Surveillance: Pound Gets Truss-Inspired Boost

I think you just answered the question yourself, haven't you. When everyone's on this sort of race to the bottom of you know, who can get more bearish? You can have the more outlandished so forecast. I think I just told you where market psychology is right now. You know, sentiment, different ways to measure it. It's a global financial crisis. Lows um and however bad you think this is, that's not it's um. The inflation fever, I think is is

beginning to is beginning to break. You've got corporate consumers that for now are remaining remarkably resilient. It won't last forever, but it's it's it's the fact of the matter today, Uh, the U. S. Economy is actually re accelerating right now, right it's not about to plunge intercession. We're having helping jobs reports. We've got gasoline places coming down. The consumer's gonna end up with more money in in in their pocket.

I mean, I could go on and on. I do think this is a This is a market which or which is talking itself into into a fund and a little bit of less bad news, which is all you need. I think goes a very long way from here. And then the research dum this morning is off the chart. And want to congratulate you on your E T F and passive investment research pieces just really extraordinary. But I gotta stay on markets this morning. Buried in your note is a single line that the bond market is speaking.

The bond market is saying companies are fine. Discuss that. Yeah, that's exactly it. I mean, I'm you know, we look at earnings, I mean, owning expectations you talked about earlier. Yeah, they're falling, but there's still seven eight percent. They're still very healthy. Corporate profit margins are Yes, they're falling, but they're falling from sort of record levels. The fault rates

are absolutely you know, record loads. Companies you know used the last crisis very well to sort of refinance um And that's the message you're getting sort of loud and clear from from the corporate bond market. Yes, spreads of widen, Yes the week. His companies are finding it difficult to refinance. But spreads are very tight versus sort of historical levels. And I can think, you know we're talking about I mean, I'm the equity guy, but you know you're you're getting

these messages if you choose to look for them. And I'm not sure everybody is that are telling you that corporates are I've been very nimble and very resilient, have you know to fault rates are low and you know there whether they're ready to weather this slowdown that's coming. A lot of people are then say that the corporate bond market isn't the same weather vain that it used to be, simply because of how much company has turned

out some of their maturities. Looking at the bottom line, have we priced in the ramifications for US companies from a deep European recession which is becoming the base case for an increasing number of Wall Street firms. So what

happens if you don't get a deep European recession? So, I mean, there are no good policy choices in Europe right now, But basically every single government is going to come out with some got gantuan package to either cut break the link between gas prices and ectricity prices or cat those prices. What's that going to do? That's going to soften the recession through the winter, and that's going

to bring down inflation. Now, yes, that's gonna store up sort of paying for further down, further down the line. But I actually think again, and this is sort of raised the bottom of market expectations. I think this is a wall of money which is coming out. Why it's going to do an awful lot to soften that, at least in the near term. But man, you're saying that basically fiscal support will come in if there is a deep recession. Who's going to finance that at a time

where you already see yields climb. Yeah, absolutely, you'd probably climb a little bit further, right, But these are still very very low yield by any historical context. And we'll see, we'll see how high yields really go if inflation keeps coming. If inflation you know, if I'm right that this inflation fever is breaking, and inflation starts to come down, and and economies keeps softening, we'll see how high bond deals really going. Ben later it all right, Thank you, Ben,

We appreciate your time. We're gonna pause right now. We do so with Bruce chasm In, Chief Economists, head of Global economic Research for JP Morgan, with so many things to talk about in the frame where we are now through the litmus paper of the system, which is foreign exchange, and Bruce, we hearken back here to all the work over more than half a century of mundel Onto. Jacob Frankel, of course, was working for JP Morgan for years, and then under Ken Rogoff, and then i'd a boost Brus

Casiman in there as well. So we're gonna talk to you this morning about what foreign exchange signals here. What does foreign exchange signal and is it the ultimate release veilve for these fiscal and monetary stresses. Well, I think the simple thing that foreign exchange is is signaling right now is that the U. S economy is faring better than the rest of the world, and the FED has more work to do, so we're seeing the dollar moving up.

I think what's interesting about the the dynamic and what's reflected in FX as we moved from a world where in the last two three months we've been worried about a US led global recession to now one where the combination of European crimes with energy and China weakening is now the more significant problem. Dr Kasmin, I know you were like me in the basement with your Gilbert Kem set long ago. There was logwood and all those other little chemistry things we made your Gilbert Kem set. Right

now is Japan. They are failing in a theory that keeps getting tested and tested by the market. When does their theory of limiting through bond ill liquidity the rate rise? When does that end well? I think the story in Japan is interesting because the continued purchases of assets is probably uh counterproductive at this point and unsustainable. But the dynamic of the bank in Japan letting the inflation story run through trying to establish a more sustainable rise in

inflation makes sense. I think the problem in Japan is they're getting stuck in this mode of thing that they continue to need to buy assets keep interest rates pegged close to zero in a world in which the dynamics are really requiring something different. I would like to see them move away from y c C targets as tight as they are, but keep policy rates unchanged to continue to keep the inflation snary dynamic moving through the system

there in a way that they certainly need. Well, Bruce, Japan's an island of its own, both physically as well as from monetary policy. The rest of the world is hiking rates into weakness, and we are seeing that with the Federal Reserve to a lesser degree, but to a bigger degree the ECB, which is expected to raise rates by seventy five basis points on Thursday. How much are we looking at both the fiscal and the monetary impulse working against each other and creating a whole lot of

pain that we're not pricing in. Well, it's an interesting question. I think DCB needs to get policy rates towards neutral in the world in which they certainly have recession risks, but they also have fairly significant inflation concerns. Keeping policy rates at zero don't make sense. We think they're going to move seventy five basis points. And as you're noting the fiscal policy in Europe, and by the way, Europe and China are both moving in the other direction supporting growth.

I think this is the right thing to do against the backdrop of what is a huge hit to household and in some cases business incomes um. But the consequences of that are we believe that the CD is going to move policy rates up to something like one and a half percent even as the European economy suffers as we go through this winter, one and a half percent by the end of this year. You're saying, firs, that's correct, yea. So let's talk about what kind of downturn we're expecting

from that. If there is the fiscal support that's helping to support the economy, but there needs to be, according to certain economic theory, some sort of deceleration activity in order to bring inflation under control. What kind of deceleration is required, both European wise as well as in the US, to bring inflation back to something more like the target for central banks. I think that's the rub here, which is to say that if we avoid the very damaging

recession dynamic in which labor markets weaken a lot. The combination of tight labor markets, salience which is changing wage and price setting process, and some things that are happening in the global economy that are not going to return to normal suggests to us that you're gonna get inflation down quite a bit here, but you're not gonna get it down enough. So I don't think we'll move up back to seven percent unemployment in the Euro Area, which

is our forecast with a mild recession. I don't think it move up to four percent inflation. Unemployment rates excuse me in the US are going to be enough to do the job, and I think central banks are starting to understand that they're not there yet. But over time, I think part of the problem we have is we're gonna need much more significant adjustments in labor markets to contain inflation. Then, with that said, Brad, excuse me, uh Dr kems In With that said, very very important important here.

Where is where does it become more difficult for central bankers. One of my problems is everybody is stressed out about the now, and I'm like, wait a minute, the now is not the point we're out. There is where the stress really comes in for monetary decision is it this year next year? Well, I think it comes when polose these stances are restrictive and labor markets are turning soft. And that's you know, I think one of the interesting

things in the US right now. Last Friday's report doesn't suggest to us that the labor market is soft at this point, so the FED doesn't have a really difficult choice continuing to move. But once you get policy into a restrictive stance, which the c B is far away from, but the FED is starting to move towards, and you start to see the effects of tight monetary policy and other things we can laby markets, that's when the choice has become more difficult. We're not there yet for the

FED in terms of the labor market. We're not there yet for the e c B in terms of policy stance. I think we get there sometime early next year. And that's what I think. You're gonna have more interesting choices to be made, more difficult choices to be made. We do think the FED is going to stop somewhere close to for and we think d CB is gonna stop somewhere close to one and a half to take stock of what they've done against softening economies. So Bruce, let's

put some numbers on this. What kind of unemployment rate are you expecting that is required to inflation under control in the European region as well as in the United States. Well, let's just be careful here. I think a move from what has been something like nine percent inflation over the last year down to four or five that's going to happen with energy markets normalizing, with the slowing we've seen in global growth, taking goods pressures off. I think you

get that pretty much without having to do anything. The question is getting back down to two. And I think in that context, I would argue that you need to probably push the US unemployment rate up above five percent and probably push the euro are unemployer rate up towards eight percent at minimums. And that's not going to happen without uh, something that we would naturally call a retrenchment, a recession of more magnitude than what we're forecasting, and

most others are short and Shannow doesn't fit in. That doesn't brace short and Shannow recessions. It doesn't. First of all, that's hard to achieve. Let's just to to gradually move the US unemployer rate up to four percent is something which would be hard to do, not not by any means impossible, but yeah, I think to get the inflation picture back in the bottle with a four percent unemployment rate, a very mild subpart growth face, that's not what history

suggests can really do the job. Recognizing getting down from nine is easy, you know, getting from nine to four or five, I think that's a done deal, just just given where inflation, energy prices are, given what's happening in global manufacturing. Brice Casman, Thank you, Brice. Really thoughtful stuff from J. K. Morgan Semester. May let me thank you for joining us here. Do let's trust face dynamics like

the United Kingdom face thirty years ago. Well, there's one huge difference tone, which is that back in standing as part of the European exchange rate mechanism, and that created one of these asymmetric bets for drug A, Miller and Soros where they knew that sterling was not going to rise.

It was at the bottom of the permitted band in the exchange rate mechanism at the time, and because Britain was in the recession, the Bank of England was going to keep rates as late as it could get away with, right, So if Sterling was to rise a little bit, it wouldn't rise more. But if it crashed out of the r M, it could go down in one shot. And that's what created this totally asymmetric bet. That's why George Soros said to drug a miller famously goes to the

regular on this. Put more money on, more money on. And ye know they were both up all night trying to find counterparties to put more positions on so that they could get that billion daughter profit when Sterling did crack this time today, you know the pland floats, it's already down a huge amount. It's down to levels, so it's adjusted gradually. There isn't one single breaking point, and that a very different dynamic. Is a kid Sebastian, you

live this. Your father was the United Kingdom ambassador of Germany and it was a time of Deutsche mark volatility, to say the least. Are you looking at the currency markets as being the release valve for a system buffeted by a war in Ukraine? Yeah, I mean I think flexible exchange rates are playing their intended role of being shock absorbers right now, the US is in somewhat better

shape than Europe. Is farther away from Ukraine, it's less exposed to the inflation, so the US can have a very strong dollar therefore absorbed foreign imports more and that's going to be a bit of a benefit for the rest of the world. China's in the dumps and so it's not playing that role. And meanwhile, Britain, which isn't a very weak position because of uncertainty over huge gas price rises etan inflation government stacks predicting inflation coming up

in the UK. So these are dire straits um but because sterling has already fallen a lot, it gives some release in terms of the stimulus to exports from Britain, an attraction for foreigners to come into the UK property market because everything is so cheap, and that is somewhat

of the stabilizing factor. So beastly if you framed these numbers yet from less trust a hundred and seventy billion sterling to offset some of the energy pain, if you thought much about how big that it actually is, the scale of that, and what it could mean for respective

bond markets across Europe. Yeah, I mean, we've come out of this, you know, Covidge shock of enormous fiscal response to a public health emergency, and now we're going right back into a new kind of shock and energy price shark, which is going to call forth another round of enormous stimulus. I haven't got the numbers in my head as to whether this these hundred and something billions that people are

banding around. We don't know for sure what the numbers are going to be yet, because the speech will come on Thursday, I believe. But whether it's bigger or smaller than the the the COVID fiscal response, I'm not clear, but it's it's cumulative. Right, We've already got a position of huge public debt because we've come out of covid um and now we're going to lay on more. And it's not clear what you know, how much the markets are wunning to finance now at some price of studying

depreciates even more. I guess foreigners will come in and buy UK assets and plug the funding gap, but it may take, you know, an even weak apparent for that to happen. Sebastian back in the pandemic policy from fiscal authorities and monetary authorities complemented each other. This time it feels like it's in conflict. What do you think the consequences will be for things like growth inflation with these

kind of dynamics. Yeah, I mean that's a super important point because as you say in COVID, we had the ear of magic money as I called it in a Foreign Affairs essay, meaning that it was this assumption inflation wasn't going to be there, so you could have both fiscal and monetary stimulus and you were not afraid of being punished in terms of high inflation. Now clearly that's totally reversed. How inflation is a reality, so central banks

have to raise rates. So in a situation where you're getting fiscal stillers on the one hand in Europe, but at the same time the e CB this Thursday is going to raise your interest rates and the Bank of England is going to have to tighten too, And so you've got, as you say, the two engines putting against each other, and that's going to create more of the

stop start experience and it's going to be tougher. Sebastin, do you consider this as a one off winter or do we have to gear out for a repeat act next year and maybe even a year after that. Well, I'm pessimistic in terms of like the geopolitics of the war. I do think that neither side has an off ramp. Ukraine cannot accept the idea that it lost the territory after February in a permanent way, so it's determined to

win that back. And there have been these atrocious walk crimes in Mariopol, and no Ukrainian leader can just say, well, that's okay, we're going to Nega. On the other hand, Cougon is not the kind of person is going to lose face easily. So I think the war, to answer that part of the question, could go on indefinitely. It could be a very long process. On the other hand, we'll have to remember that with the inflation shot the results from the war, you do get these base effects.

So the first round is that you know, energy prices spike up, that creates inflation, but they're not going to spike out further from the spike. At some point. Indeed, we've seen that in markets they start to come back down. So because of these base effects, I don't think inflation isn't ongoing double winter kind of problem. Sebastian, this was a clinic and it's a conversation we need to continue very soon. Sebasti, Manity, there are they cancel on foreign

relations right now? Victoria Green joins his chief investment officer, g Squired Private Wealth, and what we're gonna do here is dive into the idea of what do you actually do how do you effect investment given all of the turmoil that's out there? Victoria? How valuable is cash right now? Cash is good. I'd rather set in a very ultrashort T bill somewhere between zero and six months. You know, you're getting on a six months T bill now, which

has very limited duration or price risk. You're getting a three point one three point two percent as this front end comes up. Yes, if you look on a real basis, you're still losing versus inflation. But park it somewhere safe, and we do think cash is an allocation. Isn't a best bad place to be. You know one thing we do always advise, even when things feel very dark, panic

is never a good investment strategy. And it's funny, you have very very smart people that that when we start to see these losses pile on, they just can't take it. Let me announce a victoria with you. My theme of the next ninety days in investment, which is something I heard in the dregs of August, which is trying to find scale. You and I have three or four good ideas, but it's so hard out to get scale in investment, to get belief across X number of equities, to get

belief across different portfolios. How do you get scale if you've got a fair amount of money, Well, what you wanna do is is you want to be in the right places. You know. I don't think diversification is dead, though I think it is amusing every time we see stress and volatility. You know, the fixes remained low, but we saw us it's become correlated. And honestly, I think it was the fixed income that's surprised everybody this year.

But I do think when you're looking at investing, you don't want to just say I'm gonna put a little bit and everything, because there are markets that are gonna do a little bit better than others. Right now, we're not very bullish on Europe or the UK. No offense, John, but there's a bit of a hut. All they have the they have the work on over there, So I prefer to be like, let's be a little more concentrated

US blue chips, value dividends. Put your stocks where you're gonna have a little bit of a bunker mentality, and then work your way back out into risk. We're never black and white. We're not a hedge fund. We're not trying to long short and trade every single day. But if you were to look at the world, I'd say

I would bunker in quality. I'd make sure you understand everything you own and what kind of risk you have in your portfolio, and then understand your time frame as an investor, because if you can wait it out six months, twelve months, it's going to be okay. It's just you have to emotionally get ready that maybe you shouldn't look at it every day, and then definitely don't panic. And honestly, uh panic is one of the biggest risk to investors right now. Let's say we go down four weeks in

a row. Let's say we retest our thirty six hundred lows. Do you have the courage and conviction to hang onto your stocks? And the answer should be yes, Victoria. You know me, I don't take offense. I just draw the line at soccer versus football. Other than that, Philly boots, go for it. She's some Texas amohn, She's a finer Texas Aggy football is the American football you want to go there? I thought it was famish here again. No, we're gonna do US college football. No, no, look it is.

It is definitely a religion down here. And this year's a and m Zyere Undercent National Championship. I'm trying to get to a gang dance staff later this year, so maybe we can sort that out. Victor. I want to talk about the pain and the pain still to come in your mind if you do have a longer time of rice, And I want to understand from your perspective where you expect the leadership to come from through the next cycle. Is it too premature, too early to make

that cool. I think we're still on the down end of the cycle. So this is a classic business cycle, right we're gonna have we have expansion and right now we're not. You know, p ms, I think are gonna reflect that and you're gonna have this contraction. So during the contraction period, you want to be bunkerd you want to be in safe havens, and you look at defensive sectors,

your health sectors. I know staples are a little expensive, so i'd be picky their utilities versus reads have done well, and I still don't mind a little bit of energy. And one thing I think is fascinating about that part of the market is that energy prices or energy stocks

have decoupled a little bit from from oil prices. So we saw in August w T I pull back about eight nine, but the energy sector was actually still positive in August, and I think a lot of that is the way US energy companies are giving back to shareholders their their dividends, their fix plus variable dividends. There buy backs. UM. So even at eighty six, you know, we think, well, there's a lot of very profitable energy companies. And the

US is now becoming an energy exporter. I think we exported something like ten million barrels of our fine product just last week. We're doing about a million barrels of gasoline. UH. And so we're seeing this continued demand and you're gonna see the push pull and demand as we see recessions typically are are bad for for gasoline demand. That the China issue, UH are like shutting down again. You know, sometimes it feels like groundhog Day, like we can't get

out of this. Oh, we've got shut downs, we've got COVID, we've got demand issues. And then when everything feels terrible, that's when you want to start buying some growthy things and some longer duration equities. But you don't necessarily want to hold a ton of higher beta, higher risk stocks right now, Victoria, just quickly. Here have the large cap US stocks priced in a European recession and the strong dollar?

I think so the song dollar, yes, you know, and if you look at you know, we're kind of playing again on hug Day. What what pulled the markets down through that first second quarter was the strong US dollar? Uh and the Fed raising race, and and then the dollar pulled back someone and commandity of pulled back someone. But you still have a huge headwind. I think the recession in Europe and the energy crisis that is brewing is something investors cannot ignore. We are not an isolated nation.

We're independent with each other. And as you guys were talking about earlier on the show, this may be a crisis that drags on. It is going to be very difficult to replace the amount of gas that has needed over the winter, and then potentially to do it on a go forward basis. We're even drawing down our spr It's as low as possible the strategic petroleum reserves ever since we started building it up in the seventies and eighties, we are now back down to levels we haven't seen.

So how long can these band aids continue? Uh, we'll have to see sor thank you always gonna catch out Victory Green that f G squad private Waal. This is the Bloomberg Surveillance Podcast. Thanks for listening. Join us live week days from seven to ten am e Eastern. I'm blue Berg 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 In. This is Bloomberg