s. World War II. These are not that long ago.

But guess what? We owe what we have now as a function of those generations and the progress that came through the crisis of those periods. We have been amidst a time of incredible peace and prosperity as a function of smoothing the business cycle. Crises are inevitable. And actually, they're good. They're necessary. The fact that we've tried to get rid of them for all this time is only going to make it bigger and worse this time around.

Uh, Jim, really powerful ideas we're talking about here today. Let me try and bring this back to markets here to

find some way of applying this to what we're talking about. I know something that you've been talking about is the rise of this dispersion trade, how technically, how we might be seeing a topping in NVIDIA right now based on some of these dispersion attributes that you see in markets. I've heard you describe this as not technical and not fundamental. I guess my question, my first question is, what is it? How do you call this thing, this idea?

that you're using to frame the context around what you see happening in dispersion? And second, what do you view happening in regard to that specific trade to the dispersion trade and this pattern we might be seeing topping for NVIDIA specifically, but big cap tech more generally? Yeah.

Yeah, this would be, again, I don't put all my eggs into this topping NVIDIA idea here, right? I just want to be very clear that a lot of times into these blow-off tops, the leadership that you've seen by certain groups starts to see, you start to see jaws, right? You start to see an underperformance way earlier. If you think about 2000 and the market actually topped a bit later than

than tech itself, right? The flows continued on underneath the surface and you began to see a really big rotation

at the end. It foretold kind of what was to come. It would make a lot of sense here, given that vol is very compressed on the S&P 500 itself and is likely to be a bit more compressed in the short term to start to see a rotation, right, away from the leadership of

And if we do, again, there's a lot of if-thens here, you know, and again, calling a top rate on something that has not shown any signs of a top yet, to be clear. There's nothing out there that would say that, you know, that would be a pretty wild thing here and something that has been one of the best performing assets in the S&P 500. But to be clear, it would make sense that before this final run that we get into what is likely to be something more of a blow-off top, in my opinion.

that we would start to see some rotation away from what has worked for the last several years and into things that have not worked and um that that is what i believe we are starting to see again not today uh specifically but i do believe that outperformance the russell the other clue there that the russell might continue to perform better into the final legs of this rally

there's a lot of short ball positioning in the Russell broadly on the call side relative to the ball supply that exists in the S&P. There's a lot of imbalance positioning there that can really push that higher. And again, at the end of the day, if that's

If you're going to get a rally in certain parts and the S&P is going to be pinned, something else has to go the other way. Is it NVIDIA? Is it Broadly Tech? Is it the MAC7? We will see. That would be my guess. That would be my guess. And if that were to happen, that would also reconfirm some of the things that I'm thinking about in terms of going into January or February, right? In this early part of the year, there's several kind of one-week windows, two-week windows there. We'd want to see some things happen there. But it would confirm that those periods are more likely

possible areas for a bigger market decline.

So, again, calling a top, calling a big tail, particularly in kind of the hot parts of the market, you know, is always a fool's errand, very hard to do. So I hope people appreciate it. It's right that it is a threading the needle. It is not probable, but I think it could be possible and definitely higher probability than people expect or are thinking at this moment.

Yeah, and I certainly didn't want to reduce those big ideas that we've been talking about to a single trade, but it's one possible mechanism by which those ideas might play out, might express themselves in markets in terms of price action. Absolutely. Yeah, I think the core fundamental principle

uh view here that i have conviction in is that vol is very well supplied and has to be and you're likely to get some uh high levels of dispersion big rotations under the hood going into the end of the year the question is which ones will those be and if we start to kind of

kind of feel the winds and look at the tea leaves, that would be a really interesting one. And if that starts to happen, again, more probable than people expect. And if it starts to happen, that could really accelerate and be the beginning of something much bigger. And so I'm really just highlighting something that's really nascent and potentially interesting in the form of that trade. But again, the rotation is what's key and highly probable.

Jeff, I really always enjoy these conversations. These are some of our best here on Real Vision that always makes me think. Let me give you this just opportunity. Final thoughts, key takeaways that you'd like to leave our listeners and our viewers with from this very deep, very detailed conversation. Yeah, I think I'll go back to a bigger picture for a second. I think the election is...

it is pushing us towards a bigger change. I think most people want to change. I think that change is likely to create if it is going down the path, I believe it is in terms of broad-lay populism, tariffs, immigration policy, etc. It's likely to create more global conflict and it's likely to create a growing feeling of change that can be disruptive.

That's not necessarily bad. Again, it could feel like crisis, but at the end of the day, this is the invigoration, the re-

the rehealing and reconstituting of things that allows for longer term positive things to happen. Again, 68 to 82 is what led to 82 to 2022, 40 years of incredible market returns, prosperity, peace. And so this

we need this, it will be difficult. And I don't think it'll be great for markets. It's a great time to be prepared and ready for a different type of investing, really, and a different type of

of involvement with markets, as well as broadly thinking about life writ large. So that's something that we do here, non-correlated investment at Kai Volatility and Kai Well. And I think that's something that people need to probably be thinking about.

Jim, I'm going to sneak in one additional question before we wrap here, which is this. You talk about this idea of life writ large more generally, as well as the market and economic history component. Are there any books that you would recommend readers go take for our viewers to go take a read on if they want to understand how you came to see the world the way you see it?

Oh, God, that's a tough one. There's a whole library full of books. That isn't one book that I read that told me maybe I need to write that book, like you said, Ash, and put it out there. I'm a huge student of history. I think more than telling you how, I think one of the lessons I was taught from a young age is don't tell people, show people. History shows you.

uh what's what's happened uh and what's likely to happen and so i think being a student of history i could name a ton of books i won't we'll give it to you now maybe maybe a year or two from now uh we'll we'll trot out the book uh for everybody to read well that would be that would be a great show to do just an hour we just talk about books we'll earmark it here yeah i'm happy to do that sometime jim carson great conversation as always really a great one thank you so much for joining us thanks for having me ash thanks for watching thanks for listening everyone

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