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This is the Bloomberg Surveillance Podcast. I'm Jonathan Ferrow, along with Lisa Bromwitz and Amerie Hordern. Join us each day for insight from the best in markets, economics, and geopolitics from our global headquarters in New York City. We are live on Bloomberg Television weekday mornings from six to nine am Eastern. Subscribe to the podcast on Apple, Spotify or anywhere else you listen, and as always on the Bloomberg Terminal and the Bloomberg Business app.
Stocks cutting into gains of more than seventeen percent for this year. Michael Purvis of Taubuck and Capital Advisors writing, the biggest threat to the S and P next year is the AI spend will be considered not to generate compelling returns. This means multiple contraction for a key part of the market.
Michael joins us. Now, Michael, thank you so much for being with us. Happy New Year to you.
Let's start with this idea of how much AI really upheld the rally so far this year.
Can you take a look back and give us a.
Sense of how dominant that theme was and how that might be poised to shift in twenty twenty six.
Well, Lisa, you know, if you look at the large tech relative to cyclical value pair over the last not year, but the last six or seven years, that line goes up to the right, just like the overall market does.
It's sort of one and the same.
And what I've argued for years now is that.
The big tech rally is kind of the broader SPX rally.
There.
There's just consistent of performance in almost every year, except when you have bear markets like twenty twenty two, and even that it wasn't really that ferociously sold off there. There's very good reasons for that, which is that they generate not only superior quantity of earnings, but the quality, meaning the volatility of those earnings is remarkably low, and so compared to cyclical value earning streams, they're just a
lot more superior. What I'm really the question I think that I have as we look into twenty twenty six is that you have these giant companies you have you know, Microsoft, Meta, Amazon,
and so forth. All of them are very distinct business models, and many of these companies are really now converging in a very massive way on this AI spend, which is that they're taking their business models from a very distinct place, almost too somewhat similar place in some respects, right you know that, you know, we're talking about a trillion dollars of cash out of four companies over the next twenty
four months here there. So just to finish the thought, he said, I think the question that I'm really asking is that if the return on invested capital is not there, and if you look at the free cashlow yield on stocks like Microsoft, there are you know, record lows right now, so the price earnings and earnings growth ratios looking very compelling.
The free cash flow is the problem. And so it all works if the returns are there, but if it's not, you're going to see a real rerate in the big tech pillar of the market.
Is there a signal that you're getting, Michael, just to sort of build up this idea from the race of some of the acquisitions that we've seen to close out the year, whether it's in Vidia with Grock, whether it's what we saw with Meta and that Singapore based company having to do with AI, whether it's what we see right now with Nvidia potentially acquiring an Israeli based tech company.
I mean, they're using their free cash flow to do something.
What's the signal for how much this is a shift and narrative going into twenty twenty six.
Well, yeah, I mean I think there it does remind me of a little bit of nineteen ninety eight, nineteen ninety nine, two thousand, when telecom and tech we're converging and frantically there was frantic deal activity and frantic cap x activity as well there and of course there were some ultimately great winners and there was a lot of
ride hosts as well. I don't think, you know, like we talked about foam in the stock market, and I think there's fomo in the c suite here too, Which is that all these you know, all these giant companies are frantically trying to position themselves, uh, you know, for the long haul here, and in that process you're going to see a lot of narrative rewrites going on and a lot of people speculating as to who are the
winners and losers ultimately are? You know, I go back to, you know, three years ago when Google had that all hands on deck meeting because they were frantically behind an AI and open Aye was going to clean the clock, and you know, here we are, and that narrative seems to have just twisted on its head here. I still think it's still so early in this game that it's very hard to declare, you know, where the ultimate.
Winners are going to be.
I mean I think that, you know, I talked to a lot of tech executives there that are on the fort on the front lines of AI, and they are just sort of bewildered. I have the stuff is going to shake out, uh themselves, and they're in this market every day.
Well, to me, this really goes to the question of how do you broaden out what does it mean to diversify. Everyone who has come on this show to end the year has said that diversification is the key for next year. We've seen that in the precious metals trail, though it's arguable that that's not exactly diversification, particularly like when it comes to silver. How much do you see equal weight as being true diversification in this type of backdrop.
Well over the really since last January, I started pushing this narrative that you know, as much as I love the big tech story as the core part of the portfolio, if you want to rotate and diversify, not to go
into US cyclicals and values. So obviously there's a lot of specific sectors and specific stocks that have done incredibly well this year in the United States, but thematically at the index level, what I'd advocated for was a rotation into European equities, which were sort of the ugly ducklings.
For so long, and some respects they still are.
But I think where I am right now is that, Look, you know, we've got the SX five I call it the SPX for the European continent that has outperformed most every US index in local terms, almost caught up with the MAGS seven index, and on a currency j justment basis, it's blown away most of the US major equity index. So looking forward into twenty twenty six, where I'm at right now is I think that's going to happen. It's
a very different set of dynamic. So I think, look, if the Germans really are going to start of committing to the stimulus, and I think that's happening, It's hard to tell, but that is sort of a massive and
a very different type of force than say the AI force. Right, you know, when You're talking about this pretty significant economy really pushing stimulus to a place and it's never been They have the fiscal space to do it, unlike many other sovereign nations in the developed world, and that will be really resonate there.
Meanwhile, I think.
For the US colclal and value trade, well, there's still a lot of I think sentiment tied to that. So if you are concerned about the tech I don't want to use the word bubble, but you know, the tech theme, the dominance of tech them if you're sort of worried about that kind of not really working next year. To me, I think it's it's I sort of see Europe as
as a pretty good place, with a caveat that. The rally this year has been driven largely by pe expansion and the relative tope from Europe to say their US counterparts are in a less compelling place than they were twelve months ago.
Stay with US multplempeg's Survinmon's coming up off to this.
Investors are waiting the last read unemployment in twenty twenty five. Java's claims do at eight thirty am Eastern for the holiday shortened week.
Michael Reid of ARBC capital market.
It's writing we maintain our view that tariffs will weigh on the labor market and put upward pressure on inflation, reinforcing that the US economy is experiencing stagflation light. Michael joins us now in the flesh in New York. Thank you so much for being here on this New Year's eve. I'm just wondering, from your perspective, stagflation light, what does that mean? And why do you see that taking hold in twenty twenty six?
Sure, and thanks for having me.
So what we are expecting is generally below trend growth that means below two percent, and inflation that remains uncomfortably high, really in that core space. So when you think about some of the dynamics, and it's not just tariffs, I should add, we just think it's going to be really hard to get back to two percent, even if you take tariffs off the table.
Does it seem like FED officials really care? I mean, based on the meeting minutes, there was a priority on the labor market, not necessarily inflation.
I think they do care.
And what's really interesting is if you look at what they've said, especially in the last meeting, you know, you include the fact that they view tariffs as being traned. Yet they're starting to take that cautious approach. They think they've gotten to a place that is much more closer to neutral. So they're concerned about the inflationary pressure not just from terrafts but coming from other places. And we think that's showing up in the services space in particular as it relates to labor supply.
So where exactly are you seeing this inflationary pressure. I can hear Neil Datta in my head saying, look at housing, you're not seeing any inflationary pressure there. In fact, the housing data yesterday we did get some signs that maybe is picking up, but otherwise you've seen pretty much flat home prices across the country. At what point do you see some sort of inflationary pressure that could be sticky.
We see it in the wage space, and you know, when you think about some of the dynamics that we're seeing in terms of supply, we have immigration that's falling, we have retirements that we think continue to accelerate. At the same time, your demand for labor, while slowing, still hanging in there. So what that means is you're going to have a situation where the need for workers is
still there, it's just showing up as replacement demands. So payrolls aren't going to look great by any means, But we are going to expect an environment where the unemployment rate remains low and we think at plateaus around four and a half percent for most of this year, and that just means you're going to have an environment where wage pressures, say, elevated.
Yeah, so this is definitely the truth. When it comes to healthcare. We've seen the bulk of hiring so far this year in healthcare. We're getting older, are we still need to be taken care of? This is the raise of question about other sectors and what that means about the strength of the labor market. I mean, how durable is some of the strength that we've seen if it is concentrated in a completely recessioned proof area like healthcare.
I mean, healthcare is a big one.
So again going back to this demographic story, you think about the sheer size of the population that's now over sixty five. You have about just one undred and forty million people in the workforce right now who are fifty five plus, so they're approaching that retirement age. That's who we're really focused on. Those are theolks who are going to continue to use healthcare services across the board. So that's a sector that we expect both will continue to hire at a very healthy clip.
Fifty to sixty.
Thousand jobs per month over the next five years seems very reasonable to us. And in addition, you do have that price pressure, so when you think about some of the factors impacting prices in terms of tariffs, but as well as supply chains, that's going to continue to put upward pressure on services. So for healthcare, which is a very service intensive type of sector, there's very little relief that we expect to see there.
There's a theory that the FED is trying to run the economy hot to keep people employed as we get this structural shift with artificial intelligence, that as people become less necessary, you want to keep as many people as possible employed before we get to whatever that next future is.
How much credence do you see in that?
Do you think that that is wise for them to take that approach given some of the cannibalization from human jobs.
I mean, look, their dual mandate is low prices and stable employment, So I think that aligns to what they're trying to do in terms of the mandate.
Now, the outcomes for AI are still very early.
Could we see a productivity boost, Absolutely, we expect that. Do we expect to see in twenty twenty six, Not so much. But when you think about some of the dynamics that are going on right now over the next four to five years, when you account for that retirement boom that we continue to see and the slowdown in immigration, you're going to need more workers. And if you don't have it coming from the outside that immigration story, AI is going to have a very very important role to
play there to help supplement the falling labor supply. So that could help offset some of those inflationary pressures coming in the wage space.
Just in a shorter term TIMESPRAE.
So we are going to get some real data in Manuary that people think will be some cleaner data points to look at when the Fed meets on January twenty eighth. What are you expecting when it comes to both CPI and of course the jobs report from the month of December.
So we're going to get a lot of mixed signals here. Again, even in December Q one for the jobs report, you know, like the Fed, we expect that the number will be you know, look okay at face value, but you have to subtract out the benchmark revisions that are going to come from QCW. So already you have to take out fifty to seventy thousand jobs per month based on that revision. So that's a big part of I think how the Fed is thinking about this, especially as it relates to
that break even pace of employment. That's why we've seen that unemployment rate rise despite rather healthy job job gains from the Paywell report in terms of CPI, you know, for December, we think we continue to see kind of a modest slow down in terms of the pace, but it's really t one that's our concern. We've seen these seasonal quirks, notably in January, and we think that could be more pronounced as tar pressure starts to add up.
Stay with US multiple INPEX Savana's coming up off to this.
Enhanced Affordable Care Act subsidies are so to expire tonight, sending premium skyrocketing and impacting coverage for millions of Americans. Congress failing to find a resolution before the deadline. Joining US now is George Pollock of Signal Global, Can you just give us a sense and great to see you, George stepping back, how much of a focus this is for Republicans to keep some sort of healthcare solution. How much it is a popular thing for them to do heading into the midterm elections.
Well, the biggest issue for Republicans is healthcare. Is are the one issue where Democrats pull better than Republicans.
This is the.
Issue where Democrats can.
Really go on offense and say we have the better ideas, or at least the more popular ideas. And going into a midterm election that's already going to be a challenge when they've.
Had the trifecta in DC.
Allowing these subsidies to expire and exposing people to doubling of healthcare premiums is just not sustainable, especially if they want to keep the House.
We were talking at the end of last year or the beginning of a lot of this year, excuse me, about cutting the budget deficit and about cutting expenses. Dose was a big effort. Now there is a question of how much of those custom are going to basically come back onto the balance sheet, whether it's AEBA or whether it's some of these subsidies that get passed over. I'm just wondering, from your perspective, how much of a focus cutting the budget deficit still is in Washington, DC.
Look, I think it's a great line.
I think when you're the party out of power, it's something you discussed and you've seen moderate Democrats talk about it, and you've seen most Republicans talk about it. But the reality is when they pass to one big, beautiful bill, yes, that made tax cuts and a tax system permanent and may you know, gave businesses and Americans a dea of permanence, but it also cost billions, and it costs a significant amount of money and added to the deficit.
It's a great.
Campaign line, but unless there's no real appetite for embracing a talent and reform or anything like that, because it really is the third rail of US politics, how do.
You see twenty twenty six being different politically than twenty twenty five. Given the fact that the midterm elections are coming up and what happened in the mid midterm elections that we just saw.
I think what you're really going to see is these moderate Republicans who voted for things like the one big beautiful Bill, who have defended the president, who are facing a very tough reelect, and with Democrats getting some pretty strong recruits and moderate districts, they're going to really try to separate themselves from the administration, and they're going to really try to stake out themselves as independent, focus oriented members of Congress who just want to do what's best
for American And I think we're Speaker Johnson having a very narrow majority, that's going to be something that he struggles to navigate, especially if he wants to do a second reconciliation Bill.
George, There's something that not a lot of people are talking about is coming up increasingly on talk shows as well as just a not ed pages across the country, across the world. How much of a focus there's going to be an artificial intelligence and either regulating it or providing some sort of safety net should there be some sort of mass job loss in the wake of a real adoption that does mean that certain humans are not
needed anymore. How much of a discussion is there in Washington, DC about this as we head into twenty twenty six.
I think what you're going to see is the Republican the administration has fully embraced AI as the next great thing for the US economy. And what you're going to see is the likes of both Republicans, so like Governor Roland Descantis or Governor of Spencer Cox, and you're going to see Democrats as well campaign against the administration's whole hog embrace. You've already seen Senator Bernie Sanders talk about suspending data center construction.
I think what I put in at parallel.
To is when they were negotiating the original NAFTA and that trade disruption in the job disruption. I think Democrats are going to say, you're disrupting American jobs, you're threatening social stability, and you're increasing cost and things like energy, and they're going to use it as a huge attack line for the president, especially because Americans are pretty divided. I think there was a recent poll out that only
by five percent are they really positive about AI. And that's really people who haven't yet learned all the details. And I think as Democrats hit the administration in the likes of David Sachs, I think that's going to be a very potent issue for Democrats in particular.
In twent twenty six, you.
Mentioned Senator Bernie Sanders of Vermont. He is going to be at the inauguration of Zoro and Mam Donnie, I believe, tonight, along with AOC, along with a host of other progressive Democrats. I just wonder what this really signifies for the Democratic Party in twenty twenty six, Not necessarily Zora Mam Donnie's inauguration, but just is this going to be the mainstream of the Democratic Party heading into the next presidential election season.
Look, I think that's a fantastic question.
If you were a tri state Democrat like Laura Gillen or Tom Swazi, you're not happy about this because you're going to have to run against Mom Donni and you're going to have to deal with the after effects of
Mam Donnie's policies. But I think in reality, this midterm election is going to be a referendum on the president, a referendum on the Republicans, And when the Democratic Party has legs of Marie losing camp Paris in Washington, Jaca Anceloss in Massachusetts, and formably Jared Golden in Maine, it's really just going to be. Yeah, the Republicans will try to make it circa Nancy Pelosi two thousand and six,
two thousand and eight. But it's really not going to fly when Americans are more concerned about increasing health premiums, increasing energy costs, and the potential threat of AI.
Stay with us.
Maulblindex Saveland's coming up after this, And.
I just learned that Matt Miller is also wearing a kilt because he is celebrating Hogmanay, which is the Scottish New Year. That is what we learned from Lizzie Burton over in London.
Thank you for that. I'm glad to see that it's not true true.
I wish, I wish, well.
You know, maybe next year, if they get.
Another double as your return, Matthew Miller will show up in a cult. Barbara Durant, it's not wearing a kult of a BD eight capital.
She wrote.
The FED could be stingy on rate cuts unless labor takes a big dive. Barbara joins us now for more. Barbara, thank you so much for being here. Really appreciate it. On this New Year's Eve, A real question about the FED and how much they can cut given the dual manded they have of a labor market that they seem to be prioritizing right now.
Yeah, they definitely are because the labor numbers have been soft. You saw that in the ADP number a few weeks ago, and of course jobs, but what we're not seeing is any really follow through in jobless claims. They are still not signaling, you know, any danger there, and that obviously is a leading indicator. But I think that's where the
emphasis because inflation seems to have stabilized. I think somewhere around here two point nine, I think it could creep up a little bit higher because even though the tariff impact has not as been as severe as they already expected, including myself, you know, there's still it's still feeding through now that there seems to be some stability in the
outlook for tariffs. So I think you could see it inch a little higher, but you're certainly not going to see it as it happened at post COVID for opening up. So I think they are right to focus on labor and what that means. And right now we know what's happening in terms of lower immigration, baby boomers retiring, and so, but it looks imbalance. So you could see lower job creation,
but that's because the demand will be lower. So but that's the key thing, and the economic data has been a little bit behind, and we know there's problems with a recent CPI number, so I think it continues. The fit is still going to be data dependent, but I don't see them cutting in the next month or so, because they need to see really if the trend in labor is going to continue to gradually go down or it's going to be much stronger.
What do you expect there?
Because we've had incredible growth, right four percent essentially in Q three, We're expecting, you know, above trend growth in Q four as well, or at least at three percent. And it's not like the labor pool is getting any bigger. We don't have any immigration.
To speak of.
Demographics are going the wrong way. So do you expect unemployment to rise in twenty twenty six?
I could go up a tad more, but no, I don't see why it would go up. You know, people are still spending, and obviously we know that's a major driver three quarters of the economy, and certainly some of the expectations for holiday spending is four to five percent, and some of the recent data consumers are spending, and I think big part of that is still there's forty to fifty trillion in wealth. At fifty trillion of wealth that's been created since twenty nineteen. That's out there, and
people are still employed. Wages you know, are not going up as fast, but they're still there. And that four point three percent, which was we know was a percentage point higher for the third quarter GDP is really interesting because that means the one point nine percent that the FED is estimating for next year could be low, and that obviously is a question then where do you invest? And that could be more cyclical rotation, you know, in
financial should continue to be strong. Industrial, certain industrials really tied to data center build out and on reshoring, all that sort of thing. So that GDP number is very interesting and I think that strength could continue well in early continue to look strong as well.
I mean, forecasts are for double digit earnings gains again in twenty twenty six.
Do we finally get the broadening out?
Is it, you know, a substantial broadening out of the rest of the S and P rather than just these mega cap text docs.
And I think that is that's the question at the moment. I think part of what we're seeing why it's been soft this last few days. I mean, we had the market making new high. So the classic Santa rally, which is the last five days, you know, is doesn't seem to be happy. But I think that's because you know, there's a lot of tax laws selling people trying to
figure out where to rotate into. Because I think the strength will be higher, and the estimates for next year twelve to fifteen percent in earnings doing bottoms up, you know, measuring, and so that goes very well. We've been seeing this quarterly increase. So what I think it does mean is
this broadening out. I think you continue to have the so called mag seven be strong, and you've seen only two have outperformed this year, but you'll continue to see profit taking and then moments where they continue and they will move higher. These are you know, compounders, you know, I mean, you look at Nvidia, for instance, twenty six times next year's earnings, and those earnings will continue to
come up. So I think you stay in a MAG seven that's going to be coore and obviously given the percentage of there, you know it's thirty percent of the market cap of the SMP forty plus percent of profits, you stay there, but you should see financials industrials. I don't think small cap perform continues to perform, you know. I think that was a trade and part of that's because interest rates. You know, right now, I see maybe one were cut the Feds signaling too, but I don't
see it. It's going to be very dependent.
So we were speaking earlier with Michael Purvis about some of the transactions that we've seen to end the year, whether it's in video going after Grok, whether it's in video's transaction with an Israeli AI company this morning, whether it's something that we saw with Meta having to do with a Singapore based AI company. And he was saying, this kind of resembles nineteen ninety nine, two thousand, where they're just having this sort of fomo and the C suite try to get as much as they possibly can.
Sounds like you see it a little differently.
Right I do.
I do.
I mean, there's there is always the potential for overbuilding. Everybody sees the same opportunity. We know, this happens in a capitalist society. You know that always happens. But I think it's we're far away from the moment. Nineteen is not. I think a good analogy because so many of those companies did not have earnings. You know, it's just like you know, invest in it was wild, you know, it was a free for all, and so here it's very different.
I mean, the companies, the Hyperscales, et cetera. They have huge cash flow, and it's Onny Oracle that is really dipping deep into the death side of things. The others are excuse me, are using their free cash flow. So I think it's very different. So at some point, yes, it will end, but I don't think we have to worry about that.
This year you were talking about diversification and how it's not going to come from small caps, how it's probably not going to come from the other four hundred and ninety three necessarily. Is it going to come from Europe? Is it going to come from overseas? That's what we've seen this here.
Right, I mean, you've seen outperformance in the emerging markets, certain emerging markets. Certainly things seem to be stabilizing with China in terms of the rhetoric between US and them, which is a good thing. You've also had with the dollar down ten percent, the question is does it continue to go down or is it stable? Here, and of course that is tied interest rates and how much the FED will cut or not cut. So I think you
probably still have an EEM. You know, the emerging markets earnings are better, this more stable, so I think you've got opportunities there. And certainly we know the European defense filed out and fiscal spending is not over in six months, so you probably do have more upside. So diversification, yeah, you can look abroad.
I have a sports question maybe Lisa can weigh into because she's got kids in this age range. I was having discussion with people last night who have teenagers that aren't playing football, and I'll get to why in a second. You know, and where I live in Edgemont and Scarsdale, there are years where we can't feeld a team anymore just because parents don't want to risk the brain injuries. And I noticed looking at your CV that you're on
Lacrosse Association and the Field Hockey Association. I wonder if those sports are any safer? Are those sports? I mean, I know they're picking up massive amounts of popularity. Do you think we're going to see the same trend in football happen there or is it different?
These these are always interesting questions. You know, lacrosse there's men's and women who are very different. Women aren't now but hit each other. Men can, but they've got a lot too.
But I imagine they happy.
I have a plate in this hand as a result of that, but you know it does. And also field hockey you've got mouthguards, you've got this and that, and there is real real awardeness and consciousness, certainly in high school, you know area. But so there's a weirdness. But I don't think it's rises to level football, which has such well documented serious injuries.
So maybe lacrosse and field hockey take market share.
I mean it would be nice. No, but I think it's two different things.
Field hockeydia capital indeed, and I we'll just say thank you so much.
This is the Bloomberg Sevendans podcast, bringing you the best in markets, economics, anchio politics. You can watch the show live on Bloomberg TV weekday mornings from six am to nine am Eastern. Subscribe to the podcast on Apple, Spotify or anywhere else you listen, and as always on the Bloomberg Terminal and the Bloomberg Business app.