tv Bloomberg Real Yield Bloomberg July 6, 2019 10:30am-11:00am EDT
jonathan: from new york city, i'm jonathan ferro. bloomberg "real yield" starts right now. ♪ jonathan: coming up, payrolls growth bouncing back. the jobs report easing some concerns. shaking up fed expectations, investors beginning to pair back rate cut bets, sending treasury yields higher after a record breaking week in the bond market. we begin with the big issue, a solid jobs report clouding the fed's next move. >> it looks like rate cuts are off the table. >> it is hard for them to say, we are still going to cut.
>> when i see these numbers, i keep going, why, why can't we wait? >> maybe the trade war is not weighing on the outlook as much as we feared. >> i think you will have to reprice to a certain degree less than three cuts. >> the good jobs data report pulls people back wondering what the fed will do. >> the fed is in preemptive mode. >> does the fed to get in front of the eightball or behind the eight ball? >> it comes down to the discussion, do they want to make insurance cuts? what are we ensuring ourselves against? jonathan: to discuss, we have peter tchir, iain stealey, and noelle corum of invesco. i want to begin with you. it is the number one question following the payrolls report. what does the jobs number on july 5 mean for the fed meeting on july 31? noelle: no doubt, the payrolls number was strong across the board but we don't think it means much. we think it definitely reduces the likelihood of 50 bps cut, which is priced in going into payrolls.
but in terms of the fed, communication will be key. they will either have to deliver a cut with markets that are doing well, but powell seemed to write that off in the q&a section at the june meeting -- or they will have to say they are not cutting but they are credible. because also at the beginning of the year if you recall, they were pointing to inflation, lackluster inflation, and we think this is a regime shift for the fed and they will focus on inflation. and the market has been challenging them on that. they started pricing in cuts way before trade tensions were even a discussion, pricing them in in march. that is because inflation has been falling year to date. jonathan: iain stealey, rate cut expectations are coming back a little bit after the payrolls report. to what degree do you think it should shape the fed's next move? iain: i don't think it will change july. i agree 50 bps is off the table. i think it was off the table
earlier this week post the g20. the fed has been very clear. they think the economy is slowing. q2 data looks like that is the case. inflation is not where they would like it to be, so they have talked through insurance cuts. what the market is doing today, which is correct, is looking out and saying, are we in an environment where three cuts is necessary for the remainder of the year? that will be the big question. now you are about 50-50 for that third cut. that seems reasonable. jonathan: it was never about the move at the end of the month but about the moves after the end of july. chairman powell has already announced an ounce of protection is worth a pound of cure. some people thought it would be 50. after today, a lot of doubt about whether we get a 50 basis point cut at the end of this month. peter, 25 basis points in july, that is still going to be on the table for so many people. what happens through the rest of the year, and the idea that we
get 100 basis points between now and 12 months? peter: i think we should wait and see. i think treasury yields are too low. i think there is a realistic chance we make progress on trade, and then all bets are off. what if europe starts to get stimulus going around? people have been far too negative. they have been trying to tell us to expect one, maybe none. the market was saying two, begging and screaming for two. we will not get that, so the market will have to start pricing in fewer rate cuts and a steeper curve. jonathan: let's talk about the economic analysis around all of this. the back half of last year, we were having a discussion about whether we consider a return to trend growth and confuse that with something more sinister. do you think that is difficult about this environment right now, drawing a distinction about whether the u.s. economy is coming back towards trend in and around 2% gdp growth, or going somewhere much lower? noelle: we don't see any evidence that it is going someplace much lower. trade tensions and trade uncertainty can impact that. but at the end of the day, we
think the fed has proven this year that they are more focused on inflation than growth. even if we get a modest growth scenario, we can also see a fed that is dovish, leaning on a dovish side. they proved that in their june meeting. trade was barely mentioned. the uncertainties were definitely mentioned but barely. the commentary around growth was rather upbeat, but they mentioned the uncertainties, and then lackluster inflation is a concern. we think that is where the fed will hone in on this year. that is why we think that three cuts priced into the market is reasonable, especially if inflation expectations remain low. jonathan: just to pick up on the point on fed inflation expectations, the regional fed presidents are worried about the trading data, the downside surprises, disappointing reads relative to their objective of getting close to 2%. beyond that on the outlook, they
are uncomfortable with the outlook as well. when you look at the payrolls report yesterday, an upside surprise. can you stand back from this payrolls report and say, this offers me comfort about the outlook and the risks around it? the answer to that has to be no. hasn't it? iain: i think it offers you some comfort the u.s. economy is not rolling over dramatically and going into near-term recession. but i think from the fed's perspective, as you mentioned, they've been looking at the inflation and focusing on it. if you look at the five-year inflation swap forward, it has come down dramatically over the last few years. and it is well below where they would like it to be. you have this issue that if they keep on tightening policy when you get to that upper bound, you will always be below that bound or at the upper bound, never above it. so the average over a five-year period is likely to be lower. and then it builds up. that is what they are focusing on, that average inflation discussion which is getting more traction.
should they allow it to overshoot a little bit in the good times? it feels like that is where we are going, and so they don't need to worry about doing a cut at the moment. inflation is not there. they cannot afford to do this. jonathan: peter, your view? peter: all this talk about inflation expectations is wrong. if you look at expectations, particularly the consumer one, they just chart the price of oil. if you look long-term charts, the price of oil, consumer inflation expectations are one in the same chart. i think we are misreading a lot of that. i think there is a growing concern. what the fed is looking at in terms of inflation, that is not what real people are experiencing, real day to day inflation. it is almost like they have become too academic at what they are looking at. they have to figure out what they really want, what they really need. maybe we still get the cuts, but i think maybe they pause a little bit. jonathan: we have an assessment of what the fed should do in the coming months. we have talked about the
economic analysis. iain stealey, let's talk about the bond market. at j.p. morgan asset management, you have been waiting for a backup in yields. would you be a buyer of what you are seeing at the front end this morning post payrolls, 10 basis points, after an upside surprise? are you a buyer at 1.86 on the u.s. two-year? iain: i think it is definitely starting to look more interesting. maybe when the dust settles next week, the yields will go higher in the near-term. but i feel that we are in a global downward trajectory. i'm sure we will talk about europe and what is going on there this week later. i think that will force people into the u.s. bond market. people looking at these yields compared to where they are around the rest of the world, and they will find them attractive. i think the bottom line is the fed is not tightening policy anytime soon with the current framework. it is actually a good time to invest in bonds. jonathan: what are your thoughts on this? i caught up with bob michele earlier in the week and he believes this may be the beginning of what is still to come in the market, that this
rally is just getting going. what do you think? noelle: we think it is definitely not just the beginning, but we think it has some room to go, particularly due to the uncertainties in trade that we have on the sidelines in the higher-quality more liquid asset classes. ig, higher-quality em. all of it, the rally continues at least into the majority of this year. because the fed and globally, inflation is just not there. that will allow central banks to be flexible. jonathan: peter? peter: i prefer credit, i think. i think we could see yields back up. i think we are in an ok spot for investment grade in particular. companies are doing well. any fears about a rate spike impacting corporate balance sheet. we are starting to see, the
companies that have performed with a debt diet like at&t who focus on fixing their debt, stock prices are starting to respond well. i think you will see healthy balance sheets, no leverage. people will be paid for their carry. they will be protected from interest-rate volatility. jonathan: a little bit more comfortable about the bbb space? peter: i have liked it all year. i don't think we are going to see this wave of downgrade. i don't think we are headed toward an economic recession. high yield i'm a little more cautious on. leveraged loans have their own unique characteristics. corporate investment grade is fine. i think you have a better risk -reward than owning rates right now. jonathan: i want to talk about duration risk. we had a question across the bloomberg about century bonds and emerging markets. we could have a whole show on just that. the amount of duration risk some are taking right now, overextending themselves? what are your thoughts? iain: the signals we are looking at, we are seeing some overbought conditions. the biggest fear i would have
from a bondholders standpoint, if you think about the investors in bonds over the last few years, they have been lacking. everybody has been thinking about monetary tightening. big people say you don't want to own fixed income, it doesn't make sense. but as we get to the end of the cycle, you know that the one bit of the market that diversifies in a downturn is bonds. so people are looking at the ten-year treasury, 2%, that is not bad protection, especially when you compare to europe or japan, where you pay for the privilege of that. i still think it is an area where you want to buy duration. i think overall, maybe in the short-term, there is some over buying but i think there is under allocation globally. jonathan: iain stealey is sticking around with us along with peter tchir and noelle corum. coming up germany taking , advantage of the low interest rates to sell debt at record low yields. that conversation is coming up next. this is bloomberg "real yield." ♪
jonathan: i'm jonathan ferro. this is bloomberg "real yield." i want to head to the auction block and begin in europe. another massive week for the european bond market where record low borrowing costs are luring companies from across the atlantic. reverse yankee borrowers including medtronics, ibm, and altria selling 44 billion euros of notes in the first half of the year, making up a quarter of euro rate hike issuance. commerzbank pulled in $11 billion in bids for its debut sale of coco bonds. the $1 billion junk rated note priced with a 7% coupon and turned out to be europe's most successful sale of an additional tier one note in 2019. and finally, germany selling
more than 3 billion euros of five-year debt at -0.66%. the sale oversubscribed by 1.5 times. a pervasive fear of missing out on even the slightest hint of yield has created a buying frenzy that has swept across the continent. neil shearing saying central banks will have to act to stop the global bond rally. neil: the move has been a collapse in yields. bond markets are telling you we are worried about growth, worried about the prospective of deflation, and we think central banks will have to act. that is clearly what is behind the drop in yields. we are getting to the stage where if yields fall much further, there will be more problems than actually helps. jonathan: still with us are peter tchir, iain stealey, noelle corum. we are betting on stimulus, and i guess we are also betting that it will not be enough and will not work, because yields encore re government bonds
keep heading in the same direction. noelle: still a lot of uncertainty around the details and how they will take these bonds down, what they will dip into. that is one piece of it. on the other side, we have not seen stability that we need in growth yet either. the domestic side has held in quite a bit. but of course, trade, trade uncertainty will still weigh on the european economy. until year-end, that is a big part of it. jonathan: the data in europe has been soft for at least 12 months, maybe more so. what has been striking about this week? the bund market always makes the headlines, but the big moves are coming from the italian market. it is not just the core rallying now, it is the whole complex, isn't it? which area of european fixed income are you participating in that rally right now? and which area of european fixed income do you want to be present? iain: we would be big buyers of peripheral government bonds outside of italy. we think the economic data in portugal, spain has not been too bad.
the overwhelming lure of yields in those markets have been supportive. italy had its own issues, people were concerned about the fiscal side, but the news out this week is good. the excessive deficit procedures, they seem to have gone away for now. that grab for yield means when you look around european bonds at the moment and you go down to belgium now touching zero on the 10-year yield, spain, a little bit higher by 25 basis points earlier. you look at italy and it looks attractive to people. that is what we have seen happening this week. jonathan: wherever there is a positive real yield, there is someone who wants to buy. you assume credit risk in europe right now. investment grade, do you get 50 basis points? you go into high yield, you can find some securities with a negative yield. where do you go in europe? peter: i kind of like italy. european high yield, we are kind of eyeing that. i think we have to do a little more work, but there is such a
dearth of debt. very much like the european banks, i think people undervalued them. i think we will see a little bit of a seachange in what is going on in europe. lagarde is there to bring in some sort of fiscal stimulus. mario draghi can never really champion fiscal stimulus. i think she is a force is there to force fiscal stimulus, turn the european economies around, and we will have a different growth story, and she may do qe on top of it. i think you will see a change everyone has been so negative european growth. there is a lot of undervalued securities at the banks and italy. jonathan: what worries me about the fiscal stimulus argument, the people calling for it may be the same that are uncomfortable with it if it comes. if you get a repricing in the german bund market, everything will reprice the wrong way, isn't it? noelle: the thing about fiscal stimulus, it has not been done in the near future. what has been done has not been working at least in the context
of the external economy. that is why it will be a breath of fresh air. but we do like european credit here, we think the ecb will show up and inflation will allow them to do that. jonathan: where will they show up? where in fixed income, in corporate credit in europe do you like right now? noelle: we like european ig, and high yield, a little bit of european bank loans. jonathan: why european ig when the only yield you get right now is 50 basis points? explain that to the u.s. audience that could be looking at investment grade in the united states, high yield at 3.75 over, why go to europe? noelle: mainly because the qe we think it's going to happen. and it will be impactful. it will push investors out into these markets even more so. also if you think about the cost of hedging in these other
markets, it is expensive. there is going to be grab, demand for european assets. jonathan: is it a capital return story for you as well? iain: i think you have seen the capital return story over the course of this year. i think if you are a u.s. investor, i agree on the comments of the attractive hedging costs. even with the fed at the moment, those hedging costs will go down, but you are getting close to 3% if you are buying european assets, hedging back to the dollar. we like the bb part of the european high-yield market. we think the european economy will not yet be going into recession. we think the default rates are unlikely to pick up in the near term. get your carry there, and that hopefully a little bit of capital appreciation. jonathan: iain stealey is sticking along with us, alongside peter tchir and noelle corum. in the markets this week, another big week for treasuries. we have not had a weekly loss for the 10-year treasury since
early may. this week, yields are higher by three basis points. it could well be the week. the 2-year note, yields up 11 basis points. post payrolls a positive surprise, bad news for the front end of the yield curve. that is the treasury situation over the last five days. still ahead, the week ahead featuring chairman powell, after investors pare back their rate cut back following a payroll surprise. this is bloomberg "real yield." ♪
jonathan: i'm jonathan ferro. this is bloomberg "real yield." time for the final spread. coming up over the next week, a little bit of economic data and a ton of fed speak. monday, we get industrial production numbers from germany. tuesday, a slew of fed speakers, including chairman powell in boston, and presidents bostic
and bullard in st. louis. wednesday, powell will be testifying before the house financial services committee, and we get the minutes of the fed's latest meeting. plus, china ppi and cpi data as well. on thursday, the chairman in front of the senate banking committee and the ecb publishing the account of its june meeting. to discuss looking ahead to next week, iain stealey, looking out to next week, chairman powell taking center stage. what are you looking for? what do you want to hear? iain: the big question is what he makes of the jobs report and what he thinks that does for the fed later in july. i think that is the big question everyone will have. will it deter the fed from easing policy? i don't think it will. i think they have been clear this is the way they are going, seeing a slowdown in growth momentum in the u.s., and they are going to be easing policy. any sort of sign that he is looking to walk some of that back will be picked up on quickly by the bond market. noelle: powell in the june meeting, the market thought he
was dovish, despite the hard data not being that bad. he mentioned that we will see how the data plays out. but i think it has been mixed, too, surprising to the upside, especially after today. i think inflation will be based on his commentary in the meeting and what will be watching for next week, inflation will be more of a focus. growth not so much, just like it was in the june meeting. peter: i think what we have seen is a shift in reaction function. they will be slow to tap on the brakes, very quick to ease if they need. i think that is the message that will come across. maybe not so many cuts right now but so long as they keep that reaction function, that is good for risk assets. jonathan: the final round, the rapidfire round. quick question, quick answer. the low for the 10-year yield in 2019 around 1.94. have we seen the low for 2019? peter? peter: yes. i think we will be surprised by growth.
noelle: yes, close enough. iain: no, we are going down to 1.75. jonathan: next question. 25 basis point cut, 50 basis point cut, or no cut at all in july? iain: 25. peter: 25. noelle: 25. jonathan: the italian-german spread in and around 200 basis points. what do we see first, 100 basis points or 300? peter: 100. noelle: 100. iain: i think we will go toward 100. jonathan: we have got to leave it there. great stuff as always, iain stealey, peter tchir, noelle corum. that does it for us. that was bloomberg "real yield." ♪
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