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Nice m and a trade here in the financial space here today we got Capital One Financial. They're acquiring Discover Financial and thirty five billion dollars all stock deals, so the need to go to the bond market. They're going to create the largest US credit card company by loan volume, giving the combined entity struggle foothold against some of the big Wall Street behemos.
Let's see what's.
Behind the deal here, and with the numbers show us Ben Elliott, he's consumer finance anols for Bloomberg Intelligence. Jurnes us via zoom from Washington, DC. All right, bet, what's Capital One thinking here? Is this another one of these deals that's really driven by scale?
Yeah, so everything's driven by scale and the credit card business, Paul, And the big thought here from Capital One is that if they can acquire this sort of rare and valuable thing that Discover has, which is a discrete proprietary payments network. Then they can sort of start to compete with the Visa and MasterCard on a much bigger scale over time, and they're paying a premium for it.
Ben is the timing at all surprise just given kind of the issues that Discover had towards the end of twenty twenty three.
So it leaves Capital One with a potential legal overhang. The legal issues are not settled yet at Discover. They've had a couple of new issues that are sort of outside of the scope of of what they've been dealing with over the past couple of years. Discover's been talking about sort of a five hundred million dollars a year run rate of additional compliance expense. So that's sort of a burden that Capital One is going to have to
take on with this acquisition. But I think it's probably pretty well understood the sc of that, and I think it's it's probably priced into the deal.
All right, So give us a sense of the size of Visa, I guess, the Visa network, the master Card network, and now this new combined network is it is it competitive to Visa and MasterCard?
I guess even amics So historically it's completely non competitive. Visa and MasterCard together are about penn trillion in domestic US credit and debit card volume, and Discover is about five hundred and fifty billion. So it's always been this sort of the tiny, you know, red headed stepchild of
the of the large payment networks. But you know, if you add to that capital ones hundreds of billions of dollars of credit card loans and you sort of extrapolate future growth there, it has the potential to sort of compete more like an American Express, which is closer to one and a half trillion.
Then I feel like we can't talk about deals without the threat of regulatory scrutiny. What does this bring and what could the FTC raise any red flags about?
Yeah, so I'm obviously not a regulatory expert. Paul knows well that we have a great m and a analyst Bloomberg Intelligence. Generally, I'm sure you guys will ask her later. But overall, this deal I think will be relatively sort
of non offensive to regulators. You know, Discover is historically not been very competitive with the large networks, so actually bringing sort of the power of capital want to bear will make it more competitive with the large networks was as the potential to give customers a real sort of fourth alternative, whereas in the past you really only had one option. Right, you get a Discover card, it only
has one sort of set of of rewards. It's got a relatively low credit line versus some of the other offerings. It doesn't have sort of you know, high end travel rewards offerings. So I think if Capital One can start to issue some of its sort of higher end cards on the Discover network, that could be pro competitive, and that might make the deal somewhat more attractive to regulators.
So I'm looking at MasterCard. The shares of MasterCard and v so each down maybe two three percent. Do they really care here in terms of a response.
You know, I think they're looking at this as sort of an interesting gambit. It's definitely like, you know, it's a shot across the bow visa MasterCard. But this is a huge, probably decades long battle that Discover Network, backed by Capital One, will be fighting. You know, they plan to keep the Discover branding in place for the most part and shift primarily debit card volume to Discover at first.
So you know, even in the first call, it three years of this transaction, They're not really going to be issuing Capital One credit cards on the Discover network, and so that really puts off any concern for Visa and MasterCard, you know, into the medium to long term.
Ben in terms of kind of what these credit cards offer Discover from my understanding, mainly cash back. Capital One has a range of some of those rewards cards. How does that impact potentially acquiring new customers and new users of for both companies or I guess the folded end company.
Yeah, so I think that will make it a challenge for Capital One to issue some of its sort of high fee, high reward cards on the Discover network because historically the Discover network's only been used for a very limited cash back card with caps that I think it's like fifteen hundred dollars a quarter of cash back. So for your high spenders, people who are putting tens of thousands of dollars on a credit card, that's not a
very attractive offering. So that means that the brand has not been sort of in their minds as you know, a potential credit card they might acquire. So Capital One is going to have to do some relatively heavy lifting and you see that in what is a very modest run rate synergy assumption in their in their sort of deal model which only cuts back discovers marketing costs ten percent.
So you know one is gonna have to do some pretty heavy marketing I think to start to leverage that network on the credit card.
Side, the American Express. What's the investment call there these days?
Ben?
What are investors thinking about MX?
You know, MX is the super premium fashion of the highest spending, sort of most financially sound customers. So that is a sort of you know, it's sort of a recession safe trade, if you will. So you know, when people are looking at the forward curve and they're they're seeing rate cuts, you know, they're expecting a recession. Potentially they look at the AMX spender and think that this person will last the longest and have the sort of lowest level of charge offs through a potential recession. So
that makes it very attractive. And additionally, MX is a ton of momentum in acquiring millennial and gen Z high earning customer, which is the most valuable sort of wallet chair that's out there, and MX does it better than anyone else, So that also kind of makes them attractive to investors.
Hey, Ben, here at Bloomberg LP, we recently switched our corporate credit card from one vendor to another. Why did that happen? Is that simply priced? Somebody came along and said, hey, Bloomberg will do it cheaper.
Is that how that that business goes?
Well?
Obviously I have no insight into that particular deal, but you know, that can be a number of things. That can be the sort of reward structure, that can be the cost structure. That could even just be you know, simple sort of customer service and applicability of sort of technology on the on the corporate fulfillment side. So you know, I don't really have any insight into what that particular was.
It all works for me. It all goes to redo keeper of the whatever the card is.
All right, Ben, So what is the big competitive overview of kind of consumer finance? Are we using more credit, more debit, more venmo what a kind of the big trends there?
Yeah, So there's been a huge growth in credit volume over the last couple of years, especially sort of in the post pandemic period. There's been even more of a secular shift away from cash. As for the various sort of channels. Right, credit is really attracted to higher end consumers, people with more discretionary income, because that offers the huge
valuable reward potential. And then if you step down to debit cards, there's some cash back but for the most part, not a lot of rewards there, but there's some convenience.
And then sort of the lower tier kind of fintech payments systems, you know, they offer they're sort of targeted at sort of youngers or gen Z lower spenders, and they are the people who are exploring things like buy now, pay later, which is sort of a way to give credit to people who don't really have a lot of credit history or substantial earnings history.
Ben, thanks so much for that. Appreciate it.
Ben Elliott, consumer finance analysts for Bloomberg Intelligence is joining us via zoom on from Washington, DC. And then there are those of us walk around with a lot of cash because that's how you play.
You pay who do you pay in cash?
I got very few people, very few people now, And it used to be I mean, but I mean, you walk into a bar in the Jersey short you got to put a fifty down on the bar to make sure you let them know you have let them know you're serious.
I mean, I'm not going to give them like tap my phone. I mean they throw me out. But no, you're right. I mean you just don't use cash anymore now.
I only use cash at wholal carts in New York City and my dive bars that I can't say their names because otherwise people go to it, so we got to keep it secreted.
But those are the only places I use cash.
I know it's crazy, so but I mean, now it's just I'm thinking. You know, one of the greatest companies or technologies in that space was Square. They're the ones that revolutionized, I think for the local retailer. I mean, because all you have to do is stick nothing on your phone, and then a local retailer immediately has the ability to.
Kind of migrate to a you know, you know more of electronic payment.
That completely changed, especially here in New York City, where if you would go to a farmer's market before you'd have to worry about do I have enough cash?
What if I want to buy more things?
Just have to pay.
It's so much more simple.
But so great company Square, great ticker symbol SQ.
What do you do then you change a name of your company to block Plock.
You traded sixty five bucks, down from a high of two to eighty one.
Yep, just crazy, let's change our name.
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Bloomberg eleven thirty.
Talking about Home Depot Company reported some numbers here, let's bring in Drew Redding. Drew covers all the home building stocks which had just been ripping really for the last couple of years, because that's the only way to get a home is you got to build a new one. And he also covers all the companies that are around the home building industry.
Including HD.
It's up about six tens of one percent here today, Drew, thanks so much for joining us here. Break down what you saw and heard from our good friends at Home Depot.
Sure, so the three and a half percent decline and same store sales was pretty much freight in line with what was expected. You have to keep in mind though, coming into the quarter, the bar was pretty low for home depot. They continue to face the consumers who were pulling back in big ticket discretionary categories, so think things like flooring, cabinets, countertops. Conversely, they're seeing relative strength in some of the smaller scale projects, so there's big ticket
projects are being deferred. We do think eventually they get completed, but that may be more of a twenty twenty five story. But coming into this quarter, the real debate was around how twenty twenty four was going to shape up. So they offered guidance suggesting that same store sales would fall about one percent, and given what we heard from a handful of their suppliers over the last couple of weeks, which we're calling for a flat market, I think people
it caught people a little bit off guard. Ourselves included. We do think that the first half is going to be comparatively weaker than the second half as rates start to pull back, and we think you could maybe get a little bit bit of a boost from the housing market. Drew.
This may be a dumb question, but when I look at some of the consumer data that we've been seeing, we are seeing a rising ninety day credit card delinquencies. How do things like that, What does the normal spender at home depot look like? You're mentioning kind of a pullback on some of those bigger projects. What kind of demographic does home depot really see in terms of driving sales and kind of putting those numbers together.
Yeah, so about eighty percent of home depots customers or current homeowners. They typically have higher incomes, so they are higher spenders and they're a little bit more resilient of a customer. I think where we're seeing the relative weakness is in some of the low end spending, which has kind of gone away on the DIY side. But you know, if we look big picture, what's happening in the home improvement market is we're seeing a reversion to more typical
spending pattern. So if you think back to the pandemic, we had the share of PCEE that went towards household durables was at all time record, and we've seen that moderate since really the first half of twenty twenty three. So we think that there's a bit more of a reversion that needs to take place with the remainder of this year, which is going to keep total industry sales muted, you know, but you talked about the consumer. You also have the consumer out there who's battling with the cumulative
impact of massive inflation over the last couple of years. So, you know, while we look at the head headline number and we see that it's moderating, it's really the cumulative impact that's kind of pressuring spending in the category.
Hey, Drew, what's the What do you think is a normalized top line growth rate for like a home depot.
I'm I'm looking.
You know, pre pandemic was kind of mid single digit grower, then of course exploded, you know, during the pandemic was some you know, big double digit gains. What do you think what do you kind of model out here for top line growth?
Yeah, I think I think in a normalized environment, which we think we get back to in twenty twenty five, is probably in the three to four percent range as a baseline. You know, there's a couple of industry factors that we think will support that. Like I mentioned, we think as rates start to moderate, perhaps as we get through this year, we think that you could start to
see a boost from existing home sales. Remember, existing home sales are the lowest level more than twenty five years, and we know that people who move spend about twice as much on remodeling as those who don't. So while we don't see total housing turnover returning to you know, kind of that five and a half level anytime soon, we do think the fact that things have been so depressed does serve as a tail and as we move
through the year. At the same time, you know, we've had over forty percent increases in home prices since the pandemic, so homeowner's equity right now is at all time ties. The average home has about three hundred thousand dollars in equity, So we think that's a source of pent up demand for big ticket projects that once again, as rates start to moderate, people will get more comfortable with tapping that equity.
And drew with that in mind, you mentioned some of those big purchases, bigger projects. How much of that was pulled forward though during the pandemic when people were buying homes, we saw a booming market around the US, and it did seem like cash being relatively free with the surplus spending and stimulus checks, that people were putting money into home improvement.
Yeah, great question, and I think that goes back to the share of personal consumption that was spent on home improvement. It was a lot of that stimulus money that was out there for everybody. In terms of the big ticket project, we think more of the pull forward was probably done in the DIY segment. That's really where you saw the boom early in the pandemic. That being said, we have seen contractor backlogs over the last couple of years be
you know, elevated compared to more traditional levels. So to some extent, it has been in both the DIY and big ticket category. But we do think that the big ticket categories where we're likely to see more growth from home depot as they go after the professional contractor, as they leverage you know, the age investments consumers are making because of the age of the housing stock that pentep equity they have in their home.
He drew from an investment perspective, how do you differentiate home depot versus lows.
Yeah, so, I mean both of the stocks that you mentioned earlier. The housing names have ripped recently. I think home depots since the end of October is up more than thirty percent because investors were placing their bets that the fed of rat height cycle would come to an end, so I think they're trying to get out ahead of that and out ahead of that. Improvement in home sales. In terms of comparing the two, Home Depot has really benefited relatives to the Lows recently because of their exposure
to that professional customer. It's driven you know, outside outside same store sales. It's driven better margins, and we expect that the professional contractor is going to be a relative area of strength going forward. Now with that being said, Home Depot is trading out a premium to the market and one of the biggest premiums versus Lows over the
last decade, you know. So to the extent that Low's is able to leverage its investments in e commerce and in their professional contractor business, that could be something to look out for.
And drew, as we mentioned Dr Horden Toll Brothers, all these homebuilders building out new apartments, new homes. Does that benefit Home Depot or Lows or is that going to more benefit the likes of a whirlpool.
Yeah, so that's that's primarily more geared towards the building product manufacturers, and Lows business is more built around that remodeling market and less so on the new construction side.
So what's the.
Average ticket size of a home depot? And not recently ask is I'd never really go there? So what's like an average ticket size? And is it different between home depot and lows?
They're similar, probably somewhere between seventy five and ninety dollars. And what we've seen more recently is that that average ticket size has come down and that's one of the things that's pressuring same sotore sales. And the reason that average tickets are coming down is because you don't have the same leverage to big ticket spending those categories I mentioned earlier, like flooring, like cabinets, like countertops, Those are
some of the things that really drive that growth. And with that pullback, we've seen a moderation and ticket we're.
Talking about the sales declining for a fifth quarter in a row. When does that break out? Is it just easing cop numbers going to ultimately lead to a rebound.
So that'll be part of it. I mean, the way we're looking at the market is that the second half outperforms the first half. I think home depot and the industry can start to return to growth later this year, kind of exiting twenty twenty four, and we think once we look ahead to twenty twenty five, that's when you start to see a more normalized growth in my environment in that low single digit range. Call it.
All right, So home Depot they're primarily a US company. Did any of these companies think about opening stores outside the US?
Yeah, they have. I mean both home Depot and Lows have had businesses outside of the US. Low's recently sold its business in Canada. Home Depot operates in Mexico as well. But for both of them, they've both made an effort over the last several years to really focus on the US market. So that's been a strategic initiative for both of them, just because they see that long term growth in the housing market and that's really where they want to focus their attention to.
All Right, Drew, great stuff is always appreciate getting some time Drew reading. He's a home builder analyst at Bloomberg Intelligence. Joining us via zoom from the Bloomberg Intelligence headquarters in Princeton, New Jersey.
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At some economic data coming out. It's a little light today. We got more coming up later this week. But the I Think Index came out negative zero point four percent. The consensus was negative zero point three percent, So a little bit weaker there.
Let's break it down.
We had a negative revision as well to last month.
Dana Peterson, chief economist at the Conference Board.
So Dana talk to us about this leading index data point that came out today.
What is it and what does it tell you?
Sure?
Absolutely, while it was down again, it's been negative for more months than I can count over the last two years. But the good news is that when we look at the six month average growth rate, it's no longer signaling recession, but it's still quite negative.
And how does this play into kind of the feeling around the economy and what this can mean for market watchers, for people kind of trying to guess what the Fed will er won't do just given kind of some of the economic data we continue to be seen.
Well, the thing is that it.
Does signal that the US economy probably is going to slow, probably over the second and third quarter, maybe even starting now. In the first quarter, we did get that pretty weak retail sales data. But the thing is that the labor market is still pumping out jobs, wages are rising, so that could continue to support the consumer for some time. But I think that, you know, we are going to
see slower economy, but that also means slower inflation. So I think all these pieces give the FED cause to start looking at interest rate cuts, probably around the middle of the year.
So I mean, again, I'm looking at just this over time, and the leading index has kind of been you know, negative here since kind of I don't know, March of twenty twenty two. I mean, how often how predictive of is this index for the overall economy.
Usually the Lady Index does a really great job in terms of poortending recessions, and that's because it captures a number of factors, certainly manufacturing activity, hours work which is often linked to manufacturing activity, financial market indicators, and credit conditions, and certainly expectations among businesses and consumers and so all those things. It's done a very good job of pretending
recession this time. I think it was a little challenge because we had a surge and services activity and also labor shortages meant that a lot of companies didn't let people go, and those are things that aren't really captured in the Leading Economic Index. So maybe that's why it's been signaling for recession for a long time, but we haven't actually had one.
All right, Danna, thanks so much for joining us. Appreciate you hopping on breaking down this data point. Dana Peterson, Chief Economists for the Conference Board. Again, the Leading Economic Indicator came in a little bit weaker than expected this morning. It's kind of been again negative really since for many quarters now, so the question is what does that mean for the economy.
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R J gallow joins is he's a senior portfolio manager fixed to them at Federider Hermes.
You know, RJ, it's been a tough couple of years for you.
Fixed income guys, twenty twenty two is just brutal, and thanks to November December of last year, you had some positive games, some pretty nice positive returns this year starting off in the red yet again.
What's kind of your call here is as you look ahead in your fixed income space, well.
Good morning.
You know it has been a wild ride.
But I think if you were looking at a fixed income one on one textbook, if you told a college student reading that textbook that inflation would rise to over nine percent in short order, do you want to own bond for rest or No? And then if you told them that that inflation would fall from over nine percent to a three handle, maybe even a two handle in short order, then your answer would be different. It's been a difficult time to be a fixed income portfolio manager.
But I also think we've re established value in a market where yields had been suppressed for so long due to the subpar growth in the global global financial crisis environment. The pandemic demic unleashed many forces, the most important one was a series of inflationary forces, and the bond market paid the price. I think that prices in the past, I think that the returns, respectively are much more attractive, vastly superior.
To what we saw in twenty twenty two.
The fourth quarter of twenty three was extraordinary, but I think we're expecting mid single digit kind of total returns in a year that we face now as inflation is apt to settle its recent bubbling has been a little unwelcome, and the economy is doing relatively well. Recession doesn't seem to be in the offing, But we think that this environment for fixed income, given yields that have reset to much more attractive real positive levels, still have a place.
Investors, Rgie, what do you like in an environment that I would say continues to be relatively warm from an economic data perspective, Well, I can tell you.
How we're positioning our fixed income portfolios. I mean, generally speaking, the interest rate volatility that we just alluded to, we think the worst is behind us. We've been constructed with a neutral to a slightly long duration at various points in the last six months. That's an expectation of the fact that we think inflation will resume a downward march and the FED will ease monetary policy, lowering rates because
high positive real rates are not normal. The FED is admitted that they're restrictive in their current positioning and that won't last. If inflation continues to march down towards two percent, the Fed will feel compelled to support lower real rates as well. They don't want to maintain a restrictive policy when inflation's cooperating.
The economy has been It's.
Very true in the fixed income space, I think a lot of money has been put to work chasing credit. Why because with the strong economies that support profits, we've been a little underweight credit number one. We had anticipated we'd have slower growth last year than we did, so that ended up being not helpful for our overall performance.
At this point, though, we think the valuations have gotten very rich, so some slow down in the economy we think is apt to produce opportunities where spreads might widen a little bit and relative value will be more compelling than what we're seeing now.
So we are overweight higher grade products.
So we're still overweight mortgages for example, in our multi sector funds leaning long duration, as I mentioned in an underweight ig high yield and commercial mortgage back securities, where we think credit and valuation are not too compelling just yet.
You know r J.
I would say, up until I don't know, a couple of weeks ago, people were certainly pressing in cuts it. It's just a question of whether it was March, and then the took that off the table. Then it became if you look at the WORP function, maybe May, maybe June. Now on the last week or so, I've actually heard we had a guest com on say, hey, you have to have a scenario where the next move is a move higher in rates.
Does that seem reasonable to you in any case.
I can see why they would say that. I mean, so, remember we finished last year with this like torred fixed income rally, and we were happy about it.
You know, we were constructive on bonds.
It was great to see some positive returns which we thought we would get by the end of the year. And it really all happened in that fourth quarter. But the market overshot. The market had gotten to the point that some of the justifications I just mentioned for being constructive had been fast forwarded and baked into prices to a degree that wasn't sustainable by the data. Economic data is pretty clear, the economy is a pretty good shape.
The labor market is still strong, inflation's a lot lower than it was, but it's not low enough to justify six or seven eases that had been priced into the market, say by December of last year. We felt that data would come along to probably push back on the market a little bit more effectively than say, Fed speak pushbacked on the market. Ultimately, what we saw was that data has proven more powerful pushback than speeches from the FMC. But the FMC has made clear they aren't going to
ease preemptively. They're only going to ease if the data continues to back up justification that inflation is declining and the Fed should be normalizing policy at a lower level. What is normal policy remains a key question. Obviously, the Fed suggests three eases in this calendar year. As the median got in the summary the economic projections, they still have a long run neutral FED funds rate of two
and a half percent. I would argue the bond market, if you look at forward rates, thinks it's about one hundred bases points higher than that, give or take. I would side with the bond market on that. That means that the bond market can can rally some as the FED eases and the economy slows, but absent a recession, I wouldn't be holding my breath for the ten year to hit you three percent anytime too soon.
That's going to take a while.
Arjie, you mentioned economic data mattering. We have f MC minutes tomorrow and then initial jobless claims pm I. What data points are you looking at to get a better read on what the FED can do and will do next.
It's funny, you know, the FED looks at the totality of the data. I love that expression. But if you had to provide some insight on what you give greater attention to or greater weight, what you assign greater weight to, you know, the inflation data is fundamentally important. The FED would be very happy to see real economic data data portraying an economy that is continuing to expand accompanied by declining inflation.
That's that's the soft landing. That's what they that's what they want.
So I think the inflation data still is first and foremost the most important in the broader scope of data streams that's coming out.
Uh.
You know that said, if the economy looks to be reaccelerating, then the reason that's becomes a con or anything for the bomb market is that you would be more cautious about your expectations on inflation. Will inflation continue to decline if the economy in fact reaccelerates, that would be a real challenge for the market. That's the kind of data set that might feed expectations that maybe the Fed will tighten again.
I actually think that's highly unlikely.
I think if Fed funds rate of five and a quarter five fifty is already clearly restrictive, you don't need to tighten again as much as keep it there longer. So keeping it there longer, if you you know, Paul, you mentioned the work function before, that would translate into the work function having to move. You'd have to keep pushing out further and further into the future. You're easing dates.
So the Fed would react to data that portrays a stronger, reaccelerating economy and or sticky inflation by just holding the fort you know, stay at five and a quarter five to fifty longer, and then that will reprice markets, as we've already seen this year, as the market had to reprice to higher expected yields after the we're shooting of last year.
All right, ur Ja, thanks so much, for joining us yet again. We all just appreciate getting your thoughts.
R J.
Gallow, Senior portfolio manager, Fixed Income, Federated Hermes, joining us via Zoom from Pittsburgh, PA, one of my favorite towns, great town there and Federate one of the big, big money managers in Pittsburgh.
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We had that surge surgeon the markets in November December last year, where we had stocks just rallying dramatically continuing here into this year to a certain extent, and even in a fixed income space. You major year in November December last year. The question is did that pull some performance from twenty twenty four? Let's check out somebody who kind of does this stuff for a living. Terry Spath, founder in CIO of Zoom of Wealth, based in Malibu, California, joining us via Zoom.
So, Terry, how did you start this year?
What was your view of twenty twenty four going into the year, given that really strong finish we had to twenty twenty three.
Yes, thank you for having me on, Paul, And there was a huge bond valley at the end of twenty twenty three, and that was great, But that was on the heels of the expectations of rate hikes in twenty twenty four. And while we're not clear when that will happen, when rate cuts will happen, how many we will get, we're very confident that.
The FED is going to cut rates in twenty twenty four. And it's not just because.
They feel as though they need to, because maybe inflation is contracting, our employment is getting our unemployment.
Is getting too high. I think the FED is really going to have to do some.
Work and pencil out how expensive debt is becoming for the federal government. We've got rates that are much higher than the were three four years ago when the government was issuing five year paper. We've got a debt level
that's double what it was in twenty twenty. So those are going to be drags on the economy, and we do think that that's going to result in cuts in interest rates at the federal level and that will be a great tailwind, a continued tail wind for even just the safest bonds that you can buy out there.
Terry.
That's interesting because I feel like most times I've talked to people about a need for a cut, it is not spurred by the fact that the national debt has moved, has really picked up with the sharp move higher and interest rates just looking at the warp function, which I met reference far too often. Right now, we're penciling in just south of fore cuts this year. You look back coming into the year it was north of six Terry, where do we fall with these rate cuts and what does that path look like?
Well, I mean, I think that's a tough question to answer. You know exactly when we're going to see rate cuts. Obviously, the markets got a little bit ahead of themselves looking for six cuts ats sort of an unprecedented level, And in fact.
That was worrisome in our view because if you're having six cuts or something really wrong in the economy. That said, you know, they they raised rates late.
I think the risk to our view is that they cut rates a little bit too slowly.
But I do think that we're going to see that in twenty twenty four, and the reason for that is that unemployment is.
Low, meaning full employment has been achieved, which is one of the views of the Fed. We're in, you know, knocking on the door of two percent inflation level that they're looking for, and at you know, north of five percent, and the FED funds rate and you've got it inverted, meaning short term rates are higher than long term rates, and that that's been the case now for a while.
That doesn't make sense.
I think the Fed is going to need to uninvert the curve. And so we'll see that over the course of this year. And just to do like a little bit of math on that, if you've got a five year treasury bond that's paying four percent and you get a one percent cut, you're getting another you know, three four percent in return. So on a five year treasury you can earn a high single digit return. That'll probably
happen in twenty twenty four. And that's not a lot less than what we would expect in the stock market, but with a lot safer I guess characteristics.
So while you know, just to wrap it up, I mean, when will that happen in twenty twenty four.
We're not sure, but we're pretty confident it will happen over the course of this year that we'll see at least three four cuts.
So, Terry, if I do think there's gonna be some cuts, you're constructor for stocks for sure. Do I stick with those Magnificent seven or maybe they're Magnificent five now names, or do I try to find some performance elsewhere, whether it's small to mid caps, whether it's value.
How do you think about that?
Yeah, I mean, listen, it's hard to, you know, make a case against the Magnificent seven with the momentum that it's enjoying.
But anytime there's magnificent in front of something, you know, for an investment, it makes me a little bit worried.
You know.
I think even if you strip out if you look.
At the Mac seven, the earnings have been spectacular and that has really driven the returns for those stocks. But even stripping those out, I think you can see some strength and large cap stocks continue through this year.
And the reason for that, again comes back to interest rates. The problem the.
Trouble for small stocks, and they've been really lagging, and the trouble for that is that their access to capital is weak. Interest rates are high, and they're just you know, that's just a challenge. Whereas large cap names have a lot more access to capital, they can handle a little bit higher interest rates, and we're going to see some nice earnings in the large cap stocks, you know, high single digit type earnings along with a dividend yield.
So this is a nice situation where.
You've got a year where we can see nice gains in large cap stocks as well as kind of barbelle over to the strongest the quality treasury market and you.
Can have a really nice return in that type of a portfolio.
Okay, So Terry, with leaning into some of the bigger stocks or their industries or sectors that you prefer, you know, I think.
That there's sectors that we don't prefer right now.
The energy sector has been weak, and the reason for that is that inflation's coming down. And when we look at the commodity sector, and that's another reason why we think inflation will stay cool in twenty twenty four. If you look at the prices of commodities, they've been weak, they've been negative, and that is that's the market telling us that inflation is going to be tame in twenty twenty four. So those sort of inflationary plays are not
attractive right now. You know, the obvious choice on the other end of the spectrum are those companies that do well in a low inflation environment, and those are the ones that we've seen in technology, in the higher dividend plays. Actually, I think those have been underheld by investors, and I think that's attractive as a kind of pseudo bond play as well.
All right, Terry, thank you so much for joining us. Appreciate it.
Terry Spatha, founder and CEO of zoom of Wealth that they are based in Malibu, California.
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