The World is a Big Place, Investing Using a Macro Lens

Jan Szilagi, CEO and founder of TOGGLE AI joins IBKR’s Senior Trading Education Specialist Jeff Praissman to discuss stock picking through a macro lens.

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Note: Any performance figures mentioned in this podcast are as of the date of recording (January 10, 2023).

Summary – IBKR Podcasts Ep. 57

The following is a summary of a live audio recording and may contain errors in spelling or grammar. Although IBKR has edited for clarity no material changes have been made

Jeff Praissman

Hi everyone, welcome to IBKR Podcasts, I’m your host Jeff Praissman Interactive Brokers, Senior Trading Education Specialist. It’s my pleasure to welcome back to the IBKR Podcast studio, Jan Szilagyi, CEO of TOGGLE AI. Jan has spent most of his career managing global macro strategies and holds degrees in both math and economics from Yale and completed his Ph.D. in quantitative finance at Harvard. Hi Jan, welcome back and thank you for joining us.

Jan Szilagyi

Hi Jeff, it’s really great to be back, thank you for having me.

Jeff Praissman

Today we’re going to discuss stock picking with a macro lens, but before we get started, I just want to mention how excited I am that TOGGLE AI news feeds, market brief and co-pilot are all available free of charge to IBKR clients.

Jan Szilagyi

That’s right, yeah. So, I definitely encourage any listeners who after this are thinking this is a new tool that I’d love to try, you can sign up very easily on the third-party Resource Services page within your IBKR account.

Jeff Praissman

Excellent. Jan, before you started TOGGLE AI, you were Head of Global Macro at Lombard Odier. Could you tell us in a nutshell, what your job entailed?

Jan Szilagyi

In fact, I’ve spent a number of years even prior to that, in the area of what you would call global macro investing. And really, in a nutshell, as you mentioned what that is, is trying to take a perspective through the macro lens, meaning looking at investment opportunities by taking into account the changes in the business cycle. So, are we in a recession or are we in extension? What’s monitor policy doing? So, kind of a 30,000-foot perspective in contrast to what the other fundamental approach might be where you’re studying individual assets in great detail?

Jeff Praissman

So really macro versus micro.

Jan Szilagyi

Macro versus macro, and of course you wouldn’t ever disregard the micro, but I think that the novel approach here really was to appreciate the fact that the context in which businesses and currencies and fixed income instruments trade always does matter, at least to an extent, and can from time to time actually be a source of trading opportunities or risks as well.

Jeff Praissman

So, let’s start with the history of macro lens investing. When did it first become popularized?

Jan Szilagyi

So, I think probably at least in the hedge fund space, people will identify global macro investing primarily with the likes of George Soros. So, I would say that it certainly dates back to the 60s or the 70s. I think he got popularized later on, but it probably really bloomed with the ability of all of these investment managers to start trading currencies, to start trading international assets and so on, which highlighted just how much more opportunity there was beyond picking stocks within a certain index, which obviously remains the largest industry. So, I would say it’s now easily been for about 50 years or so that global macro investing has to an extent been popular.

Jeff Praissman

I know you mentioned a few of the events that it kind of focused on, but what are some of the other events that it considers.

Jan Szilagyi

Yeah, so let’s take a step back for a second. The way I think one would think about global macro investing is its usually events that can impact a large number of assets across different asset classes. So, if you think about the investing landscape, this would be the tide going in or out as opposed to ripples on the actual surface and I don’t mean that in any kind of bad way. It really just highlights that if you are studying consumption and demand for let’s say copper or if you’re trying to understand a technology business, you’re really going to understand the nature of that business. The potential of that business, the management plans, and so on.

What a global macro investor instead is going to do is say, “Well, okay, what kind of an environment will this business have to operate when it comes to the labor market? When it comes to interest rates, when it comes to potential for other government action?” And often these trends can actually overwhelm the individual forces if they’re powerful enough. So, the events that you could think about in this case is and I think this was the case through 2022 … you had a very aggressive tightening cycle that I think very much overshadowed a lot of what was happening on the individual level for specific businesses. As a result, we ended up having a bear market that persisted and possibly persists into 2023. I think similarly now ahead of us is the concern about a recession in the US. Again, this is an event where even if you are an outstanding business with an amazing product, you probably do worry a little bit about what is going to happen to the demand for your product in an environment where people start to lose jobs, where actually the level of income isn’t growing quite as it was before, and so on. So, I would generally bucket events in a number of different categories. There are things that you could call monetary policy events, so that would be actions that I think recently became more prominent because we obviously — at least those who have lived through global financial crisis — have experienced things like quantitative easing in addition to just rates rising and so on, and all sorts of other policies and programs that the central bank put in place. Then you would have what I would say are still in the government’s sphere, but fiscal policy actions and so here would be the stimulus packages that were enacted in the aftermath of the onset of the COVID pandemic, which again as we can see even today, had an enormous impact on the economy by sending checks directly to people, really impacting that aggregate demand in the economy and so on.

And then I think the third one would be probably what you would call geopolitical risks. And so again 2022 saw no shortage of events in all these different buckets, and so we had the Russian invasion of Ukraine which led to shortage in supply of certain commodities. On the one hand, wheat, and then there was also concern about how this is going to impact energy markets and so on. So, it’s an incredibly fascinating area for investing. I think that there are all these different relationships that entail a number of different asset classes and forces that are at interplay with each other, which makes it often quite complex, but I think very fascinating to study, understand and invest based on.

Jeff Praissman

Just from what you mentioned, big government events, those big finance events, inflation, the Central bank trying to fight it … is that why it’s so relevant now to look at stock picking through a macro lens?

Jan Szilagyi

Yeah, I would think that. Certainly, we seem to be in an environment where you can tell also from just the kind of publications that are being circulated amongst investors and traders and so on. There is just maybe not unprecedented, but certainly the kind of focus on macro data points that we have not seen in a while, right? If you think about it, we’re currently just on the doorstep of another earnings season, but yet a lot of the notes that you see circulated will be worrying about where the inflation print is going to come in. They’re worried about where wage growth was reported in the in the in the job market report last Friday. So, there is I think quite a lot of effort being spent by individual investors to try and understand how these macro forces might impact their portfolios because you could have done an outstanding job at stock picking or diversifying away from stocks into cryptocurrencies and yet then an event like this one can bring all of these valuations down and down by a huge margin. So, it’s hard to tell when this environment ends, I think at some point the macro is going to be more in the background. It doesn’t seem like 2023 is necessarily the year when that’s going to happen.

Jeff Praissman

It’s interesting that you just said it’s hard to tell when this is going to end, because I’m actually going to skip ahead to a question, I was going to ask you later, but it seems like a good time and my question is what is a suitable time frame for investing using a macro lens? Is it best for short, mid, long-term investments or is it really just depends on those particular events that are affecting that macro environment?

Jan Szilagyi

You know that’s an excellent question, and actually I think it’s hard to pin it down to a specific horizon because I can give you examples of, for example, macro trades that were quite a short horizon. You would have examples of in fact, even in very recent history when the mini-budget was announced in the UK and as a result, fixed income instruments and the currency had huge moves in a very short span of time. So for example, if you were a macro trader in that environment it’s definitely something that you were paying attention to, and it was almost instantaneous the impact that it had on a wide variety of assets from stocks to currencies to fixed income. Probably as a rule, it does tend to be a little bit more medium-term. In other words, the forces that you are trying to figure out do operate over longer-term horizons. If you’re, for example, thinking about the Fed tightening cycle or about a recession, these are not events that are going to be over in a week or two. They’ll tend to have a much more drawn-out impact on a variety of assets. So, I would say the horizon typically, would be somewhere between three to six months, but again, I don’t want to be too dogmatic about that.

Jeff Praissman

What part does the yield curve play in investing with a macro lens?

Jan Szilagyi

A little bit of context, I think one of the one of the problems with trying to anticipate inflection points in the business cycle is that it obviously entails forecasting a very, very complex mechanism and how it’s going to behave as I think is well-documented. Macroeconomists have not done a great job at forecasting big recessions, big turns in the business cycle, and I think for good reason. I mean in fairness to them, it’s effectively trying to anticipate the actions of a very large number of actors and that is just a very, very tough thing to do. The reason why I’m bringing this up is that there are however, a few kind of go to indicators that markets will necessarily look to in order to at least have some idea as to whether or not an inflection point is coming and the yield curve is probably the most celebrated one of all of them because when you look at the historical record, it does seem like it has typically been quite a good indicator of recessions. When the yield curve inverts, which is when the longer-term yields are suddenly below the short-term yields almost inevitably but unfortunately, with an unpredictable lag you had a recession follow not too long after and that I think is stands in stark contrast to the stock market.

The long-standing joke and you can use whatever numbers you want, but the stock market has predicted the last 3 of the last 7 recessions. It’s for that reason that people focus quite a lot on the yield curve because the thinking is interest rates flow through the whole economy. We price assets off of them. Mortgage rates are priced off of them. They really do determine a number of valuation models. They drive all sorts of things that are ultimately defining the monetary side of the economy, and to the extent that that’s true, a big move up or down in interest rates is able to actually cause a change or an inflection point in the business cycle, not just anticipating it. If that makes sense.

Jeff Praissman

Yes it does, and while we’re talking about macro and obviously stocks are not in a vacuum or the world’s not in a vacuum and while there’s global events going on that are considered the macro events what are some of the micro? You know, the fundamental and technical factors that you would also recommend investors. When I picture Macro/Micro I sort of picture macro being a big circle and then micro being a smaller circle in that loop and to get the real valuation of a company or a sector you’re sort of using some sort of combination of both, in a way. Whether or not you’re leaning mostly toward macro or leaning mostly toward macro, in your opinion, what are some of the more important fundamentals and technical factors that you look at or you recommend investors to look?

Jan Szilagyi

Yeah, so I think the starting point probably for any assessment or any search for investment opportunities or risks I think would start with the kind of the interest rate cycle, right? First you need to think about whether or not the market is pricing and as the Fed is saying “Are we still in a tightening or an easing environment.” I think that actually, very clearly sets the tone for the kind of opportunities that I think you might be able to anticipate because it then distills down to the kind of sectors you might look at within the stock market that also defines what kind of currency classes you would like to look at, and so on.

I think short of that, then of course, things that no one wants to pay attention to are things higher frequency indicators of the job market. So of course, every month we get a very comprehensive report on the labor market but there are a number of faster moving higher frequency indicators that have typically been better at signaling. Again, either a loosening or tightening of the labor market, before that was apparent in the unemployment rate or in the nonfarm payroll number. One example that would be the weekly jobless claim. So, these are the claims that are filed by people who have lost their jobs and so it shows the kind of the weaker side of the job market, which is how many people are currently losing their jobs. And historically, when we’ve seen a big sudden rise in that number, and we may be on the verge of that now actually, it anticipated a much, much bigger dislocation in the job market as a whole.

Now, moving away from just the macro indicators to maybe more market or technical indicators, I think the important things that you are always looking at are certain trend lines, because to the extent that we discussed before, that macro tends to operate over longer-term horizons. What you really want to look at when you’re evaluating certain assets is whether or not there is any sense in which the price action looks like it’s departing from the prevailing trend. Is the price actually struggling to continue the path that it’s been on for the last 6 to 12 months or is it actually even going very clearly the opposite direction? And so, then the question in your mind must be is this actually the peak as the question may be and are other more fundamental drivers supporting that view? And this is where you then go even deeper and dig around at the at the micro level and try to understand whether or not anything in the earnings announcements or other news about the company is confirming that what you are thinking from the macro perspective is now being manifested also in the results of this companies reporting and so on. So, there’s no golden set of indicators you would say “Okay, it’s always a go to” but I would say some combination of setting the tone, which is what the macro indicators do, with more tactical indicators that are on the technical side or with company fundamentals is usually the approach that a lot of macro investors will take.

Jeff Praissman

Got it, got it and what’s one of the more interesting moments that you’ve experienced when decision-making with a macro perspective really paid off?

Jan Szilagyi

Probably the one … if we think back to the global financial crisis, you know this was at a time when I was an analyst with Stanley Druckenmiller at his global macro hedge fund, Duquesne Capital. And what we were paying quite a lot of attention to at the time is what was a very apparent dislocation of this one variable, which was residential investment as proportion of GDP, which prior to sort of 2007 and 2006 had been what looked like mean reverting. You have these mini housing cycles, but they were nothing to really write home about. However, prior to ’07, ’08, you saw this just incredible jump in the proportion that residential investments start to contribute to the overall GDP. And that kind of raised a couple of eyebrows because people thought “Wait a second, how is it that suddenly 15% of the economy seems to all be coming from construction? That just doesn’t feel like it’s sustainable” and so that set off a chain reaction of analysis that ultimately leads to discovering what’s going on with the mortgages and how the interest rate cycle might impact those and the exposure the banks have had and the shortage of capital that they might have. So, it started with a very benign chart, and it filtered down to some very ultimately profitable and actually I would say risk managing trades really helped us avoid the kind of debacle that obviously was experienced by the market as a whole that might have been a little bit more blindsided by what was happening at the macro level and continue to be focused much more on individual stocks.

Jeff Praissman

So, it really allowed you –almost like a treasure map in a way — where it really allowed you to follow the clues and find the —

Jan Szilagyi

That’s exactly right, and I think what makes global macro managers like Stan are really outstanding at their jobs is that they’re able to discern some of these patterns, but they also really pursue, they doggedly pursue the clues to try to really understand what is this? Something in this doesn’t make sense, it’s out of whack with historical experience and this is not to say that history always repeats itself, but there’s a reason why certain variables tend to be cyclical and when you see a big departure from that it raises a lot of questions. If you are persistent enough to dig around for answers, it often means that you’re able to be in a trade much, much sooner than everybody else, and the reason why you generally want to be in that position is that if you’re wrong, the downside is probably quite limited, because nobody else has gotten to put that trade on anyway. Everybody is the other way, and so if you’re wrong really, probably nothing will happen. If you’re right, however, you’re going to be sitting there watching everybody else come to the same realization you did, start to move the price in your favor, and so you’ll be able to start actually taking some profit by the time the latecomers are actually only just putting on the trade.

Jeff Praissman

So that leads me to another question how effective is back testing fundamentals against macro events? Since the combination of the various micro and macro events really made different almost … I’m going to say infinite amount of combinations but severally no shortage of combinations you can have between them and how does AI help with this?

Jan Szilagyi

So, this obviously is not at the heart of what we also have set out to do at TOGGLE AI because I think for us the key insight was that we have a lot at our disposal. We should be able to highlight some of these developments and patterns early on. The problem really is that when you’re trying to do that as a human analyst, there’s just too much to look to at and this is where machines can really shine, because if you effectively task the machine to go through let’s say, 3 1/2 – 4 million time series, which we do on a regular basis. Every day in fact. It really allows you to catch some of the dislocations that I was mentioning before, much, much sooner. Now, the thing that a machine is also then able to do is to do something that normally would take decades of investing experience to arrive at which is realized that something that is happening now might mirror — not mirror — but might resemble some of the events that have previously happened in the past, so you start to understand the sensitivity. For example, when interest rates start to rise, it obviously drives up mortgage rates and that has historically impacted home builders. This is something that anybody who’s been through more than one business cycle would immediately understand and go to. If it’s your first one, maybe that’s not the thought that occurs to you right away, but it will to your machine. Your machine will immediately highlight that actually the price action in home builders is starting to sag because presumably the interest rate cycle is starting to really impact that demand, and so the outlook for the sector has now deteriorated.

This is why I think the combination of having the help of this immense computing power, that a system like TOGGLE can bring to this is extremely helpful because what it does is it distills this vast number of possible variables down to a few down to a few things that you, as an analyst can now focus on and say “Okay, this looks like it’s actually quite a unique event. Let me think through the implications that that might have for my portfolio and maybe for some of the names on my watch list.” And so, it gives you an immediate head start versus you trying to dig through a lot of charts yourself and then look for what makes sense, what doesn’t make sense and so on. That kind of in a nutshell, is where I think this human/AI combination can be just incredibly powerful.

Jeff Praissman

And you know, with our modern investing world, there’s just so much data available as you’re saying. Some of the data is useful. Some of the data is just going to be noise and some of the data might just be plain wrong. So, it seems like AI really helps the analysts or the individual investor filter through it and makes some sense of it.

Jan Szilagyi

This is to me the equivalent of how we continue to invest without some of the machine assistance … is the way we used to drive with sort of paper maps right? Like imagine if each time when you’re trying to look for a turn or somewhere, you’re reaching into the glove compartment, you bring out a map. Now you’re looking to where’s the nearest gas station? That map might be outdated because you don’t know if somebody is giving you a new one and so there are just all these opportunities for error, whereas the modern driving experiences obviously have GPS system in the car. The two are connected so that actually when you’re running low on gas, the car automatically suggests the nearest gas station. There are all these things that you don’t have to think about anymore. And because you don’t have to think about them anymore, I think it genuinely makes you a better driver. You’re just not preoccupied about things that the machine can sort of take off your plate, and so instead you can focus on things that maybe the machine can’t do for you, which is at the moment the actual driving, unless you take Tesla copilot too seriously or autopilot rather. And so, I would imagine that this is where definitely the future is going, which is having these kinds of smart assistants become a much, much bigger presence on the investing side. And actually, ironically, I think they’re going to be more helpful even for the individual investor than they are for the institutional investor, because the institutional investor is having to make a tradeoff between the suite of tools they’re already using whereas, an individual investor is currently operating off things like Yahoo Finance and so on and so, I think the upgrade is going to feel just much more dramatic. Like they’re going from our bicycle to an electric car, right? Like it’s going to feel unbelievably better.

Jeff Praissman

And with the individual investor, I’d like to kind of finish it up with, what are some of the traps that they should be aware of when they’re stock picking through a macro lens?

Jan Szilagyi

I think the first thing to kind of keep in mind is that you really want to make sure that you understand the connections that you are betting on if you’re looking at something like this. So, there’s obviously plenty of data, but if you are deciding to, for example, buy bank stocks because interest rates are rising, then you want to really understand which kind of interest rate is rising and which banks might benefit from this so that you are not just assuming “Okay, well, somebody told me on a podcast a while back that yields are going up. I should be buying banks and so that’s that, right?” It does require taking a step back and really making sure you understand the linkages fully just as you presumably would when you’re doing or buying a stock on the basis of its own individual merits. You’re also obviously trying to make sure you really understand the underlying fundamentals and so on.

 Maybe the other one that I would say is that … again, going back to your point about the horizon, macro forces tend to take a much, much longer time to manifest themselves, and so you might read about the Fed tightening cycle, you put on a trade but actually nothing happens for maybe 2 or 3 months. It really requires a kind of more patient investor that says “Look, I’m going to put this straight on. I understand what the relationship is here and I’m not even going to look at it until maybe 6 or 9 months from now.” That I think is probably one of the harder hurdles for people to get over because I think a lot of investing tends to be done with much, much higher frequency. There’s a level of impatience that I think People usually bring to investing that makes macro more difficult for an individual investor Even if they get comfortable with the relationships that they’re betting on.

Jeff Praissman

Yeah, and I think there’s proof of that just from the fact that the exchanges are listing daily options at this point for investors.

Jan Szilagyi

That’s right.

Jeff Praissman

It’s not even weekly at this point. Everyone wants to make the money right now and not sort of have a long-term output.

Well Jan, this has been great and once again I want to thank you for stopping by our studio at IBKR Podcasts. For more from Jan and TOGGLE please go to our website under Education to view previous webinars and podcasts as well as keep an eye out for any upcoming live events. To learn more specifically on stock picking through a macro lens, check out Jan’s webinar from October 12.

I also want to remind everyone that you can find all our podcasts on our website under Education. Scroll down to IBKR Podcasts, or on Spotify, Apple Music, Amazon Music, Podbean, Google Podcasts and Audible. Thank you for listening until next time I’m Jeff Praissman with Interactive Brokers.

Jan Szilagyi

Thank you very much.