Bloomberg Audio Studios, podcasts, radio news. People recognize there's an overvaluation, but at the same time, there's no catalyst for dealing with that.
I'm Stephanie Flanders, head of Government and Economics at Bloomberg, and this is Trump Economics, the podcast that looks at the economic world of Donald Trump, how he's already shaped the global economy. What on earth is going to happen next? This week, we're doing something we don't normally do. We're talking about the stock market, the US stock market, because
apparently a lot of people don't understand it. Let me explain, Like many of you, I had some holiday over the summer, and holiday inevitably means maybe having more conversations with normal human beings who don't spend their time checking the news
or thinking about the state of the economy. The question I had more than any other from those normal human beings as we sat on the beach or wherever it was, was, if there's so much scary stuff happening in the US today and so much uncertainty hanging over pretty much every part of the economy, why on earth is the stock market so high? And it is a good question. The main US index s and P five hundred hit another
all time high at the end of August. It's up around thirty percent since early April, when investors were very worried about all those tariffs, many of which are still in place. And that all time high in the market came just days after Donald Trump had put potentially the entire independence of the US central banking question by firing
the Federal Reserve Governor Lisa Cook. So you might say it's the bomb market that needs to worry about all that about inflation and the Fed, not stocks, but the ten year bond yield, long term cost of borrowing for the US well, that actually fell after Lisa Cook was fired.
So what gives I mean, we know the stock market isn't the US economy, but it is supposed to reflect reasonable expectations of US company's ability to make money in the future, and that depends on quite a lot of things that you might say President Trump had put into question the ability to trade, export and import freely, stable economy, predictable policy making. And there are quite a lot of
people in the market worrying about these things. And they're also worried that the market has become way too dependent on a handful of companies, especially the ones associated with AI, but none of that has translated into a serious reversal in the market until now. Could this be the month that that changes. Well, we had a piece out earlier this week that did argue that the US stock market's
fate comes down to the next fourteen trading sessions. So I thought we'd better have a quick word about what could happen in the next two weeks and what is underlying this basic confidence that we've seen in among investors in the last few months. And we don't offer investment advice on this show, thank goodness, but I did want to have an informed debate about it with two regulars who are in the DC studio talking to me now, Anna Wong, chief US economists for Bloomberg, and Ed Harrison,
senior strategist for Bloomberg and author of the Everything Risk newsletter. Ed, Anna, fantastic to have you.
Good to be here, Stephanie, good to be here.
Thank you for sort of scrambling to do this show. Of course, as is always the way, we wanted to do something about the strength of the stock market and whether it might change. And as we're saying this on Tuesday the markets heading south. So we were either very
precient or have once again sort of been counterindicators. But I mean ed that you may have had the same experience I had over the summer that ordinary sort of bystanders of the US economy just find it pretty curious that the stock market's been so strong.
Yes, definitely. I would say that a lot of people I've spoken to are thinking there's a relative amount of chaos in terms of the economic order, and they're wondering, how is it possible that the market is up so much. I would start out the conversation by noting that the last Bank of America fund manager report had ninety one percent of fund manager saying that US equities were overvalued. So that's a lot that's pretty much everyone. And so what it says to you, were they say they should
sell the exactly? I think that's the problem. The problem is is that Number One, when you look at the economic surprises in the last month or so, last two months, they've been to the upside. Number Two, the last earning season, particularly from those stocks that you were talking about, where
the concentration was very good. All of those companies, even when there were some problems like data centers at Nvidia, also with Amazon and their AWS unit, they still overall had numbers that were stellar, better than the overall market in fact, and better than expectations, and so that's what's driving the market higher. It's very difficult to sell when the stocks that you would sell are actually beating expectations
and the economy overall is doing better than expected. And so you have this dichotomy playing out where people recognize there's an overvaluation, but at the same time there's no catalyst for dealing with that.
And actually, on the subject of catalysts, the piece I referenced about the next fourteen trading sessions, I mean we're straight after Labor Day now in the US early September, there's always a kind of back to school feeling also for the market, and as that piece pointed out, September is often a pretty choppy month for the market. In these kind of key bits of news we're going to get over the next couple of weeks, do you think they could be critical for the momentum of the market.
Yeah, this is probably where and is going to come in at some point, because ultimately a lot of this has to do with the FED on some level. Two things that the market thinks in terms of this Fed's got the market's back, and overall, there's really no reason when the economy's going higher and the Fed's got our
back to sell. What we found in particular with large investors is that they relate to the game when Donald Trump reversed his tariffs early on, small investors bought the dip and then people had to chase those returns and that's driven the market higher. And now we're getting to a point where the FED could potentially cut, and so the question is are they going to cut? When we talk about the next fourteen trading days, that's the terminal date in those days the Fed finally being able to cut,
Will they cut, how much will they cut? Will there be the centers and so forth. I think that that's the critical test over the next three weeks.
Will go through some of the individual data, but just sort of broadly, when Ed talks about, you know, he's coming from the market perspective. This is what people in the markets want to see in this sense of the FED having our back quote unquotes, do you think they're going to get what they need? Do you think this is going to be a reassuring couple of weeks for US dot market or something a bit more volatile.
So we have two more key data point.
One is the jobs report this Friday, and also a CPI report. The market thinks that the jobs report is all that matters, and CPI has this really high for it to shop September rate cut. So now this jobs report, well, there's barely any consensus. The range of forecasts out there goes from zero to one hundred thirty thousand, and I think even for unemployment right there's people thinking it's could be four point two, four point one, four part three.
So I think that if the unemployment rate were to edge down surprisingly, I think that could well cost a market to price away a September rate cut back to right now, the probability of a rate cut in September is eighty nine percent according to a futures market. I mean, if the jobs report was surprisingly strong, we could see probability go go back down to sixty or fifty five or something vague, and then it will become a coin toss.
And that's I think that's the type of stuff the stock market doesn't like, which is uncertainty.
I don't know if ED will agree we'll.
Go back to that, because it seems like there's been a lot of uncertain over the last few months that they've managed to struggle, but they are obviously very focused on these numbers. Just to touch on the inflation aspect, because one of the factors that had led traders to have a higher expectation of a rate cut from the Fed this month, along with the weaker labor market figures
that we had, was also in the inflation numbers. So is there anything there that could change the way the Fed and then potentially the market is thinking.
What I've heard from the markets is that CPI has to be really high, say zero point four point five, to be a game changer for a rate cut, and I think it would be.
Just remind us what it is now.
So in the.
Past four months it has been fluctuating between point one two point three, and only in the last month had CPI it comes to point three, But previously.
That's the increase in just the month, Yeah, just the month, So point four the annual rate is the annual rate is in the high two. I think I believe two point nine or close to three point zero, but a point four point five annual increase would be if you analyze that would be corresponding to four to five percent inflation. This is why point four five are super ugly readings.
But you're not expecting that because you've looked at how the impact of tariffs, for example, on prices, and we've not been seeing those kind of numbers at least not yet.
Is that right, well, Stephanie, our view on this is very dynamic in the sense that passed through on tariff is not static.
Firms will only pass through if they can.
And so this second quarter earning seasons, which I think market participants took us overall quite encouraging, was that there's not much evidence that firms profits are hit by these tariff which was the piece of puzzle for me because our view had been that, well, maybe tariffs won't translate into inflation so fast because firms will be eating it through profit compression. But so far we have not seen much tariff passed through in CPI, we have not seen
much profit compression and firms. But we do know that US firms are taking the front of the tariff. So who in US is really taking the brunt of the tariff. It's like the doc that did Doc bark In like Sherlock's home tail.
Okay, so is it possible that Donald Trump is right and it's those foreigners that are paying that.
I don't think no. I think the evidence is still pretty firm on that, although I have been hearing some very esoteric explanations, which is that foreigners are not cutting the price they sold to the US importer. However, they're offering credits on exports services, which is why import indices will never capture any discounts. This is just a very offbeat explanation which I've heard from a few people now.
So I think we need to examine that. Usually in the importer US also exports, so if they get some credit on the expert side, maybe that helps cushion something. I don't know, because at the end of the day, from a firm's perspective, it's about managing this cost increase imports tariff rise. You could cut labor costs, you know, increase your export prices, or you could do a range
of things to manage that cost. And it could be that, but it also could be that actual tariffs was not as high as the statutory tariffs, and that's why the hit was also not as good. There are a few explanations.
A lot of people have been looking into that gap, but that's also been showing up in the revenues. We're getting less revenues than you would expect. It's quite a lot of revenues coming into the treasury, but there's a bit of a gap there in terms of what the supposed tariff revenue's rates are and what the revenues are. So I think there's plenty of puzzles there. But ed going back to the Fed having the markets back, I mean, it always strikes me, and it happens a lot in
these context. There's a bit of a dilemma because the market wants the lower interest rates, but not the thing that would trigger the lower interest rates. So the economy is doing well, then the stock market might feel better, but that also makes it less likely there's going to be a interest rates Is that a bit of an issue for the current state of expectations.
It is, but given the range that Anna was talking about, that's sort of like the sweet spot. The goldilocks outcome zero to one hundred and thirty non farm payrolls. It says that the economy's weak enough to get the FED to cut, but not so weak that you actually are concerned about a recession. And I think when you think about the FED, and there's been a lot of talk about FED independence and whether you have low rate people
or high rate people. Chris Waller, who's a FED governor, he actually has the zeitgeist of the FED right now in terms of anticipating that low number that we're talking about and the lack of a pass through of inflation enough to get the FED to cut, and I think that the rest of the FOMC sounds like they're moving in that direction. The market has eighty nine percent priced in, as Anna was saying, and largely there's no way that the FED is going to not cut when you have
the kinds of numbers. The real question is do they cut afterwards? But I think that September is probably a done deal at this point unless you have something incredibly bad from the inflation number, as Anna was saying. And so the FED has the markets back largely through September and my view, but then afterwards that's the real question.
You started by talking about how people are conscious of the overvaluation of the US market, and we've talked in the past about how even though the US stock market looked healthy in relative terms, many other markets have done better this year, and maybe the marginal investment dollar was more of it was going overseas now than had been in the past. But that fundamental question of can you afford to be so dependent on a handful of stocks.
I can't remember the figure now, but I think the percentage that just in video alone, the producer of those very of the absolute cutting edge chips, that its share of the market is now I think higher than any companies has been. What can seriously change that? What's going to provide the reality check on that kind of concentration.
Ed The reality check is missing earnings, and in its most dire form from an economic perspective, an incredible slowdown that causes firms to mis earnings repeatedly and by a large margin. So it's almost like people are holding their noses to buy at high valuations because there's nothing that they can do. Let's back up for a second. If you think about what happened in April after we had
the tariffs. When the tariffs were announced, the levels were so high and the fear of a recession was so high that people sold on mass there was the whole Cell America trade. What that is representative of how quickly that almost recession for the SMP we were almost down twenty percent formed is indication that we have weak hands. That is, is that people are not real believers in the market. And given the fact that we've gone up this month since then, you would think that that same
sentiment is even higher today. But at the same time, you're not going to be selling stocks that are actually beating expectations, and you're not going to do that in an economic environment that expectations are above. So I think that over the next couple of weeks, but I would say actually over the next six weeks, a number of things are coming together. One we have the FED. Two,
we have expectations. That is the City surprise Index at a very high level, and that's a mean reverting index, meaning that the likelihood of continuing to beat economic forecast this much will go down. And then finally in October that's when we're going to start the next earning season. So those three things will come together and that will be very decisive in terms of whether or not this
particular rally can hold. And I would mention by the way, as you said, Stephanie, the first day back, that we had a reality check. When people came back and desks were full, people saw not just stats but also.
Bonds, possibly because they read this piece that said September was always terrible and the next forty trading sessions were going to be so important. I mean, Anna, if you're an economist, you will have been taught. Any economist, we were all taught that independence of central banks was very important for investors, for the stability of general confidence in the economy. It was one of the things that made the US an attractive market. And we've also always been
told that stability of policy making was super important. And yet if you look at the last six months, you've had a definitely not stable policy making and a lot of volatility and outright questioning around the independence of the central bank. If everything just kind of continues as it has, do we have to kind of question that basic belief. Maybe the central bank independence is not as important as we thought, or is it just that it's not got to that point yet.
I think it The mutant market reaction is about how the market interprets the series of events. So I think in our Washington DC bubble. We are all characterizing the events as jeopardizing the feed's independence, but I think many market participants are not thinking that this fundamentally jeopardized the FED independence.
So I think FED independence.
Is very important for the stability of the US economy, no question about it. So the market will have to come to the point where they see that it's jeopardized before they reacted.
I don't think they're at that point yet, But.
I guess one of the things that would perhaps stay the President's hand in pushing ahead more aggressively would be the sense that there was a market reaction, but he's not seen much evidence of that. I mean ed one tends to look to the bond market for a reaction to these kind of concerns, and certainly most economists I know are kind of expecting on balance inflation to be a bit higher after j. Powell leaves because of all the mood music that surrounded the appointment of the next
head of the Central Bank. Is it surprising that the bomb market has also reacted so calmly to all this? I mentioned the ten year. I guess the thirty year moved up very slightly, but it doesn't seem like a big deal.
All of this is relatively surprising. You can countenance the moves based upon the lack of a recession, the fact that we've had such a huge change in economic policy, but largely the beat goes on. I think that the market has become inured to all of these changes, and they're waiting for something of great significance economically to occur, or something of great significance to occur in terms of
earnings for the stocks. And remember, at the same time, you're also looking at investors who are getting five percent. Five percent in a thirty year has been very difficult to s pass on a considered level. You know, every time the bond market gets the thirty year to five percent, suddenly you have buyers who swoop in and they say,
that's something i'd like to lock in. Locking in that level of return over a thirty year period is attractive a foreign investor that just years ago was getting something in the order of one to two percent on very long dated paper. So it's a very weird situation, and I think that it's allowed to go on simply because the economic situation has not deteriorated enough to draw a reaction.
Anna, I'll give you the last word. I said at the start, the stock market isn't the US economy, but they're clearly it's hard for the stock market to continue to be strong if they are a fundamental question marks, let alone a return of the risk of recession when it comes to the US economy. I know you've said in the past that it's sort of too soon to say in terms of the impact of tariffs, but we've also discussed reasons why the impact on inflation might not
be as large as some had feared. It looks like the impact on the economy overall could be less than many had feared. Do you think we're going to end this year thinking this set of policies one way or another. Partly because of some of the offsets that have come with tax cuts and other things, this set of policies from this administration is not as damaging as we might have thought the beginning of the year.
Yeah. I think on the growth side that might be it, because we do have the resolution of the tax policy and that's proposing as tailwind going into next year. However, my views on the impact of tariff on inflation has evolved slightly. I think the upside risk on inflation is now higher and going into the end of the year, because even though the stock market is not the whole economy, the stock market is the whole economy for the top
twenty percent of the population. And as long as these top twenty percent of household are doing fine with wealth effect, then firms will find that they will be able to pass through these tariffs to these guys. And most of the disinflation we have seen in the last four months that turned the narrative of tariff and inflation over his head, that was driven by these top twenty percent people. They're
not spending on hotels, they're not spending on airfares. But I see that reversing in the rest of it this year. So we might still see inflation flaring up later this year, but not due.
To the particular teriff items which comprise of the small part of the CPI, but in the service stuff that these financial conditions driven spending is posing pressure.
Intriguing. Well, then we'll see how the market reacts to that. And indeed everybody else, if anyone was looking for investment advice, I don't think we've ended up with any. So that's all right, good, good Anna Ed Thank you so much.
Thank you as well, happy to be here.
Thanks for listening to Trumphonomics from Bloomberg. It was hosted by me Stephanie Flanders. I was joined by Anna Wong and Ed Harrison. This episode was produced by Moses and Am and Summer Sadi Special thanks to Rachel Lewis Chrisky. Sound design was by Blake Maples and Sage Bowman is Bloomberg's head of podcasts and to help others find it, please rate and review highly this show wherever you listen