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Ellen Zettner of James Gorman's Morgan Stanley with us right now. I saw a hockey stick chart on manufacturing in America. Doesn't matter what the details are, the answer is it's something we're not used to. I have a chart that went back, I got a big splash with it a million years ago of manufacturing labor to our population in America. And basically the back was broken in nineteen seventy and then really broken into how can we have a manufacturing renaissance in America?
Well, we can, we can have increasing share of manufacturing in the economy. But these things are slow moving beasts, and the decline of manufacturing over time has taken decades to play out with larger step downs. As you said in the seventies, and then is after the WTO and China's rise right more more pronounced after that, And so I think, you know, I think we've got something exciting going on right now. I think we're digging into the
data and we're seeing that. And especially if you go around the country and you talk to small manufacturers in the country, which I have done, and they'll tell you that they're starting to get more and more domestic orders of people that are.
On shoring having manufacturing.
Rooms, they at least feel that their business is picking up. Now, this feels like it could be the start of something. We're seeing something. There is some on shoring story there, there's some near shoring story there. I think the story around Mexico's benefit from near shoring is exciting.
There is a lot.
Of infrastructure building going on across the country. State and local governments have been ramping up hiring around that as well. So I think there's something going on in manufacturing here that is exciting. But that's a smaller share of the economy than the service's side.
And Katie, one of the unspokens here through June is Mexican Paeso stunning in its Mexican peso strength through twenty through nineteen through eighteen, you're gonna get a sixteen handle on Mexican peso at some point, which is I never thought.
I'd see that.
Yeah, And it's important to remember because we talk about how strong and resilient the dollar has been all the time, but there's definitely some pairs where that is not quite true. But Ellen, of course, we have you on Monday, we get the jobs report on Friday. Is there anything that we could get at eight thirty am on Friday that would take the FED off the course for a twenty five basis hike later this month.
Yes, So we've given this a lot of thoughts.
So we have these roadmaps to each FED decision that we produce of here's what we think the data will look like in hand, and this is what we think their response will be. And because it seems like, yes, they're data dependent, but it feels like they're sort of locked in for this July hike, I think the bar is just a lot lower than we thought it would be that you would have to.
For the data to say.
Don't hike, and so I think it would be a payroll print less than one hundred thousand right, because really that would get the market thinking maybe they're not going to hike in July and then still wait for that CPI print to do the rest of the job. And if you've got a downside surprise and CPI as well, then I think that would be the final you know, box to tick off that says Okay, it doesn't have to be a July hike. I think it would still keep the Fed saying, hey, there's still may be more
to do. I think there's still going to be an asymmetric hiking bias, but I think it would have to be some pretty big downward misses for them to not hike in July.
Yeah, definitely an important point that we do have a CPI before we do get to that July decision. But when you look at and I don't want to get too short term here, but when you look at sort of the expectations that are baked in for the Fed to go ahead in July, for you know, probably the labor strength that we've been seeing to continue with June's report, what do you think would prompt the bigger reaction in markets? Is it an upside surprise or a downside surprise?
You know, I think it would be a downside surprise because the market is is you know, the Fed's been really successful here. The market is saying, Okay, they're on this hiking bias, and we're going to give them the benefit of the doubt that it could be two additional hikes from here, not just one additional hike or no hikes, or even pushing out the expectation they could be cutting before the end of the year. I think the market has really grabbed onto that narrative and the data has
helped support that. So I think it would be a downside surprise. It would probably get the bigger reaction we.
Partitioned where part of the American public has a two percent unemployment rate and another part of the public has a seven percent unemployment rate. Yeah, how does morganstantly see the quintile makeup or docile makeup?
Well, look, it's it's more around you know, sort of education level.
You know, the the bottom descile's done well off the pandemic, right they.
Have from government support which is now ended. They have off of a tight labor market, which has increased labor income and wage growth, especially for low wage paying service sectors. But we're only just now seeing real wage gains positive, So it was really you know, inflation was still outpacing
wage gains for those folks. But that divergence between sort of those with a seven percent unemployment rate and those with a two percent, it's really do you go all the way to like a thirteen percent unemployment rate and those with a two percent? That has always been the case. It's always been the case. So what I look at is has the unemployment rate been improving across all.
All of.
By ethnicity, by age, by geographic location, like, has it been improving across all groups? Yes, it has, and we are back to the kind of tight labor market for the most underserved in the country being just as good or as tight as it was pre pandemic.
Yeah.
I look at this and Alan, you know, they said to me, can we get Zentner for the Monday before fourth of July? And I said, well, she's probably going to be in waiters in some trout stream and in Chile as well. But you know, folks, this is really a sacrifice on the part of ellen Zetner because she's going to take a nymphanite fly ride that I can't afford and go out in the river.
This is a Zettner.
You don't know fly fishing with Zetner the saltwater thing that say shells and the Bahamas not.
As big on saltwater fly fishing salt water, but not to fly fish.
You go to Jacksons far enough.
Yeah, you go to Jackson all the Smith River, Salmon River, Jellystone River and all of it. But Patagonian. We had listeners today emailing in from Chile with your appearance here today, and there's like the Rio Simpson, Like Chile is like huge trout fishing and the fish are ginormous.
They're ginormous.
Yeah, there's so much bigger down there.
You know, they don't get a lot of pressure. There's not a whole lot of people going down to Chile. It takes quite some time to get down there to fish. And do you know that the trout are not native to the region. They were introduced to the introduced They were introduced in the nineteen thirties by the British. Yeah, and so we've got them to think for that.
So they're invasive. They not invasive.
Listen to you, it's sport.
It's not invasive.
Some inflammatory commentary.
It's like we don't even miss Bramo. She's worth some bread.
There's not evidence that they have killed off the native populations of fish, but they have really thrived there and it's been a great industry now in Chile.
What's your favorite river in the rocky mountains of this nation?
Oh?
Gosh, in Montana? Probably, Well, there's one.
I can't say publicly because then everybody will go. Let's let's say like the beaver Head in Montana, because everybody knows that when it is a great river.
And I won't say the one that's my absolute.
Favorite because then it will get more pressure.
Did you make up when? Next time?
Was that?
Can we get a beeper in here? So we see that Sunday in.
Montana is a fishing good near Jackson Hawayoming the third or fourth week August.
You know it?
Well, it depends, right.
The runoff was really big this year, a lot of those record snows.
Right, the river levels are high.
And it's not been high like that in quite some time. August has been really dry. But if you love cutthroat fishing, then you want.
To be around Jackson Hall.
James Gorman thinks she's cuts her she's going to be on the phone the first week of August. I just really think I need to go to Jackson Hall to read academic papers. This has been a joy. Ellen Zettner with us here on radio and television.
And all you need to know. It's sort of like Tulips and stocks a million years ago.
Joining us now the guy that wrote the book on this, we are thrilled to Tony Cscenzi could join us in PIMCO this morning. The Strategic Bond Investor is the grown up book to read on it. It's in its fourteenth edition. You could buy half a Staten Island off for the royalties of it. From Tulips to treasuries, how close are we to tulips or are we buying treasuries?
I think we're closest to treasuries. The Tulips view was a couple of years ago, but when treasury yields were quite low, and yields globally with negative about eighteen trillion or so of negative yielding bonds, and in fact, that Tulip's idea I think will probably affect the bond market for a generation. What investor for the next twenty years will purchase a German blend at minus fifty bases points.
Again, given the car looking.
At me in my Austrian ninety seven year you're looking at me, yeah, yeah.
And I say a generation because things change. Think about the housing market. Of course, in two thousand and eight, two thousand and nine we would have said the housing market will never rebound, and of course it certainly did vigorously. It takes time, but I think the low and negative yielding bonds are probably out the door, out the window for quite a long time.
I'm looking at the splash this weekend from your shop. In the Financial Times they gave one Daniel Ivison. I think he's an intern with PIMCO. Front and center.
Headlines bond fund giant.
PIMCO prepares for quote harder landing for global economy. How does econobabble fit into total return in the fixed income market?
I think that view from Dan I in our group CEO is just a cautionary note and so relative when we say hard landing, we're saying relative to perhaps what others are expecting. At Pimco, we're expecting a soft landing, but that may be harder than others are thinking. So in terms of a total return type portfolio, a Bloomberg aggregate style of portfolio, which of course is a collection of bonds, treasuries, mortgages, corporates, mostly market cap weighted. You
want to be up in quality. Of course, we think if there is a slowdown or a recession, the credit spreads could widen. The broader point is that one needn't take a lot of duration risk, credit risk, et cetera to get good yields in the bond market. We're looking at five, six, seven percent type returns in assets we think are so called money good, So you needn't take a big leap. Consider, for example, tom where high yield bonds are. Even though they may be attractive to some,
we'd say be cautious in the area. At spreads of over four hundred basis points or four hundred and four fifty on average, it's kind of tight relative to what could happen in recession with the spread of call it, let's say eight hundred bases points or more, and a widening of that magnitude can in a total turn style portfolio be painful because it would be losses. And so we're saying prepare by keeping your podder dry and don't reach so much. You needn't these days, with where yields are well.
To that point, I wanted to go to duration.
So I'm glad that we're there.
You think about where we were starting to get to on the ten year treasure yield approaching four percent. We can put that back into the conversation to your point that you don't have to reach that far when you start to see the ten uere approach four percent, Does that look like a good entry point.
Yeah, PIMCO believes, and I believe as well because we kind of different freuse within PIMCO. The range for the US ten year is probably now we think call it three point three percent or so to four four and a quarter or so. But when thinking about core fixed income and therefore duration relative to short term products which have very little duration, you should be thinking about the history since nineteen seventy eight, and forgiving with the earpiece
filling out. Since nineteen seventy eight, core fixed income, and the Bloomberg aggregate is a good representation of that has outpaced Treasury bill returns on a three year rolling basis ninety percent of the time, and by a very substantial margin three percentage points. So these yields look attractive on that basis, and so one doesn't want to get into the game of market timing because market timing, for diversifier
is a very dangerous game. And I should add Katie that in core fixed income and this idea that they can outpace T bills and have considerably since nineteen seventy eight, that the time for entering core fixed income is typically close to the peak for the Fed Funds rate, which we think and many think the markets think is upon us. And the typical timeline is called maybe up to six months prior you're good. So you don't want to play the game of timing diversifier too much, is what we'd say.
Final final view is that if I add in three components really quickly, the inflation view two and a half percent, the market has a term premium, the extra yield you get for moving out the yield curve, and the real interest rate where marcuts think the Fed Funds rate should be relative to inflation. Those things together put a fair value in the current zone. So again be cautious about the idea of market timing.
So don't try to time the market.
But then you look at the five point four trillion dollars in cash, Like you said, very little duration risk there. When does that start to move out?
Though it is a hard mentality in financial markets. Time you're quite familiar with this as well, and okay to you two in your time in the market, tell cam but it's when others, when others start to leave. But that's not optimal for an investor, and that's what active management is all about, and it's why we would say now is the time get ahead of the herd?
Yeah, but is Jerome Schneider? Did he survive the first half of this year?
Yes, and quite well. In the short term space, there's plenty to do as well. Consider for example, you could purchase a T bill and get in the low fives, but there's asset backed securities assets that are backed by student loans, car loans, equipment.
Are you gross in five percent on cameras on Jerome Schneider?
Short term versus short term ETF we have and not to tout it, but just as an it's Monday mint m I n T minting money. It's the yield is currently five percent or so.
It's unbelievable.
Distribution yield.
Nobody at the table remembers this world and it's like we're back to it.
But the asset backed securities and others large short term measments to have fields close to six percent, Tony.
Is it possible to see a benign resteepening of the yield curve?
Benign resteepening meaning that I think what you're thinking, Cameron, is that in a steepening some event has occurred to cause a flight into short term insturance. The type of thing perhaps that Katie's thinking about that could cause movement not usually, of course, the history suggests perhaps not, and many are thinking, can there be a soft landing in the soft landing that could occur? It may be occurring now. US growth last year was about economic growth was one
percent or so. It's tracking a little higher today, but we think it'll be slower than that for this year. We're in a growth The US is in a growth recession today. Growth recession is something above zero but below growth potential. The US has a potential to grow each year about one point eight percent. That's a combination of productivity one and a half plus changes in labor force
about point three. The US is growing below that, which enables supply to catch up with demand, the ability to produce goods and services.
To meet demand.
It's catching up, and that can enable the steepening, because then the Fed can say we needn't to raise interest rates anymore. And if supply catches up enough, if they're in a growth recession, there it can happen, and then eventually there are interest rate cuts. But we'd caution that the view on interest rate cuts flies in the face of Paul Volker, the legendary FED Chair.
We felt that for some time.
I've certainly felt that personally, very strongly for a long time.
Now.
This is the idea that the Chair Powell has today is to keep at it. And he's quoting directly from Paul Volker in the book Keeping at It. You have to persist with this view in the battle against inflation to defeat it. And that's what's happening. And this is why Chair Powell will go to heaven, so to speak, central bank heaven, and because Tom the view and Cameron and Katie the only the view is that only hawks go to central bank heaven.
Well, he also have been saying that history warns against cutting rates too soon. So do you think that lower inflation is enough for the Fed to cut rates? Or do you think that we actually need to see higher unemployment, much weaker growth.
A lower inflation expectation would cut it.
It is occurring.
It is observable in the bond market through inflation protective securities the price for the inflation rate to be about two point two percent or so, but it's not observable in the general public. Think about various generations. I'm from the older generation. I'm a boomer born between forty six and sixty four. Take your guess, really which year that is sixty four?
But I slipped right into that.
But new generations of Americans have experienced inflation, so my generation did.
We've always expect that could be inflation.
Now the generations X, the millennials, and Z all believe that the prices can go higher faster than any time.
You've got to get it out of their heads.
And so the public's view on inflation could be enough, and that's what's needed.
Let's listen.
I think I went back and forth to Swarning with doctor Olarian. He's on a plane tomorrow be with us, I mean on Wednesday. But let me ask you something Mohammed would ask, which is the unknown unknown.
That's out there?
And to me, if I look at the Bloomberg Total Return Index, Lehman Barkley's index, beautiful. There's a textbook, Guy's Bolkowski. Everybody had to read Bolkowski with four hundred and fifty seven. It was almost as thick as Tony's Seigem's book. You had to read every chart, pat and known to mankind. I'm sorry, bonds are in an absolute textbook, Pennant. No one's looking for price down, yield up. What if we get that unknown unknown?
It is the unknown unknown that I think. And I wrote a book on this matter, about the idea of a Kinesian endpoint, the idea of practical limits to the use of debt. There was evidence of that last fall when Prime Minister Trust wanted to to increase the indebtedness. The markets reacted violently, The bond market collapsed, the pound
got pounded, so to speak. And so what's out there, thenown unknown is whether the bond markets would re act violently again in all the nations to increase in deadedness.
Matthewess and a guy out on Twitter this weekend. He brought up Sheldon Naatenberg and all the Greek letters at Crescenzi frankly or world class at Do bonds display gamma? We all we all know equities display accelerated tendencies in a log normal space.
Down they go when they go down.
If we get priced down yields up, do you get bon gamma?
There was gamma in the UK last year. It was arrested.
I agree, and luckily the bond market is the comp on the beat in this sense that it disciplines the fiscal authorities. It disciplines the monetary authorities to say no, you can't do that anymore, and so any yield rise from here that gamma, the vola vol if you will, would be arrested by the bond market disciplining politicians and the monetary authorities to do to avoid doing the things that could.
Self stabilizing.
Okay, but ivic, said Dana ivicks And of PIMCO Worldwide Headlines this weekend.
I don't think he's watching this morning. He's on some boat somewhere.
Early Port Beach. It's three forty three.
That's okay.
Maybe he's who knows, Let me get you out on a linear.
Are we going to see the bond market discipline central banks in the next eighteen months.
And if there were proposals to increase indebtedness and the monetary authority seemed to support it, I will make the bed. Yes, But it looks like, first of all, I've got an election ahead, there won't be such a plan on the fiscal side for some time. And one important point, Thomas, I think that this means that any yield rives would be self stabilizing. So don't worry in Katie retalmentration, so don't worry so much that'd be self stabilizing.
The Bottmarck of Vincilantes are back.
I think Bramma Wison here that was depressing. Tony Crescenzi tanned and wrested from PIMCO.
Thank you very much.
Right now, it's not only the equity conversation of the day, it's the equity kickoff conversation of a second half. Anahon at Wells Fargo brings prodigious math and physics whither to the study of what we got. I'm going to go derivative honor so I so I can save myself. I recommended Sheldon Natanberg's Classic Options textbook to some intern the other day. All the Greek letters and all that I look at gamma as the accelerative tendencies of any given index.
In this case, let's take the standard and purse five hundred. We came off the mat from a bear market October. Maybe it's a bull market. Can you identify with all your math and physics second leg of a bull market?
Well, I'll put in a quick plug because I prefer the whole book of Naytenburgh, But you know, I'll let you go on that one. With the acceleration in the market, I think what's important is what's really dragging up the market and how much more can that go. The technicals on the uber cap led rally here look to be
losing steam at overbought levels, but you've seen that. Really the correlation within these five hundred names of the S and P five hundred have declined because of that separation of these handful of names versus the rest of the market. And that's kind of what's bringing equity volatility lower. That might be which also has been people concerned with low breath. So until we see that breath expand, I don't think you see another the surge second half.
Do you reallocate or do you read balance? You're not going to tell me I'm supposed to sell Apple or Nvidio.
Right, Well, perhaps not sell, but maybe not be overweight those kind of areas. So with the tech market especially being tied with growth and the way that yields might be going higher before they come back lower, we would recommend me more neutral in the space and looking for other growth aptits.
Do you agree with that that we could have an option where rates go higher and the price in the Bloomberg total return dicts could actually go down to new weakness? Is that part of you know, the mix of Mike Wilson's Morgan Stanley is different because they got forty seven opinions, But is the general statement there that you could have a higher yield regime at Morgan Stanley.
Yeah. I think Look, there's there's a lot of.
Parsing the economy versus the markets here, right, and the economy is not the markets, uh, And so you can have higher interest rates trying to slow the economy, but there are other factors driving different parts of the markets.
I mean, I think that's what is that what you're saying on that, like, because you've got just a handful of names right that are propping up the market, whereas the economy looks you stronger, but there's this constant concern that, Okay, rates are going to go higher, but we're going to go into recession, and so I think you end up getting those differences.
There's definitely can be that deviation you bring up a great point. There can be the economic health, there can be the economic recession, but what about the earnings recession. I think those two can have absolutely different timings. And that's what we're a little bit worried about here. It's what's been in people's minds. We might see a recession that might be mild, and and yet the consumer continues to spend as sure that you've seen, but that spending
is slowing. So how much does that deceleration or the gamma and that spending really start to bleed into equity corporate earnings And that's what we as strategists are really trying to decipher.
Well, even still, it feels like some of the worst case scenarios for earnings have been lifted in the last couple of weeks, especially, you know, when it comes to profits, was that premature?
I think it is a little premature. I think you see some companies in corporates doing quite well. But what's concerning is if you look on a sequential basis overall for the S and P five hundred, you're seeing that top line revenue figures are declining faster than where the consensus EPs or consensus revenue numbers would put it. Now take into account, we're also seeing more margin compression than expected. What happens what's remaining of that bottom line sequentially for growth?
Now that's not to say again that could be a little different from where multiples trade and where the market can trade. Perhaps the market is already looking to next year's earnings, but we do have to keep in mind that we need to still get there. We have another six months.
I also want to get your thoughts on equity volatility. You brought it up, and you look at the VIX right now it's below fourteen. Equity of all has been declining. But does a VIX below fourteen feel right at this moment?
Well, when you say feel right, I would say, given what's happened with the actual bounds and what's leading the market, it's not. I think that's part of what it is, that index correlation that brings it down. But on the other hand, you know who thought with this post a pandemic regime, we would see a thirteen handle against so soon particularly was still the fear of a session. So I'd say that I don't know if it feels right.
I can't say I feel quite comfortable, but mechanically it seems to be the right value.
And now the part of the show, folks, where we go and I seem to live on anahe and we do this to punish her. The essay the of last the first six months rather was Larry MacDonald wrote a brilliant essay went out on the Wall Street.
It was ill and all that.
And he starts with a massive lump of money and ETF's index funds the wall of four oh one k institutional money out there, and then he walks through on top of it x number of derivative strategies, almost like tranches of a build up of notional value. To you and the quants at Wells Fargo feel that we are going into a second half with notional derivative instability potentials or is there integrity.
To the system.
Now that's a great point when you bring up instability, because are people hedged right now? When wall is cheap. You'd expect the hedges are cheap, but why buy this downside protection if we're only going one way upwards? It feels like you're tearing up money.
So it feels like nineteen eighty seven, but continue.
So in that kind of environment, it comes to maybe it is prudent to have some protection. But we're not calling for a major pullback here or a major downturn, but perhaps again that deceleration in this upward trend we've seen. So I think that if you want to put on those option strategies, maintain your upside exposure, but also take them off the top in terms of your stock positions and consider rotating that to the less explore in parts of the market.
Is you're study that rebalancing works. I mean Harry Mark, who it's stuying, the Nobel laureate ninety five years old. He's the one that gave us diversification in rebail. I'm not a big fan of rebail. Sell your winners. Where are you on that?
Well?
I think it depends on timing, and here again we're not saying get out of your winners completely, but take a little You know, it's been six months and you've already gotten thirty three percent on some of these names in the QTF and you're passive. You know, you can't be too mad about that one. And it wouldn't be the worst thing. It takes some of that home, or pocket it and put it into something of the lives.
She sounds like a trader, Well she was a trader.
Let's take that home, take some profits, you know, lock in some of those games. I want to go back to that essay that Tom brought up. I think you were having a conversation with amyble Silverman a week or to ago about covered call strategies. Some of the most popular ETFs out there on the market right now are
covered call strategies. They sell call options. And when you think about the stability of markets and this drag lower involatility, do those sorts of strategies have any volatility masking effects.
It is possible. And you think about if the average investor is selling calls, then the broker on the other side has to buy those calls and they need to delta hedge. So when they buy those calls, they need to sell the underlying to hedge those delta positions. So you have this kind of dynamic where some people are holding these calls on their own outright, other people are holding them hedged.
What we do here, folks, is when any wise as derivative strategists mentions delta hedges, we always turn to the economists to translate. She's going on derivatives and Greek letters on us. Would you save us with a question for anahet?
Okay, okay, I'll save this.
So it's been really difficult with the incoming data being especially when you think about jobs, for anyone to believe that there's any other direction but up for equities, and so you know, we're looking for another big print on Friday, and so you know, it's just very difficult for investors to get past.
That, right.
So it is that what it's going to take just a really clear slow down in jobs or really clear increase in jobless claims something in order to get people to start to think that maybe there could be you know, more nefarious outcome for the economy in the back half of the year.
I certainly think that an employment picture is probably the lynchpin that we're all looking for, and that's why we're so focused on every single jobs or wages related release and so right now we expect the consensus we're in line with about three point six on the unemployment rate. If that holds, I think the market has some of that priced in already. But unless we see, like you mentioned, something really concerning a big uptick in unemployment or some
big deterioration. And in the wage picture for us, it seems like somewhat sideways to steady going.
What's your SPX level.
We're still at forty four to twenty in terms of for a soft landing.
Now we've breached teak the summer office.
That what that means, well, you know they are that sell and may go away. Maybe it's the sell and June go away, but we wouldn't say quite go away. I do think that you could see some further upside, but the question is how much more. And towards the end of the year, as we start realizing that consumer spending continues to deteriorate and that starts to take hold and that earnings picture kicks in, I think you see a little pullback.
And thank you so much with Wells Fargo, but we're gonna have allen joy now. With Jim Bianco, he's president of Bianco Research. Hugely followed on the street, and what I find is it's a it's a smart note always. Of course that's Jim Bianco, but there'll be one sentence that hits you over the head. We get that now from Jim Bianco. Rory talks about inflation coming down to that before level and then it will reverse and drift higher.
Jim state the theory, how will we get to three percent then drift higher?
Well, it's the base effect.
Last year, June of twenty twenty two, we had one of the highest monthly numbers ever at one point two percent. You may remember gasoline prices were five dollars a gallon a year ago. We're going to drop that off and we're going to replace it with a much lower number, something like point four or in that range, and that'll bring the year over year inflation rate down to three percent.
For June.
July of twenty twenty two was zero, August was point two. Those numbers are gonna be easy to jump over. And then if you start looking at September, November, December, you got point two's point ones.
Those numbers will be easier to jump over.
So we should bottom at three percent and start drifting towards four percent. Now, I'm assuming no major downturn, no kind of crisis that comes along, no heating up.
Of the war that could change that equation.
But if the inflation rate bottoms at three and starts drifting higher, the Fed's going to find this unacceptable and that two rate hikes that we have priced in for the rest of the year will happen if not three.
Jimmy is such a student of history. Is the FED finding it unacceptable because they're wedded to a return to the Great Moderation, or, as Bill Dudley said last week in his Bloomberg Opinion essay, this is a society, a country, a nation, and the FED that has to get used to a permanent higher rate regime.
I don't think the FEDS quite with Dudley that they need to get accept a higher permanent regime. I think they look at the two percent and I think it comes back to May of last year when Chair Paul was in the White House in the Oval Office and President Biden pointed at him and said, America, this is the guy that's going to bring inflation down.
And he's taken that seriously.
He has stated over and over again that their goal is two percent he has said that without getting inflation down, you don't have an economy. So he's dead serious about trying to bring it down, and he should because prices for the last two years have largely been running faster than raises and so on a real basis, especially people that live paycheck to paycheck, they've been falling behind they and that has to be rectified.
And as such, we've seen expectations for the terminal rate definitely move higher over the past week or so after hearing from Powell that commitment to keep fighting inflation. But let's talk about the neutral rate. Has your calculus for where the neutral rate could be changed at all?
No, it hasn't changed, except that I'll go with what the Fed says.
The neutral rate is somewhere around half a percent above the long run average of inflation. Now, of course, we could argue to the cows come home, what is the long run rate of inflation?
Is it two? Is it three? Is it three and a half? I'm more in three to three and a.
Half range, which means that neutral is four. And then Chair Paul put a little nuance on it. He said, the entire yield curve has to be above the neutral rate, not just the funds rate. So some of the rates, like the ten year old at around three eighty five are not quite there and so that would suggest higher rates. So I am with Bill Dudley on that that rates are probably going to continue to drift higher.
It feels like a FED to side show. He got Jim Bianco and Ellen Zenner with us. Ellen, I want you to ask a question to mister Biancle to try to be nice, but Ellen, I want to get an observation from you first. Is this a FED that has to make as John Taylor Stanford would say, this is a FED that has to make a regime shift away from the silliness of one point x run rate.
On the FED funds rate.
Well, I think this is something that is going to underscore how much they have to go back to the table, as they said, every five years and taking a look at their entire framework of how they conduct monetary poul and things like are we at a longer run higher news?
Are yours?
I think that it's that these things are evolution, not revolution when they make changes. I don't think that they're going to change the inflation target, but I think they can fudge around it like some of the central banks and have a band of uncertainty around that. But but, but, Jim, I want to ask you, you know, when you think about how long the expansion will last, we're going to have a downturn at some point and probably inflation will still be higher than goal at that point.
Does that mean that the Fed is going to be.
Less reluctant to do a steeper cutting cycle in order to offset slower growth.
Sure, And let's look back a year ago.
A year ago Q one, Q two, we had negative two consecutive negative quarters of GDP. And you remember a year ago the big debate was is that a recession? And most people said no? And what did the FED do during that they caught They hiked excuse me, by fifty and then by seventy five. They were not heard by a slowdown in GDP. So if we see the consensus forecast that at the end of the year we might see negative GDP numbers if inflation stays elevated, I don't think that.
The defers or dissuades them from raising rates.
What would is if we saw maybe if we saw a big slow down in the labor market. But as we all know, the payroll report has beaten fourteen consecutive months. So we haven't even gotten a miss on the payroll report, let alone a slowdown on it. But if we did, that might be the game changer.
But how do you feel about, you know, the credit impacts that we've had. I mean, are we too complacent here that we've had this big credit shock? You know, there's sort of the economy pre March eight then post March eight, you know, and it feels like there's one camp that says, well, we've just escaped that is just not going to have a big impact on credit and the labor markets, and another another camp that says, well, we've just not seen it yet.
Where do you where do you stand there?
Yeah?
I agree with you that, you know, March eighth was probably the most important economic date of the year pre the bank failures, post to bank failures, and I do agree that we've seen a big credit shock and we're going to continue to see that.
Now.
The credit shock is not going to probably result in another bank failure, but it is going to result in a pullback, especially for small and medium businesses.
And I think that as we go forward, the FED will look at that.
But then jar Pole is already kind of hinted that that's more of a regulatory measure. You know, Michael Barr, the head of supervision at the FED, it's his job.
To deal with that. Our job is to deal with inflation.
So I don't think at the end of the day that the credit situation is going to dissuade the FED other than push them from a regulatory standpoint, but not necessarily from a monetary policy standpoint.
Jim Bianco, Thank you. Jim Bianco with US today.
Now, Isaac Multanski joins the Right Now Directive Policy Research at bt IG. Isaac, were you surprised at Yellen will travel to China?
So I think that the simple answer to that is no. And here's the reason why. What we've seen from the Biden administration is this concerted effort to keep tensions with China range bound effectively. So whenever there's a negative headline, you can almost bet with certainty that there's going to be a positive headline that follows. And so we've got this headline now, and the Treasury Secretary will go and hopefully they're productive talks that you know, ensure that there's
a commitment to continue talking. But that tells us that something negative is going to follow. And I really think that what follows are these investment restrictions that we've been talking about for the past few months. Some folks call them the outbound scipious restrictions, and I think that we've got to think about this as an ebb and flow in terms of of the geopolitical tensions and this.
Of course, the timing is interesting.
Of course, Yellen expected to make the trip just three weeks after Secretary of State Blincoln visited China, and if you look at some of the reporting, quoting senior Treasury officials off the record, said that the goal of this trip is to seek to deepen and increase the frequency of communication between these two countries.
When you think about this trip, what would a win look like.
For the US?
You know, I think that right now the bar is pretty low. I think it's that whenever they can leave the room agreeing that they will continue to talk, that is a win. Right now, it's difficult to see there being much more in terms of tangible, mild markers. We can look at rolling back of tariffs, for example, those types of things aren't anywhere near being on the table.
They're not even in the room. So at the moment, really the bar that we're looking for is just making sure that after each one of these successive meetings, they're still willing to talk, they're still willing to travel.
Well, we'll find out soon enough, of course. Treasury Secretary Yellen expected to visit between July sixth and July ninth. Let's focus States side, though, because it was a hefty week last week of Supreme Court decisions. One of the headlines there, of course, the Supreme Court basically throughout Biden's
student loan relief plan. When you think about the ramifications for that on Biden campaigning for President Biden the candidate, what does this mean in terms of him trying to sort of rally those younger voters.
Yeah, Look, I think if we even just view this through a politically craven lance, the young voters eighteen to thirty five were the ones who stopped that red wave from coming during the midterm elections. They are a vital, absolutely vital voting block for a Democratic party, and that informs our viewpoint on what the president's going to do here. And so he lost in the Supreme Court, lost handily all things considered, but that doesn't mean that they're done.
And on Friday, after the clothes he came out and said they are going to attempt to do student loan cancelation. Again, I'm not sold on that for statutory reasons. But here's what's really important. They came out and said they are going to do effectively this delinquency grace period where for twelve months, if you can't make your paymental student loans,
there'll be no repercussions. And that's a big deal given the twenty percent of student loan borrowers are showing signs of being unable to pay once that restart payments hits in October.
I'm ready on television this morning, Isaac Bultanski with us as b Tig's spirited conversation here. Fourth of July is to be about kissing babies. Those days are gone. It's a battle to the first Republican debate in August. We are advantaged this hour with Sarah Hunt. She Marcus st Alpine, Saxon Woods joining us this morning. She is riveted to the political conversation.
Sarah, So the student loan issue, this has been one of the things that people have been worried about from a spending standpoint, right, So consumer spending has been very strong, with student loans have been essentially in abyance since we started COVID. So the question then becomes, I think there were a lot of people counting on some form of relief, So how much stress is it going to put on
if that relief doesn't come? If you stretched it out over twelve months, it's a lot easier than saying everybody start making those payments in September.
I'm sure there are some.
People who have been budgeting for those payments and are ready to make them, but I'm sure that there are many people who have not. So the big question about consumer spending, which leads into earnings and leads into the retail story, is what's going to happen now if you have to start paying back some of those loans or if you don't, and does that make a big difference in terms of earnings. There's been warnings for some of
the retailers on that specific issue. So I think that this is a big it's a big question, and how it gets resolved still seems to be up in the air.
Well, Isaac, let's throw that to you.
When you think about some of the economic ripples that could follow, especially as we head into the twenty twenty four campaign season.
What's your thinking at this juncture.
The way I think about this is the consumer spending side I think is fair, and that you have twenty two million or so folks who are going to be able to begin repaying in October, and that's two hundred and seventy five to three hundred and fifty dollars a month that can start going towards student loan payments that
won't go to other things. But here's another data point from the Consumer Financial Protection Bureau that I've been thinking about all weekend, which is nearly one in ten student loan borrowers are already delinquent on other credit problems, meaning that and I think we've seen this through academic papers as well, that some distressed student loan borrowers use those three years where they didn't have to pay their student loans to balloon their credit lines through credit cards, auto loans,
whatever it may be. And so for them, I look at this twelve month twelve month on ramping as really a reprieve where it's clear that they will not have to pay their student loans. So my question I'll push
it back. Is you know, are they going to suddenly say, well, now it's a time where I need to start saving to pay my student loan off, or will I continue to live at this pace knowing that the Democrats are most likely going to promise even more student loan relief once we get on the campaign trail in.
January, Isaac, Thank you.
Isaac Multotski with us is b tig this morning with a brief hear and particularly off the Supreme Court work. Subscribe to the Bloomberg Surveillance podcast on Apple, Spotify, and anywhere else you get your podcasts. Listen live every weekday starting at seven am Eastern. I'm Bloomberg dot Com, the iHeartRadio app, tune In, and the Bloomberg Business app. You can watch us live on Bloomberg Television and always I'm the Bloomberg Terminal.
Thanks for listening. I'm Tom Keane, and this is Bloomberg