Surveillance: Lew Urges Fiscal Action

of call genuity equity strategist Tony. He's starting to feel I'm comfortable with where this market as is right now, given what he's going around all around the world, around us, in Europe, in the United States, even more so in the last twenty four hours. It just is um It's disheartening to hear, but it just goes to show what

drives the market is money. It's always driven the market, and it's unfortunately the social side of it isn't as important as the excess liquidity side of it, and the access liquidity side of it, as you guys know, is absolutely extraordinary. But just a quick comment John on the dollar. So if you look back over the last since two thousand nine, since the Great Financial Crisis, there's been three

other periods of such a pronouncedly weak dollar. Historically when it gets down more than eight percent, which it did

in the summertime. It ends up going down between thirteen to seventeen percent, And of course I'm talking about the US dollar index, and the reason that that's important is people always try to make it about deficits and access debt, and what it always comes down to is the dollar gets weaker in that second leg lower where it goes down into the mid teens, because it starts to understand and accept that there is a synchronized global recovery, and

that I believe is the movement of the dollar versus some kind of panic over Brexit or panic over access debt. Tony, good morning. Your number one call is own stocks until there's a recession. Are you gonna sell stocks because you see a recession coming, tom We are in the beginning

beginning of a new economic and market cycle. Um. If you look back at at how the markets acting and how all the indicators are acting, it's very similar to what happened towards the end of two thousand and nine where you had back if I take you back there, there was historic access liquidity just like there is now, and you had this synchronized global recovery coming out of

the Great financial crisis. So even though the market was up fifty in the summertime at two thousand and nine, it kept going up because there was this excess liquidity and this understanding that the globe was recovering all at the same time. And that's that's been the impact of the pandemic globally, is that everything shut down in March, like the whole world shut down. And now we're coming off of that low alow. You know, obviously there's gonna be fits and starts of the very near term here.

So a lot of equity strategists, yourself include did have been pointing to signs of euphoria extreme buying, particularly in this moment, based on those terrible numbers that we're getting out of hospitals and deaths on the heels of the COVID pandemic. What do you do as a longer term investor. Do you just ignore it and basically say long term, it's all gonna work out, or do you try to play this in the real time? At least, I'm not very good at chasing excessive optimism and strength, and again,

it's not a sign that we're about to collapse. Going back to Tom's question, this is the only time you really get sustainably defensive on equities. In other words, cell cell cell is when you can predict the recessions coming, and you can do that through the Yeld curve. When you have an inversion of the yield curve. Is one of the reasons we downgraded the market in January of

this year. The Yeld curve. Remember the heel curvet inverted last August, so at least that the yel curve is just st deepening, right, that's a sign, just like it's a sign of a recession is coming when it inverts. When it goes from an inversion back to a positive slope, it's a sign of economic activity. So our play is to buy periods of weakness like the September swoon where the market was dead since he was down ten percent, and the October wash where the market was down eight

percent in two weeks. Those are the kind of environments where I think you want to attack the opportunity versus feeling like your quote unquote missing something and chasing this kind of optimism that's out there, Tony. Isn't that a story for everyone? Though everyone's waiting for the pullback to buy, Everyone's got the same trade on right now, I'm trying to work out what would test the patience of this market at the moment to actually lead to some kind

of pulled back. The data has been soft on claims over the last couple of weeks. Maybe it's softer again this morning as well. It just seems to me that everything is so firmly anchored by the expectation that vaccinations will begin in the UK next week, in America maybe the next couple of weeks, Tony John. As you guys know, it always comes out of nowhere. People like me are famous for I'm on TV and saying, oh, I think this is gonna call it. It's not. It's not predictable.

What causes, you know, a real kind of sharp two weeks sell off, and again I'm not expecting anything too dramatic, is when you it's it's a news item that you can't predict and it comes from well. While folks like us, you guys in the media and me and the in the Cell Side Strategy group are saying, Okay, the markets due for a pullback, investors aren't playing it that way because that optimism is so high. We we trecked this

thing called the National Association of Active Independent Managers. It looks like it looks at active money managers, real money movers um that are that range from small to large, and it's at a level that was the most recent time it was there was around the August peak, right before we had that time percent decline, and again before that about three years ago. So optimism is very high among actual investors, which is actually a good thing when

you're corting off of a historic flow. Tony, fantastic it catch up. You're always looking well, tony to that kind of gently, thank you sir. Right now, the bond dynamic is John mentioned. Kathleen Jones joins us right now with Schwab and their Center for Financial Research. Kathy Jones, we're seeing the bon move. I see the Bloomberg Barkley's Total Return Index up, up, up. It doesn't compare to the equity markets, but still it's been an extraordinary two year

run for bonds. When the bonds breathe and we see price down and yield up, I think we're starting to see it, particularly in the long end. Now you know, we've seen the steepening of the curve with a tenure treasury pushing up against that one percent, and we're looking for a further stepening, that bear stepening where the fat is anchored short term rates near zero, long term rates try to edge higher. Not looking for a huge move at this stage of the game, because the economy still

has a pretty dark period to go through here. But I think as we look into the second half of next year, if we really get the vaccines distributed and the economy fully reopens, people get back to work, it's not unlikely that tenure yields her in that one to one and a half percent area. There's a consensus in markets that bond yield to be much higher if it weren't for the widespread belief that the FED will step in and suppress yields if they climb too high. What

is that level that triggers the Fed's concerned. Yeah, I wish I knew. I wish there was like a line in the sand that they're going to draw, But I don't think that that's realistic. I think it's more likely that the FED looks at the rate of change and the underlying nature of what's driving it. So if you're sitting at the FED and you see rates move up to one and a quarter, and it's off the back of good economic data, falling unemployment, rising consumption. You might

destroy your shelf and say that's not a terrible thing. Um. If it's disorderly and a sudden jump because inflation expectations are really become one board, then it might be an area to worry about. But at this dame of the game, financial conditions are really easy, and even with a quarter

point move from here, they'd still probably be pretty easy. Cathey, expectations matter, though, and you and I know a ton of people who believe that yields won't gone much higher because the Fed will step in December six and extend the average maturity they're bond buying. I'm wondering if they don't how big the air pocket is for treasuries. Yeah, there does seem to be a widespread consensus about that.

I'm not really sure why. When I read the minutes of the last meeting, I don't get the sense that they're eager to jump in at the stage of the game or to extend duration. Um. So maybe that does give us a bit of a pop here, But the realistic situation is we still have a lot of a lot of bad news to get through over the next quarter or so, and I think that that in and of itself would probably limit the appreciation in terms of

yields from here. So it's interesting to make Kathy that the disruption of the next few months would keep a lid on treasury yields, but it won't keep a floor on how tight credit spreads can go. Credit keeps rallying, but yields are limited on treasuries. Square that for me. Kathy makes sense of that for me. If it matters for treasuries, why doesn't it matter for credit. Yeah, I think credit spreads are about as tight as they can go for the time being, particularly in high yield. Maybe

they can extend a bit further. You know, the market it's certainly high yield, and and much of the world of credit it's much more like the stock market than the treasury market, and so they're looking forward at earnings coming back and cash flows improving the search for yield.

It's all driving this sort of cyclical rallially in um credit, and I think it continues over the next six months to a year or so, but a lot of it's been done already, and the lower credit quality is certainly vulnerable to some sort of bad news here, because, particularly in the high yield world, the lowest rated bonds of triple seas, etcetera. Have rallied so much there's not much in the way of reward left for the risk. Kathy,

what are people actually doing with their money? Now? Schwab has a wonderful ability to see not what we say, not what we talk, but what we do. What are we doing when you look at bond bill and note flows. Yeah, we we see a lot of our clients sticking with shorter duration, higher quality bonds UM. They like munis UM. You know, we have a pretty large cohort of retirees or people near retirement and there is still committed to their municipal bonds, UM bond ladders. Uh. They really haven't

changed the way they look at things. But shortening duration, keeping durations short, waiting for yields to move up seems to be the major trend amongst the bonding serves. So I want to go to something that John was talking about earlier when he started this segment and was looking at the equity market and said, this doesn't feel comfortable. And I'm looking at credit markets, and I'm looking at triple C of bond yields. Basically, these are the bonds

that are the riskiest of risky. They're the closest to default, and yields on this debt are the lowest since two thousand and fourteen. I'm also looking at the fact that you have companies burning through cash an increasing number before they even pay interest in other expenses. At what point is this unsustainable? In other words, how long do they have before we have to get that vaccine or something to end the pandemic for them to stay in business. Yeah,

and this is the worrisome part about high yield. The real risk um that cash burn is really picking up, and the leverage is very high, and so they need to get things to improve pretty quickly. I would say, if we don't get real light at the end of the tunnel in the first quarters, so we're gonna see those bankruptcies picked up and those defaults increase. And what we're worried about in the default side of the recovery rates are going to be quite low. And that's why

we're really pretty cautious about the high yield market. Kathy, Who's going to bear the brunt of those losses? Oh, gosh um uh. You know it's gonna be probably spread out pretty well. We have a pretty wide swap of people who have been in the ets. So if you're in a broad based high yield E t U, there's defaults and losses, you're gonna feel it in any index following up um investment. But also some of the specialized funds.

You know, they active managers always like to tell you that they know which are the good bonds and which are not, so we'll see all they do, but then shade any of the creditors. Uh, you known feel the up I'm just reflecting what I'm told that I hate the sec think, Kathy, they always held the good bonds, they never held the bad bank you Kathy Jones a cha Swab the Center for Financial Research. Right now, we've

been talking about this cel morning. Perfect timing to speak to kid Juice because the scientists general yes, and foreign exchange, but he wonderfully folds it into the political economies of the world's financial system. Kit Jukes, let me start with

the why why is the euro appreciating? I think the euro is appreciating because the dollars falling, simple, simple starting point, because the real interest rate advantage that the dollar built up against the euros since two thousand and eleven has collapsed. Um and as the global economy starts to look forward to the better tomorrow with vaccines, we can't have the

euro this undervalued against the dollar. Most of the move has to come from a week of dollar But but that that relationship is wrong, and you can see it in so many ways that the capital flows that kept the Euro down are beginning to unwind um and yeah, we we we need to end up in two years time at one thirty four year a dollar somehow, kit the roads are one thirty. Where's the pain threshold for the e c P? Is it the pace? The level?

What are you looking for? It's the pace and um and how it happens so pace because you affect obviously exporters and also inflation, which is huge. So Philip Laine really really wanted to put the brakes on when we moved up to one twenty quickly in the summer. That that worked, so we can go back there now without too much pain. But he'll be worried again because the

Europeans don't want any more disinflation deflation um. And then and then and then the way it's made up, because what really matters for the economy is going to be the trade weighted Euro and not just Euro dollar. The biggest the biggest unit in a trade weighted europ row is a Chinese yuan, which you've been talking about. If the Chinese will let their currency appreciate, you can get

to one pretty much faster. It's likely they won't let it get much further at all than we are now, and that is why the whole thing has to happen really slowly. But but at the other side of all of this, you know that the Euro when it was trading one oh five one fifteen was very artificially very weak as a result of ECB policies in fifteen, and we have to go back and remember that it is down here because of quantitative easing and negative interest rates

under Mario dragging kid Jukes. The only reason I'm talking about the Chinese currency is because you talk about it, and you taught me everything I know about effects about eight years ago. I'm looking at euro China right now, five days five days kit we've had a move on Euro un Now, I understand that the previous few weeks was a lot about dollar broad based dollar weakness. The last couple of days though, China started to break down

a little bit as well against the euro. How do you think they sets us up next week for the e c B here, I think it means that they continue to be dolish. I think they'll say something about the euro at some point to try to spell this down unless it steadies. So you know, we've broken above one twenty, but I don't think we can just break quickly to one. I think we have to stop here because there is no doubt that the ECP wants to do more. The problem for the ECB to some degree,

and they'll talk about it quite a lot. Is that, as as they've said lots of times, that they don't have that much room in terms of policy maneuver from here. What what do you get by getting rates a bit more negative? What do you get with a bit more

quantitative easing? What Europe needs is is easier fiscal policy. Um, so they can't you know that they don't have a they don't have the magic bullet they had fourteen of let's buy all the bonds and cut rates to negatives so that you all have to put your money somewhere else that's not available. But but they will push back and resist, um and and they will come out with some more some more accommodation of some kind. This is

exactly where I wanted to go. The question of the efficacy of central bank policy on FX moves, and there's a question have central banks and their policies lost the same efficacy in uh perhaps manipulating I don't want to use that word loaded word, excuse me, in affecting FX rates or are we looking right now and actually the

economy that's determining where we are seeing currencies valued? Yeah, I think we'll I think we're going back to a world where if we all look, if we all have zero interest rates and let's call them zero bondials to keep ourselves happy, then then all the countries with big current account surpoces will end up with overvalued currencies because um, you know that they won't have an incentive to recycle those.

What we've done for a while is we've kind of played with that and sort of change it around with rates. So um, you know, you've managed to get to person that the Japanese with with the ebonomics, managed to get a very weak currency with your curve and role bond buying, equity buying negative rates there as well, um and all of this, all of this becomes less effective. If you wanted a model for how it's not so bad, Dolly Yan went from under eighty to over a hundred and twenty.

And as we've eroded all those relative interest rates away, as we've all started doing what the Japanese have been doing, we're only back at a hundred and four. So in a sense, you know, the Japanese are still keeping their currency competitive here um. You know, for longer than I thought that they would manage um because because of of the you know, their aggression in terms of what they've done. So I think they still you know that the central

banks aren't powerless. But the problem is you can't fight the current in the same way because what was so successful was I moved my rates relative to yours. We all have the same rates now almost yeah, there rates

to the bottom. And so there's a question for the ECB next week that pay perhaps is what you're seeing in your own whereas currently being valued that if they can't really do that much to stave off the strengthening, why not jump on this consensus trade is that your view, um, My view is the consensus trade, you know, has to happen that that the market, the consensus trade is they work because when when we change a regime let's call this the regime of of U of post COVID zero

rate for a long time, um, the consensus tends to be quite good once that regime change is clear. And the danger is that as as the consensus starts to make money, everybody gets on board it because as you know, all the dausers start start realizing what's happening, um, and then you can't stop it. But if I'm a central bank, my only goal is to slow this down as much

as possible, just like the Japanese. A kid, it's great that we talk to effects with you, and you know I can look at, you know, the history being made here as we back, go back to the nines and the Plaza chord. Kid, I've got to note a small soccer match this weekend. I call the Derby feral cause of the derby and I can't believe Arsenals on the edge of relegation. I thought we'd never get here. They got to play the Tarts. What is their chance against

the tarts. Oh there are better side against good sides than against mediocre sides. At the moment, I think if I'm probably to get myself some comfort, we we you know. I hope that that game puts some put some steel into the into the boots of the Arsenal players and they realize what there is their duty to look over happiness of people like me. You're just drawing jo John Farrell jump in here on the importance of this game

to London. We've got to let him go. But let me say thanks to Kit and then I'll talk about that, Kitukes, thank you. The importance of North London. Let's be clear about this, Tom, this is North London. It is the North London Derby between Tottenham Hospice and Arsenal. You pick a side, typic Lee, if you live in North London, which side a North London resident? Kit jukes him south has clearly picked Arsenal. That is his site, So it's a big North London derby. Tom. Typically, over the years,

Arsenal has come out on top in lead position. This year and over the last few years, Spurs have been far more competitive, particularly this year, fighting for the title. Maybe Tom, you're taught doing a whole lot better than Lisa's Arsenal good explanation. Did that help? That helped a lot, just didn't help to grind Lisa into the ground. I mean, Lisa, is there needs to be a coaching switch at Arsenal.

I just know that I picked a losing team yet again, after all of the New York teams, Lisa, You've picked me and John. That's enough said right there. I must ask, Mr Secretary, have you been contacted by the Biden administration about service there? As we've seen from Vice President Carry have a lot of friends who are going to be in the new administration, from the top through the leadership levels. I'm happy to offer my advice whenever asked, and we'll

continue to do so. Let us speak of stimulus, Jack Lou as we can. In the Friedman article in the New York Times, a president elect makes clear he's willing to compromise with McConnell. He does not want to embarrass McConnell. What is the common ground that they can find quickly on stimulus? On the common ground has been clear for a very long time, and finally in the last we've

seen a conversation beginning looking to find it um. Since the expiration of extended and supplemental and employment benefits, since the expiration of protections on on eviction, we've seen a train coming right at us. And it's been far too long since Congress has had a serious Congress conversation. The House passed legislation in May, and we've seen virtually nothing since then. Let's us to remember what the facts are in Chairman Powell described it so well in those opening comments.

With nearly ten million people unemployed and a large fraction of them five to ten million people facing eviction, the degree of crisis here is not small. It's very large. It's large in macro terms, and it's just enormous in terms of personal terms. If people lose their homes, if people are homeless at the end of this crisis, their recovery period will not be months. It will be very long, and it will be very hard. That is going to

be a social problem in an economic problem. So Commerce has to deal now before the inauguration with the multiple challenges of keeping people in their homes with eviction protection, giving them support to pay mortgages and rent, helping keep food on the table through a combination of unemployment benefits and food assistance and dealing with the problems that stake in local government, which are going to mean to cut back in services and a loss of employment at the

worst time. We went through the last high point of the COVID crisis, the low point of the economy. Um, with enormous government support. That's over. So if we go through the long hard winter that we see ahead without additional support, it's a long time before January fa Mr Secretary. How do we span the great distrust of the rural

urban divide in this nation? You have tackled that for years again, going back to the Commonwealth of Massachusetts ages ago, there's just an immense distrust of those cities and those democrats. It's right out of the nineteenth century. How do we break that distrust and come to meaningful compromise. It's a good question, Tom, And you know it used to be that food assistance was one of the areas that brought

people together. Um. You know, the original food stand program was a compromise between the agricultural community and people advocating on behalf of poor people. Um. We could see something like that. Again, the truth of the matter is working people, regardless of whether they live in cities or in rural areas, face common challenges. You look at the team the Vice

President President elect Biden has put together. It's a group of people who focus on what does it take to make work produce a decent standard of living for people, regardless of where they live. Starting with Janet Yellen and her deputy Wali YadA Yamo, the chair of the Council of Economic Advisors, Celia Rouse, the head of the Office of Management Budget near A Tandon. These are all people who understand the problems that working people face, whether they're

in cities or in rural areas. I hope we can begin that conversation that their life experiences help them to connect with people both in the communities where people like you and I live and in rural areas where the problems are not as different as they seem. But Jackie, going back to the stimulus and good morning to you. Are you worried that Republicans are rediscovering their traditional concerns

over debt and thus won't do enough on stimulus. So, Francine, you know I've spent most of my career trying to strike the right balance between government having the resources to do what it needs in a fiscally responsible way to make this a better country, and and at times of crisis saying we need to do what it takes to get through the crisis. This is a moment of crisis. This is a time when we should not be worrying about a hundred billion dollars here are a hundred there.

My own view, my own view is the bigger the better. But big is better than nothing, So I'm glad there's a conversation going on. The content of it matters. The fact that they're now talking about targeting money along the lines of the bipartisan compromise of where it's most needed and not in the places that are inefficient. That makes it possible to have a very effective package at the size that somewhat smaller. But this is not the moment to be worrying about the deficit. That moment will come.

It came and passed when the tax bill was enacted a couple of years ago, when it was almost two trillion dollars for in my view, very inefficient and unfair tax policies that added two trillion dollars to the debt in a period of growth. We're in the worst economic period in my lifetime, and this is the moment to use fiscal resources. So I would go bigger now rather than smaller. And when the crisis is over, talked in a in a reasonable way about how to get back

to a sustainable path. And I just want to be clear, the crisis being over is when most of those ten million people are getting back to work and the unemployment rate is starting to look the way he did before COVID. But do you think in your eyes that they're worried about debt, which in your eyes you think is wrong, or do they not want to give a win for the Democrats? Oh? Hi, look there there's certainly politics going on, and with the Georgia elections in January, frankly, it could

cut both ways, you know. I I'm it's hard for me to understand how it helps somebody running in an election now to say to people who are scared that they're gonna lose their homes, we're not willing to do anything for you. So I don't fully understand the politics, but obviously it is a factor um in terms of the economy and the impact of debt on the economy. Um, the total debt stock is growing it's larger now than it's been since World War Two. It's also the worst

economic crisis we've had since then. And the reality is this is not the moment to worry. The time to worry is when we get through this crisis. I don't think Chairman Powell would be talking about the need for fiscal stimulus the way he has been, even the way he did yesterday. If if it was not a question that people who are responsible for economic stewardship on both sides, who are taking what I think is a reasonable view,

are thinking um. That doesn't mean there's not a series is issue um in terms of not having sufficient revenue to meet the spending requirements that our country needs, and in some cases not taking the heart and review on some of the spending issues. Jack blu, I want to go searching for the middle. Someone suggests that the President elect, with his August age, is the last of a generation. You were weaned by Joe Moakley, who was on the ground south Boston down to Brockton. Congressman, how do we

find the Mowkeley middle, whether Democrat or Republican. Look, you know, I came to Washington in the nineteen seventies, and it feels like centuries ago. But I just want to remind everyone that the nineteen eighties and the nineteen nineties we're considered the most partisan era that we've ever gotten through, going a little beyond the years when I worked for Congressman Mowkley, years I worked for Speaker O'Neil. Um, the battles in to eighty two between O'Neil and Reagan were

considered yper partisan. Um. What happened in two was a congressional election that divided government, that told both men that the only way to make progress is to do it together. I want to be clear, Speaker O'Neil did not obstruct President Reagan. He lost in the votes. That's a big difference Mitch McConnell's obstructing votes. If Mitch McConnell would allow a majority to vote, we could actually see bipartisan action

on stimulus on issues like immigration. So the challenge here is to get back to a tradition that bipartisan majorities have to act, not running the House in the Senate as a machine to produce a primary safety in one or another party and to secure a majority at the cost of of functioning government. Gridlock will hurt our country if that's where we go again. And I think but president like Biden, knows how to compromise. He knows how to do it in an honorable way for both sides.

And Mitch McConnell knows how to do that also, if he decides it's in his interest. I dearly hope that he decides that it's in his interest. I don't think he wants to be remembered in his final years as a majority leader or I hope minority leader, as being an obstructionist. This country voted for people to work together, and Congress needs to let that happen. Thank you so much for talking to us this morning at Jacob Leu there, the former US Treasury Secretary. 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