Inside the Regime-Adaptive Portfolio | Systematic Investor | Ep.377

Episode Overview

• The episode begins with a market radar segment, discussing the shifting betting odds for the next Fed chair, Vanguard's new stance on crypto ETFs, and MicroStrategy's potential delisting from the MSCI index.
• A central theme is the comparison between the current AI-driven market and the 1990s dot-com bubble, highlighting key differences in their economic drivers (demand-side vs. supply-side).
• The discussion emphasizes that today's macroeconomic environment, characterized by high government debt and inflation risks, is fundamentally more unstable than that of the late 90s.
• In response to this new regime, the episode introduces the "Adaptive Portfolio," a framework for building resilient portfolios by allocating risk to Growth, Diversifying, and Adaptive strategy buckets.

Key Concepts

• AI Boom vs. Dot-Com Bubble: A comparison between the current AI enthusiasm and the late 90s, noting today's boom is primarily driven by demand-side spending on infrastructure, while the 90s also had a proven supply-side productivity boom from PC adoption.
• Demand-Side vs. Supply-Side Impact: The distinction between the immediate GDP boost from spending on new technology (demand-side) versus the longer-term, and still unproven, gains in economic efficiency (supply-side).
• A New Macro Regime: The current economic environment is defined as being fundamentally different from the 1990s, marked by significantly higher government debt, persistent deficits, and increased inflation risk, leading to greater systemic fragility.
• The Adaptive Portfolio Framework: A proposed portfolio construction model that moves beyond traditional asset class labels to allocate risk across three distinct roles: Growth, Diversification, and Adaptation, designed for resilience in the new macro environment.

Quotes

• At 2:16 - "Kevin Hassett has gone from being kind of second or third in the running to being the clear favorite now." - Alan Dunne highlights the dramatic shift in betting market odds for the next Federal Reserve chair.
• At 4:32 - "Vanguard... they've decided that ETFs and mutual funds that primarily hold cryptocurrencies can now be traded on their platform, and that is kind of changing a long-standing position that they've had on this." - Niels Kaastrup-Larsen shares positive news for the crypto space, noting that the second-largest asset manager is now embracing crypto investment vehicles.
• At 5:15 - "MicroStrategy... is making headlines... they are now facing some pressures over the positioning that MSCI is likely to take where it will remove them from their benchmark." - Niels Kaastrup-Larsen discusses a potential negative catalyst for MicroStrategy, as being dropped from a major index could lead to significant selling pressure.
• At 27:49 - "So you had this coincidence of an old technology that that was starting to permeate the economy and you were getting the productivity benefit on that side on the supply side, but also you had the the demand side of more spending on on on the internet infrastructure." - Explaining the dual drivers of the 1990s tech boom, contrasting it with the current AI situation.
• At 28:07 - "We're seeing the impact of AI from a demand side in the sense that there's spending on chips, spending on data center, and that's actually pushing up GDP arithmetically." - Describing how current AI investment is boosting the economy through spending, not necessarily proven productivity yet.
• At 29:22 - "Debt levels are much different than they were in the 1990s. You know, the debt to GDP level in the US is is double what it was in 1999." - Highlighting a critical difference in the macroeconomic backdrop between the dot-com era and today.
• At 29:48 - "I think we're in a much more unstable and riskier macro backdrop now than we were in that kind of mid to late 1990s period." - Summarizing the key difference between the current market environment and the dot-com bubble era.
• At 33:21 - "It is that they conclude that the way things are today is the way it'll always be and the things that have been happening will continue to happen. That is, of course, Howard Marks' wise words." - Quoting Howard Marks to caution against the behavioral bias of extrapolating current trends into the future.
• At 33:41 - "These systems always break down. The lesson is be prepared." - Quoting former BIS economist William White to emphasize the need for building resilient portfolios that can withstand systemic shifts.
• At 39:42 - "I see adaptive strategies as a unique form of diversifiers that have that flexibility to tilt in their risk posture." - Defining the role of adaptive strategies like trend following, which can adjust their market exposure based on changing conditions.
• At 40:22 - "They're more like the midfielders... trend following can be proactive, it can be pro-growth, pro-risk at times... But when conditions change, they have the ability to to reduce risk and play more defense." - Using a soccer analogy to explain that adaptive strategies can contribute to both offense and defense depending on market trends.

Takeaways

• Avoid applying investment playbooks from the 1990s, as today's high-debt, inflation-prone economy is fundamentally more fragile.
• Be cautious about the AI boom's sustainability, recognizing it's currently driven by spending rather than proven, widespread productivity gains.
• Structure your portfolio around functional risk roles (Growth, Diversification, Adaptation) instead of rigid asset class labels to build true all-weather resilience.
• Incorporate adaptive strategies like trend following, which can dynamically adjust their risk exposure, providing crucial flexibility that static allocations lack.
• Actively guard against the behavioral tendency to assume current market trends will continue indefinitely, as economic regimes inevitably shift.
• Recognize that major market-moving news can be driven by speculation and potential insider information, reinforcing the need for a rules-based, systematic investment process.