The Market Isn't Correctly Pricing In Climate Risk, Samama Says

It is scheduled for tomorrow at the Crown Plaza Hotel here in New York City, and one of the participants is our guest, Fred Samama. He is a deputy Global head of Institutional and Sovereign Clients at a Mundi And for those that may not be familiar with the Mondy, I believe it's the largest publicly traded asset manager in Europe and it is as out of the combination of the asset management business of credit agricole and go ahead and suck and yeah, well, okay, you can tell us more.

Fred Samana, thanks for being here. The reason I wanted people to understand about a Munday just a little bit is because they reached they purchased pioneer investments I believe from UNI credit and so that has really kind of changed the profile of a mundy to something that most Americans will will sern Louis know about. So I'm wondering if you could explain your company's dedication to sustainable UH finance initiatives and what are you going to be talking

about tomorrow. Yes, good morning, and I'm very glad to be with you this morning. Um. Sustainable investment is part

of our DNA. We strongly believe that when you invest over the long run, you must integrate these e G criteria in your investment process, not only to have a positive sorry what kind of criteria e s G. Tell people what that is and ther Montal Social and governance criteria not only to have a positive impact on society, but to manage long term oriented risk as well, because we think that this criteria are helping generate returns over

the long run. So this is this is a crucial point because when people talk about sustainable investing out of the goodness of your heart, people in the investing universe, they want to feel good about themselves with their eyes glaze over because it's not their job. Their job is to manage risks and their job is to get returns. And so what you're saying is that you are showing people how they can hedge against some of the economic risks of climate change by investing in certain kinds of companies.

Can you give us an example of companies that investment managers would invest in with an eye toward climate change, and can you give us a sense of what returns have been like to date. You're absolutely right here, we are talking about generating um returns over the long run. Conqutely, we have in emted for two large European investors a P four on low carbon indexes. These indexes are a

way to decabonize passive investments instruments. It's a way to reduce climate change related risks without changing market returns of other short runds. How because we do a screening a sector per sector, and we will look at the cabin food print or how a company is exposed to climate change related risks. Concrete example that speaks to everybody. If

you take the example of the auto car makers. On the one hand, you have a company named volves Wagon developing softwares in order to to to lie on climate change. On the other hand, you have corporates like Toyota or Tesla developing cars that are anticipating a shift towards EVS. So you can see that for all sectors you actually

have managements either denying what's happening or autist painting. And we strongly believe that it's better to be to be invested into the latter ones than in the former ones. And the good news is that investors, having started the process of using the low carbon indexes, have outperformed before a for beating the standout indexes. And now this technology, having been developed in Europe, is now spreading around the planet.

Calster's New York Command Right Tirement Fund, New Zealand Superagnution Fund, they're all using this technology in order to reduce their climate change related risks, with that impacting their returns or

the short run. Is that a strategic decision on the part of these pension funds that they've decided, I mean, as you mentioned, whether it's the New York Common Retirement Fund, Unilever's corporate pension fund, is that a strategic position that they stake as well that they must pay attention to these issues. Absolutely. To take a concrete example, it doesn't really even matter whether the money manager believes the this is something good to be done out of the goodness

of everybody's heart. The mandate from the manage, from the from the people who actually aren't responsible for the money, the pension fund managers. They are telling their potential vendor, Look, this is how I want you to invest the money. Correct. Concrete example News New Zealand Supernuition Fund and we have been speaking to them for four years on this topic. They have announced a couple of weeks ago that the West switching ten billion dollars of the equity funds towards

low carbon indexes. So, to make a long story short, it's not to look good in an annual report, it's not to be on any you know, pictures at the UN assemblies. It's really because they believe that here they're facing a market figure markets being shot and oriented. They don't price correctly the risks associated with climate change, and so it becomes their fidusual responsibility to arn aerlie those

risks and to try to reduce their waitings. It's exactly the stage of mc county, the governor of the Bank of England says, if you don't integrate climate change rootide risks while being a coupled punchion fund manager, you're breaching

your fidushery responsibility based on worlds. Well, Fred, you know, I'd love to get your sense though, because there's been there's been some pushback about e s G funds and even carbon neutral funds, basically saying, how do you really determine that a lot of companies can kind of manipulate how they look, but it doesn't really matter that it's

not really reducing their carbon footprint all that much. You know, on e h G um, it's slightly different from cabin e h G is differs from one country to the other one. To take a contricrete example, if you talk about e s G in Japan, it will be all about governance. If you talk about e G in China, it will be all about climate change. When I'm trying to say here it has this world conveys different meanings depending on the country is you're in on climate change

is different. The cabin food print of a Chinese, Japanese, or European or US corporate is either same one. How polting you are or are you exposed to strongded assets, meaning you have asset that could be kept on the ground, So it has no um I would say moral values behind. It's all about materality and risks of a long run. And then for that we have particular pictures which provide us having an allied that for for more than one decade.

You know. Just just briefly, I just wanted to mention because we were talking about the New Zealand Superannuation Fund and at the time, I believe was Adrian Or at the fund who who said that they are still going to invest in fossil fuel uh companies, but that they don't feel that they're being adequately rewarded for the risk. So to your point, and they said they reduced what the billion dollar fund exposure to emissions and reserves by

around twenty percentage. Yeah. That the point that the point is not to get rid of fossil fuel companies. The point is not to disinvest. Equation is within each industry, which corporates our well positioned facing this this shift of society. Yeah, Fred's mama, thank you so much for joining us. I we could talk to you all afternoon. This is actually fascinating and you're raising a two billion dollars in funds to create the largest green bond fund for emerging markets.

Fred's mama, Deputy Global Head of Institutional and Sovereign Clients. For a MUNDI let's turn our attention now to what to do with your money and some of the world strategies that you might employ. Brad McMillan is the Chief Investment Office for Commonwealth Financial Network and he joins us here in our eleven three oh studio. Brad, always a pleasure, Thanks for being here. I'm wondering if, if maybe you can describe the importance of let's say a non style

or uh not fixed income number. And this has to do with household income, because I was reading a note that you put out a couple of weeks ago, and it had to do with paying attention to median household income in the United States and what that would mean

for investors. Tell us about it, well, the point of the piece was to talk about the We talk about the stock market records, but there are underlying records that are much more important when we see where the stock market is likely to go, and one of the most important ones recently has been household income. Media, household income, the household income half the people make more, half make less, has actually hit a new record for the first time

since nine Now think about that for a minute. There's there's some good news in there, and there's some bad news. The bad news is it took almost a full generation to hit a new high. The good news is that we have hit a new high, and we've done it without a ton of economic growth. So that being the case, if we look forward, if we see growth accelerating and we may ellen the rest of the year, then that actually would mean that wage growth could take up, and

actually income could get even better. People could spend more, and we could move into a positive circle. That would be great for the market. So, Brad, it sounds like you're bullish right now over the short term, I am. I think the markets actually going to do pretty well through the rest of the year. I think the signs for at least at the start of the year very good.

I guess I was just gonna In that case, do you perceive that companies will spend some of the money that they have either raised through bond issues or because they've just amassed large cash piles. Will they start spending that on something other than share buybacks and dividends. Will they spend it on wage increases? Will they spend it on technology to make their businesses more productive? I think they're gonna have to start spending it on wage increases.

We're already seeing signs are starting to invest more and that actually is the key to future income growth, which is increasing more or productivity. That's when one of the problems companies are running out of bodies to throw with the problem. Now they're going to have to start buying equipment, and that's going to be another positive for the economy. Brad, At what point are we going to start seeing inflation. We're gonna start seeing prices rise, We're gonna start seeing,

as you said, wages increase. That will lead to higher benchmark borrowing costs. And Alan Krueger of Princeton was on Bloomberg Television earlier and break. He was talking about how he could see a ten year treasury yields rising to four percent pretty quickly if we start to see that,

Do you agree and how disruptive would that be? I do agree with that, because right now we've had very little inflation, and the assumption is what's never going to show up I think that when it shows up, it'll show up faster than people think, and that could well be in the next eighteen months. Now that that's the case, And what kind of inflation? What are we talking about? Energy, food, home prices? What kind across the board. One of the reasons we've had low inflation is because wage growth has

been so constrained. Wage growth feeds into everything else. We've had a number of things getting cheaper and cheaper. We've had cars. Globalization is continuing to work its way. But why is that connect? In other words, maybe I'm getting the wrong. Wages have not, as you said, waited a long time for wages to come back. Wages rise, but that doesn't necessarily mean the prices are going to go up.

I thought inflated. One of the reasons that inflation has been held in check is because every time you turn around, someone else's vent invented the same thing for less money, deliver it to you faster, like an Amazon for example. Well, you can look at it a couple of different ways. You can look at it as a company and say, if I have to pay more wages now, either I'm going to make less money or I have to raise prices. That's where price increases come from, from a cost in

the inputs or because there's just not enough capacity. Companies say, you know what, I can't make enough to sell all I need, so I'm just gonna raise prices and match my production with the demand at the higher price. That being the case, you can see those dynamics start to set up in place, and that's what would generate the inflation. Brad.

If if you could see ten year treasury yields, which are now about twenty basis points over two, rising to four percent over the next eighteen months, conceivably, if we start to see uh sort of increase in wages and inflation, what would that do to stock markets? Well, it would do something bad to the economy, and it could do something worse to markets. I mean, the one thing that really causes a stock market pullback a big one, is a recession, and rising rates is one of the key

indicators of a recession. If you look at all of the major indicators. We're fine right now. We're fine for the next twelve months or so, but sometime in the next couple of years we are going to have a recession, and that could be one of the causal factors. So in other words, if things accelerate meaningfully more, that will put us much closer to a recession. It could. Yes, are you calling for one? And what two years? I think? I think the next eight to twenty four months. It's

quite possible. I do a monthly I track significant factors on my blog every months. Right now, we're still in the green light zone, but you can actually see the decay and for example, hiring trends. We're on a downward path. Things are slowing down and somewhere in the next year or two that can hit The trouble is that is that hiring slowing down because it just quickly because the technology, or not just because of the economy, just because we're

running out of people. All right, that's the simple part. We don't have enough workers. Brad McMillan, thank you so much for joining us. Brid mcbillan, chief Investment Officer for Commonwealth Financial Network, overseeing ussets of a hundred and fourteen billion dollars and based in Waltham, Massachusetts. Uh. This is this is a very important issue and you raise an incredibly interesting point. Even though investors have pretty much dismissed

the idea of higher rates. Some are still saying they are near. We want to focus now on the aftermath the economic sequences of natural disasters such as Hurricane Irma Hurricane Harvey. Joining us Brian Eger, a senior Gaming and lodging analyst for Bloomberg Intelligence. Brian, thanks for joining us.

Here's our studio. UM. I understand that if Florida had the hospitality and tourism industry in Florida is worth about ninety billion dollars UH, and the storm took a direct hit on that, and I'm wondering if you could tell us the effects, but also how outsized are the ramifications. Is it unusual because we know hurricane season exists and we know that you know, many businesses try to prepare for it. So Florida is about the twelfth largest hotel

market in the US in terms of room supply. It's also a very big cruise deployment market, as you might expect about about a annywhere from a third to a half of these cruise lines capacity is deployed in the Caribbeans. So the potential for disruption exists. Fortunately, I would say with respect to Irma, UH, this storm could have been

far worse in terms of its lingering impact. You know, I have to wonder just in general though, with the clean up, with this unpredictability, with this feeling that one hurricane after another just keep slamming in the same area, is there going to be a long term dampening effect on demand for some of these cruise lines as well as frankly some of the hotels that are in on the coast in Florida. Well, I think for cruise lines you have to pass between disruption of cruises versus damage

to cruise ports. Because cruise ships are are maneuverable assets. You can redeploy them. So you know, the twenty five or so kore imports resssessments I've seen, or about a dozen or open, some other half dozen or closed. The rest are pending reassessments. Now, there were a number of cancelations. By some estimates, about ten cruises were canceled, ten were delayed as a result of this, and that does result in some uh necessary maneuving on maneuvering on the part

of cruise lines. But you know, the difference you have to pass between is what happens with the ports now, for um, for cruises in the Caribbean, once possible beneficiary in a in a perverse sense might be Mexico, the Mexican Yucatan Peninsula. There are three cruise ports there which are likely to see more arrivals because a lot of Eastern Caribbean cruises which might be canceled they're disrupted, might

get redeployed there because considerably less damage in places like Cosmo. Well, I understand that the tourism officials in the Caribbean are still trying to assess the damage that you've certainly got situation where Royal Caribbean said the future sailings aren't even going to stop at the ports in Saint Martin, St. Thomas or Key West until the islands have recovered. That's

exactly it is. As you know, of the or so odd some odd ports in the Caribbean, um as I said, about half are open, but the rest and they're in some transitional state of reevaluation and UH and damage assessment

or actually being closed. And that does UH push a lot of that traffic that might have gone to the Eastern Caribbean to the Western Caribbean, some very desirable destinations they are, no doubt, but that is a source of disruption and if you're on one of those cruises that got canceled because of the last hurricane UH, you would get a full refund and a partial credit towards the future cruise. So there are some ways that cruise lines try to make it up to affect the passengers in

terms of their policies. Have we already gotten any guidance from Carnival, Royal Caribbean, Norwegian Cruise Line about how much of a hit this will cause UH to their third quarter earnings? We have not yet, although Carnival will like report their earnings within in the next two weeks, perhaps next week, because they just finished their August quarter. UM. You know, very often in some past storms that disruption in terms of an earnings per share impact has been

relatively manageable. I mean, when Hurricane Sandy came about in it affected um UH annual earnings per share for companies like Royal Caribbean by about two cents per shares. So there might very well be some impact in terms of UH cost of issuing vouchers or some disruption or operational costs,

but historically pretty manageable. Well, but you know, there's a difference between the immediate costs and say the cost of not really being able to land at a port, and we're not really having clients that want to passengers that want to go to an island that has been decimated by a hurricane and doesn't even have lodging or things to see, right, I mean, and is there some kind of sense of what that impact could be. We don't

know yet. I mean, certainly for Eastern Caribbean ports, for the US Vision Islands, for Martin's Islands like Save Martin, which are popular cruise destinations. We have the reality of ongoing economic and infrastructure damage and damage to ports. Uh and I said, just as some of the Chinese cruises were rerouted from South Korea to Japan, so some of these Caribbean cruises might have been rerouted from the Eastern Caribbean to the Western Caribbean. It's not ideal, um, it

happens every year. I think part of the issue will be, or what we're watch is whether or not there will be more hurricanes for the remainder of this season, which could further either disrupt cruises or cause damage. But at least for this storm, as bad as it was, things could have been far worse. Brian just to get trying to get an update the Keys, the Florida Keys Monroe County UH, saying that there's no fuel, no electricity, no running water, no cell service, general aviation at key West

International as well as Florida Keys Marathon International they're closed. UH. Any estimates how long it's going to be before this is up and running really don't know. I will tell you that if you look at a one week impact, for example, that the hotel industry centered or not Miami, there was indeed an effect. If you look at aupans rates or revenue per available room, those metrics are down thirty to thirty five percent year of a year for

the weekended um UH September ninth. Now, of course if you roll out over a four week period, things are pretty flat, but certainly the hotel industry there no doubt took a hit. Brianger, thank you so much for joining us.

Brian Eger, a senior game and lodging analysts for Bloomberg Intelligence, joining us here in our Bloomberg eleven three oh studios, and we have seen a hit to those shares of cruise liners, and there's a question of whether they will rebound as people reassess there is a growing chorus that perhaps markets are too sanguine about this. I want to bring in Jack Ablin to weigh in on this. Jack Avelin as chief investment Officer of BEMO Private Bank overseeing

about sixty eight billion dollars of assets from Chicago. Jack, thank you so much for joining us earlier in the program. Brad McMillan of Commonwealth Financial Network, so that there was a real likelihood that benchmark treasury yields could rise substantially over the next eighteen months to two years and spur recession. Do you agree, Um, You know, we are in that point of the business cycle where we're kind of reaching that full capacity, and so perhaps moving toward a higher

rates slower growth in the future is certainly a possibility. Jack. Can I just turn your attention to obviously, this ongoing issue of North Korea. It's nuclear ambitions and test firing of these ballistic missiles. I understand it's terrible, and you know, world leaders are spending their time trying to figure out what to do about it. If something untoward were to happen, Why would that be such a direct connection to what happens to the stock market, Well, you know, it's interesting.

I did write a note about North Korea this morning, Pim, and my focus is, let's not worry or now, let's not focus so much on Kim June un. Let's let's

look at President she. I think it's really China certainly holds the cards here, and our bottom line is, as long as China is concerned, not concerned, we shouldn't be concerned because really, in many respects, North Korea and China share a number of political priorities, and as long as Kim John un operates within those shared priorities, China is gonna go ahead and let him flap his arms and

do whatever he's gonna do. Should he start to move outside of that realm, perhaps if China sense that he would launch an unprovoked attack, then I think they would intervene. But for right now, I don't I don't see uh, I don't see that happening. So right now, what is the biggest concern as far as disrupting this record rally that we're saying us stuff. I think it's really just gonna be um. You know, obviously you know those unknowns are outside my scope, but I will say, you know

it's going to be monetary policy. The fact is that it's been easy policy and quantitative easing that got us a lot of the way from two thousand nine till where we are today. Uh. And it's possible that quantitative tightening and a reversal of those moves. Um, could you know, UM at least pamp some of that enthusiasm that we've had. Well, and Jack, I guess the FED is made very clear that it's not going to raise rates at a at a fast pace unless they see some material economic growth

and inflation. In particular, what are the chances in your mind that we do get more material inflation, more material wages, wage increases that would lead to a more rapid rise in benchmark borrowing costs. Yeah, I would say, Um, you're right. Um, you know, on paper, I would say the Fed does not have enough evidence currently um to really start to restrict things race rates or really um reduce the balance sheet. Um.

Certainly not both. But given that that m chairwoman yelling expects that she will not be reappointed, nor she may not even take the position if she was offered it, Um, she may want to do kind of a what what Bernickey tried to do and just create some closure on a strategy that she uh. Maybe she didn't open up herself, but she certainly perpetuated, So there could be a motivation to start something that, you know, all other things being equal, she wouldn't have done on her own. Um that said,

you know, I think that you're right. I mean, we could see some UH inflation pressure down the line. We haven't. I would have expected to see, for example, three percent wage growth by the end of this year, and we're not close to that yet, but eventually it will happen, and that's part of the business cycle. So I expect that, you know, we can continue on this nice, steady path higher probably through UH the first quarter, easily into two thousand and eighteen. Then as um some of this inflation

data comes through, we start to see some higher rates. Um. The second half of a team could be problematic for equity investing. Does Jack Avelin believe that US equities are expensive? Yeah, I believe they're expensive. The only lens you can peer through too and squint to make them look cheap is through the lens of bonds. If you take, for example, the earnings yield. Historically the earnings yield, which is just the reciprocal of the pe ratio and the triple B

pen your bond yield have been identical. They moved in tandem on top of one another for decades. That was until two thousand nine when they split apart. Right now, the earnings yield is about one point six percent higher than the earnings than the triple B bond yield. So perhaps for those investors who are looking for some rationale for jumping into the market, that would be it. So Jack, it sounds like you think bonds are the most expensive

part of the market right now. US government bonds in particular, I do. I have a very difficult time with it. Really, the only um real use for them is is really as a hedge. You know, if you felt that, you know this is our this is our main scenario. But if we're wrong, you know, we want to have something to offset. But you know that really hasn't hasn't played out.

I will say interestingly, Um, this last quarter, high quality corporate bonds outperform high yield bonds, So we may start to see a turn in the credit cycle, and that tends to go earlier than equities themselves, And that's something we're just starting to watch although it's sort of interesting because in the latest Bank of America Mary Lynch Fund Manager survey for September, they actually showed that there are a greater number of investors who are going underweight investment

grade in going more heavily waited towards high yield. So it doesn't you know, it sort of means perhaps that people got a little overly enthusiastic with investment grade and now they're sort of shifting back, which is I thought it was kind of interesting. Yeah, I mean that that could be, Like I said, it's it's not enough of

a trend yet. Um, if we start to see high quality bonds continually outperform high yield, and that's possible given that where credit spreads are currently set, I mean they're so low, Um, that could be an indication. And it was. I mean, if you go back to the last financial crisis, we saw credit spreads widen four quarters before. Uh it was the fourth quarter two thousand seven, so it certainly gave us a long warning period for two thousand and eight.

Thanks very much for spending time with us. Jack Avelin is always chief Investment Officer be MO Private Bank, helping to manage approximately sixty eight billion dollars of client assets. Based in Chicago. Thanks for listening to the Bloomberg P and L podcast. You can subscribe and listen to interviews at Apple Podcasts, SoundCloud, or whatever podcast platform you prefer. I'm pim Fox. I'm on Twitter at pim Fox. I'm

on Twitter at Lisa abramowits one before the podcast. You can always catch us worldwide on Bloomberg Radio