Surveillance: Inflation Debate With Woodard

to catch up with you. Muhammadal Arrian, writing in the FT this morning, the inherent instability of the goldilocks market consensus. Do you think that outlook, that nice goldie looks outlook that many people have, Jared, do you think that is unstable? Well, thanks Shan. First of all, I think that Bohammad maybe hoping for a consensus where I certainly don't see what

I mean. Thinking about investor uh comments and questions this year, they have been entirely dominated by fears about things getting too hot, too much, stimulus, too much, you know, central bank easing is the is the reopening happening too quickly? You know? For for for markets, I mean, these have been the questions that have been constantly put to us, and I think that the the truth is are joking at the beginning of segment. You know, the markets have

digested all this incredibly well. You know the fixes that you know sixteen thirty and and so the big takeaway for us is that, in fact, the most contrarian view, I think that the most out of consensus thought right now is that things might actually continue to go well. You may even start to see uh, some deflationary forces kind of work their way back into the system in second half of this year, in the start of next year, Jared, what percentage of long only by side, the more traditional

investment is off their bogey. If they're tight, are square to the market. They want to be like the SB five, even if they're removed from it on the edge of hedge fund. How many people behind right now? I think a lot of people have gotten positioned for for reopening from reflation. They've gotten into some of these value trades, some of the cyclical sectors, especially financials and and uh energy materials a little bit um, but they're not completely offsides.

And in fact, in most of our measures are internal proprietary measures suggest that investors have pulled back in positioning over the last several weeks, they're they're you know, somewhere closer to neutral from much more aggressive levels earlier this year. So I think that the fear of you know, aggressive investor positioning, people are overly exuberant about the market um and that's going to give us, you know, some kind of altility. I think that might be a little bit

misplaced here a list. So this is incredibly important, and that the behavior wrapped around all this blah blah blah we do is critical. And as Mr Wardards says, they're people aren't born, are aren't on board the bull market enthusiasts. And you can see this particularly in the bond market right the fact that we can get that bid into the long end, we do see a flattening yield curve. And Jared, do you think that the bond market and the message there that is a lot less bullish than

the message from equities is translating into the equities. Have we seen the full play out of a less inflationary reality within the equity spectrum? No? I think I think at least it's exactly in the equity market where you see, you know, the biggest potential change over the second half of this year. You know, if it's true our economists have been suggesting, for example, you know, you could see uh, some downward pressure on price indexes from goods as people

shift from goods to services. As September unemployment benefits expire and all the kind of consumer behavior changes into this fault, you could start to see, um, some of these the short term price pressures actually moderate in the way that economists and beneficials have been promising for some time. People a few months ago were you know, terrified of of the cost of lumber. You can't go to the store

and buy you know, buy some plywood. Well lumbers fallen from its peak, um, and so none of the is you know, disinflationary or even to just return to normalcy. Um. Sort of economic pressures I think are factor in the equity market today. People are still you know, on one side in terms of the reflation trade of a much more balanced portfolio, which is what we've been recommending for for a while. Um. I think it's gonna suit investors better as reopening becomes normalcy in the economic market and

and in financial markets. Jared always shop super Smart's gonna hear from your child Wood at their Bank America Securities head of Research Investment Committee. When you go off of Bosie, you learn that there's a complexity here. John John is just not a simple yield down, price up kind of analysis. There's some real complexity. Let's talk about that complexity now. Vista joins us. Morgan Stanley had a fixed income research

and Visually, let's start with just a simple one. The headline from your research, credit is vulnerable to a negative surprise, how su Vis? Basically, the valuations in credit have gotten so tight that there is not a lot of room. There's not a lot of buffer for for any change

in the defects response function. If we have a any change in the expectations about the liquidity broke backdrop that the FED has been providing for for a long time now, and any of those kinds of that a hawkish tilt from the Fed, we think it's going to be negative for credit. Macchially, what do you cite to people that think there's a massive put here from the Fed in credit at the moment that we can't have what is spread because the Fed is there to back things up.

I think there is you can think of that there is a fact put. But it's I would since you put it in that language, I would say that put is significantly out of the money put. You need to see a lot you know, the put is not it's not another the money put. So you need a substantial dislocation in the create markets to occur before the put

can come in. UM. So it's not a it's not that will we won't see um you know, fifteen twenty business point whymening UM under the FED put becomes functional if you need to see the order of magnitude of what we saw in March of last year, that level of dislocation in the market, you know, companies, high quality

companies losing access to UH, to the CLAID markets. Those types of dislocations would you can conceivably imagine FIT stepping in, but not for a fifteen twenty you know, sort of a more UH you know business point type more investment grate spreads. Visually, your projection here has a pretty profound implication. That is that perhaps credit spread trades more in tandem with FED policy than actual credit worthiness of companies. In the past, these were two distinct issues where typically when

the economy was getting better, credit would do better. The spreads would actually come in because these companies had a better chance of doing well in Thattic economy and paying back their debt. Have we moved to an area where credit does not necessarily track the ability for a company to pay back it's money. It's it's it's borrowings. I would I want to. I think it's good to distinguish between what's happening in the high quality investment grade credit

versus high high yeld credit here. I think what you've just said is probably more true for the high heel company companies. But investment grade credit is really at pretty much historical tights at this point, and the Great market has been a substantial beneficiary of the of quantity releasing and the low rates, and any change to that, we think there is not enough of a buffer in terms of spreads for the Great markets to absorb. Not so much when you look at the high yeld there is

some buffer there for that to happen. So as the economy gets better, the prospects for there is still some prospects for high ye low higher bonds and leverage loans to get tighter, but that room for tightening is simply on their investment grade Therefore, what we see is this um the situation where there's a clear difference between um

HI yield and investment grade. This is actually a fascinating discussion and highlights why so many investment managers prefer high yield even though it's known as riskier to investment grade. Right now, visually, can you walk us through the pathway of transmission the idea here of if the Fed does get more hawkish, does that mean higher benchmark yields, higher spreads or wider spreads and then all in losses that are really substantial? Is that what you're projecting here? Actually,

I'm not suggesting any all in credit losses. We're not suggesting a forceful pick up. We are. What we are suggesting is the compensation for investment grade. The spread is the compensation for taking all that great risk. It's the if you it's if you look at can it get tighter as economy gets better? Can the markets actually accept lower compensation for taking on investment grade credit? Um? That's that that it's really not that much a scope there.

On the other hand, if the economy debates get higher, the amount of liquidity in the market eas somewhat um could they get wider um. We think that they very much the case that they could get wider without affecting the verall default rate visually, in that we think the false will go up in the equity market, and I want to pick up on that theme in just a moment.

In the equity market, when you bring up the prospect of exuberance and bubbles, people always benchmark it's what happened in two thousand and say, well, it's nothing like then, so there's nothing to worry about now. In the credit market, they'll look at spreads and say things are tight, but they're the tightest since two thousand and seven, and this

is not two thousand and seven. Could you do me a favor, Can you adjust where spreads are at the moment, for quality, for duration, and give me a better picture of the parallel between now and oh seven. Right, we do that, and my my colleagues just recently published a piece just addressing that. So adjusting for for everything, we still think we at pretty close to kicking all of those factors into account. Um, you are at all time

tights in investment grade, not so much in HILD. There is a substantial room in HILD, roughly hundred basis points in terms of gestured spreads in high yield the hail want but investment grade. We are through the Kites of two thousand seven all time sites on i G potentially visual, unreal, gonna catch out visually through Morgan Stanley had a fixed income research on a bit of a clinic TALM and

was happening in the credit market at the moment. Let's save ourselves as Semasha here June thirty, two thousand, twenty one SEAS with principle global Semen, What did you change in your mid year outlook? Hi, tom Um in terms of the changes, you know, I think that how we started the year, isn't you different? You know, we we came in. I think most people are expecting inflation to pick up. UM. We we had a timeline for tapering.

I don't think anything has changed in UM. If anything, that the summer is going to be a little bit more difficult with I think you should see a bit more volatility. I think there's a lot of vulnerabilities in the market, but we're still holding on to our tenure target of around one eighty five by the end of the year, and I don't be much changed on that. This goes to the quote from Pita Cheer of Academy. I'll be catching up with him in an hour or so.

Take some gains, reduced risk, and enjoy a few weeks with less stress. Do you agree with that, Sema? Well, I think the thing is that for investors, they need to look through some of the noise over the coming months. You know, there isn't too much be worried about. If you're looking at taking a six month to one year of you there is still a strong economic recovery underway.

You may get a few concerns around the fair, the concerns about inflation, and given how expensive equities are, you know, there's certainly vulnerability for a bit of a bit of a kind of a tumble here and there. But the long term view is certainly continued to rand an ecture market, how many people believe continue strength and cyclicals as well. And Seema, it continues to and either or cyclicals, value or growth, which basically for many people comes down to

big tech, energy or financials. Take your pick on a sector that's your style, your factor. And I'm trying to understand, Sema, can you envision a scenario where the SMP five hundred just finishes the year lower from where we are right now. I mean, I think it's entirely possible, um and this is one of the reasons why I think increasingly invested me to look under the surface, start thinking about the

sectors the company that you're looking at. And the reason for that is that, look, you know, we still have a generally positive long term view for secular growth dogs, right, so essentially technology. But if you get to a point where cyclical start doing really well and you have the yield can of wants again taking or just generally yield rising,

then tech gets into a bit of difficulty. And given its waiting in in the SMP five hundred, that is a possibility that you have a lower SMP five hundred, even a ruly strong growth environment where cyclicals do well. So this is the time that investors need to really understand not just look at the index, but look at the various sectors that they're investing in SEEMA and a

broader level. I'm wondering to muhammadalarians point, do you see goldilocks being a perilous zone to be in that it has an expiration date that one point one thing will have to break either inflation will either have to break out too high or the credit cycle will have to start rolling over. Well, I think with his point it was interesting in that, you know, I'm kind of disagree. I feel like people have become more and more aware

of the very various risks. We have a client asking how do we have the inflation protection to our portfolio? So I think there is recognition that there are many different risks out there at the moment. But I think the really interesting part of our areas um comments were about the very structural changes that are taking place in the economy, which may funny end up in slightly higher inflation that we've had in the last decade, things like

the supply change. How are people, however, as companies thinking about their inventories, um, just even with regards to central banks of the way that they're reviewing inflation. These are fundamental changes which you're gonna take some time to play out, and I think that's where we need a bit more focused from the time. How do they weigh into your investment thesis? In other words, how do you price in

the very specific inflationary pressures of this modern era. Yeah, so we still think that Look, you know, we do have elevating inflation, and even after this, you know, the so called transitory effect. Said, now we still think we'll have inflation higher than what we've had it for the last decade, not a worrying height, but certainly around there two to two and a half percent level. And in the medium term, when we have elevating inflation, investors need

to have that inflation protection. You know, we can talk about man who we talk about cyclicals and do the best area to you have that protection. It was in real estate because you don't suffer that volatility, and as long as it's accompanied by a strong growth environment, real estate tends to do better in these kinds of environments. So that's where are our favorite picking for this inflation environment. What do you do on a strategy basis with profitable

technology companies? So we have actually maintained an overweight to tech. That's a couple of reasons. One is that you know, from a long term basis, these companies they have this strong cash flow, they have the balance sheet, and they are where most companies if they cann't survive over this difficult period last year and this year, probably next year, they need to use technology to pivot their business models. So tech is not going away. The other thing is

is that it's a differensive trade. You know, when we have concerns about hawk ish fed growth out the tech tends to do well. Just as were saying over the last few weeks, So as to as it makes sense to have that as a defensive portions within your portfolio and hold it through the long term. The key rist because obviously regulations. But as you were discussing before, um text seems to be able to deal with those kind of pressures. Can I get everything you just said by

just owning the index? Really good question? Sorry I misheard that. What was up? Can I get everything you've just said in the last ten minutes by just owning the index on the s No, I think you need to. You really need to actively look at what you're investing in. You know, there's gonna be some secretical sectors that do well. You need to have a little bit of valuance, a little bit of growth that you absolutely need to pick well.

Because over the coming months, as the restation trade becomes I remember one of the beautiful saying, it becomes a bit more normal, some of those companies are not going to do as well. They've been enjoying over the last few months. So we need to be a little bit more competent, a bit more active in a way that invested are looking at the SAMA. Thank you. It's going to hear from the Principal Club Investors chief strategist right now. He is from the sixth district election to Kentucky. Must

be a Republican, We know that. Andrew Barr joins, it's Andy Barr. And what Andy Barnos is The Fayette County Board of Elections is run a little bit better than the New York City Board of Elections. They can count the votes down there. Andy, to go to the votes in your election, you're not a borderline congressman. You won fifty seven point three percent to fort for the evil Democrat. What do the Republicans need to do right now that they are in much tighter districts to make two thousand

twenty two a good outcome. I think we need to address the concerns of the American people. You just we're talking about the labor shortage crisis in the country, concerns about inflation. These are real. The Fed says and Janet

Yellen say that it's transitory. I'm not so sure when you talk to the homebuilders, when you talk to people who have to purchase the lumber and the steel, and you you talk to um the restaurateurs who are buying food, and the trucking companies that are dealing with higher fuel costs. Inflation is real and it's a crisis. So I think speaking to those basic pocketbook concerns of the American people is what's going to deliver the majority back to us.

But it's not about the politics. It's about solving these problems. And and we do have challenges facing us in the country. What should your own Powell do in his policy? Should he address Lexington, contut Ucky? Or should he address something like New York City. He's got to address us all.

How does he do that well? I think what the FED should be doing is listening to Robert capp On, the president of the Dallas FED, who has been the most hawkish on this inflation question, and to his credit, Chairman Poal has encouraged um UH, these dissenting voices to talk about the real issue of inflation. And and we do not need to be buying forty billion dollars a month and mortgage backed securities with home prices going through the roof. Uh, this is fuel to what could be

another bubble, and we need to watch and guard against that. Look, we've had historic levels of monetary and fiscal stimulus pushed into this economy. We are in recovery, but this is fueling a potential asset bubble that could create major problems going forward. And we don't need a situation where the Fed is forced to slam on the brakes and push us into recession. Congressman, let's talk about the infrastructure spending plan,

the five billion dollar bipartisan deal that was struck. At what point would you be willing to sign off on that even if there were a reconciliation bill that was sort of attached to it the Democrats were pushing through. Do you have a price tag on how high you would be willing to accept for that bill. It's not

as much about a specific price tag, Lisa. It's more about are we focused on core, real infrastructure and we're not tying it to an unrelated um green New Deal or social spending agenda that has nothing to do with the needs of the country. Look, we need a bipartisan deal to rebuild our country's infrastructure. Look no further than seventy five miles north of my home district in Lexington, Kentucky. You see the Brent Spence Bridge falling into the Ohio River.

This is a major source of interstate commerce, tying Detroit to Tampa, through Cincinnati and northern Kentucky. This is a critical infrastructure project. But there's more of these all around the country. And we need to rebuild our country's infrastry ructure for growth, for safety, for the efficiency of our economy and productivity. But the key is are we going

to do so the right way? Are we going to do so so through streamlining, permitting and regulatory reform and slashing red tape which would save three point seven trillion dollars? Are we going to do it through private capital as opposed to imposing huge new taxes on the American people that would make us uncompetitive and forced US corporations to uh move towards inversions again and move capital and jobs overseas. That's the question. What does it look like and is

it really focused on core infrastructure? Congressman, would you be willing to sign off in the five D seventy nine billion dollar plan regardless of what happens elsewhere because of the need that you're talking about to rebuild some of those bridges and rows. Yeah, the bipartisan deal struck in

the Senate looks good. But what was very discouraging is when President Biden, I think forced by his hand, was forced by the the extreme far left and the Progressives to iy it to this reconciliation bill that would massively expand the welfare state. I think him walking that back gives us more hope. Um, but look, the Democrats are having a really hard time around right now internally deciding what it is that they can do. Would you sign off on the billion dollar plan regardless of what happens

on the other side. Yeah. I I've looked at the over the kind of the broad parameters and it looks positive, much better than what where the administration started. So the details have had yet to be put into a bill, so I would want to see that before I would

commit to it. But yes, certainly this is much closer to or in the ballpark, if you will, than what we were seeing earlier from the administration and untethering it from all of the other um far left wing agenda is is it gives us hope that there can be a bi partisan agreement. I would be surprised if we got there until the fall because of the demands of

of the far left in the House. And uh, you know, the President can show some real leadership here by a pushing Speaker Pelosi to abandon the far left of fringe of the party and come to the center and really focus on core infrastructure as opposed to the Green New Deal or some of these other social spending priorities of the of the of the Democratic Party. Congressman, always appreciate your time. Let's catch up against Congressman Anti Baa of Kentucky.

Thank you. This is the Bloomberg Surveillance Podcast. Thanks for listening. Join us live weekdays from seven to ten am Eastern on Bloomberg Radio and on Bloomberg Television each day from six to nine am for insight from the best in economics, finance, investment, and international relations. And subscribe to the Surveillance podcast on Apple podcast, SoundCloud, Bloomberg dot com, and of course on the terminal. I'm Tom Keene and this is Bloomberg