Surveillance: International Stocks with Arnott

Finn Kitlin, also called Santa Barbarad. He did one of the hardest things you can do in research. He did brilliant research and then kept doing it. That is an extremely rare commodity in the racket. To say his Chairman of Research Affiliates barely describes his contribution to the Chartered Financial Analyst program and to thinking out there about what to do and what not to do, rob or not. Thank you so much, and you know someone's going to

say you're barish and that we'll forget about that. What's the biggest mistake right now in a type two construct? What's a thing desperately not to do right now? I think the most serious mistakes investors make our performance chasing whatever has done well by more whatever has faltered shun it, and secondly blinders focusing strictly on domestic opportunities. I'm not barish when things are cheap. Stocks outside the US are

reasonably cheap. Value stocks outside the US are very cheap, and we find all sorts of narratives relating to China, relating to Ukraine for not investing outside the US. But the US has priced it more than twice the valuation to pulls of non US stocks. And so to avoid those two mistakes, it's awfully useful to think in terms of forward returns, not past returns, and forward returns are simply a function of what's the yield, what's the historical

growth in income? And if there's any valuation mean reversion towards historic norms, is that going to help you or her get Do you suggest that on a national basis, US basis, or even international basis, that we're going to have a regime shift in what our interest rate will be that will allow for the fiction of a better nominal GDP, a better animal spirit out there, but in the long run won't pay off. Does Rob or not have to shift up from an anchored two percent to

some kind of new interest rate regime. I think we are in a transition from a failed experiment with near zero and negative interest rates. That effort to stimulate an already growing economy was beyond foolish, and I think we're seeing the beginnings of a regime shift back to a point where interest rates matter. Think of interest rates as a speed bump if you are. If you have a speed bump on a street that's too high, it stops

the traffic. If you have a speedbump that's nonexistent, you're going to get the occasional reckless driver driving way too fast. And the same thing applies with interest rates. When interest rates are too high, the economy is shuttered. Interest rates now or back to some semblance of normal. People talk about Powell channeling his inner volcre pardon me, Vulcar took the short rate to five hundred basis points above the preceding peak in inflation today, that would mean making the

Fed funds rate fourteen percent. He's not channeling an inner Volker. He's dabbling with increasing rates in a fashion that hopefully won't do too much damage. And it's all based on a very naive neo Kinsian view that you have to you have to wreck the economy in order terranean inflation. Rob or not help me with the idea of my theme for twenty twenty three, which is, if we get a normal rate regime, something many of our listeners and

viewers have never experienced. Let's say we get back to a regime of sixteen, seventeen, even twenty years ago, that we will see what I call the great zombie roll up, and that there's all sorts of companies out there, domestic and international that just aren't going to make it. How can you profit from that? Well, you can profit from that by investing broadly diversified into markets that are cheap,

and we'll cush in the damage of those. You can avoid that damage by looking at quality metrics and not investing in companies that are highly likely to go bust. You can measure interest rate sensitivity for companies and companies that have large debt, be very wary. Don't own them

unless they're really cheap. And there's a lot of companies in the meme stock community that have huge debt, and as that debt gets repriced, they're likely to struggle so the notion that high interest rates are going to hurt the value stocks is actually way too simplistic. I look at one of the great quotes last year, something I think that you will appreciate Nasiemtoleb always controversial, saying, well, the physics is back, the gravity's back, and the equations,

and you've certainly alluded to that, Rob. What I notice also is we've become addicted in our modern to bringing in our hold period of average investments from years into months, if dare I say not even days as well. If we get the tile up gravity, if we get the world you talk about, obviously I agree with you, are we going to learn that we have to have a longer holding period for our investments. I think holding period should be a function of where your personal skill set is.

If your skill is in short term trading, I would never advocate that Kim Griffin take up the idea of bicycle investing. He's doing the rest of us a huge favor by trying to scalp a fraction of a penny off of every trade you make. It gives you great liquidity, and so focus on what you're good at. I'm focused on long term I'm a long term investor. I want short term investors to be there to provide the liquidity, and folks who are not do it a short term

but playing the short term game. They're also providing liquidity, but they're likely to get badly hurt, and they often do. Let me finish up, Rob with the arch question. All my radars up on this is I've got the usual active managers trotting out telling me this is the time for active to outperform, and many of them ascribe to your international view, Rob, are not an update on active versus passive? Please, I think the whole active versus passive

thing is a complete distraction active managers. The passive managers own the market. That means that if you take them out of the equation, what you're left with is that same portfolio. That's what the active managers did. You out so the active an active manager can win, but generally only if another active manager is losing. So it's a silly game to say this is a great environment for

active investors or a great environment for passive. The before fee performance of actively manage mutual funds is nearly identical to that of passive and it always has been and it always will be. So the key question is can you choose active managers who are likely to have an edge and whose success will be funded by other active managers who bets don't work. Look for that in your investing, rob We got to leave it there. Robert Not, thank you so much with research affiliates, and I really can't

say the uniqueness of his research energy. No one has done more in securities research over a longer time than Robert Not. Check out so much of his work with the CFA program in Charlottesville, Virginia, joining us now always lecturing on econ one on one. Francis Donald Global Chief Economists Strategists Manual Life of Canada and America. Francis, good to see you again. Let me cut to the chase. We have a fed in action. They are wildly expost what is the data after the fact that matters. There's

a lot of data that matters. But I suspect we're going to be moving away from the traditional what is GDP, what is the unemployment rate? What is CPI? We're going to have to get a lot deeper moving forward. And that's because well, the nature of growth and how the slowdown in the pack in the economy is likely to be uneven. Yes, we are probably going to see a lower unemployment rate than we have and past slowdown orbit sessions,

but the composition of it will matter. For example, during COVID we had millions of millions of job losses, but they were a low wage job that didn't hit GDP. In the coming we might those tech in finances having a larger impact, and inflation will be problematic because it's not about the headline number anymore. It's going to be about what segment of remaining inflation is interest rate sensitive or not. So Unfortunately, that level one data is not going to be enough to tell the story or what

the Fed's going to do anymore. We're gonna have to work a little bit harder. In twenty twenty three, explain the goods services partition of inflation. Explain those two vectors. As we look at the vectors to march, well, this one in some ways of straightforward. We know the unlined from COVID is going to push down on the good

side and services where you have that remaining component. But I'm looking a little bit further than that, which is right now, we still have inflation that is interest rate sensitive, it matters. We're really pulling down on that excess savings the demand side of the equation. But it's not so much goods and services that keeps me up at night.

It's supply versus demand. And when we get to later this year, how is the FED going to be commenting we're combating the remaining inflation which is food price inflation centric or do you a political driven or ESG driven. We're going to have to have a moment, not just from the Fed but from global central bankers, and I think it's going to start this year. So they have to admit their ability to control that CPI number is waging both on a cyclical factor in this year and next,

but also on a structural basis. And franstis with that in mind, when nice I we want to get sufficient and restrictive, what does that mean? Your guess is as good as mind. But I think what they're looking for is more balanced in the economy, and of course they are getting it. They got a lot of it in twenty twenty two. Here we are talking about what does the landing look like? I'm looking backwards at twenty twenty

two and saying that looked like the landing. To me, we had significant drawn down and housing a bear market in the s and P. Did that not qualify as the significant slowdown? Now we're looking down, we're saying we're landed. The question is do we hit the wall at the end of this runway. That's what we're focusing on moving forward. What is the wall at the end of the run wife, recession or the fact that you think they're going to

have to accept the hire and fly right. Yeah, I think it's a little bit of the two of them, but it depends on your timeline. When I look at the wall at the end of the runway, what concerns me actually isn't two quarters of negative growth that hasn't

been for the last year. It's this concept of something we've been discussing internally which puts a pit in my stomach, a concept like rolling recessions or when you look back in history sometimes we see these periods of expansion downturns that fluctuate very quickly, very difficult to manage money in

that type of environment. And if we're heading into a period where GDP is oscillating around zero, slightly above slightly below, we're going to spend all our time arguing over whether or not it qualifies as a recession or not focusing on the big story, which is we are not in reflation. We're much closer to stagflation. We are not in the roaring twenties. We're going to be in a slower growth environment with a lot of particularities that we have not

seen in the past. What is your when on this, Francis? I mean, we had Matt Lazettian from Deutsche Bank who was brilliant on a delayed recession call when is the is the when not of recession or nbeer recession, but what is the when of outright stagflation? I heard that interview, I thought it was great, and I'm going to agree with Matt that it's towards the end of twenty twenty three is the problem, and especially around June July. This is when the year over year comps for inflation get

a little bit trickier and a concerned. That's when the momentum and disinflation begins to pause out and based on our traditional leading indicators of the economy, by the mid to end of twenty twenty three, that's when we're probably going to start to see the consumer and the jobs picture begin to decline. But at the same time, Tom, we have to evaluate those leading indicators. Should we rely on them the same way that we have in the past. Francis, I want to segui here over to your knowledge of

Canadian macroeconomics. What could your own Powell learn from the Bank of Canada. I look at select developed nation banks and they're taking a different path than the FED. What's a lesson learned from the Bank of Canada for Washington. Well, here's the challenge in Canada and then many of the smaller developed economies. You have even less ability to control

inflation with your domestic interest rates. And this is what the bigger bind for the FED going into the next year is that if you're Australia or Canada, you're at the point where your impact on your economy from higher interest rates becomes much more severe, particularly because of the housing reliance, and your ability to control inflation begins to decline.

So when I think about the FED versus the Bank of Canada, what I see is the problematic situation where the FED can tighten global financial conditions, but the Bank of Canada cannot. It's going to create a much bigger divide between these secial banks moving forward. I mean, John, this is what it's about. I set her up with that question to go to. You imagine the Bank of

England and what they have to do or ECB. If Jerome Powell legs it out with inversion of ninety five one hundred basis points, with the thirty year mortgage going through to new high interest rates, or the Bloomberg Total Return INDECKS moving down in price to under October level, what does that mean for the other banks? They were all wrestling with similar issues though, And I think Francis you've touched on it the character of this new economy

that we might face labor hoarding. Can you work a little bit more on that, Francis, just go through it piece by piece, the post pandemic labor market realities. What are they? Do you think that just haven't been accepted just yet. Well, let's keep it simple. Take a look at the employment to population ratio. What percentage of Americans are working? Forty percent of Americans are not working. Move aside the labor first participation rate in all of its equivalence.

We're also looking at an economy where we have fewer people than before the pandemic. We're missing over two million workers. Where did they go? A lot of them retired early, a lot of them got set up with this market, a lot of them are dealing with cuttlecare and health issues. We have not come to the reality yet that our concepts of demand and supply for labor for wages may not work the same way our textbooks told them told

us they did for the last several decades. So our new questions on how evaluate what brings labor back to the market, I think those are going to have to change pretty significant. Francis, what is it do you think that brings labor back to this market? Well, we know from history if you make people poor enough, they will have to go back to work. But is that what we should be doing? And is that what central banks

should be doing? And this is the big challenge I have when I hear central bank saying we're going to reduce demand to bring him back into supply. But when you have supply shops that are continuous, is really the medicine worth secure in this particular environment? What is the rule of the the central bank control insleation and employment or make the lives of the citizens of this country better.

This is going to be a problematic question for central banks moving Forwarding the next question further down the road, do you think politically that these institutions are going to come into some real trouble once people start to figure out the electrics starts to fick around, that their vote in the election is perhaps less important than what happens

across the road the feder Reserve. Well, we're certainly, i think already beginning to see the challenges associated there that when you begin to recognize what impacts your mortgage and how much things cost, that really that's more of a monetary policy question. We're all not just a general public, but financial services are also going to have to have a moment where we realize monetary policy dominance, which has ruled so much in the way that we invest money

and live our lives. Maybe see that challenging, especially because moving forward, the insallation in the system is likely to become less interest right sensitive, not more. We're gonna have to have a moment where we come and recognize that central banks need to do it, investors need to do it. Eventually the general public will do it too. Francis, we've missed you. It's good to have you back. And happy birthday for last week because we didn't get to do

this last week. Thank you. Francis Donald a manual Life Investment Management. It is joy to bring in out Jay Bryson. He is chief economist at Wills Figer with a truly international band. Jay, let me start with the basic idea. Is Jerome Powell the banker to the world? Is he the central banker to the world now in honor of Bill Rhodes? Yeah, I mean I think in general, I think you know, the Chairman of the Federal Reserve over or the number of years, has been the most important banker. Now,

you know, is he banker to the world? Is he here to bail out the rest of the world? No, not necessarily right, they only have really two objectives. That's inflation in the United States and the unemployment. Right, but clearly the central of the Federal Reserve is the most important central bank in the world. My recollection is you memorize the tailor rule watching March Madness down at Chapel

Hill many many years ago. I miss this Today one of our previous guests, Jay had it out how distorted the tailor rule is once again Towardsten Slock, suggesting up near a nine even ten percent Taylor rule. What's the Powell rule right now? What's the equation Jerome Powell's using if the Tailor rule is busted? Well, so you think about the Taylor role. I mean there's you know, two

two variables in there. Well, one would be inflation and one would be you know, the unemployment rate or the gap there I'll put gap and I think there, Um, the the overwhelming weight is on inflation right now. Yeah, Um, that's that's and it's you know, the FED right now is much more reactionary than forward looking. I mean, you know, if you think back to uh Jackson Hole a few years ago, I mean essentially throughout the forward looking sort of stuff, our square starred et cetera, et cetera. It's

it's all about where is the economy right now? And they're kind of really trying to feel their way in. But again, it's all about inflation right now. Um, we're all the big all the weight is, it's so much of this is our complete focus on the FED. Are we going to be doing this all year? I mean the fed derby, the dots derby, the Michael McKee, Derby J. Bryson. Are we going to be doing this for the rest of of the year, you know? I think so, Tom. I think it's going to be a high weight on

what the FED is doing now. If we get in, you know, a few months from now and it looks like the economy is really starting to slip, I think what really becomes important now or initial jobless claims and other labor market sort of variables. But for the foreseeable future, I think it's really all about the Fed. Can we I'm looking into this almost as domestic final sales, can we quote unquote slip or can we just say it's the housing market and other financial distortions slipping and the

rest of it does pretty well? Like durable goods just showed. How does that Nick's play out? Yeah, So, you know, if you think about the consumer right now, the consumer is very very strong financially, and so you could have a recession this year in say manufacturing, you know, strong dollar, weaker growth than the rest of the world. You could have weakness in the housing market. I mean, that's what we've seen for the last you know, almost year now.

But consumer spending could continue to hold in there, and given the fact that consumer spending is seventy percent of the economy, you could have a few sectors in the economy in kind of a recession and the overall economy wouldn't necessarily to tip into recession. I mean, I mean, it's right where I wanted to go, as you got an nbeer recession here, and I note yield's coming in abruptly here. Two year yield into four point seven eight

percent down three basis points. Ten year yield migrates away two down two basis points with a little bit, just a little bit of curve in version. I don't oversell that future is up thirty jay, I look at the stew as Lisa would say that we're in and to me, I want to just as you said, partition it. If we slow down, we don't all slow down, do we. No, that's right. I mean, you know the economy. You know,

there's lots of different sectors in the economy. You think back tom about you know, back to two fifteen, two thousand sixteen, China was having some real problems. The manufacturing sector back then was in a recession. The overall US economy was not in a recession, so you can have

different sectors going down and not the whole ship going down. Now, if some of those sectors go down a lot, like manufacturing and housing, and then you start to get job losses in there, then it does start to bleed into other sorts of sectors in the economy. So it's a really tricky situation that the FED finds itself in right now. Ja Bryson to the global footprint, which you commanded for years at Wells Fargo. How urgent is it for IMF

right now? You've got the Nigerian elections in that, But how how of a moment is it right now for the International Monetary Fund? Well, you know, if you look around the world right now, you know, most of the world is slowing down right now. You know, if you look at Europe and now, it's not as bad as what it was saying, you know six months ago when

energy prices were through the roof over there. You know, fortunately, when you look around the world, there are not signs of big debt bubbles we had say twenty years ago in Asia places like that. Right So obviously, you know the IMF is you know, obviously very very important institution

around the world. But in My sense is the overall global economy right now is okay, but you know, it's obviously the fraught geopolitical situation, potential for lots of different sorts of shocks, and so it's good to have that backstop of the IMF there if in fact it's needed. Jay Brickson, thank you so much for joining us today

with Wells Fargo their chief economists here. It really can't say enough about what their team has done for us here in the ambiguities of the moment, joining us now, and I want to do a really more focused discussion here on the distance across what, in my ute was the foremost straight Trust me, there's been people from Taiwan over the years, led by Scarlet Food, that grabbed me by the bow times it shut up. This is the way it is. Libby Cantell is expert in looking at

the way it is in Washington. She's head of public policy at PIMCO. Libby, I want to get away from the zeitgeist bologny and know that Pelosi made a trip to Taiwan, the former speaker, but other politicians have followed on what is our relationship with Taiwan right now? Yeah? Well, good morning, Tom starting out with the light questions here

on a Monday morning. Yeah, I mean, you know, I think the sort of the purpose of certainly former Speaker Pelosi and then the delegation that just would actually last week is to, in many ways, I think, send a pretty strong signal to China that the United States will

continue to support Taiwan. Now, of course, our policy in terms of strategic ambiguity has not changed in terms of kind the one the one China policy, but we are, I think very much sort of sending a signal that, should that change, should China in particular do anything to disrupt that very kind of fragile, tenuous relationship, that the

United States will will sort of back up Taiwan. And of course there's some preemptive measures that the United States is taking in terms of providing arms and what have you to make Taiwan sort of a porcupine, so to speak, in terms of being able to defend itself. But again, I think these visits in themselves are very symbolic in terms of sending a signal to China that the United

States well is monitoring this relationship. Perfectly said, They're symbolic, except all of a sudden the Secretary Defense is talking to mister Marcos, the younger of the Philippines about I believe for bases over there and there's relationships with Japan. Do you see in the Republican Democrat bipartisan debate on China a new Pacific rim policy of Capitol Hill in Washington. I think politically that's quite it's quite difficult to do

anything formal. Of course, as you as you know, Tom, the Trans Pacific Partnership was in some ways trying to get to that and trying to isolate China, at least economically from a trade perspective. But I do think that sort of a de facto policy is emerging, both from the administration's perspective and also a Capital Hill perspective to really, um, you're do to try to try to alienate China or try to isolate China geographically, John, this is chilling, and

that it's a discussion from my youth. It's like it's like a war back to I'm guessing off the top of my head seventy two. Well, there was a how we'd left some of this behind, Tom, But it's so many different ways. Yes, you're very well said, Thank you, you're well said, so you didn't great, but you were Wilson Libya. I want to go to a publication in Germany that came out with a report last week that a Chinese manufacturer was in discussions with Russia to sell

them drones. Libby, the United States and the administration and have been very transparent about the intelligence they've been receiving. They say it's a risk, we want to understand what the consequences might be. Maybe what you have in mind if that did so happen. Yeah, I mean, I think John, you're exactly right that the administration is really trying to be as sort of transparent and forthcoming here in terms

of their warnings to China. Of course we don't. It doesn't seem like we have intelligence that they are providing military or lethal aid to Russia, but a pretty stark warning from Blanket, from secondary State blank and other folks

that if they should that there will be consequences. In terms of those consequences, John, there are secondary sanctions that has been something sort of on the tip of the tongue of many members of Congress really since the Russian invasion of Ukraine, and a sort of this view that China has been, you know, kind of complicit in all of this, so I think secondary sanctions would absolutely be

on the table, and then more export controls. Of course, we saw the administration move forward with pretty punitive export controls, pretty focused however, on advanced semiconductor chips that could also expand to other sectors. Should again, should there be intelligence that China is providing lethal age to Russia. Of course there isn't that yet. We should we should just clarify. But if there, if that shouldn't come to sort of public lights. I think that Congress in particular will move

forward pretty quickly on this. Libby, Can we talk about a couple of cross currents at the moment, then, so the administration seems to be on the same page as Congress, both Republicans and Democrats when it comes to containing so the competitives, the economic threat that maybe the Chinese communist poses. At the same time, we seem to have this fraying when it comes to supporting Ukraine and the military effort

in Ukraine within Washington, DC. If we put all of that together, and let's say we face the very real possibility, possibility, probability of ending up in a proxy war with China in Ukraine. What would support look like in Congress to continue funding the military effort of Ukraine against Russia. Yeah, I think I think, just to be clear, I think the administration wants us to be a proxy war at all.

And I would say m John that although there have of course been a lot of media reports about the softening support, especially among Republicans in terms of supporting Ukraine, I think that's a bit overstated. You would, I would contend that the Center has very much held in terms of the support for Ukraine. You had Minority Leader Mitch McConnell very emphatically saying that the support for Ukraine will continue.

That may come with more conditions, a little bit more oversight from this Republican House in particular, but I think we should not, you know. The sort of the point here is that there is a lot of Congressional support for Ukraine regardless of what happens with China, and then of course avid does devolve into a proxy war, which again I don't think anybody wants, particularly in the administration.

I think you can you'll continue to see even more support lebby quick questions sharp Sigui if I may in the headlines of the papers today. Is this never ending legal debate on student loans? Is that age Washington or is that a story that's off the radar. No, I think it's very much engaged Washington. It's also a really important issue for a lot of Democratic voters, in particular

a lot of young voters. More broadly, so I think a lot of folks are going to be watching this, you know, I think, you know, our view has been that the legal justification for the student loan cancelation was a bit tenuous. Even speaker performer super Pelosi had said that Congress neated to do it, and Joe Briden had had said that at one point as well, that is actually in Congress's remet, not the administration. So, you know, I think we would be surprised if the court sided

with the administration. But of course a court decision probably is not going to come until you know, next year, sort of later this year, excuse me, um, So you know, we'll have to see. But yes, I think that lots of people will be paying attention to those those arguments this week in front of the Supreme Court. Maybe this was nice, it's been so long, you know, maybe spen affording us never I'd rather, I'd rather you've be talking about the Denver brocos, though at least you know well

to do that. It's so depressing that you know, you know, we can thank you. Let me, can't that a fim cutt. Subscribe to the Bloomberg Surveillance podcast on Apple, Spotify, and anywhere else you get your podcasts. Listen live every weekday, starting at seven am Eastern. I'm Bloomberg dot Com, the iHeartRadio app, tune In, and the Bloomberg Business app. You can watch us live. I'm Bloomberg Television and always I'm the Bloomberg Terminal. Thanks for listening. I'm Tom Keane, and this is Bloomberg