Surveillance: U.S.-China Deterioration With Mann

There's been more Constanley, and I'm pleased to say that Andrew Sheets, the chief cross assets strategist at more Than Stanley, joined us now. Andrew fantastic to catch up with you, Sir. I've said continually for three months there is nothing normal about this, but your argument has been entirely opposite. It's more normal than most people appreciate. Why is that, well, I I think so in good morning, I think there

are a couple of things that we've been following. I think the fact that a lot of the conditions that preceded this session had a lot of very normal late cycle characteristics in terms of what we're seeing with city unemployment rate or the yield curve, or valuations or volatility. We had a lot of very i think normal late cycle dynamics. The way the markets bottomed in March ahead of the data followed a very kind of normal pattern

of markets leading the economy. And I think the type of recovery that our economist forecasts are commis of Morgan Stanley, I think are above consensus on on the speed of this recovery and how v shape they think it will be. That that will also make it look more normal than have normal going forward. Inderstrates what's so important here is

how cross s does given money costs nothing. We see Mr Buffett today pony up a new obligation of nine point seven billion, four billion cash and a five point seven billion in dat as well for the Dominion gas lines as well. Is that howvard your of things to come? Are we going to see exceptional M and A which buttresses this bull market? Well, I think it's a good it's it's a very good question. Our expectation would actually be that I think companies remain a little bit more cautious.

It's actually I think consumers who were counting on to continue the growth momentum, because I think companies will be looking at a the continued uncertainty over the economic backdrop. The fact that I think for a lot of them, given the strain that was in credit markets as recently as April, we really see a focus to protect balance

sheets not take on kind of aggressive new action. And then you also obviously have a US presidential election coming up in early November, which could also change either regulatory tax policy, trade policy the like, which would be another reason to kind of wait on this activity. So I think for for both of those reasons, we'd actually expect kind of businesses to lag the rebadded activity we see

on the consumer side. And still you are bullish with back to going further into risk and moving from growth to value stocks. What does value mean anymore? Well, I think what's what's pretty interesting about this market is that on the surface, it would seem like the equity markets have embraced a V shaped recovery. And certainly I think there's a lot of focus, a lot of very reasonable focus on this idea that you know, the smps trading at twenty one times forward earnings and yet the economy

is clearly still very weak. It's it's recovering, but it's it's very weak, and and this must mean that the market is discounting with these high valuations an extremely strong recovery. And yet you know, you look at what's what's driven that market rebound, or you look at the way the markets valued, and and there's there's rarely been a more extreme gap between what the markets paying for what it considers kind of the best, highest quality companies and what

the market is paying for the rest. And so I think it's that gap, that extreme gap that you know, and and this idea that the market kind of cares about is worried valuation at the headline level, and it has no no problem embracing many of the market's most expensive companies. We think that that those factors can lead the market to have a more balanced, a more balanced approach,

a broader equity market participation they would leave. They will lead some of the smaller and cheaper companies to perform, to perform better. At the epicentre of this debate is zero rights. Tom Caine, you mentioned that money costs nothing. We should look at it the other way as well. Money earns nothing right now, and for a lot of people, including miss the Buffett of Berkshire Hathaway, they've got to

get that capital to work. Yeah, this is really really important inside John and What's so important here, Andrew, is the idea that dominion in this transaction will go right where you said, they'll go to a more conservative structure, They'll go to a more conservative dividend payout ratio, et cetera. What do you think of all the money that John mentions that Warren Buffett has, the billions he has, the billions of tech company has, the billions of private equity has.

It's kind of it's kinda find a warm place, right. Well, So I think if we think about this from a corporate perspective, I think tech is a great example, right. I think, you know, for a long time, there was some criticism of these large cash balances that many large

tech companies were holding. And yet when the pandemic hit, that became, you know, yet another reason why investors favored a lot of these big tech names because they had these fortress balance sheets with enormous financial flexibility to kind of see them through any any scenarios. So in some ways that could reward or encourage companies to remain somewhat conservative.

And I think we've seen the same thing on the from the investor side, from the retail investor side, um where you know, We've seen a lot of investors raised cash in marches the pandemic was was intensifying as as markets were falling, and in many cases they really haven't redeployed that money back into the market. And I think there are a number of reasons for that. The fact that you know, markets rebounded relatively quickly, the fact that you still serve in the US. Clearly um have a

severe public health challenge that's all around us. But you know, I think for those, uh, it's not just about the businesses. We we do think actually on the on the investors side, there are still above average levels of cash balance, which we need to monitor, but at the moment remain a supportive factor. How much more do you expect returns to increase this year in equities? In other words, what's the full year total return going to look like? Yeah, I

think it's a good question. I mean, we we are positive, we've we've been positive, but I feel I need to cappy out that. You know, we we do think at the overall level the games will be modest. That for US and European equities, we're looking at kind of you know, uh, mid to high single digit type of returns for for the SMP five hundred for Europe. You know, my colleague Mike Wilson has a thirty three fifty target for the

SMP five hundred by the middle of next year. So it's still positive, it's still higher, it's still better than cash um in credit. We see kind of modest spread tightening. I agree with the earlier comment we think volatility can can fall. You can probably follow a reasonable amount here over the next twelve months. But I do think you know, you could potentially see the bigger movement won't be at

the headline equity market level. It would be at more of these rotations under the surface, as some more of the traditional early cycle things do better. Andrew what was saying in the economy quite clearly a serious upside surprises, but there is evidence of scarring this reason to worry. Yet at the same time, I wonder whether this continued positive forward momentum, whether that is sufficient to continue the

durable rotation that you're looking for. Yeah, I think that's a great question and something where I think we might know the case this month. Um. A big part of our our positive economic view, specifically in the US, is the expectation that that Congress will pass another round of stimulus, will extend the Cares Act, and that's very important we think for supporting the consumer, reducing the severity of that

scarring that you mentioned. Um. But there's a certain irony here where there's a risk that if if there's a perception that the data is improving very quickly, maybe that reduces the impetus on the government act, which would in the long term be we think the worst scenario, which would increase the risk that the recovery is slower and more prolonged. So we one of the reasons we're positive is we do think that stimulus passes, but if it doesn't, that would be a severe risk to our scenario. Andrew

Shades and Morgan Stanley. Andrew, always great to catch up with you, and the same been great to hear you challenge the less constructive view in this market over the last several months. Andrew sets that joining us from Morgan Stanley right now, we're going to speak on finance and economics and reframe for the rest of this year. We can do that with Catherine Mann of City Group, but far more importantly and John Farrell Folks has been really

out front on focusing on China US. I think he's almost got the advantage being from England and that he can look at China US with a different prism. Doctor Man has led with our analysis of the international economics and codependency of Beijing and Washington, and I must start there this morning, Doctor Man, give us an update on the codependency that we see right now between Beijing and Washington. Well, Tom,

it's great to be with you again. Um, the codependency seems to have taken a bit of a turn, uh to the negative. Um. We had thought that the relationship as of January was was one that was a tentative truth. Um. But of course things have deteriorated since then, not only because of all the issues with regard to the disease, but also because, um, there's you know, there's some there's some lack of ability on the part of China to really buy all the things that the US would like

to sell. I mean, we've been talking and calling this a shopping list for quite some time since back last year.

And when we look at the items on the shopping list that the U s would like China to buy, Um, you know, the agg is there, that the energy is there, but some of the other products they're just not going to be able to buy, and there's certainly a sense in which they're not going to be able to buy in bulk in order to reach those targets by the by the time it matters, which is later on this year, but not the end of the year. Dr Man. The heart of your research this weekend goes to the heart

of microeconomics and macroeconomics. Is it's taught, which is finance is an afterthought. You know, the booming financial economy is compared to the economic economy, which is grim, grim, grimm.

How do we bring the two together? Well, this is you know, this has been a conundrum and are really a puzzle even for from for my financial market folks, particularly those in the equity markets, who have been arguing that, you know, the the earnings per share that's consistent with the economic data is quite a bit different than than what we see the market pricing in now. Um, there are a couple of theories that kind of would make

this apparent levitation of the financial markets makes sense. One of them is that you know, everybody's looking through and the error of that, I think is individually a a stock analysts can say, well, my stock is saying they're going to be you know, be lean. They're going to cut in order to maintain earnings going into one. But you know, if everybody cuts, you know, your cut is my revenue. So it doesn't add up macroeconomically. And that's

where the puzzle really comes in. In terms of the market. What it implies is that a lot of looking below the index at the individual stocks. This is what financed people are to be doing at this point. And Catherine, for economists, we've got to look below the headline economic figures as well the aggregate numbers, paying a constructive picture of a really nice bounce beneath the surface. This comes

from Bank of America. Over the weekend, there were twelve point four million people who flowed into the labor market hired seven and a half million people who flowed out separations. Catherine, you look at the same numbers, the same data. How are we meant to digest churn that big? Well, I mean we are in unprecedented times in terms of you know, the numbers turn has always been big. This of course

puts it in a completely different category. What I think is concerning is that yet in some in some sense, there was a sector of the economy, the leisure and hospitality um, many of whom the workers who were completely out of work because of the way that was shut down. But there's this second shoot, a drop, which is, as I say, thinking about how are firms planning on weathering the next half of year in order to survive into They're going to do that by cutting, and they're looking

now at how am I going to do that? And that's where we get a lot of the separations from It's a different category of workers than than who than those who are coming in from leisure and hospitality. I also think that you know, in keeping with what what we were talking about before, the levitation of the stock market indexes in general is of course looking below that

to what the Federal Reserve is doing. We cannot talk about the strength of the financial markets in in absence of talking about the extent to which the Central Bank is on a supportive track. The next phase forward God is seemingly for the Federals of Catherine. How do you think that would take in the coming months the coming mate takes well. This is a real challenge because, of course, true forward guidance is where you talk about it that

has the appropriate effects. So there's you don't actually have to do anything. So true forward guidance is one where the Fed says, I stand behind you, but then the market takes on its own dynamic in order to make things uh appropriate. Again this time, you know, the market has taken off a little bit too much, in part because it's not just forward guidance that the Federal Reserve has provided, it's actual implementation of all of those programs

that they've put into place. Now. Back in March, that was the appropriate thing, forward guidance, putting in the programs in place, being ready in case you know, there was another real um, you know, collapse in the markets. But unfortunately, what we have right now is a replay of what I wrote about last year, which is the Central bank but dilemma. Yes, they want to prevent a fire sales situation, which we have the financial system cascade eads into a

second GFC two point oh. On the other hand, how much do they want to contribute to moral hazard, which is things are as I say levitated um and so any kind of decline from where we are now really puts the Central Bank into a dilemma situation. How much do they really want to see existing level Catherine? How much at this point are FED policies actually bringing jobs back or providing a supportive environment to allow job growth

going forward. Well, that's always you know, the relationship between central bank actions and actions in the real economy have a lot of different links in the chain. And what I can say right now is that the dynamics of some of the fiscal programs, the p p P of which there is also of course the main street lending

in in the US, that matters. But we've done some work that looks at things like um possible downgrades from investment raid into high yield and then from high yield into default, and we have worked with our our analysts in those in those two categories of asset classes and evaluated what are the employment effects of a downgrade on the investment grade or a default out of high yield. And what we've found is is that, you know, those are pretty pretty big numbers, especially on the high yield

going into default, have pretty significant implications for employment. So there is a rationale for the FED to be in a supportive mode to try to avoid having fallen angels, as you know, those are those are investment investment grade that turned in high yield uh and and they had a particular um UH date put on them for the Fed reserve programs and then um and then the cash availability and the liquidity to try to tide over on

the high yield. But of course you know underlying this it's it's got to be the real economy that performs, otherwise none of these companies are going to be able to make it through. Your projection is that markets or cities have projection is that markets will catch up to the economic reality which is bleaker than stocks and corporate bonds are portraying. Is the sense here that the solvency issues will overwhelm the liquidity solution that the Federal Reserve

has presented the market. Well, the problem here is is that, I mean, liquidity is important, but solvency depends on the return of the real economy to a pre covid um situation um and and and we don't have that um under. We have several different scenarios for the U s economy um and and. Under a very optimistic scenario, the US returns to pre covid level of GDP in the middle of next year, but that still represents an entire year where firms are not generating revenue along the path that

they had expected. Now some of them have replaced at by borrowing and you know, issuing equity and issuing bonds just from amazing issue and historic issues in order to give them their own liquidity in order to tie them over. But you know, even even then, you know, if we don't, there's still a whole year where there's no new revenue generation, and of course no one has a return to three and a half percent unemployment. So you know that that argument that by next year everything will be okay is

really optimistic, really optimistic. Catherine, Really appreciate and enjoy your insight, especially this morning, Catherine Mane of City. We have been thrilled that the Lieutenant Governor could come in week after week after week and give our national audience perspective on the success New York State is having unlessening of cases of the virus and much lower deaths of the virus

as well. Kathy Hokel joins us this morning the Lieutenant Governor, Kathy, I need you to give me an update on what everyone wants to know if New York is responsible unlike

other states when do we get the restaurants open. Well, thank you for having me back on the show again and allowing me to have this conversation with you, because it's so important people understand where our minds are, what the governor is thinking about, what our administration is thinking about when we make determinations on what or not a region can go into the next phase. So, first of all, New York City. New York City is now in Phase three. There was no pause, No one said you can't go

into phase three. So personal services are still allowed. A lot of the you know, the hair salons have been opened, but they can do more services, to have two parlors. I mean, there's just a lot of things that had been shut down in the past that now can be open, massage salons, etcetera. However, the reason there is they delay in the allowance of indoor dining is that, first of all,

we have seen an incredible spike in cases nationwide. We are also concerned about local enforcement to make sure that that is going to go in a very robust fashion in order to ensure compliance. And second, a third late personal compliance. I mean you don't have to go very far to see constant social media pictures of people people in New York City not adhering to what we've asked

them to do. Now that the jury, I would say, are doing well, But it doesn't take but a small minority of people to lagually violate the rules to shut us down again. So that is why we are not going into Phase three element respect to indoor dining. We've allowed the expansion of outdoor dining, and we can here continue to courage people to support their restaurants so they can hang on by ordering takeout. But we don't have

a dancewerer question, Tom. It is just not safe to say that the usually smaller restaurants in your suit of very intimate and with the indoor circulation of air which is now becoming a more well known phenomenon, what this is doing to the spread of the COVID pandemic and co COVID virus. We can't take that risk. We are where we are in New York States. Your risk averse and we're not going to do that. Well, that's the point. I mean, you go right to it. We're risk averse

and we're looking for perfection. That falls right over into the school year as well. It's July and we're getting into July. To you and all the other governors of our great fifty states, the District of Columbia and of Guam, are we going to get a school in September? Well, yeah, I don't think being risk averse when you're in a global pandemic is a problem. I mean that we're not striving for perfection. We're striving to save lives and we are going to continue monitoring the data as it unfolds.

That we think about the fact that back in March, no one was even talking about wearing a mask. Everyone thought if you washed your hands, you're going to be okay. Now we're understanding, just very recently that this is more airborne than we had thought, and the droplets can linker

in the air for a longer period of time. So we have to have the benefit of the ability to turn on a dime to say, you know, what we thought was right based on global experts, and in New York name is being advised by global experts, not just the CDC, who are you know, always having a question the motivation there from the President's influence. We want to trust, but we also have to verify. We want to make sure we get it right with respect to restaurants and

particularly with respect to schools. This is not an area we're going to make a mistake with the health and well being of New York children. And we only wish that the rest of the nation had followed our lead and taking extremely serious this pandemic and taking precautionary measures and enforcing the social distin wearing the mask, shutting down, but now coming back in a way that's thoughtful and based on the data, not just the emotion that we all want to get back to normal and back to school.

We can't pop least say in July what this pandemic the landscape is going to look like when children should be starting school in September. We're planning for it, but we're not going to guarantee at this point, Lieutenant Governor. So important to be cautious and to care for people's health.

There's also a question of how long this state and New York City in particular, can last financially as things do not get back to normal, and as people who have left the region stay away as things don't return to normal, and frankly, as people are worried about cuts to basic services, whether it's police or sanitation. Where are we on that front. There is a very simple solution, and that is that the federal government, the President has to recognize that this is not a state phenomenon. This

is not one hurricane that hits New York City. It is a hurricane that it's hit the entire nation. And if they don't realize this by now that this is beyond the borders of New York, New Jersey and Connecticut, that the that the rest of the nation is being hit hard. And I only need to name a few states like Texas, Arizona, and Florida, and you know what I'm talking about that we need the settle government to get back to business. Congress, the House has been on

our side. We need the Senate and the President to sign a very very robust, large and impactful stimulus plan to help support our local governments so we could help the states, help the local governments, so we can have fund the very essential services you're referring to, police, health care workers, teachers, and not miss a beat, and that they do what they're supposed to do, we can. It will help our recovery. And I've said on your show before there is no recovery for this nation without the

recovery of New York State. We are the epicenter. We beat it back, We've contained the beast. We are the role model for the rest of nations that we want to start jump starting our economy and we know how to do it. We need help in the settle government, Lieutenant Governor the debate of this month, that's for sure, and maybe beyond. We appreciate you continued engagement with this program.

Right now, we're gonna bring in Alicia Levine. She is wonderful, just wonderful on the equity markets and really a more holistic view of what to do for Alicia, you have been absolutely wonderful at b n Y Melon on the idea of staying in the market nervous. How do you accomplish that to the end of the year. Good morning, great show, guys, Great to see you as always. Yes, staying in the market nervous and that is still our message. UM,

it's extraordinary. UM. I think we're all scratching our heads, but the market is telling you you've got to be in it. And I listened to the classes and that's what they're telling us. So, Alicia, something you said over the last couple of weeks, and I think it's really important, not about the pace of the recovery, just about the direct and I think that's something a lot of people have failed to appreciate. The direction of traveler is not a whole lot to this market. It means a whole

lot to you too, doesn't it. That's right. So the thing is, we think that this summer could be a bit of a test and some consolidation and choppy and that not at least of which is that the third quarter tends to be the worst performing quarter historically. So when you add that with some of the news items that you three have been talking about, you could get that here. However, the direction of travel is upward overall, and I don't think this should be shaken out here.

And you can hedge, and you can change your sectors that you're interested in. There are many sectors that simply have not participated yet. But the direction of travel for the economy is upward, even its shallower than we hope two weeks ago, so upward. The consensus view is that this is the bounce, and the recovery starts to slow in late summer. And I keep going back to this question. Alicia whether anemic owth in the future is sufficient to carry on driving equity gangs. Do you think it is? So?

I think we have to separate what the support for the market and economy are versus what the fundamentals of the corporate sector are. And in the end, the overwhelming amount of stimulus coming from the FED and from Congress, and we do have the fiscal clip, as you said,

we do expect something will be passed. And by the way, because the resurgence in cases is happening in the South, I expect that that next stimulus feels to be larger than one trillion dollars because it's going to hit home for many more people in the Senate, and I think it's going to be larger, and there's there's an understanding that what's kept the economy going are the transfer payments from the government to households that have been out of

work and have been affected by this and will be longer. So we think we're going to get that. And the FED is out there having every single asset class supported. So with that, even if it's a mean nick growth, markets will be supported. Markets will be supported. There is a question of what companies will do with the fact that balance sheets on the consumer side are strong and

their own balance sheets are flooded with cash. We saw Warren Buffett take a stab over the weekend, and then this morning Uber is said to be agreeing to buy Postmates for two point six five billion dollars. Uber shares

up nearly eight percent ahead of the open. How much will consolidation, as Tom was asking about earlier, how much will that consolidation really be the hallmark of the months to come as companies look for any advantage for economies of scale perspective in this economy, look, I think you will see a lot more m n A here simply because the primary funding markets are open and cash is available,

and there are going to be winners and losers. And this is a kind of economy and market where relative strength will matter more than if you have a decently growing economy, and so I think you will see more in then A and that is positive for the market. I think that Berkshire Hathaway news over the weekends also very positive. I think that's part of the reason you're seeing the future is up this morning. That's simply buffets

back in, and it buffets back in. It can't be that bad when you said, oh, you were looking at your outlook and you said, the economy of twenty thirty was brought forward ten years? What does that mean in terms of where you want to invest? So, what that means is the structural changes that we've all been aware of, whether it's retail or tech or five G. You know, these kinds of consumer behaviors that were slowly happening, that were visible and creating some shakeouts now have been turbocharged.

So whatever you thought the economy was going to look like in we're getting it now and we're getting it next year. So it means that certain soft line retail is probably going to struggle very sharply, and you've already seen it. Uh, Certain certain kinds of businesses simply cannot survive this going forward. Consumer behavior will not change entirely, but it will on the margins, and that's where you're going to see problems. I think the health care sector

is a huge place to invest here. You will see so much money and investment coming both at biotech and large cap pharma and and tech to deal with some of these um some of the data issues that you need to get healthcare right. That's all going to be accelerated, Alicia, Will corporate behavior change and is the thing that we're missing here is we're going to see an M and a boom like we've never ever experienced before. So this is the interesting question. And I think this is where

politics comes in a little bit. I think you will see an M N a boom um. There's not a lot of time left to get these deals done before the election, so I think, you know, left left to their own, that you will see a boom. I think there has to be some uh. I to at the regulatory picture is going to look like after November and whether certain high ups will be viable or not. But everything else being equal, you should see an M and

a boom here. Yet cash is plentiful, Alicia Levine, love getting you on the program right to catch up on this secrete market. Thanks for time this morning. 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 Keene before the podcast. You can always catch us worldwide. I'm Bloomberg Radio