Inflation, Energy, And Markets (Podcast)

Megan Horneman. What an amazing day for me to come back here to these markets, Megan, and after these, you know, two big central bank decisions, what do you make of inflation right now? I mean, um, my first thought after reading that pal hike fifty basis points instead a couple more could be on the way, is it must be

doing something to stop inflation already. Yeah, I mean, I think the biggest thing is the next couple of months will get a little bit of a better indication on it has inflation peaked and are we going to start rolling over and getting to some more I wouldn't say normal levels, but at least a little bit better than what we've seen over the past year. That's the biggest concern I think right now from an inflation story, and we just don't know that we'll get this this stuff

over the next couple of months. Next week is a big week, we get both cp I and p p I, and then we'll look again in UM in June to see how that works out. And Megan, I'm still trying to make sense of the past twenty four hours or so. Obviously that enormous rally that we saw across risk assets during the FED presser yesterday. Now to see this really

amazing give back. UM, I'd love to hear your perspective on whether you know markets misread what Pal was saying and we're seeing a rethink today, or how do you explain this hiccup. I think all of the the uncertainty that is kind of filtering into the market today was here yesterday. I just think what Pal did was he delivered a pretty good press conference, satisfying both both ends of the spectrum. So made it very clear that we were going to hike fifty basis points and it's on

the table for the next few meetings. And he was pretty aggressive on on the inflation situation, but at the same time also said that there's not any discussion of seventy five basis point rate hikes, so it was kind of right down the middle. You know, they're pretty good at doing that. But today when you came in, you

really got three different things driving the market today. First of all, this was discussed what happened with the Bank of England, and they're pretty I guess you could say pessimistic or realistic outlook on what inflation will look like this year in the UK and their economic situation that spooked markets. We got some dismal economic data here in the US as well, even though it was backward looking in part of the first quarter, it's not pretty to

see some of those productivity numbers. And then lastly, don't forget that this morning we also finally broke through that psychological three percent level on the tenure and that's something that I think the market was looking for. So that's going to take some of the the wind out of that. You know, that optimism yesterday that we had in the big rebound that we had in specifically some of those

growth and technology type of names. So this little bit of capitulation, I mean, when um, you know a central banker is honest with markets, is that, you know, peak pessimism. I think there is I would say peak pessimism, or at least some parts of the market that are pricing in the most pessimistic situation. It's rare a central bank or forecasting contraction, right or a recession. Yeah, it is, it is rare. And um, you know we didn't get

that yesterday. There still is the chance that he can orchestrate a soft landing, although he didn't make it very clear it will be difficult to do that. He also pointed out a lot of the positive aspects of the U S economy that he thinks can withstand some of

this monetary tightening. But keep in mind, the Federal Reserve and central banks around the world can only do so much with inflations out of there's certain parts of it that are out of their control, whether it's the war between Russian and Ukraine as well as the supply change disruptions. They really can't fix that issue, and that has been some of the contributory factors to inflay stion this year. And Megan, I mean, pal seemed to pretty definitively take

a seventy five basis point hike off the table. But if we think about, you know, the past few months of the dot plot of fed communication. Uh, you could make an argument that they've had to chase inflation here, and I'd love to hear your thoughts on whether we could see that seventy five basis point hike come back on the table. I think I think it's too early

to say that. I would I would say that the probability is low for seventy five basis point heights because keep in mind, not only are they going to raise fifty basis points, which I think they'll do in the next couple of meetings at a minimum, but that reduction in the balance sheet is also pretty intense as well. So I think seventy five basis points is a little bit of a stretch now, especially since most of the forecasts are expecting that inflation will have either already peaked

or peak in the next couple of months. So how does this make I mean, you're now chief investment officer at verdant Um Capital Advisors on the investment committee, obviously there, I guess leading discussions. How difficult does this make your job? With? You know, inflation is transitory, Okay, it's not transitory. They're gonna hike twice five times, They're gonna like fifty basis

points seventy five base points like constantly moving. So there's two different sizes that from from the fixed income perspective, regardless of whether or not, you know, coming into this year inflation was transitory or not transitory, we were very defensive with fixed income and we still are. That meant we reduced a lot of our credit exposure, if not all of it, So we reduced investment investment grade credit. We don't own any direct investment grade credit right now.

That's taken a big brunt of this rise in interest rates. We've been very short duration, so we're not completely abandoning fixed income, but we've been very defensive with the fixed income sector and UM. The other area that it's impacted the most has been in specifically your US large cap growth UM. That has definitely been hit because we're having this reset of multiples and multiple the the reset of the lack of multiple expansion going forward because of higher

interest rates and higher inflation. So we have instead started to look at some of these opportunities that have been given to us this year to look at some of the small and MidCap area of the market. Those areas have been beaten up the most and pricing in a lot of that pessimism. Megan, thanks so much for joining us. Megan Horneman there she is the chief investment officer over at Verdant's Capital Advisors. Let's bring in right now. I guess Jonathan Maxwell. He is the CEO and co founder

of Sustainable Development Capital. After years moving infrastructure around and investment banks on the street, he founded this firm in two thousand seven. And I think really no better time to talk to you, Jonathan than now about what you do in terms of your energy in for structure deals, but also um the current financial situation, especially considering comments from Andy Bailey. I mean, what do you make of a pound at one three? How does that affect the

business that you do? Yeah, so thank you for having me back on. And what an amazing set of numbers we've just heard of global markets, and I think it helps to look at the current market environment A is so dominated by competition for natural resources, and that's one of the key themes that's really driven the political gyrations recently. So you know, you've got huge competition for natural gas

and for for other resources. Of the world's energy system relies on all gas and Callum and I think that emanating out of the Ukraine crisis, we've now seen massive increases in energy prices which are having the worldwide reple effects.

The were itself having serious political implications for people, but the economic implications globally affecting hundreds of millions and billions, So fundamentally, I think the question that we need to look behind all of these numbers is where is the increase, whereas the pressure coming from and the pain point is really around the energy market as one of the key areas, And what are the solutions to those problems? You know, is it producing more supply or is it even looking

at alternative solutions? Well, I saw I saw Bailey talking to reporters today and saying that the biggest driver is this real income shock which is coming from the change in the terms of trade, coming particularly from energy prices. So I guess you know, the question is then, what what can be done, what should have been done previously, and what are you working on to do now? Right, we'll go back to the point that I made of

the world's energy system is all gas and coal. But the extraordinary factor, the extraordinary thing about this is that so much it is wasted thermal energy generation using oil, gas and coal involves enormous losses of energy primary energy between the point of through the points of generation, transmission,

and distribution. And the United States it's extreme. Up to seventy of energy can be lost through thermal losses by burning fossil fuels through to the transmission and distribution losses even before it gets to buildings like this, and then more energy can get lost when it gets to the point of view. So we're in immense loss of energy. Both in the United States and in Europe. It's about the same two thirds energy lost from the point of

generation to the end use. So the burning question literally is how do we replace fossil fuels natural gas in particular, and speaking from a European context coming from Russia, actually the question that needs to be asked at the same time is how can we stop losing wasting so much energy? And for every dollar we invest in new supply and every plan I've seen coming out of the US governmental or even the Diamond proposal today is about supply, new gas,

new news, new hydrogen, union, newables. It's great, it's going to take five fifteen years. The only solution that is going to work in the next six twelve to thirty six months is attacking that problem reducing energy waste? Well, that's what I wanted to ask. Obviously, you know, when it comes to producing new energy supply, possibly drilling more. Like you said, that's on a long time frame, but for the immediate future, that twelve month time frame, a

little bit beyond. I mean, what is the focus? Are people asking that question? How do we know recoup some of the energy that we're wasting or you know, do you think that the focus is too much on these immediate solutions? I think the world sorry, these medium term solutions, Well, I think you know, I think the focus for the first point of the focus has been how big this problem is. You know, this is a huge, massive challenge

to try and replace these sorts of fuels. Now, of course, the first one is to switch to alternative sources like the United States, you know, made the other countries in the Middle East for fuel supply. But there are solutions, but all of those solutions that are going to increase volumes of supply are going to take years, decades. Yes, absolutely, the question now everybody understands how big the problem is, what are the solutions for the next six twelve thirty

six months, and that's what we're investing in. And there is no solution at the kind of scale and pace needed other than decentralizing energy, building energy on site or close to where it's needed, by investing in energy demand reduction projects, not by asking people to wear a wooly squat sweater and turned down their demostatic but by changing the loss of energy use in the seventy of the world, energy that's used in buildings, industry and transport, so much

of it is wasted because inefficient infrastructure. Solution was one that I had, you know, high hopes for this water well, you know, I think go back to what I've said, and it's a very serious point there. You know, there's so much of what you hear about energy efficiencies like it's from the ninety in seventies, like there should be some sort of sacrifice. People should use less drive, less heat their homes, less seventy of energies used in buildings,

industry and transport. That's where the real problem is, and the solutions lie there. Make them more efficient, generate energy where they needed, and invest in infrastructure that reduces energy demand. But it's got to be doubly hard, Jonathan, when you see this kind of not only the gyrations and currency markets, but also just you know, the massive inflation in other commodities.

In order to get those electric cars on the road, or to get you know, some more efficient hydrogen trucking solution, you've got to build them first, and you've got you've got to have the chips. I mean, the whole supply chain has to make this so much more difficult. So let's start on the demand side. Replacing lights with LEDs, replacing heating ventilation, air conditioning equipment, introducing better software, building

management systems and controls. These are all technologies and applications that are low cost, abundant in supply, and able to be introduced incredibly quickly in days, months, certainly within the next year on the demand side. On the supply side, locally produced local generating sets, turbines, engines, solar and storage assets.

On the supply side can at least be installed on site much quicker, with much slower so much less of problematic planning applications and long term supply chain is using letter learn resource consumption. And the last point I make is a national as well as corporate issue. By using less energy for the same economic output, it improves performance. Go back to what I said at the beginning. If we're wasting most of the energy at the world, no

wonder we're unproductive. By cutting energy demand, you cut costs, improved productivity. It's better business, it's better for the country, and it's also the largest source of greenhouse gas emissions reductions. And Jonathan, we have about twenties seconds left with you, but I'm curious in this environment, where are you seeing the most opportunity for your firm for Sustainable Development Capital whatever. The last few years, we've invested two billion dollars in

investment opportunities associated with exactly what I'm saying. So these are not just nice ideas, they are highly profitable. And we've gotten an investment vehicle listed on the London Stock Exchange. We've got private investment vehicles, so that's where we're seeing the opportunities. Jonathan. Great to have you, and thanks so

much for joining us. Jonathan Maxwell there, he is the co founder and the CEO of Sustainable Development Capital, helping firms make these changes that we talk about so much, especially lately. Great to have you with us, Jonathan Maxwell. Let's get over right now to Dave Rainy joining us to talk about these insane markets. UM. He is a portfolio manager at Hennessy Focus Fund. And Dave, you know,

we can't really keep up with the moves down today. UM, it felt kind of like this on the upside yesterday. What do you do in moments of incredible volatility like this, Well, you understand that it's going to happen over a lifetime of investing. Um. The markets obviously very concerned today about the level and the rate of change in short term interest rates and also what the FED is going to do on the long end of the curve and when

it's going to start there. So I was a little surprised that the market rallied the way it did after Chairman Pale said there wasn't a seventy five basis point increase in the offering. And I'm honestly, I'm not surprised to see markets reverse the way they have this morning. And Dave's something I've been thinking about a lot is financial conditions, because we've heard Pal repeatedly stressed that financial conditions, a tightening of those conditions, that is the mechanism through

which monetary policy actually touches the real economy. And something I was thinking about watching markets just take off yesterday was that this is only going to further ease financial conditions. And if we end up in a situation like that where the feed is hiking, but you know, stocks are rallying, risk is rallying, financial conditions are easing. I mean, does the Fed have to be even more hawkish than they might have been otherwise? Well, it depends how far behind

the curve the fet is. I think it's easy to make an argument today that the set is easily twelve months behind the snugging or the tightening curve. UM. FED funds should be much higher today. A matter of fact, I think the recently confirmed vice chair the FED said a couple of weeks ago that she didn't think that we would really get to a point around neutrality until

the end of this year. So whether whether it's the FED funds rate still well below UM the neutral rate that set talks about it, you know, around two and a half percent UH, and or the fact that the Fed really hasn't begun to unwind their their nine fillion dollar balance sheet on the long end of the curve. Um, the risk here is that the FED has to overcreate because it's taken so long to start moving rates up.

And so this is I think over the last few weeks you've seen a number of cell side firms UM increase their talk about the risk of an inflation, of of a recession over the next eighteen to two years. Why because we have an unemployment rate that's already fully recovered, and so typically the FED starts sugging or raising rates when the unemployment rate is you know, four to five to six, not at three and a half. And so this is the difficulty of a soft landing in here

at this time. Well, you know what a lot of people have been worried about, Dave, is that the FED um essentially causes a recession here and then has to turn tail and go back. You know, you talked about, for example, the nine trillion dollar balance sheet. I remember when it was only four trillion and it seemed eye popping at that point, and they were gonna reduce it and they got, you know, half a trillion down and all of a sudden had to triple it. So you

know what does that mean? Well, um, I think the term that people are talking about is a growth recession. Um not necessarily a hard recession or a severe recession,

but a growth recession. And so you know, the FEDS comments UM over the last few weeks have been we'd have FED think that we can engineer what we need to do, which is bringing down UM inflation, you know, which is running somewhere between six and eight and a half percent, however you want to measure it, and we need to bring it down to the two or three

percent level um. HM. The the the risk in here is that having waited so long, they're gonna have to bring FED funds up much higher and push spending down, consumer spending down, and unemployment up. The question is whether or not they can do it just enough to begran the to break the back of inflation UM and yet still have a pretty good unemployment or employment environment. We

have an excellent employment environment today. The problem is is that wage gains aren't keeping up with inflation, and inflation is the biggest macro risk to the economy and the market today. So I'm I'm not surprised by the market's reaction today. After yesterday, we're still going to have an additional hundred, probably hundred and fifty basis points of rate increases between now and the end of the year on top of what the FED did, and there will probably

be more next year. Um. But German OWL once again reiterated the fact that the economy is strong. Employment growth is obviously very good, wage growth is strong on a phenomenal basis, and there's their their their lots of job openings. Stave, thanks, you know, Dave, thanks so much for joining supporttionally. That's

all we have time for. But I think really uh interesting points and insightful knowledge from Dave Rainey, their portfolio manager over at Hennessy Focus Fun talking to us about, um, the FED and the gyrations that we're seeing as a result of well, the FED and the Bank of England and the ECB. In markets today, let's get over to Vince Signarella joining us right now to talk about what's going on in currencies and and markets. These are global

macro strategist at Bloomberg News. Um. But Vince, I you know, I emphasized the the f X because you traded it for so long on the street, and um, the dollar strength that we're seeing right now is really quite remarkable. One of five is it against the pound? One? Uh? Sorry, one of five against the euro against the pound. Is this gonna stick? Well? You know what I will tell you is if you look at the dollar and you

look at equities, you see this in firset relationship. So for the dollar to continue to rally, we're going to need to see the equity markets continue to sell off. And I think that's actually more the question. Um you know that the dollars is reacting to this sell off in equities um and and poised to be sort of the the asset to go to in a risk of in a risk off environment, given what's going on in

Ukraine and what the FETE is doing, etcetera. So it does appear that it will it will last for a little bit longer as we as we take into account what the FETE is doing. But you know, interest rates alone aren't what's aren't just what moves the the FX market. You're looking at the proximity of what's going on in Eastern Europe to Europe, and I think that's what's also weighing on European currencies and that's helping a dollar out

quite a bit. And then I am dying to get your thoughts on the pound, because what a move in sterling it's down to its lowest in two years versus the dollar looks like off two percent that pair. Uh. That's of course after the Bank of England issued the most gloomy outlook of any major central bank this year. How unusual is it to see the currency fall after its central bank actually hikes rates. Well, you know, that's actually a really good question. It's the expectation, obviously, is

currencies rise when the central bank's raising rates. But in the case of the UK, um, because they do import a great deal of product um. When there is inflation globally, um, it's it's the wrong kind of inflation. It's the wrong kind of inflation for every country really, but for the UK it seems to weigh a bit more um. And so this this type of phenomenon, when you see the UK raising rates, um, it doesn't actually help the currency.

During that time when Sauros was attacking the pound, the central bank raised rates uh three basis points an attempt just just a day before the pound devalued in an attempt to stabilize it and the pound went l It was just seen as a as a feeble attempt to try to rescue the currency, and when the markets see that and think that the banks are reacting, uh in only a way to try to salvage a bad situation.

They generally try to push them as hard as they can to see how bad a situation they can make for the central banking And that's what's going on now, I think. Yeah, And of course it's all relative, right, with all of these central banks being pretty gloomy. Powell also acknowledging that his moves are going to cause pain. Um, and we've heard, you know, worse from other Federal Reserve, from other f o MC voters. How how mobile I wonder, especially since you bring up sore is global capital now?

Is it more mobile now than it was then? Oh? Yeah, absolutely, I mean, um, you know, the whole advent of the electronic trading platform situation created almost instant mobility for particularly the currency markets, especially the currency concerts um where you know, back in the in the Sorrow Stays, most of the

transactions were done by voice brokers. I actually was one at that time, and there were there were probably five people like me who could actually count, and so that actually slowed down the number of transactions you could do. Now that it's all electronic and computers are doing it for everyone. You know. The speed of the moves are just incredible. We saw it just the other day with its supposedly a trade or at Citybank London with a fat finger, you know, crushed the equity markets in Europe.

I mean, that's how quickly and how fast money moved now because of the electronic trading systems and Vince. Obviously, we've heard so much about the strong dollar in the past couple of weeks, the Bloomberg Dollar Index I think it was last week or the week before, rising to its highest level since. Wrapped that into all of the high profile warnings we've gotten about a recession coming in

the next I don't know, year to two years. What would that mean for the dollar If there is a recession state side, well, one of the one of the issues, and it's not just for the dollar, it's going to be for the a lot of the world especially. I think this is going to impact emerging market currencies even more than the dollars. If you have that situation where inflation does not ease, it doesn't appear to be at the moment, and you have recessions, It's not going to

be just the US. It's going to be a global recession and then you have this sort of stay inflation feel two global markets. Um, in the past when that happened, you had a similar situation what's going on in the UK in the seventies. The dollar was under a great deal of pressure because of that situation. If it if it's a if it's a regional thing, which is just really in the US, then that's what would happen. A

dollar would roll over. But I'm guessing that this is going to be more of a global event, and so the currencies that are going to suffer the most are going to be the exporter of currencies and the emergy market currencies. So the US once again is going to

be the cleanest dirty shirt pretty much. Yeah, it's the you know, it's it's one of those things where you just, you know, when people say what people have been buying stocks for the last fifteen years and saying where else you're gonna go in the currency market, That's that's kind of the situation. Unless some one area steps up, uh, and it could be China if they turn things around. Um, there's really no other place to hide. Vince, thanks so

much for joining us. Vince Signarella. There is the global macro strategists for Bloomberg News. Thanks for listening to the Bloomberg Markets podcast. You can subscribe and listen to interviews an Apple Podcasts or whatever podcast platform you prefer. I'm Matt Miller. I'm on Twitter at Matt Miller three. On Fall Sweeney, I'm on Twitter at pt Sweeney Before the podcast. You can always catch us worldwide at Bloomberg Radio