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tv   Bloomberg Real Yield  Bloomberg  June 29, 2019 10:30am-11:01am EDT

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taylor: from new york city for our viewers worldwide, i'm taylor riggs. bloomberg "real yield" starts now. coming up, presidents trump and xi planning to meet amid hopes that they hit the pause in their trade war. failure to do so could hurt a global economy already showing signs of slowing down, adding pressure for a rate cut. the lower for longer narrative sending investors on a hunt for yield. the u.s. junk-bond market rising to fresh record highs.
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we start with the big issue. signs of optimism heading into the g20. >> the lack of bad news is probably good news. >> kicking the can down the road would be just fine. >> we will probably end up with a standstill agreement. >> not to disagree so violently that trade talks write-down. >> you get a reset to restart the discussions. >> we will continue talking. >> if things go bad, we could be panicking on monday. >> let's say there is an escalation. >> they storm away from the bargaining table. >> the fed will probably cut by 50 basis points, not 25 in july. taylor: joining me in new york is ken taubes, david leduc, and coming from our princeton bureau is ira jersey of bloomberg intelligence. david, we just heard about the g20.
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we were talking coming into the show, what is the key risk or questions you are hearing from clients? is it all about the g20? >> the key questions are what is happening with the g20 and more broadly, trade policy, trade risks in the market. the other thing they want to know about is the fed, are they going to cut interest rates this year, how are these related, what is going to happen? taylor: how much of the bond markets are pricing in a deal or no deal? how much are we pricing in ahead of saturday? >> i think the bond markets are still pricing in a deal. you have seen credit spreads narrow, equity markets rebound to near highs. this is on the hopes of not just the fed easing but also that we will get some trade agreement in the coming months. i don't think the market is expecting a fantastic deal, just a de-escalation and no further
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damage from these negotiations. taylor: ira jersey in princeton, would you agree with my guests on set that we are pricing in perhaps a small deal or further kicking the can down the road? ira: i think in risk asset markets, that is right. in the treasury market, you would get a backup in higher yields, but the markets will continue to price in cuts. some of the damage from trade has been done. when you look at the survey measures from all the regional fed surveys, they are all pointing downward. that does not bode well for the next three to six months of economic data. the fed cutting would not be out of the question at all. i think 50 is probably off the table in july, but 25 is more than 100% priced in now. taylor: ira launching right in with those prediction for rate cuts. david, we were talking. the first big question is always about trade but very close
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second place is all about the fed. i wonder how much of the trade deal really matters if we know that the fed will bail us out anyways? david: the trade deal matters because the fed cutting interest rates cannot solve all the problems now, will not keep the economy out of recession. we need real activity. interest rates have been low. the demand for cheaper credit i don't think will be enough to fully keep the economy on track without a trade resolution at some point. i think there are high expectations on what low rates can do being priced into the markets. i would agree that i think the markets are pricing in both, at least some improvement on the trade negotiations coming out of g20, and also counting on the fed to lower interest rates . taylor: as we talk about lower interest rates, goldman sachs joining j.p. morgan in cutting
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their year-end forecast for yields on the u.s. 10-year, now 21.75. the global rally in yields is likely to continue, driven by accommodative central banks, near-term weakness in data and in asymmetric sets of risk. in the u.s., we believe reassuring growth data and an eventual reduction in trade war risks are probably necessary for the fed to cease using once it begins. ken, i come to you. look at that, 1.75. we are at 2% now. do you assume the path is lower for longer and we dipped down below two? ken: it is possible. right now the weakness in the manufacturing sector. until we see strength, the fed will be on high alert. they are getting press into a rate cut this meeting because we have almost 100% certainty priced in. whenever it is over 50%, they tend to follow markets. they will cut rates here and get the yield curve positively sloped, but they have a tough job.
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frankly, the economic data is not that bad, as you heard. the surveys are weak, but the actual data is not. you could argue consumer spending, two thirds of the economy, is accelerating in the second quarter compared to the first. the weakness is in manufacturing. there is a lot of hesitancy because of the uncertainty of trade. companies don't know where to build plants, where to source goods. there is a lot of confusion. also, the data on the pmi, surveys are weak also because boeing is not having any orders, very few. they are big enough to affect the pmi's. i don't view that as a macroeconomic consequence.
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that is microeconomic specific to that company. one of these days, the 737 will start flying again and orders will pick up. i also wonder, the inventory data has been instrumental in pushing down the pmi, concerns about cutting production, and i wonder if some of it has not been deliberate to beat the trade tariffs. deliberate inventory build is different than consumer demand falling off the cliff, and companies apprised about their inventories. i wonder if the data is skewed on the downside. the fed will for the first time in memory give us an insurance cut. taylor: i want to talk about the data. ira jersey, you heard ken talk about that yield curve steepening, getting it back up to a positive slope. in your research, you talk about a positive slopw going into 2020. is yield curve steepening coming from the front end of the federal reserve cutting rates? ira: a little bit of both. if the federal reserve cuts and you get the better data, then presumably, 10-year yield 2%, they willat
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be a little higher. our end of the year scenario is for 10-year yield to be close to 2.25%. kind of where we were from a couple months ago but a little bit higher, while the fed has eased monetary policy. that should steepen the yield curve a little bit. on the yield curve, even if it had were to continue cutting, i suspect you would not get as steep yield curve as you usually do in recoveries primarily because everyone will be worried that qe is on the way. the fed, once they cut 150, 200 basis points, everyone will start talking about qe. that will keep yields much lower than they have been in previous cycles. taylor: we have to get to yesterday's great interview with the san francisco fed president mary daly. she says she is watching the data closely. mary: if the data comes in and show significant weakening, that would call for different actions than if the data came in and said we are getting headwinds and slowing.
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it is too early from my perspective to know whether we should use the tool at all and what magnitude of the tool we should apply. taylor: david, i want to turn to you. we were talking about how much we expect the fed to cut. it seems like it is a very one-sided trade. the market really looking for even 100 basis points this year into next year. do you agree with that? david: i think the market is expecting a lot, for a lot of reasons that ken talked about. we've had some slowing numbers, slowing data, particularly on the manufacturing side. but if you look at financial conditions, they are still loose. growth has been above trend. unemployment below the natural rate. the fed is in a tough spot here. i think they are reacting to potential headwinds from these trade negotiations, some things they are observing from that. i agree they will do an insurance cut here, and we think as much as 50 basis points.
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part of the reason is there is a lot of literature that says if you are going to do something, you are worried about getting to that lower zero bound of rates, what you need to do is something aggressive and do it early, so that it's effective to avoid getting there. perversely, we could get a 50 basis point cut in july, but i also think the markets are too aggressive in pricing in 100 basis points this year. taylor: we used to think zero was a lower bound, but mario draghi showing us that it is necessarily not the lower bound. ken, you talk about the data. mario draghi of all people knows that we cannot cut our way to get inflation. the flipside of that is to look at the economic data. is the data bad enough to warrant a 100 basis point cut like the market is pricing in? ken: in the u.s., i doubt it. i don't think so. the fed probably overdid it a little bit in inverting the yield curve. i do believe it still gives us some leading indications of where the economy is going. but it is indicating a slow down
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not a recession, in my view. to right size this, they have to take back one of the last few hikes. that is what we need now to get financing of inventories, bond portfolios to be positively sloped again, and not as difficult as it is with tightening liquidity. one thing i might add, i think the fed has given short thrift to changing their balance sheet activity more quickly. they have pushed forward the date they will stop shrieking shrinking their balance sheet, but the economy needs to grow 4% nominal gdp, 2% real. just stopping is still a tightening. you see it in the banking system where liquidity has tightened up excess reserves. i wonder, rather than pushing financial assets to more and more expensive levels, why don't you directly provide liquidity to where it's needed into the banking system and lending markets? stopping the quantitative
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tightening earlier and increasing their balance sheet would help in that regard. taylor: more on that conversation next. coming up, the auction block. dovish signals from the federal reserve boosted demand for higher-yielding assets. junk bonds heading for their best returns since january. that conversation up next. this is bloomberg "real yield." ♪
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taylor: i'm taylor riggs. this is bloomberg "real yield." i want to head over to the auction block. we begin here in the united states. the treasury sold $32 billion in seven-year notes yielding
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1.889%, the lowest since october 2016. direct bidders coming out in full force purchasing the largest portion since february. the hunt for yield in full swing in europe. the sale more than four times subscribed and priced to yield 1.71%. u.s. junk-bond issuance moving at a torrid pace with $8.6 billion pricing, making it the biggest week in nearly two months. june is heading for the busiest month of high-yield sales since september of 2017. still with me ken taubes, david leduc, ira jersey. u.s. junk bonds hitting fresh record highs for the first time since the financial crisis. jpmorgan's bob michael is selling the corporate bond rally instead of buying the dip. marc lehman weighing in on that strategy today. >> there are warning signs out there that people are starting
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to pay attention. by the looks of the stock market and bond market, they are not paying huge attention. when we had that big correction back in december, the risk reward was enormously favorable to the upside because nothing changed. right now, we are at a new high in every asset class. when everything goes up, that is probably not a great sign. taylor: you heard it there. the everything rally. do you sell credit heading into any sort of gains that we see? >> well, we have been selling credit steadily all year. we see more risk in the future outlook, and the trade tensions have been starting to create a drag on certain set yours. -- sectors. for us, valuation is a big issue in the corporate bond market. almost 380 basis points of excess returns on investment grade corporate bonds. high-yield, over six basis points over treasuries this year.
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as we look at high-yield spreads over 400, investment grade, these sectors are looking more fairly valued to us. in my mind, if you made a lot of profits in something that has risky characteristics and there is still increasing uncertainty in the outlook, you are supposed be lightening up on that risk. taylor: ken, how do valuations feel to you? do we feel stretched? we have talked in the first half of the year, equities are higher, bonds are higher. at some point, something has to give. how stretched do credit valuations feel in the market right now? ken: any kind of credit asset is expensive by historical standards. we have been easing monetary policy for the past year and a half for 10 years. much of the easing is still going on globally. everything is expensive. i think there are some bad behaviors that have clearly creeped into the markets the last few years. however, over 30 years as a value investor, you need a catalyst to see spreads wider.
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the catalysts are usually a recession. maybe induced by over tightening from the fed. we saw spreads briefly widen last year on that risk. now that the market is anticipating fed cuts, i've never seen a disaster in credit in the face of fed easing. and i have never seen recession either with oil prices dropping year-over-year, and never seen a recession led by financial conditions easing, not tightening, which is happening this year. we are at a point when things are very expensive, not the most expensive they have been, but you need a catalyst. for now it will be ok. painfully, if you have been out of credit, you missed a huge opportunity this year. taylor: ira, out in princeton, we know that you focus more on the rate strategy of things. when you look at credit, how stretched do valuations feel to you? ira: so valuations are stretched.
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there are two things we have to remember. credit spreads can stay tight for a long time. there has to be a catalyst and usually it is a slowing economy that winds up causing widening, particularly trend widening in credit spreads. there is a risk with corporate credit. what if the fed does not deliver what is currently priced? if the federal reserve were to cut 50 basis points in july but then they signal that they are not going to cut any more than that, some risk assets may not take that very favorably and you could wind up seeing volatility in spreads and equity markets. taylor: we can get into the nitty-gritty. part of that is the terminal chart we have showing the spread between bbb and bb. is this an easy trade that automatically you sell bb, go up a little bit in quality, cast catch that bbb spread, and then andare in investment grade
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all is well in the world? david: i wish investing was that easy, would have made my career a lot easier. i think we agree that -- i agree with ken and ira -- that you have to have some carry in the portfolio. if you have the fed providing more accommodation, it will extend this rally longer, even if you don't like some of the valuation. there are two places this could go wrong. i agree, if the fed does not deliver what the markets think, they will be disappointed, and you'll see risk premiums go up. the other thing is the trade war. if for some reason this continues to degenerate, extends a lot longer than people think, or this administration pivots after reaching a resolution with china, pivots to europe, there is downside on that which our clients are asking about. getting out of tighter high-yield spreads into
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investment grade makes a lot of sense. looking at asset-backed securities. if you think the fed is providing some stimulus year, perhaps some inflation-linked bond is not a bad idea either. taylor: let's get a check on where the bond market has been this week. it just continues to be a rally across the curve. what catches my eye is that 2% print exactly on the 10-year. down five basis points for the week. my eyes looking at a key 1.99. going out to the 30-year, 2.53, testing the crucial 2.50. bond higher, yield lower. still ahead, the final spread. the week ahead featuring the highly anticipated jobs report amid a holiday shortened week of trade. that is coming up next. this is bloomberg "real yield." ♪
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taylor: i'm taylor riggs in for jonathan ferro. this is bloomberg "real yield." time for the final spread. coming up over the next week, president trump meets xi in osaka over the weekend for the g20 summit. monday, opec meeting in the in a. wednesday, more economic reports from the u.s. durable goods and factory orders. plus trade balance numbers. thursday, u.s. markets are closed for the fourth of july holiday. friday, of course, all about the main event, it is jobs day to close out the week. ken taubes, david leduc, ira jersey still with me. david, i have to start with you. it is all about jobs day. what number are you looking for that could tip the scale in either direction for the federal reserve? david: i don't know there is one
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number that the federal reserve will rely on solely to make policy. our view is the fed is considering making a 25 if not 50 basis point cut. we think there is a chance they have scope for doing that. i think the markets have priced it in. it's an easy way of providing insurance. a really strong job number perhaps gives them some pause, but i think they are looking at a much longer string of data than just one data point to make that decision. taylor: that leads me into my first question in the rapidfire around. -- round. 25 or 50 basis point cut by the fed in july? ken: 25. david: 50. ira: i'm going to say 25. taylor: g20, deal or no deal, or kick the can down the road? ken: no deal but progress. david: kick the can.
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ira: i agree, kick the can. taylor: yields above or below 2%? ken: above. david: above. ira: barely above. taylor: ken taubes, david leduc, ira jersey, thank you for joining me. from new york, that does it for us. jonathan ferro is returning next friday at 1:00 new york time, 6:00 london. this is bloomberg "real yield." ♪
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emily: this is the "best of bloomberg technology." coming up, shots have been fired between the u.s. and china in the global trade war. the tech sector in the crossfire. who is poised to win and lose? plus, facebook is putting together "an almost supreme court." the new content oversight board will review controversial decisions about what goes up and what is to come down.


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