Surveillance: Optimistic Case with Calvasina (Podcast)

OMBC Capital Markets. Laurie, a little bit of a trim to your price target, let's call it a trim from forty sixty. Just walk me through your thinking over the weekend into this week sure, you know, John, I think we've all had the question on our minds. Are we

headed into a recession or not? And I will tell you that are We have eleven different models that we look at, but a fundamental assumption between behind all of our modeling is the idea that we're going to see a material slow down in economic growth that skirt the recession, and so we do that. We you know, we've basically

updated our GDP models. We've added in a new valuation test which was really responsible for a lot of the downgrade to the part of the forecast, but in general, we think that the economic data um is you know, we're we're taking the optimistic case here that the said will be able to pull this off. But we do think that bond deals essentially have taken a bite out of some of the forward return of the market. We talked about that actually in April um that continues to

be the case today. And you know, Lisa mentioned peak bearishness coming on. That's something else we're modeling. And so we basically look at the recovery off of the load that we had on May nineteenth and factor in the typical recovery that we see in growth scars, and it's about type return a aii that net barishness that we've seen there also tends to give you a bit of

a springboard. So while we are factoring in this economic rashing down, we do want to take an account of the fact that sentiment probably has you know, hit peak barishness as well. Lori, I want to take an individual cell side report. I know you don't want to talk about individual stocks, and I'm not going to ask you about Amazon, but Ron Josie over City Group Publishers on Amazon with a stunning view out one to three four years.

The dot growth from pre pandemic is forty three billion out to a present seventy one billion out to a window in twenty four months of a hundred and four billion. I believe that's growth. You are pounding the table. The growth does better is value fades discuss that. So look, I think we also need to just take that economic environment we think we're in and apply it to sector

and style positioning. And typically we see that when you exit a hot economy to a cool economy, one that's above growth to be glow, growth are above average to blow average. It turns at the trend itself. You typically see value seed leadership. Value does well in a hot economy, and you tend to see growth out before in that cooler economy. Now, defensives would do well in the recession, but we think that's you know, a risk, but not

our base taste. And when we look at growth as well versus value, we find that basically the relative valuation multiples are all starting to look reasonable slightly attractive again. And if you look at the long term growth expectation between value and growth, it had been sliding, so growth was really coming down relative to value. That tends to drive the relative PE multiple. But we have actually started to see some stability in that relative long term growth expectation.

In other words, investors have not given up on the idea that growth is better than value on the growth front, and that should give some support to the PE multiples here. So, Lory, what's going to drive the SMP? What the what's the leadership going to be to get it to? Which is your new target? So, look, we like technology, and I want to stress that we are being very particular and very picky on that broader t I M key trade.

So we don't like the communication services sector were neutral and consumer discretionary, but we like that classic tech sector where the valuations have gone from being ridiculously overvalued um to slightly attractive to neutral depending on what day we update the model. Earnings revision trends are actually starting to improve for the technology sector again, and it's one of the biggest sources of net income in the SNP as well as market cap, So we think that helps stabilize

the market. If we do have a peak in bond fields here, which is a called our rate strategy team is making, that should all help also help the tech sector stabilize in terms of performance on the value side. Lisa, I would tell you, look at financials got a much better valuation case than what we've got an energy our materials. Right now, earnings revisions are positive, but they're not peak like, which I think they may be starting to look like

they are in energy. And we really think that as the market sort of transitions away from the recession fear narrative and towards the slower growth narrative, that can breathe a little bit of life into this financials trade again in terms of a relief Laurie, wonderful to get your thoughts as you cut that price. Talkeet just a little bit, LORI canvass in to the EVOMPI sake, we are thrilled

to bring you. Bruce chasm In, Chief Economists and the head of Global economic Research at JP Morrigan listening all weekend to Ario Speedwagon because Jasmin and team have been riding the storm out. There's no hurt the hurricane. Come on, you guys are diplomatic. In your Friday Weekly Prospects. You pushed against the CEO, who's looking for a hurricane if it's not a hurricane Bruce Brief, Mr Diamond right now

and what's ahead. Well, I think what we have here is a pretty powerful tension between drags that are not going away and a very resilient private sector, with the health of both households and corporates being quite remarkable right now. I think what we're gonna see is growth continue to be on the softer side, but growth continue to show resilience. Uh.

We don't see a near term recession. Uh. We see a global economy which actually does okay in the second half of the year, with the US slowing and the rest of the world doing somewhat better. What does China do to the US? You call it to the audacity you hope? I agree. We have a jump conditioning copper this morning. But Lincoln, all of your Asia research over

to what's happening in the United States. Well, I think the the US manufacturing sector mostly is gonna see some softening as a result of what's been happening in China. I think, in addition to that, there is every reason to think that higher interest rates, higher energy prices is gonna hurt things like the autosector. We can see that. Uh. And we've just been through a really good run for US and global manufacturing on the back of inventory dynamics,

I think industry is gonna slow. You know, our basic point is there's no real reason to be worried about a recession. There is some slowing in the in the picture. But the other thing is that part of the reason we're getting slowing is high inflation. And I think the combination of high inflation and tight labor markets is starting to change the inflation process, which over time is not

good for the sustainability of this expansion. So I'm not I'm not trying to downplay the underlying dynamics here, which are worrisome, but not about near term recessionments. I think you have to get hit by much bigger shocks to really talk about recession anytime in the next twelve months or so. Bruce to one of John's pet peeves that you mentioned this morning, the good news is bad news that we experienced on Friday, the momentum in a labor

market highlights how much the FED has to do. Is that your takeaway from the recent data that there is nothing to stop the FED from being more aggressive than the market is currently pricing in. I think over time that's true. I think the FED is committed to two fifties. UH. If we're right in the economy slowing towards a two percent pace later this year, there's a good chance they

slow the pace down. But but ultimately, I don't think what you see in market pricing is going to be consistent with the get FED getting control on inflation, UH, slowing the economy down to to something that's going to be weak. And I think ultimately the FED is going to have to do more. But I don't think the Fed is ready or signaling it's willing to do that much more. I think in the near term, and I think that's important. The FED does not want to create

a recession right now. The FED is tolerant of inflation above two percent. So this is gonna take time before we get to the point where the FED really has to hurt us. So, Bruce, when I was reading a lot of the notes over the weekend, they see us to be this distinction drawn between a slowdown and a recession is a really some sort of clear cut distinction here, or we basically just parsing words around the same issue, which is, how do you price in a loss of momentum.

I think there's a huge difference between a slowdown and a recession. We haven't had a recession in the US without the US unemployment rate rising two percentage points or more recessions and nonline events where corporates are pulling back. So I think we should be careful and we use those terms to make sure we understand that that's what it means. There are a number of different ways the economy can slow. I think it is likely the U

S economy slow. I don't think it's likely that we're going to see that kind of break that we've seen that's been notable in recession dynamics. First, one of the big distinctions of JP Morgan is how you parse it out among your team. I know you hang on every word the Daniel Silver rights in this weekend. He rights about high wage growth. This is a really important concept and that the new domestic labor economy is skewing again

the high wage job growth just us that well. As as the pandemic got hit and we saw dislocations in the economy, an important part of the wage gains we were seeing in the elevated wage gains were not tied to the tightness of the labor market. They were tied to the dislocations, and they were unusually skewed towards lower

UH skill UH job sectors. And now we're seeing, I think, what's more consistent with the tight labor market UH wage pressures building, and wage pressures building in particular insectors of the economy that are high wages. I think the problem the economy has even as it slows, is that the labor market tightness, the salience of inflation UH is starting to affect the wage and price setting process. And I think that's the issue around the sustainability of the expansion

that ultimately is going to be a serious problem. How long can the consumer remain resilient if you don't get wage gains commensurate with inflation, and if you see people eating down into their savings as we have, well, first of all, we should realize we are getting wage gains commensurate with inflation. The wage bill, wages and hours together have been growing at about a nine percent base over the last six months or so, so we have been getting that. I think we are going to see slowing

in wage income, partly because the aboutmy slowing. I do think the US household sector has every ability to continue to absorb drags from higher inflation. The question is whether they're gonna be willing to and whether corporates are going to continue to generate that kind of labor income. First,

you're gonna hate me. We talked to people in the White House and we say, when you go into the Oval office and sit on that gold couch, how does the president take in your economic data when you wander into Mr Diamond's office and you have to do a briefing, how does he take in the chasm in economic data. Well, I think he takes it in and he's got his

own views. I remember quite distinctly in the past that, you know, the leadership of the firm was much more clear cut about understanding dynamics and financial conditions and how they were going to impact on the on the on the macro economy. That's something which is economist we may not fully appreciate. I think that's one of the issues we have to face right now is financial conditions are

tightening as we're seeing it, and we we give our advice. Um, you know, as we see it, we see the economy slowing, We don't see a financial storm coming right now, and we think the economy is gonna avoid recession as we go through the rest of this year. John, if we go into hurricane season, can we get Cassman in here to do other reports? I think Cassman practice that would pay on before coming on. That's for sure. Proce gonna catch up audience. Chris Castman at JP Morgan my favorite

tweet this morning. The hurricane has been tancraded to a light summer priest for JP Morgan. Hawaiine Becker joins us, Now, this could be a three hour interview given the fixation in American air travel as we come out of the pandemic. Deaths under three is a huge, huge deal, Hollane, Let me get out of the way, Spirit Frontier and Jet Blue into borrow phrase some cf A level four? Is this dinosaurs mating? Is this much ado about next to nothing? Well,

we'll see what happens. Um. It's certainly not a done deal in any case, because they need regulatory approval and the regulatory hurdles in the current administration are pretty high. UM, so there's no guarantee either deal gets done. Obviously, Spirit thinks they have a better proposal, and um really are taking to task the Spirit Airlines Board of Directors and management team Hollane just to get this out of the way, because Lisa's got forty seven other questions that really matter.

How does Spirit Frontier or Jet Blue, Spirit, whatever the name is gonna be. How do they compete with the juggernauts like United, Delta and American Air Yeah, you know, that's a good question to Tom, and I think that's why they need to merge. I think any airline currently not named American, Delta or United is having issues attracting and retaining people, and one of the biggest issues is

retaining pilots. UM there were ten thousand pilots that retired in twenty one, and in order to fly the schedule they need to hire that man a plus to do any growth. If they were anticipating, they need to hire figure another twenty UM. I said this year alone, the industry needs to hire something like twelve thousand pilots and we just don't turn out that many. Number one and

number two. The whole idea I think behind either mergers really about giving UM employees and especially pilots, more crew bases, more opportunity. It will fly the schedule more opportunity to make captain, which is where you maximize your income over the life of your career. UM. And I think that's really what what we're arguing about here, and I think that's why Jeff lewis being so aggressive attracting. Attracting employees is basically the same as saying having to pay them more.

Not the same, but it's definitely part and parcel of the same story, Helene. Given the fact that airlines are having to pay their workers more, they're also facing much higher costs when it comes to fuel. How much pricing power do they continue to have as consumers get crimped in other areas as well. Yeah, that's a great question, and we're wondering that ourselves. Um So, so here's how

we're thinking about it. The summer is sold out. Everybody who was planning to go away in June, July, and August probably bought their tickets in April or May, and certainly UM airlines themselves have been sounding the alarm on higher ticket prices. UM they're also flight cancelations. It's it's really kind of a disastrous summer. I think. I think we're setting up for a really difficult summer from the

perspective of operations. Um, but I think we're worried about September and what happens in the fall because to your point, UM, I heard you say that gasoline prices are five dollars a gallon, and UM, we're certainly seeing it costs more and more to fill up cars, especially for those who drive. UM. And and airlines have new choice. But as labor costs go up, and as fuel costs go up, and airport fees are going up, they have huge inflationary pressures, they

need to raise ticket prices. And at some point the consumer is going to say, Okay, we did our travel and we're just done. We cannot fly again. But to that point, Helene, how much does business take over given the fact you are seeing more conferences and people are realizing that that FaceTime is really important. Yes, well that's our our. I don't want to say hope is a strategy, right, but that's what we are thinking about. After labor Day.

We are thinking that, Okay, leisure travel, which is up about thirty five or from twenty nineteen levels, starts to flatten ow until the holidays and then UM, business travel, which to your point, is increasing with more conferences definitely more in person. There's been so much turnover at companies

that you don't know who your clients are anymore. So yes, you have to get out and meet and greet, and so we're hoping that business travel definitely comes UM comes back, and then international is the other big one, right UM we think internationals down about fifty still, especially Asia Pacific, which we think will be another couple of years before

it comes back because of the uncertainty with COVID. But um, North Atlantic is going to be good this summer, even when the US still requiring testing, well the testing, I want to go there. We we experienced this in real time for instantly. QUI the Gulf Stream folks. So Lisa and I were flying you know, the airlines. Hellane Becker talks about why do we why are we the only ones, Helene with a test to get back into the country.

When does that go away? No kidding? I think it's ridiculous, right because you can fly to Toronto or Tijuana or Mexico, well Mexico City, yeah, said that, and then you drive across the land border and you don't have to test. So how insane is that that you have to that you cannot fly into the United States without having a predeparture test. It's just ridiculous. And I've been wrong on this so far. I thought it would go away in March and it didn't. I thought I may first for

sure it would go away. No, it's still with US. UM So maybe I'm done predicting when it's going away and just kind of thinking at some point the US has to examine what it is doing and remove that pre departure testing. Becker, thank you so much, greatly appreciate it. With Cowen always here on sprint frontier. Jeff Blue yea. I'm going to frame out the math here and then John's gonna pick it up. Vision tu joins us down Global,

director of fixed income Research at Morgan Stanley Visual. If you take the vector and you take the x axis, you end up at a terminal rate for the ten yere yield. Where is your guestimate of the of the ten year yield terminal rate? It's hard to say ternal rate.

I would say how looking ahead and second quarter next year, we expect the ten year rate to be at three point and we expect and if FED is downe, we think they will be in the you know about in the three to three point two five percent range the target ranges, will they will stop hiking, which would put them about what we would consider to be are generally industed to be a neutral, which is a someone imprecise estimate. I don't have set. Asked people twenty three, which year

with the high on a tenuere tritory fall in. Most people would conclude twenty two, they say, because they look ahead to twenty three at the day celeration in growth, and I think most people would think yelds would be much lower, maybe closer to two on a ten year What's with the more constandar view issue. Why do you have this view that we can almost stabilize around three percent as the FED ultimately attacks growth tries to bring it lower. So I think I have some sympathy with

that news we did that view. I think the key thing to keep in mind is that while decision risks have certainly gone up, our economist models show that the session risks have gone up just from a few weeks ago to now something like thirty So while the recession that have gone up, but in the US recession is

still not our base case. So that's the first important thing to note is that it's US recession is not our base case, and we are suggesting that between now and the end of the year we would be pretty much range bound in a sort of in in in two seventy five three ish kind of levels. Uh. And so three three upon one five is not a tremendously

far from this from this range. So, especially with laying the idea that we will our base case remains um not about that at a recession under the FED keeps going um to get to significant you know, at least some points about about the neutral rate. So wisially some people would say that they higher long term interest rate

call is uh. Get pair as well with this idea that the FED isn't gonna be overly aggressive, that they're gonna allow inflation to remain well above that two percent target for way longer than a lot of people expect. You agree, So we think that they fed until including three, we will we don't expect that they will come back to a two percent level of concrete c level, So we expect that the inflation will remain about that level

through So what does that mean for credit? Given the fact that we really saw a rates move for the first part of the year, and now we're looking at something that's looking, to use Tom's word, more nudgy in the credit space. We saw saw offen the credit spreads. Then you saw our tracement. But now there's starting to be a little bit more concerned where do you fall. So we think that it's time, you know, year today to say maybe about a few weeks ago it was

mainly a duration driven negative or returns. We think a lot of that is now in price and I would be careful at this point and move up in the in the quality spectrum, so we you know, within the high yel space with more moved towards double bees, where within the UH investment grade space UH in investment grade

over high yield, that would be our call. Basically, the the the notion is that I want to emphasize this point that the credit does not have a fundamental problem um other than vague, very very tailed part of the of the credit of the credit spectrum. So credit has a valuation problem that we think that that means that you know, compels us to move higher in the quality spectrum. Sounds like he rosso a little bit word about credit risk, though she relatively speaking to where you work the start

of the year. Correct, correct, absolutely. You know, in the starting of the year we thought we would should take default risk overd duration risk. That played out. I think at this point we have taken that preference of default or duration off now and we think this is the time to move higher in the in the quality spectrum. But ultimately this you don't think we should be worried about a default cycle kicking up with a big way. Exactly. I don't think we should be ready, at least in

the next one month spike in default. That is simply not in our expectation. But she thank you as always, Morgan Stanley. This is the Bloomberg Surveillance Podcast. Thanks for listening. Join us live weekdays from seven to ten am Eastern. I'm Bloomberg Radio and 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 In. This is Bloomer