To set the stage for this analysis, the tl;dr of the merge is:

• The eth blockchain becomes deflationary (the revenue it collects from gas fees becomes > the fees paid out to validators verifying blocks)

• Hardware-specific requirements are eliminated and block validation is now a byproduct of staking (called proof of stake) and not mining (called proof of work).

Staking (validating blockchain transactions) is when you deposit ethereum to activate the validator software. You are not allowed to withdraw your staked Ethereum until an unknown time after the merge is completed (currently guestimated at 12 months), pending some software updates.

Tons of content - here, here, here, and here if you want to learn more on the merge, but imagine instead of having buying machines to mine bitcoin (self-plug, I wrote a book on this), you just bought bitcoin, deposited it into some abstract software framework called the “consensus layer”, and the framework now uses your bitcoin to mine more bitcoin as a byproduct of validating transactions on the bockchain. Replace the word bitcoin with ethereum, and that is proof of stake + the merge.

The stETH ecosystem has been on a rip from 0 to 11,000,000 ethereum token deposits over the past 24 months. Around 32% of all eth is currently staked.

What I don’t understand is - why? Maybe I’m almost a boomer, maybe I’m only viewing this transaction through a financial framework, or maybe i’m just not a big brain crypto whale but this is a bad move with too much risk, especially at yields between 3%- 4%. Let’s break it down.

US Treasury Bills offer the same yield over the same redemption period with zero risk.

Let’s speed-run US treasury bills (t-bills) for the web3 natives. A US t-bill is a loan from you to the USA. Unlike a treasury bond denominated in 20 to 30-year notes, t-bills have short-term maturity dates (like staked eth, currently ~12 months after the merge) of 52 weeks or less, and can be bought directly from Uncle Sam via Treasury Direct.

You purchase the t-bill at the investment rate offered on the market and receive the face value at maturity. Here’s an example with $100:

• US government offers you a $100 US t-bill with a 3.325% annual (52-week) yield

• You give the government $96.68 (1-.0325))

• The government gives you an IOU promising repayment in 52 weeks

• 52 weeks later the US government gives you back $100 - thank you, patriot!

This is exactly what is happening in eth staking land, except with hella risk and an unknown redemption window. So why do it? The answer is leverage.

In boomer finance, 1 us dollar = 1 us dollar. In Ethereum land, 1 eth = 1.030424024 eth (staked).

Staked ethereum is trading at a discount to its underlying asset Ethereum. Why? Unfortunately crypto financial markets, just like the boomer financial markets that control our 401k and retirement accounts, are all at the mercy of a small group of institutional investors and degen bros who made leveraged investments bets which triggered a bank run during the 2022 crypto winter.

How institutional investors fubared staked eth:

Institutional Investors are exchanges like Celcius (RIP) had at least $700m of exposure in staked Ethereum.

https://twitter.com/Crypto_Joe10/status/1535291340426137600?s=20&t=YzMdEmKlZNwVtwUz_dX29A

The ~$28B of crypto assets under management within Celcius, was leveraged, borrowed against and loaned out to fellow centralized exchanges who also leveraged, borrowed against and loaned out customer assets to other off-chain financial institutions.

These capitalist visionaries were forced to liquidate their leveraged positions when ethereum and bitcoin plummeted ~60%-80% from their peak due to widespread macroeconomic conditions. Depositors issued withdrawal requests (a good ole run on the bank, crypto style) but the problem with this level of leveraged exposure was the harsh realization that none of these exchanges actually had sufficient eth to cover the liquidation; it was all staked.

https://twitter.com/yieldchad/status/1533529209137684485?s=20&t=XfLuqQ0ZAIB-L7DipbSc6g

Given the merge upgrade requirements related to staked illiquidity; ‘unstaking’ is not an option, for at least the next 12 months post-merge, forcing exchanges to sell staked Ethereum on the open market. How did they do this? The same way degen crypto bros did it, except on a much larger scale. Keep reading.

Degens are also guilty as charged

Degens and institutional investors are really brothers from another mother, mutually to blame in this fiasco. We all participated by taking leveraged positions on staked Ethereum to borrow more Ethereum to buy Ethereum to borrow more Ethereum.

Initially, rank and file degens and crypto bros would use exchanges like AAVE to lend and borrow:

These platforms have illusions of financial fiduciary and a self-enforcing system of checks and balances using financial metrics like: Max LTV, Liquidation thresholds, and liquidation penalties

Let’s speed run an example with 100 stETH we want to lend and borrow against. We’ll use numbers from the 2022 crypto boom.

At $6,000/stETH and 100 tokens, an equivalent of $600,000 is deposited. The max I can borrow is $495,000 or 82.5% of the deposit amount. This is the “loan to value”. I now have $600,000 of staked eth (locked as collateral) and $495,000 of eth which I can YOLO on my degen expeditions. The problem is the LTV and Liquidation Threshold are nearly identical; within two basis points of one another.

Protocols like aave will automatically liquidate some of your position when the ability to repay the loan falls below the agreed-upon threshold. This is the beauty of crypto, the loan agreement is embedded in the contract. There is no human counterparty risk. The code will automatically liquidate your position.

Aave’s framework for liquidation is calculated using a single ‘health factor’ metric displayed to the end-users, unfortunately, most apes and degens don’t know how to read; we only know number go up.

Using our 100 stETH example, the Health Factor is calculated as:

H(f) =  (100 staked eth * .85 ) / $495,000 = 1.03

Loans with health factors < 1 are subject to automatic liquidation (again, it is in the code). Consider what happened with Ethereum dropped to $5,800, just ~2%. The health factor algorithm yields a <1 value, eth at $2,000, is a catastrophe, see table below.

Moreover, most exchanges (like AAVE) will impose a liquidation penalty on top of the liquidation event itself. To shore up the borrowed amount and restore the H(f) to > 1, aave liquidators will repay up to 50% of the loan and receive a 5% incentive (actual amount varies by token, see here for details). In the aforementioned example:

Liquidation calls are programmatically engineered and automatically executed triggering a sell off of 50% of the collateral (staked eth). $100,000 (50% of the 100 stake eth) is recovered to pay off the principle loan, a 5% penalty is imposed to the borrower as an incentive for the liquidator. The net effect is the liquidator receives 55 of the borrower’s staked eth for the price of 50. My theory is that this liquidation event would trigger much sooner than the $2,000 point and would actually be a series of sell-events where the entire loan amount ($495,000) would be recovered leaving the borrower with almost $0.

This whole process is amplified by leverage services like “Ethereum Flexible Leverage Index” (2x eth exposure) and “ETH Max Yield Index” (3x eth exposure) which offer derivates (tokens) that track 2x or 3x exposure of the underlying asset. In these tokens, the smart contracts have the “buy → borrow → buy→ borrow” process engineered into the code, obfuscating the trades from the end user (perhaps to their demise), yet are still subject to the same liquidation thresholds and risks described above. This means higher highs and lower lows with a higher velocity and cadence.

What we can conclude from this analysis is the same result for the degen as well as the institutional investor; leveraged exposure of staked eth creates a cascading liquidation risk which directly impacts the value of the staked eth token relative to its underlying asset (etherum).

In ELI5 language: 1 staked ethereum becomes worth less than 1 ethereum despite being the same asset.

Enter the humans

Engineering, code, science, in all of its greatness is still fallible to its maker: the human. Given the continued downward pressure of eth, perhaps as a byproduct of over-leveraged staked eth, exchanges like aave have considered human intervention (via the DAO) to prevent a full liquidation aka run on the banks, if downward pressure continues. Ideas like disabling staked eth/eth trades at the exchange level, lowering liquidation thresholds to 50%, and pausing borrowing altogether are under examination. My question is, why? Aren’t crypto and web3 the frontier of liberty, self-agency, and a new era of finance? Why should a group of humans impose arbitrary financial constraints on an ecosystem due to bad-faith actors? If degens and whales lose 90% of their wealth from 12x leverage, good…

…if staked the eth/eth ratio is under collateralized at a ratio of 1 to 4…

…and continued deviation of the steth/eth pairing creates ~$90m USD of cascading liquidations plus ~$68m USD of insolvencies (just on aave)….

…well, aren’t these liquidation events a byproduct of an efficient market? Isn’t this exactly what we want as crypto enthusiasts seeking to escape a centralized system that serves the wealthy at the expense of the masses? A group of anon humans deciding policy on liquidation preferences for a $5b tvl exchange to prevent an insolvency event on a crypto whale with $30m of staked eth does not sound like a risk free investment nor does it sound like a crypto first principle of decentralization and liberation from existing monetary systems. We must fight like hell and resist these ideas from entering the defi landscape.

Putting it all together:

We can make a case that staking ethereum can be our individual contribution to a future of web3 and finance free from the shackles of traditional banks and close-loop invite-only hedge-funds. We can believe that staking ethereum will move the planet to a greener future which incentivizes long-term holding over short-term selling. But we cannot make ourselves believe that staking ethereum is another magic money box where 1 dollar goes in and 2 dollars reappear.

Specifically, staked ethereum:

• provides an annual yield less than US Treasury bills and related savings bonds

• has no exit date where holders can redeem their investment; it may never happen

• trades at less than its underlying asset as a byproduct of its over-leveraged position

Staked ethereum is truly the worst of both worlds. It offers the returns of a t-bill with the risks of crypto. Unless you want to engage in degen 3x leveraged gambling, avoid it at all costs.

Stay alert,

John Cook San Francisco, CA August 27th, 2022

tweet of the week - elon musk truly does not a give a f*ck:

https://twitter.com/elonmusk/status/1557943469984956417?s=20&t=0kq813TimoPd3x3jzvWqVg

Said another way, $68 billion dollars of bad money and technology destroyed around ~$1.5 trillion dollars of wealth.

All of the “web3 venture capitalists”, general partners of “crypto funds”, and the crypto-twitter ecosystem at large, these captains of industry, the best and brightest talent ever to emerge from the ivys and beyond, were left holding the bags of sovereign institutions and Singapore shadow banks whose thesis revolved around the US federal reserve money printer, arbitrage of GBTC and BTC via leveraged off-chain trading, and something called an algorithmic stablecoin. Unfortunately, the wisdom of the elites didn’t account for declining market conditions as their overall market thesis was: “number go up”.

In this analysis, we’ll analyze the money printer go brrr and number go up investment thesis as well as its eventual result: diamond hands capitulating and returning to their job at wendy’s.

How “money printer go brrrrrrr”:

Here’s how the magic started. Loose monetary conditions facilitated by “quantitative easing” by the federal reserve during 2020 created $7 trillion dollars of new money (this is the money printer go brrr).

Quantitative easing explained-like-im-five:

The US Federal Reserve:

• Buys treasury bonds backed by the faith of the US government from private institutions, member banks and foreign nations

• The seller receives an IOU from the US government - we’re good for it brah

• The government has cash $$$ to give to its plebs, corporate donors, and the billionaire class who actually controls this country

This is what happened during COVID, $2 trillion to $5 trillion dollars of money was created from thin air to support those impacted the most by the global pandemic; hedge funds, cruise and airline operates, private REITs, private colleges with billion-dollar endowments…you know, those really suffering. I’ve written about this waste in great detail for those interested:

https://frontrun.substack.com/p/swimming-in-a-sea-of-mediocrity-and?utm_source=substack&utm_campaign=post_embed&utm_medium=web

So a bunch of money is created, the rank and file aren’t working, and those working from home are only pretending to work, the net result? Massive day trading across meme stocks and crypto tokens.

In 2021 over > 50% of all publically traded companies on NYSE and NASDAQ didn’t make any $$$$, for the finance wonks: trailing twelve months earnings per share was(TTM EPS) < 0. I anon posted this on Reddit, predicting a 2022 collapse, only to be downvoted to oblivion. Here’s the data, read it yourself!

As a result of the “money printer go brrrrr” aka loose monetary policy aka quantitative easing aka bailouts for the rich, the SP500 rallied 40% off its 2020 low by December 2021.

The money printer go brrr dilemma transcends far beyond the equities market, as periods of quantitative easing yield lower interest rates to encourage lending. This is why the US housing market has experienced 20% y/o/y price appreciation from 2019 through 2022. Sorry millennial, you wanted to buy a house? Maybe if you work really hard you’ll be able to afford an ADU in your CEO’s backyard…but i digress

Crypto is caught in the cross-hairs, specifically BTC and ETH which run 1 to 1 with the SP500. Moreover, “risk on assets” rise during periods of cheap money from low-interest rates (bond yields approach zero, and investors migrate towards equities). Here GBTC (the centerpiece of the meltdown we’ll be discussing) is running in parity with the SP500 (blue line)

So by 2021, the money printer is running 24/7, Americans are flushed with stimmy checks and cash in the bank, people aren’t working (or merely pretending to work), and access to capital is cheap. Enter phase 2 of the big brain investment thesis.

How number go up:

During this time of exuberance, generational wealth in crypto was being created from thin air. The all-time favorite I hear amongst the boomers who look at crypto like a Ponzi scheme are the “pictures of monkeys”. In 2021 a company called Yuga Labs created 10,000 pictures of a digital monkey called a “bored aped”, which at its peak, sold with an average floor price of $400,000. It was time for NFTs to shine and crypto to return to the public eye.

What recession? June 2022 BYAC 2488 sells for $1.2mm.

https://twitter.com/ape_g4ng/status/1537577796372938752?s=20&t=o34TdF_KGZgtsfkw-GPv4Q

Retail and institutional investors flocked to the web3 ecosystem to capture alpha aka the opportunity to make YOLO money in crypto.

“Smart money crypto” (lolz) like Three Arrows Capital took long positions in premium NFT collectibles worth north of $45 million dollars; only to emerge in a bankruptcy firesale

…as much as we want to laugh at pictures of monkeys, the creme-de-la-creme of the number go-up craze was the GBTC → BTC arbitrage and off-chain counterparty risk.

Here’s how it worked:

1. Retail investors deposit US dollars into online exchanges like BlockFi and Celcius.

   1. This is usually in exchange for easy fiat-on ramp and unsustainable yields - e.g BlockFi offering new depositors 8.6% APY on deposits (how??)

   2. Other high net worth investors invest as limited partners into private funds e.g. Babel Finance or lend to trading firms like Genesis

2. These “smart money" centralized exchanges and investors make opaque investment decisions with depositors’ money primarily by leveraging other groups of investors in off-chain transactions, here is an example:

   1. the Reddit bros gives $10 million dollars to the Stanford trust fund baby running Any-crypto-VC who promises a 15% yield back to Reddit bro

   2. Stanford trust fund baby takes the $10 million dollars and gives it to daddy’s VC general partner who executes a contract with the Goldman Sachs to borrow up to $100 million

   3. daddy’s VC general partner now has $100 million to invest as long as the $10 million in collateral stays above $5 million, which is the danger zone for the Goldman Sachs partner.

   4. This is called under-collateralization but the VC general partner is good for it because he went to yale with the managing partner at Goldman Sachs

   5. now the Reddit bros will not get their money back from Stanford trust fund baby unless the VC general partner can repay the loan to the managing partner at Goldman Sachs

      1. All of this is counter-party risk

      2. All performed off the blockchain (e.g. off-chain, you can’t verify sh*t)

      3. and not subject to smart contracts (e.g. code)

3. The undercollateralized and leveraged loans were then lent to Thee Arrows Capital (3AC) in a method similar to the aforementioned process

   1. Exchanges and private funds leveraged money directly and/or lent money to 3AC who leveraged funds with intermediaries

4. 3AC deposits the BTC/cash into the Greyscale bitcoin fund, receiving up to a 38% premium on deposit

   1. This means 1 bitcoin deposited is immediately worth 1.38 bitcoin

5. After a six-month lock up period, 3ac sells the GBTC on the “open market”

   1. This creates a self-fulling prophecy of “number go up” by encouraging more depositors at every step of the process.

   2. NUMBER GO UP!

For the visually inclined, here’s what happens:

Imagine a 38% instant return on an investment? Investors moved. GBTC bitcoin assets under magement “number go up” all the way through July 2021.

At a glance, retail investors flocked to crypto banks to participate in the crypto craze, lured by high intro APY → crypto banks take the money, borrow against it and give to bigger investors → Bigger investors buy monkey pictures and GBTC → The cycle continues until a red herring is triggered (the algorithmic stablecoin)

From January 2020 through July 2021, BTC pumped from $10k to $50k.

This runs parity to the net asset value premium, and essentially the “aforementioned number go up” investment thesis.

What caused the NAV to flip and never recover?

My thesis is that 2021 was the year of the crypto ETF, specifically the introduction of competitive BTC/ETH investment products like:

• Osprey BTC (OBTC)

• ProShares Bitcoin Strategy ETF (BITO)

plus the 80 other crypto investment funds launched in 2021 all acted as net detractors to the GBTC NAV. Neither the fall 2021 bull run nor Grayscale’s attempts to buy back $1 billion of stock shore up the NAV, the trust has traded at a discount ever since. ouch.

Still with me?

There are levels to this post-mortem analysis. We need to dive deeper into the role the NAV discount played in the 2022 crash as well as the fall 2021 run-up. The $1.5 trillion dollars of market cap destruction was triggered by $68 billion dollars of bad money and technology, and we’ve only covered the first ~$10 billion. In part 2 we’ll cover the leveraged degen activities of 2022 which contributed to the crypto crash and I’ll prove it with a fubar example of a 30x leveraged eth position that blew up in my face. We’ll then assess how defi would have prevented this catastrophe if all parties performed all trades on the blockchain, and finally dive into the other ~$50 billion bad money and technology that caused the summer 2022 crypto meltdown.

For those who can’t wait; fall 2021 crypto exuberance can be eloquently summed up in this meme:

John Cook San Francisco, CA August 21st, 2022

Tweet of the week - a crypto investing seminar at a senior living facility

https://twitter.com/NatalieReporter/status/1553199637577736193?s=20&t=IXPQo3O5cSzHVmnCyik4_g

I can’t help but feel a bit of deja vu as I write this newsletter. Indications of economic instability, rising consumer debt, contractions in the public and private equity markets, layoffs en-mass at tech companies small and large and…the icing on the cake? The affirmation of a society addicted to easy money:

1/3 of Americans who make over $250,000 are living paycheck to paycheck

The insanity continues when we realize that over 55% of millennials (probably the people reading this newsletter) who make over $250,000 are living paycheck to paycheck!

I can’t help but think how problematic this is in a good economy, but I genuinely fear for anyone experiencing this level of financial hardship as we approach a season of uncertainty. It is easy to mask bad decision making during extended periods of growth; sometimes we achieve success in spite of our actions, not because of then.

In 2018, I first started documenting my journey of paying off $170,000 of student loan debt (ps — mission accomplished) but along the way I wrote many articles targeted towards high income earners (loosely defined as people who make over $100,000/annually) on how to write a personal budget. Guys and gals, this is step zero. If you’re encountering financial stress, maybe you have more month at the end of of your money, or you just don’t know where to start: please read these guides! Originally posted on medium way back in 2018, they’re just as relevant in 2022! Get on a budget immediately!

https://realjohncook.medium.com/how-to-create-a-personal-budget-if-you-make-over-100k-a-year-59811e61472d

https://realjohncook.medium.com/tell-your-money-what-to-do-with-a-personal-budget-53bb18bc148e

Please consider reading the book I published in 2020: “Educated but broke — You are too smart to be this broke”. If you can’t afford it, message me and I will give you a free copy.

But alas, how did this happen? How is it possible that a 3rd of our highest income earners live paycheck to paycheck? I am certain the answer is access to cheap debt and an unwillingness to save. US households in aggregate have $16 trillion of outstanding consumer debt. That is a 16 with 12 zeros behind it or: $16,000,000,000,000.

The outstanding balance is $1.7 trillion dollars higher than before the end of 2019, before COVID-19. In the first quarter of 2022 our nation collectively added $266 billion of new debt to the balance sheet, and our savings rate is at a record 50 year low.

This is what happens when we embrace the ‘cheap money’ philosophy**.** You’ve heard it plenty of times:

• “money is so cheap, we can borrow at 3% and invest at 8%” or

• “I can take out a line of credit from my house and buy an investment property, then have the renters cover the mortgage” or

• “the government is going to forgive my student loans, so there’s no point in paying it off” or

• “smart money takes loans against their equity rather than liquidating their assets, this avoids a taxable event” or

• “Don’t let your money just sit in your savings account, make it work for you!” (this one is my personal favorite)

It goes on and on. These are quotes i’ve heard so many times, from so many different people, who are successful and smart. They are all wrong. Look at the performance of market YTD month ending november 2021 vs may 2022. SP500 up 26% vs down 13%

People who were investing the 2021 euphoria are now in a world of hurt. I was having lunch with a friend earlier this week, his company IPOed in November 2021 but was unable to liquidate his holdings due to his lock up window. His net- worth has decreased by 50% in 2022 YTD. He’s lost millions of dollars over the past 6 months. Ouch.

We’re not immune from this downturn, even in one of my brokerage accounts where I manage a ~ $300,000 portfolio based on an 80/20 split of index funds vs individual stocks, the past year has been less than pleasant. Net net I would have faired better just letting the money sit in my savings account. Maybe the bogleheads were right?

Moreover, housing has reached record levels of unaffordability. The home price to median income ratio, a measure of how many years of gross income a house costs, is now approaching 8x. This is the highest in the history of housing, ever. The housing bubble in 2008 had a 7x multiple.

Irrational expectations drives irresponsible lending which inflates everything from stocks to houses; until it all crashes and burns. We’re seeing this in public and private equity valuations now. The value venture details declined 22% y/o/y in the US, and 44% in China. Housing prices will follow Q42022, I am convinced.

Rates are rising, money is no longer free, and that has massive implications for valuations and fundraising,” it said in a presentation for its portfolio companies. — Sequoia Capital

Our friends at the Goldman Sachs & Company, have pegged a US recession within the next 24 months at 35%, citing a competitive labor market with 5.3 million vacant jobs. GS is betting that Biden’s immigration policy will solve the worker shortage. I’m personally holding my breath until we get past the mid-term elections, it’s not looking good for the democrats.

My advice to everyone reading this is to prepare for a cold winter, especially if you work in the tech space. Tesla is firing 10% of its workforce, Carvana just fired 2,500 employees, Coinbase is rescinding job offers:

Watch the SP500, if it dips below 3900 again, I will be aggressively buying. This is your upside. Continue to max out your retirement accounts and prepare for a season of uncertainty, which for my wife and I making sure we have 18 to 24 months of expenses, just in case. Stay safe.

John Cook San Francisco, CA June 5th, 2022

Improve your knowledge by reading these articles:

Was that the low?

There’s quite a bit of uncertainty as to whether or not the market has bottomed outed or if there’s more to come. The team at LPL put together a fantastic study comparing YTD performance of the SP500 during midterm election cycles, lots of upside once we’ve hit the bottom! The conclusion:

Looking at all the midterm years going back to 1950, only two have seen their yearly low before May 19, when the S&P 500 made its closing low two weeks ago. We would note though, that the depth of this correction is almost exactly in line with the average mid-term year pullback. And regardless of when we make that bottom, as the chart below shows, the gains a year after the low have been substantial with a more than 30% average return and only one occurrence falling short of a double digit gain.

China’s Gen-Z brands have the power to make or break Western Brands

In what I hope to be the capitulation of US brands bowing towards the chinese communiest party; Gen-Z chinese have made a big, bold statement: They’ve got money to burn, eschew foreign labels, and are driven by a swelling sense of nationalism that can ensnare even the biggest global brands. American brands are losing its allure in the Chinese market as its citizens opt for Chinese-made product. Maybe its time for the US consumer (and brands) to start cheering for the home team?

Sarah Lin, a 22-year-old student in Beijing, said her parents still get excited by items that only have foreign-language labels because they assume it’s a premium product. But during the time she studied abroad, she realized many brands considered high end in China are mass-market names at home. Now, she prefers to research products and is happy to buy domestic names due to their improving quality and designs that appeal to her.

Short on twitter: Musk Holds All The Cards: We See a Significant Risk That The Twitter Deal Gets Repriced Lower

Hidenburg Research never fails to deliver, named after 1937 Hindenburg blimp disaster; the team identifies misspriced assets, writes compelling cases against its current valuation, then shorts the position. Earlier this month they called twitter’s go-private price of $54.20 to be overvalued, implying a target price of $31.40, citing Musks’ power position in the transaction:

As a result of these developments, we believe that if Elon Musk’s bid for Twitter disappeared tomorrow, Twitter’s equity would fall by 50% from current levels. Consequently, we see a significant risk that the deal gets repriced lower.

Quote of the week:

“It amazes me how people are often more willing to act based on little or no data than to use data that is a challenge to assemble.” — Robert Shiller

https://twitter.com/metajohnnn

Unless you’re actively avoiding all corporate news, your friends social media posts, and the entire twitterverse (kudos to you for all three), you’ve now seen another class divide reach newspaper and television headlines: The American economy and its path towards a 2022 recession.

The definition of a recession taught to American business school students technically defines a recession as two consecutive quarters of negative inflation-adjusted gross domestic product growth.

This is what I learned at my overpriced MBA program USC Marshall (go trojans!), this is what is taught in business curriculum today[1] (for now), and this the definition used by finance professionals at large when discussing a recession with their high-net-worth clients[2][3].

Now - depending what blog, news station, podcast, personality or political party you follow, the results are distressing and confusing, it truly is a spectrum:

• Yes we’re in a recession

• No we’re not in a recession but we could be in one shortly

• No we’re definitely not in a recession

On the lolz side of the spectrum:

“Yes we’re in a recession but you’re using the wrong definition so it doesn’t matter”:

https://twitter.com/AP/status/1551980710327623680?s=20&t=XBrmGvawH6x7OCPT2PVEfA

“No we’re not in a recession but if we are it’s because the Biden administration did such an exceptional job facilitating economic growth that one is approaching”:

https://twitter.com/paulkrugman/status/1554164032235601920?s=20&t=sJ-UKHt3MAW_fcVBrbx5Vw

“It doesn’t matter what your definition of a recession is because we just changed it”:

The Biden Administration on the definition of a recession before and after the July 2022 readout:

This isn’t a partisan issue, if the (R)s were in charge, no doubt a similar deflection would be made. The point of this analysis is not to convey to you that we are in a recession or not, here’s the GDP data from our government’s data team (formally called the Bureau of Economic Analysis), it is real and undeniable, detailed analysis can be found here. You decide:

Real quick….Gross domestic product (GDP) is:

the sum of money people spend on stuff (cars, video games, hair cuts, stuff you buy everyday, services you use everyday) +the amount of money companies spend investing in stuff (buildings, land, inventory)+the amount of money the government spends on stuff (roads, schools, national defense) + the amount of stuff we export to other countries (cars, oil, planes) - the amount of stuff we import from other countries (cars, oil, iphones)

It’s a big number, the table below is in billions and it says in Q22022 our GDP (based on the above formula) is ~$19,681,000,000,000 or 19.6 trillion dollars. In Q12022 it was ~$19,727,000,000,000 or $19.7 trillion dollars. When these data nerds at the US government calculate GDP they take the difference from Q22022, Q12022, and Q420221 , and if it’s negative for 2 quarters: boom we’re in a recession.

There’s a little more nuance in that these figures are derived from something called seasonal adjusting. It’s an attempt to account for the seasonality in month-to-month data sets by by creating something called a seasonality factor then dividing the unadjusted rate by the aforementioned factor. The final point of confusion is that “GDP” metric is “real” which means it it is calculated on an “inflation-adjusted basis”. If inflation is 10%, but the growth is 5%, the “nominal” rate is 5% but the “real” or “inflation-adjusted rate” is -5%. Confusing? It doesn’t matter, it’s on purpose.

The new marching order is that the National Bureau of Economic Research (NBER) and its “Business Cycle Dating” subcommittee, consisting of 8 boomers, are now responsible for formally identifying a recession:

So these people, and their diverse set of world experience, who i’m sure have day-to-day lives which resonate with the common man, will now tell us if we’re in a recession (or not). Independent of political partisanship, this is problematic because all of us are fallible, subject to the broad spectrum of human emotions: greed, fear, fame, corruption. I’ll save my bitcoin pitch for another day, but this is why we need to ditch the current banking system. It is corrupt. It is subjective. It is at the mercy of a group of people (in this case 8 people) who define the path of economic activity.

This leads us back to our original topic. Are we in a recession? According to the NBER sub-committee on business cycling data, no. If you’re a one-percenter with atleast $10MM in investable assets, RBC Wealth Management will take your money, invest it for you, charge 1%, and gives you this pretty recession score card below (no charge this time).

RBC thinks the yield curve indicator is neutral because the recent spread has narrowed but surprise surprise every-time since 1954 when the curve flipped, a recession occurred. Yield curves “invert” when investors flee to short term 1 year US treasuries as a ‘flee to safety’, there by increasing the yield (return) of the 1 year treasury such that it is greater than the yield (return) of the 10 year treasury. Most importantly,

Unemployment claims are down, employment rate is up are noted below, ~580,000 non-farm jobs were added this past month. Doesn’t the chart below look pretty?

I must call out the elephant in the room: more Americans are forced to obtain 2nd jobs to fight inflation. 5% of all families now have an individual working > 1 job.

The remaining indicators of the RBC Wealth Management Scorecard include:

The “Conference Board Leading Economic Index” or US LEI is a proprietary algorithm of 10 economic indicators created by a private company called the “Conference Room”; their conclusion:

“Amid high inflation and rapidly tightening monetary policy, The Conference Board expects economic growth will continue to cool throughout 2022. A US recession around the end of this year and early next is now likely. Accordingly, we’ve downgraded our forecast of 2022 annual Real GDP growth to 1.7 percent year-over-year (from 2.3 percent), while 2023 growth was downgraded to 0.5 percent YOY (from 1.8 percent).”

Fed funds rate vs nominal GDP growth - every cycle where the fed funds rate (the rate at which the Federal Reserve lends money to other financial institutions) is greater than the nominal GDP growth (not risk adjusted) rate, a recession occurs:

Free cash flow of non-financial corporate businesses - is a comparison of much cash is generated by non-financial businesses as a percentage of GDP. When the amount of cash generated by non-finance business as % of GDP is < 0, a recession occurs.

ISM new orders minus inventories is a metric tracked by the Institute of Supply management; applicable to the manufacturing industry (cars, planes, boats, etc). When outstanding inventory is > new orders for a given cycle; a recession occurs:

https://twitter.com/charliebilello/status/1554117824876105728?s=20&t=ZiSVEzFuvSIYva9V2-MbHA

Are you still here? Does any of this really matter?

So let’s recap, a recession went from being 2 consecutive quarters of negative GDP growth, to being art, to being determined by a committee of ivy-league boomers, to being a composite index of 7 economic indicators which includes an indicator that is a composite of 10 economic indicators.

The purpose of this analysis was not to convince you of the correct definition of the word “recession”, its not extrapolate a specific political agenda, nor was it to outline the nuanced analysis and endless iterations economists, corporate media, and data people go through in an attempt to justify their point of view.

We are here to say the quiet part out loud: This is all intentional. The the abstract definitions of economic activity, constantly changing definitions and general lack of transparency are all part of a larger framework to keep you confused while the wealthy get wealthier and you remain poor. They want you, us, Americans, to fight each other so the American oligarchs and its corporate donors continue to profit off of you and keep you from climbing the economic ladder.

In part 2 we’ll explore the real economic implications of the people as a result of this constant state of economic and solution confusion. Until then, take a moment, watch this hella funny Theo Von skit and remember that , we the people, are not each other’s enemy.

Stay Alert.

John Cook San Francisco, CA August 7th, 2022

Quote of the week:

“You think I took all your sh*t….and I just don’t have it?” - Theo Von

https://twitter.com/metajohnnn

Poverty is a global issue that disproportionately affects certain groups of people.

One of the most pressing issues facing humanity today is poverty. IT is a complex issue with many root causes, but one thing is clear: it disproportionately affects certain groups of people. Women and girls are more likely to be poor than men, and minority groups are also more likely to experience poverty. In developed countries like the United States, children make up a significant portion of the impoverished population.

It is no secret that money can be used to fight poverty. By providing resources and opportunities to those who need them most, we can help alleviate some of the burden that comes with being impoverished.

Socialism also play a role in combating poverty. By ensuring that everyone has a say in how our society is run and by redistributing wealth fairly, we can help create a society that is more just and equitable for all.

In a democracy, everyone should have an equal say and an equal chance to succeed. But in reality, money and power often determine who gets ahead. This isn’t just unfair – it exacerbates poverty and prevents social mobility. By creating a more equitable society, we can help reduce the incidence and severity of poverty globally. We must level the playing field so that everyone has a fair chance to succeed, regardless of their background or circumstances.

That diatribe you just read on socialism as the catalyst for solving poverty?

It was written by a computer, an AI bot which uses natural language processing (NLP) to create tweets, blogs, entire stories based on a set of themes you describe. Remember our last discussion on AI’s reach expanding into the arts via digital images from contextual descriptions? Same technology, same company: OpenAI GPT-3.

There’s many flavors for sure but one platform making its rounds on the interweb is Copysmith, try it yourself:

Step 1 - Identify theme: How about socialism, poverty, and inequality?

The written language will be displaced by AI generated content designed to anger, enrage, and engage?

Step 2 - Select idea: The socialist reality of poverty and inequality sounds appropriately divisive for American politics in 2022.

Although “why socialism is the only answer to poverty and inequality” sounds juicy; for sure a way to get clicks and eyeballs on screens, i’d love to hear the AI’s analysis of how socialism permeates throughout the United States of America:

The United States has been considered a capitalist country for many years. However, there are socialist ideals embedded within our society that most people are not aware of. One of these socialist principles is the idea that poverty and inequality should not exist. While we may not live in a purely socialist society, the reality is that poverty and inequality are very real problems in our country.

Step 3 - Define outline: I’d like socialist principles in the United States please!

At this point the NLP has created an outline of topics to be used as input into the final blog post, and based off the topic selection, a final blog post is created:

I’ll save you the 2 minutes it will take to read this garbage, but have you ever clicked a a random news article or been redirected to a low quality content platform with superficial writing absent of any substance or content? That is the NLP AI. Nothing thoughtful or immersive, but enough language to align, enrage, offend or insult the reader, just long enough to get that juicy juicy ad-click spend.

In socialist countries like Cuba, China, and Venezuela, Poverty rates are much lower than they are in capitalist nations like the United States. This goes to show that it is possible to reduce poverty and inequality through socialist policies. The

United States has one of the highest levels of income inequality among developed countries, with households at the top earning 25 times more than those at the bottom.

As a technologist and believer, this technology is neither good or bad. It just is.

To the credit of Copysmith, the platform is centered around content creators leveraging machine learning to facilitate rapid brain storming, compelling product descriptions, and high quality ads. Moreover, their vision: “Crafted by AI, perfected by humans”: echos the same sentiment shared by innovators across the AI sphere: machine learning and computers will not replace human, but it will serve as a tool to augment and enhance our capabilities; allowing…no…enabling us to focus on high value projects, while the ‘machine’ takes care of the grind. How beautiful?

Natural language processing, contextual machine learning, computer generative art and content is a cat out of the bag, and it is not going away. As humans we must continue the fight against the barrage of low quality, divisive content which has reached levels of contagion on the internet. This does not mean censorship or having a centralized government define “good vs bad” content. Does anyone remember “internet neutrality”. How odd that our fellow American citizens have embraced government intervention and censorship on the technology we formerly we used to embrace as the beacon of free speech and hope? Don’t we realize that eventually, the censorship our citizens advocate for, will eventually be used against us?

The only answer to poor quality content, divisive or hateful content is education, an awareness of the forces acting upon us:

Reject low quality click bait content absent of data driven analytics. Embrace philosophies of focused attention and ignore the noise - Cal Newport wrote a book in 2019 called “Digital Minimalism”, if you feel trapped by the never ending noise of the internet, read this book immediately. Encourage the youth to embrace the human, face-to-face-long form engagement. Short form conversations; tik tok, text messages, twitter, are not only plagued by the AI and ML referenced in this analysis, but also contribute to social anxiety, lack of interpersonal communications, and cognitive decline and increased narcissism.

The conclusion:AI and ML generated content is creating a generation of weak minded young people who are not prepared for the real world. Mean while in the real world, Content written by machine learning exacerbates the already fragile state of democracy and human interaction by creating a social divide among adults.

Too much to ask? Sounds like a lot of work? You’ve been warned. Today’s it’s machine generated images and textual content, tomorrow it’s……your future daughter-in-law?

https://twitter.com/RyanSAdams/status/1549478933456109568?s=20&t=X-HA00iqH2w3AEzd3AhgKw

John Cook San Francisco, CA July 30th, 2022

Improve your knowledge by reading these articles:

Your next city will be designed by a machine.

I must admit the OpenAPI wave is catching alot of attention; it’s recent launch of Dall-E (contextual image creator) has found multiple real world applications. Most recently: redesigning inefficient cities. Why does Los Angeles county have 39 interconnected freeways resulting in 3 hour cross-county commutes? How can San Francisco continue to fail in its urban planning policies, making it the most expensive city in America to live in? The answer is simple: our city and urban planners are humans, but don’t worry: the machine will right our wrongs.

What would a six-lane highway look like if it were replaced by a promenade bordered with trees and luxurious grass? DALL-E can now show you that easily. Born out of the San Francisco lab of artificial intelligence company OpenAI, DALL-E generates photorealistic images based on a text prompt. You can also submit a picture and ask the AI to replace a specific area of it by whatever you like.

https://twitter.com/betterstreetsai/status/1552052096958177280?s=20&t=fIlwfjsijmwVulbXFhywQg

The food you eat will be developed by a machine and grown in a lab

Not limited to content creation on the internet, machine learning continues to transcend the physical world, this time impacting the foods we eat. Remember when single ingredient, locally sourced, organic non-GMO foods were the beacon of hope for an obese America? That was so 2016. The name of the (investor) game is synthetically created meat-like foods which taste, smell and feel like meat, but are actually a composition of lab-created ingredients you don’t recognize and you can’t pronounce. But that’s not enough, now food packers are overlaying machine learning and AI to optimize the prefect ingredients to maximize flavor, and of course, revenue. Is that food you’re eating? Don’t worry human, the machine knows best.

Not Company SpA has concocted some innovative recipes for its meat and dairy alternatives, with the assistance of an artificial intelligence platform named Giuseppe. The AI platform, which has previously made recipe adaptations to enable NotCo to cope with a shortage of pea protein, gives the company an edge as the growing industry grapples with constraints.

Mcdonald’s robots aren’t practical in vast majority of restaurants

In a light of hope for humanity, the robots have failed to displace human workers at McDonalds. As much as I appreciate innovation and the drive for constant change, it’s nice to see McDonald’s admit that ‘robots aren’t practical for the vast majority of restaurants’. Don’t think too hard, this isn’t a McDonalds north star attempting to lift the masses out of poverty, just an admission that the technology isnt there, yet. The company recently deployed ‘AI powered voice ordering’ through its drive through has failed to meet its minimum levels of accuracy, currently in the low 80th percentile. That hatred your experience when calling AT&T or comcast only to be plagued with 100 voice-automated options? Coming to a drive-thru near you.

Quote of the week:

“The main business of humanity is to do a good job of being human beings, not to serve as appendages to machines, institutions, and systems.” ― Kurt Vonnegut, Player Piano

https://twitter.com/metajohnnn