Surveillance: Forecasting Year-End Bunds At -0.80%, Says Major

Charles Schwab. Lizi Ane Saunders has been here before and we're thrilled that miss Saunders could join us this morning. Lizi Ane, you've seen this before. What do you do the day after? So we we tend to do actually the day of at the close is put out a broadcas indication about our perspective on what happened during that particular day, but also reinforcing some of the longer term perspectives.

And Thomas, you know, we started to get a bit more cautious about two years ago and from a tactical as allocation perspective went to neutral across the equity asset classes, including US equities within which we said you wanted to focus on large caps at the expense of of small caps, and we've had a pretty defensive UH sector positioning as well. So we've had a message out there that this is

late cycle, that there are risks. You don't want to get out over your skis, you don't want to sell everything and run for the hills, but this is not the time to take undo levels of risk relative to your long term strategic allocations. So I think we we positioned our investors for this type of market volatility, and UH hopefully they they stayed disciplined and calm through this. Laz John Templeton was one of the great original global investors. I remember the evening he and Luu Kayser at it

in the Crisis of seven. Give us an update on your view on the global investment world. Do you have to stay US centric? Um, not necessarily. We think actually correlations across S classes and even within S classes have been generally coming down. I think we've exited this environment where all risk assets performed generally the same and all

lower risk assets performed generally the same. So with a breakdown and correlations, diversification actually may start to pay some rewards, and that's been our message, where neutral bill across emerging markets, developed markets, US market, But that means you want to have diversification across those uh, those areas. You know, we

do have obviously a weak global growth story. We've got some records that have been broken fifteen consecutive months of declining global p M. I I think it's pretty definitive that we're in a global manufacturing recession, if not an overall global recession, which it looks in cre suddenly likely the US will fall into that trap as well, more so on the manufacturing side, maybe not across the spectrum and the economy, but the risk has clearly risen with

with what's going on with trade umsen. What what does this mean for bond yields across the board? Are they going to go further into negative territory or is it just lower for longer. Well, let's hope that in the US we don't go into negative territory. You've got about thirteen and change trillion dollars of negative yielding bonds globally, and there's been some chatter that the US would consider that.

I don't think there's really any place where central bankers have experimented with negative yields that have ultimately been the elixir for what ails them, and I don't think it would be the case here. So we're certainly hopeful that we don't have to head down that path. In the meantime, though you're looking at multi year lows in the ten uere. We're not back down near where we were three years ago in sixteen. When I think the ten you're bottomed

at one point three five. But the fact that bon Niels continued to think has kept the yield curve inverted even with the FED rate cut from from last week. All Right, thank you so much for joining us at Lisienne Sandres, Charles Schwaba, Chief Investment strateches Johnny's. He's esteemed with a wonderful history of golden SAX and now working for the most interesting Institute of International Finance Books the chief economy st over there. Now Robin Brooks joined us. Now, Robin,

fantastic to have you with us on Blomberg surveillance. Let's just start with the Treasury designating China currency manipulator. The significance of that or not your thoughts, Robin, Well, thanks so much for having me on. Obviously, it's a pretty

big step um by many men. Sure's China is in the past, or has been in the past a currency manipulator on average between two thousand six and China bought fifty billion dollars in reserves every year, But since then things have changed a lot, and intervention was close to zero. So this is a bit too late and technically doesn't fit the definition. And Robin, the irony is they'll be happy with the fact that Chinese did manipulate the currency

stronger overnight. So let's just talk about what the Chinese are doing and what leaves they're pulling to stabilize the currency. So let's talk about the big picture. First of all, when you have an exchange rate, right, part of that exchange rate function is to offset shocks that hit your country,

and tariffs are a shock, a negative shock. So when you have a freely floating currency, and I don't want to say China has a freely floating currency, but it's getting closer to one, it is natural for that currency to weaken in response to tariffs. And so that's what we saw at the start of this week. Uh. And as you said, China has stepped in now to prevent

the fix from going through seven. Right, And we got about nine questions, but I'll give you one and you nail it in your essay, which is how big is the dollar? Long positioning? Let's start with China. John Plender in the f T I thought was brilliant today. How big is the dollar bet by the government of China? Well, um, so, China has, because of its interventions, built up a large war chest of reserves. So at the peak those reserves

were about four chillion dollars. They have fallen significantly into around three chillions. So that's where we stand now. Is there a risk that China could use that strength to um bully the president of the United States? I think you know, it's a great question, and in a way, uh, what you're referring to is kind of game theory, right, These two sides are duking it out in a way, or it certainly seems like that. But both sides have

a huge amount to lose. For the United States, it's the stock market which really doesn't like these trade tensions, and we saw that yesterday. And for China there's always the risk of capital outflows starting again. So both sides have a strong incentive to de escalate. What what is it? What's the relative distancentive. I don't understand why China needs to do anything but go China silence. I mean, isn't

their biggest strength is to just be quiet? Well, you know, in the end, China's economy faces headwinds right as you As you know and as you've have you've covered in many of your shows, there is a leverage overhanging China. Um growth has been slowing. These tariffs are a bad thing um, and so there is an incentive to engage with the United States constructively. And for that you have to talk, so you can't be silent um. And I think this currency move that we saw at the beginning

of the yesterday was a sign of exasperation. Right, China has put up with multiple rounds of tariffs, done nothing, and I think here I think it was a signal. Enough is enough, John, to put this in perspective, It was exactly for standard deviation move yesterday like they planned it, and now we're at about two point eight standard deviation. Well, let's talk about that this idea that they planned it and that they have a lot of control over what

happens with this currency. Yes, overnight they set the daily currency fixed stronger. Yes, they plan a sale of you and denominated bombs in Hong Kong which should flush out some of the shorts perhaps, But Robin, this idea, we seem to have this immense faith that they have control, that they can smooth out the bumps. The market force is quite clearly leaning the wrong way, and Robin, I just wonder whether they can continue to smooth out the

bumps in a reliable way. Okay, great questions. So obviously China is a huge economy, right, second biggest economy in the world. Can you ever really fully control financial markets? And I think, Uh, the truth is China has capital controls, so it is not a fully convertible currency in the way that for example, euro dollar is. And so the question is how effective are those capital controls. And I think when markets were really worried about a devaluation that

was a test. But our census that today those capital controls are working pretty well. What is the president's best outcome, Robin Brooks, What is the to do list for President Trump with all of his belief set to constructively move forward the dialogue? Look, I think the basic issue on China is that even though the headline current account surplus has fallen from ten percent close to zero, our underlying analysis says that the overall trade surplus that China has

is still big. So there is a legitimate trade imbalance. And I think the President and some of his as officials in the administration have a somewhat legitimate issue. But obviously you want to address this issue without upsetting the SMP and financial markets more broadly. So that's the fine line this administration is trying to walk. Robin, I want to wrap things up by talking about Europe with you, just very quickly. I've been following your work on the continent.

I think it's really interesting. A lot of people reach for the trade story and then just blame everything that's happening in Europe on the trade story. You've picked out some some other and I hate this word, but I've got to use it, some other idiosynchronic reasons as to why, because Europe is going through this slowdown, do you have to put a dollar in the drinking game. You have to have to drink, but continue rubbing. Come on, just walk us through some of days, some of those unique

things that are happening in Europe at the moment. Well, Um, one of the big things people are obviously worried about is, you know, this trade war in the end is about disrupting supply chains, and so that obviously causes anxiety and markets about global growth. And one of the main light rods and all of this has been German data, which have been incredibly weak. Now, the thing about Germany is it's obviously an exporter to the world, but it's been

hit by some one off stories. So Brexit is one, and then there's a big credit crunch underway in Turkey, and that's the other. And Germany exports a lot to both. Exports to China look good, so that's a positive sign for the global economy. Exports to the US look very healthy. That's another positive sign. So that's why I've been saying on Twitter, for example, that overall the global picture actually

looks pretty okay. So, Robin, when you look at Germany right now, you think that slowdown is mainly because of Brexit and a credit crunch in Turkey and not China, That's exactly right. That's certainly based on the export data. There's no sign that China is the reason for a slowdown in German exports. Robin, really really great to get you on a program to break down some of these effects.

Moves Robin Brooks, the chief economist over at the Institute of International Finance, with our question, Gary Shilling, someone like sree Komar has been really striding about a lower rate regime, but no one has published on a lower rate regime like Stephen Major. This email dropped in my inbox earlier this morning. We cut our end twenty nineteen US ten year Treasury and bungee of forecast the one fifty and

negative eight basis points, respectively. I'm very happy to say that Steve Major calls us, now HSBC Managing director and a global head of fixed income research joining us on the phone. Good morning to Steve. Morning, Jonathan, are you I'm very well. Let's just start with this call, shall we. The one that jumps out of me is not the

Treasury one. It's the button call negative eighty basis points year, and just walk us through the dynamic that you and the team are thinking about the framework for this bond market, right our Steve. The thing is that the bond market and the FX market is all about relatives. It's not about absolutes. So if I buy a bond today, I'm interested in total return. Is that total return versus cash which is zero, or total return versus a two year or versus a credit bond or whatever. So look ten

year yields today a minus fifty. I didn't think they'd get much lower than minus forty, to tell you the truth, But we're minus fifty and we're now forecasting minus eighty. Each one basis point is worth more than ten cents. That doesn't sound like much, but fifty basis points becomes five of total return. How much money do you think you would have made if you'd held the one year Austria this year? I think you're up abo you no, no, no, no, John,

don't tell me, don't tell me. Bonds aren't sex Who would have thought the central bomb would out perform that much? Thomas return on an Australian. So this is Gary showing one on one. Steve Major, explain the inertial force that will allow lower for longer. Is it just the desperation to own and to buy that makes all this happen?

You know, there's a lot of theory on the negative rates, the policy rate, and I think it was good Friend back in two thousand and sixteen that released the paper at Jackson Hole, so it's about exactly three years ago Marvin good Friend. And and subsequently there's been papers from the I m F and staff reports from the CB, all exploring that lower bound. In fact, even the FED cause it the lower bound now, not the zero bound. My point is the constraints that we saw a few

years ago are slowly being peeled away. One of the constraints is cash, the existence of cash. The other constraint is the pain on bank The third one is this idea about whether it works or not. So I've looked at all rate. First of all, in some countries there is no cash, so you can forget that. America may have cash at the moment, but give it a few years. So the resistance in terms of the substitution into cash may not be there at some point in the future.

It's not there in Sweden, it's not there in the Nordic countries. Um you may even you may even have an exchange rate between cash and electronic money just to just to just to encourage this move. As central banks explore the lower bound, then the short rate for bonds goes even lower. So if the ECB was a mind US one hundred and fifty or minus two hundred, than two years shots are going to be around the same level.

So what's the yield in the ten year burned? Well, Steve, this is the argument that interests me this morning, and I look at your research that this move starts from shorter maturities and extends up the curve. Yeah. Yeah, just focus through why that dynamic is present right now, what we've learned from Japan, and why we're about to see it a whole lot more in the United State, in Germany, people need to grab the yield to get the total returns.

So so intuitively, your intuition would say that if they cut the rate, the curve with Stephen, but you need to forget everything you've learned, especially in the textbooks and universities. Nowhere in any of my for boat to see textbooks or any fixed income textbook that I own, is there a convect shield curve. Now you'll know what that is as the curve that bows in so it's flat between zero and ten and a bit steeper after ten years. That's a convex curve. It's the belly is sucked in.

All of your books will have concave yield curves. They'll talk about preferred habitat and investor preference, the quidity preference, blah blah blah. Exactly, that's not how it works, not with negatives. But Steve, this is critical. You're with a major bank, and I say this with great respect. You're not going to go out in bad mount your competition in the Steve, major mill you of the next twenty four months, how do banks survive? How do they obtain

profitability or a diminished loss? Okay, so one of the other constraints, the second constraint I mentioned. I mentioned was bank profitability. So it's not good for earnings. We can we can again study what happened in Japan over the last thirty years. There are now less banks in Japan. Actually, the big, healthy city banks managed to profit from this because below zero they were able to pass yields and lower rates onto their corporate customers. But the weaker banks

don't do so well below zero. When when you're cutting rates above zero, the weak banks do just great because credit constraints are loosened and they can lend more. But when you go below zero. The world changes below zero, everything is different. The weak banks don't do so well. The strong banks still keep their deposits. People don't want to keep their deposits in week banks. So from Japan we can have a lot. Now that's not a good story for the European banking system. But I'm not making

any call lot of forecast here. I'm just observing what's happening. We can see it now. We welcome all of you this morning Bloomberg Surveillance, John Faroe and Tim Keen the special half hour Steve Major with us with HSBC and a bit. Laurence Summer will join as well as we give you complete coverage through the thirty minutes. John jumping here, Steve, just looking at the ECB. Is there a rate in

the depot rate that underpins this call? And if so, what is the basic assumption on how low the depot rate will go at the ECB It's at minus sixty next, So bearing in mind we've gone below zero minus ten thirty forty minus sixty, each rate cut has supposed to have been the last. How many times have people gone on your show and said that's it, one and done. The e c B would have wanted people to believe it's one and done. Don't forget Central banks ECB included

are well served by selling positivity and optimism. Next year, everything's going to be fine. That's what they tell us. That's what they have to tell us. They cannot go out there and say, oh my word, it's just like Japan. We were wrong. So you think we go from negative forty to negative sixty. But I'm trying to understand what the effective lower bound is for the e c B. Now, if they moved to tearing, does that just open a whole new range of possibilities? It opens the trap door.

That's that's the point. We did a calculation three years ago if the if the ECB had used the same tearing system as the SNB, then approximately one half. In fact, in Switzerland it's of the reserves are paid, are charged at the minimum rate, and it's minus seventy five minimum policy rate. The Swiss ten year trades at minus five right, so just as a f y I. My point is that you get more efficient, you can drop the policy

rate even lower with the tearing. How does the Steve Major full faith and credit call come over to credit to investment grade into high yield. Do they have the same lower yield regime? Now? Now, now that's interesting again. You you tend to grab yield wherever you can. Now with the investment grade, especially in Europe, you've got the threat of CSPP being restarted. That's the purchase program for

corporate bonds. So they never really ended it. There's plenty of capacity to restart that they haven't even got to announce it. Let's go out and buy them. That changes the story for credit globally central banks who ging up corporates high yields interesting because because here you get proper research and you get proper ideos and credit risk And I've got the greatest respect for the analysts in that area because these are the guys who are doing bottom

up research. So making general calls about high yields different call, Tom, because you know, each company is different, and it's you know, it's about the cash flows and probabilities for each individual situation. But that the thing is is that is that now for longer tends to stuck people into higher yield and returned prospects. I I look, Steve Major, where we go from here? What is going to be the reaction of

the bond world to a one fifty tenure. You walk into offices worldwide and explain the permanency of these lower yields. What will be the response of your clients and customers. Well, look, those that have been resisting it are going to suffer. And I think that resistance is futile. Frankly, Um, most of the calls I've made in my career, they tend not to be right immediately. The good calls have a bit of have a bit of durability. If I could call the market on on a twenty four hour basis,

I wouldn't be sitting here talking. Well, you can join ferall the piech later this week. Steve Major, what's the new? I asked this question a week ago and I thought it was like a joke, except now it's not a joke. What's the new actuarial assumption for long term assets? The people that listen to you, it was eight percent, then six percent. Are you under a four percent actual assumption for pension money? I don't know where they get these

assumptions from, but surely it must be lower. If the coupon on a hundred years Austria two point one and the yield is not point eight. That tells you that if they were to issue a fresh one, not tap an old one, the coupon wouldn't be any more than one. So that's that's telling you where the market is putting yields over the longer term. And it's not my opinion, it's the it's the collective wisdom of the market. So what kind of actuarial assumption is making a number four

or five? I have no idea. I guess they've got some kind of mean reversion mindset. Now, how many times in the last thirty years have people called the end of the bond market? How many people have come on your show called higher yields where they we're looking for two and then we broke through that leftl and we

came aggressively lower. Steve, We've got to leave it. They're fantastic to get caught up with you after a really interesting note published this morning by Steve Mature and the HSBC Scene Steve Major, their HSBC Managing Director and global head of Fixed Income research on some big bond market calls right now joining us after Mr Major and the

idea of a stagnation in yields is Laurence Sommers. He's a former Secretary of Treasury, president of Harvard University, and of course Larry Summers with a heritage of economics going back to his uncle, the Laureate Paul Samuelson. What an extraordinary day yesterday, Larry, you stop the Twitter world with your two tweets yesterday with a comparing contrast to two thousand nine. What is the risk of a comparing contrast to the instabilities of nineteen that you lived at the

Clinton administration? Are we heading for that level of instability? Well, of course two thousand nine in some ways was much more serious uh than nine than I think. We're in really quite uncharted territory with the President of the United States actively um denigrating the fellow reserve and asserting the need for the dollar to dollars value to decline. This is a monetary experiment the likes of which we've not seen in a long time. We don't know whether it

will continue. The degree of drama in markets UH yesterday suggests that its continuation is at least a possibility, and the rush into safe haven assets is a further cause for concern. So I'm not prepared to predict with confidence that we will have a recession, but I am prepared to say that we're taking needless chances with our credibility, with our economic health, and that the risks are certainly well elevated relative to where they've been or where they

need to be. Dovetail and give us an update then on your Our theme of secular stagnation is what we're arguing about here, Professor Summers. The idea of a new terminal value of economic growth, a subdue terminal value for interest rates and inflation. Are we are we getting ourselves to the summer's secular stagnation you've written about. I think we are globally, and I think the clearest way to see it is by looking at the behavior of long

term real interest rates. The US ten year real real yield is substantially higher than real yields and continental Europe and the United Kingdom and Canada or in Japan. So we're the leader in terms of long term real interest rates. An our long term UH real interest rate down pretty close to ten basis points UH yesterday, that's essentially zero. Well, that's telling you something about what the market thinks is necessary to get asset prices up or to get investment

demand high enough to push economies forward. If just yes, it's the essence of secular stagnation that to get even modest growth you need an extraordinary amount of fuel put into the engine. And just just look at how low interest rates are, look at how much lending is going on, look at the magnitude of budget deficits, and I think it'll all suggests that secular stagnation is how the market's

assessing things right now. I would suggest Larry Summers that no one knows about the yelling and screaming of strong minded economic types at Pennsylvania Avenue. Like you do. You lived in three or four different jobs, through three or four different crises. Whether people agree or disagree with you, there's a lot of emotion. What do you need to see from the people around this original president? What what would you like to see from free trader Lawrence Cudlow

or Secretary mean Ouian in the cross heres? What do they need to do in the coming hours in days. They need to be effective in private in persuading the President to restrain his intemperate observations on sensitive financial matters. They need to protect their own credibility by not claiming that China is a manipulator after being told to do so by the President. Step one, that's politicizing what is usually a technical economic judgment. And then they need to

be prudent in what they say. China is not manipulating its currency. China doesn't even have a significant trade surplus at this point. And if China is taking any artificial actions there to buy our m B, not to sell r m B, there's a control outflows of RMB, not

to control inflows of RMB. So I think if the President restrained himself, if we focused on are really important priorities with China, matters like North Korea rather than these mercantile issues that obsess UH the president, and if the UH financial authorities themselves were very careful to husband their credibility, those would be the steps necessary for Prof. Larry, I've

got about fourteen more questions. I'd love to get a half hour of you in the coming weeks as your schedule that province Lawrence Summers, the former Secretary of Treasury as well the president of Harvard University at this important moment. Now to the chief Economists and global head of Economics and more, Constanley chat and I are joining us on the phone. Good morning to Chatsen. Good morning. Let's just talk about the designation currency manipulator China. What does that

actually mean and what are the next steps from Treasury now? Well, I think the next steps will essentially have to be either having a bilateral conversation with the Chinese policymakers or having IMF actually be involved and again involving with some discussion with the Chinese policymakers. So it's it's really like nothing immediately that the measures can be taken by the Chinese policymakers or the US policymakers is just more conversation.

So this this specific measure immediately does not have any immediate impact on the economy weight on sentiment overnight than sentiments snap back pretty quickly as the p POC strength of the currency fix more than analysts expected coming into

the Tuesday session. Chatting with that in mind, how much encouragement should we be taking from the actions of the pr b C in the last twenty four hours, Well, we think that China would not have the interest to do use currency for the trade dispute purposes because ultimately, remember that they have this interest to ensure that foreign investors get into Chinese assets and they become a more

effective reserve currency. So in that context, for them to actually use currency actively in context of dispute will be actually at the cross purpose with that other big picture of objective. So we always felt that PBOC will try to just check volatility but not really use this aggressively for chase dispute, and that's exactly what has come out

with the overnight move by the PBOC. It's just an Someone's argued that Stephen Roach invented modern market economics that Morgan stay only, and certainly he invented an analysis of China that was very understanding of China's domestic needs. What

does Morgan Stanley perceive as China's domestic needs right now? Well, I think the domestic need is the big picture goal that they want to become a high income status country and in that context, they want to have higher productivity growth and higher GDP growth to be able to get there, and all the effort that we're seeing on technology front is just with that aspiration in mind. Do they steal

that from us? Is it mercantile? As a president would suggest that if they have that, Steve Rochian goal that they're going to take it from us. Well, I think that that was probably the issue in the past, but I think now we're seeing that China is really at the forefront of some of the technology, is especially related to the telecom services that we have seen, and how that can actually um ensure that in some of the other technologies like AI, they can be much better, faster,

and much ahead of everybody else. There's one data point that I would like to highlight here, So if you look at the applications for patents that's filed by China, they've really gone up significantly now matching with a lot of the developed world countries. So now it's, uh, it's a different ball game. They're pretty much there themselves in

the innovation space challenge. Just to wrap things up, you've made the point over at Morgan Stanley that to really resolve some of the issues in the global economy, we need one or two things, either a resolution to the trade issues or much bigger stimulus coming from the Chinese authorities. Do you see signs of either happening anytime soon? Unfortunately not, um you know, we we are seeing actually the trade

dispute actually going in the other direction. As we've seen in the last few days and from the Chinese policymakers stimulus perspective, um, they have already put in a huge stimulus of two and fifty billion dollars in place, and a large part of it this time has been in form of tax cuts, and to the extent to which corporate confidence is being impacted by this trade dispute, it's

resulting into that those tax cuts being saved. So yeah, at this point of time, we don't have the Chinese government again going aggressively and doing public spending, So neither of those two options seem like in the near term possible. I chadn't great to get your thoughts this morning. A busy start this week, that's for sure, Chad, and I that Morgan Stanley is Chief Economists and Global head of Economics.

Thanks for listening to the Bloomberg Surveillance podcast. Subscribe and listen to interviews on Apple Podcasts, SoundCloud, or whichever podcast platform you prefer. I'm on Twitter at Tom Keane before the podcast. You can always catch us worldwide. I'm Bloomberg Radio zero.