Bloomberg Wall Street Week: August 19, 2022

Sam's l Sharmon and founder of Equatic Group Investment. In Bloomberg Wall Street Week with David Weston from Bloomberg Radio, China slows, the Fed worries and former President Trump strikes back. This is Bloomberg Wall Street Week. I'm David Weston, this week's special contributor to Larry Summers of Harvard on where the housing market is headed. I do think we're looking towards softness in the future with respect to housing. And Sonya Gibbs of the Institute of International Finance on the

risk and the opportunity of zombie companies. Money that's being spent to keep zombie companies afloat is money that could be more productively deployed elsewhere. It was a week of signals, some subtle and some not. China sent an unmistakable signal that its economy is slowing, something that a ten basis point rate cut doesn't seem likely to fix. President she is confronting a number of both, you know, short term and long term challenges right now, and probably the number

one thing is the poor performance of the economy. While former President Trump kept up his attack on Republicans who supported his impeachment, so Congressman Liz Cheney of Wyalming said she wouldn't stop even after she was soundly beaten in her primary. I have said since January six that I will do whatever it takes to ensure Donald Trump is never again anywhere near the Oval Office, and I mean it.

And there was nothing subtle about the inflation signal we got out of Great Britain, coming in over ten percent and apparently headed even higher. I'd go to the UK way. You're seeing an explosive move higher in UK guilt yields tom and I don't think I'm o a divnt us in that language. But the Fed, well, the FED was a little less clear in the minutes from its July meeting, with the nuance balancing of the concern over timing too

much and concern over inflation expectations becoming entrenched. Reading the minutes, you have to feel that this is a sort of a dovish lead, and it supports Chairman J. Powell's tone at the news conference following the June meeting. Beneficials noted that some parts of the economy, notably housing, we're starting

to slow as a result of higher interest rates. And if you wanted confirmation of just how I'm big, as those Fed minutes were, just take a look at the markets this week, with the some shooting up on Tuesday, when we'll fall back down to earth and beyond on Friday, ending the week down one point two eight and the NASDAC was even worse again, climbing nicely earlier in the week, only to plunge on Friday, ending up down two point

six percent. Helped, no doubt, by concern about bonds, with the yield on the ten year rising fourteen basis points for the week and ending up just under three percent at two point nine seven. To help us understand what the markets may be trying to tell us, Welcome now, Bob Prince. He's co Chief Investment Officers for Bridgewater Associates and Ed Hyman, Chair of ever Cores I s I and Vice chair of ever Core Partners. So welcome both of you back to Walster. We gets really a pleasure

to have you. And let me start with you. You follow the economy and what's going on with the economy. We've talked about the markets, We've talked about the FED. What's the economy telling us? Well, the economy has two parts to it. Obviously, one part is what real GDP is there auto sales. Then there's inflation, and inflation is by far the more important part right now. But on the first part, Uh, the economy is doing okay. As you know, we survey companies and our retail survey dropped

sharply this week but still pretty elevated. Housing is really getting hit. But on balanced, economy is doing okay. I think it's probably growing two or three but headed to one. Uh. The recount, I'm sorry, bank bank loans came out this afternoon and they're up eleven percent now, Uh, and retail sales this week, we're you know, pretty decent on inflation, which is much more important. UM, I'm pretty convinced that

inflation is slowing of oil prices came down. Gasoline prices came down, and in the weeds, used car prices dropped about three in the latest month. And we survey retailers pricing power that's now plunging. You've heard the stories about the inventories being high, and we have been tracking that

for a long time. It's now really coming down. But the most important part, and we don't get much data on this, or wages, And obviously the labor markets are very tight, but they had from the conference board this week a measure of CEO confidence was almost a record low, and another survey UH that showed of workers were concerned about losing their job. Go figure that. Uh. But we serve as employment agencies every week UH and ask them,

among other things, about wage pressure. And that's now pretty clearly hooked down. So I think you're beginning to see some moderation in wages on top of you know, prices now cooling and the economy is cooling. So Bob Ed's seas inflation started to come down. The question is how fast it's coming down but starting to come down, how do you see it? And is it coming down enough and fast enough so the FED will not have to go much further in rate hikes. It's definitely on the down.

But the question is where as it settled out, and um, and doesn't settle out at the level that the Fed expects it too, and that the markets are discounting. The markets are discounting two and a half and you know we're coming down from six so or higher on the core right so, but there are really two big imbalances in the economy right now that are need to be resolved through this tightening cycle. And we're still in this tightening cycle. Um, it's it's too early to really see

the effects. It hasn't been that long to see the effects, and so chances are you're going to get more of that weakness as you as you go along. Bob Princeton Ed Kimon will be back with us for more Wall Street Week after the break. This is Bloomberg Wall Street Week with David Weston from Bloomberg Radio. New construction contracts faltered, and while unemployment actually went down, more significant was back

to back monthly declines and paying jobs. The bottom line seemed to be that the economy was beginning to move forward, but with many a lagging part and overall at a pace that would embarrass a tortoise. That was Lewis Rockeys around Wall Street week Back in August, when the United States had just come off of a relatively mild and short recession. The number one song, if you remember, was Brian Adams Everything I Do, I Do It for You, and the top movie was Terminator to Judgment Day. Still

with us are Bob Princeton, Bridgewater and Ed Hyman. Of ever, course, so it's a bit of a different world today. Bob, for example, on the job situation, we still have a pretty robust jobs economy. But from everything we discussed before about the uncertainty of we are on the tightening cycle,

what comes next? What is that stage? To an investor, Well, right now, we're in an in between stage right now right, so you if you, if you go back, just not too many months ago, it became evident that we had a self sustaining inflation, that there was going to be a tightening monetary policy. The markets price that in yields went up. You got the tightening of policy. It's still happening. It's not over. Uh. Markets got a little bit excited

about to dip in some of the inflation. They started to bite on that yield, but that we've already given up half of the yield rise that occurred, and that actually means if it needs to do more than if the yields had stayed up where they were right, including equity. So so we're still in this thing. We're still in

this tightening cycle. And like I said, there are really there's going to be a mixture of three things, and you don't know what the mixes yet because it's too early to tell, but you're going to get some mixture of wheat growth, high inflation, and rising interest rates. The more the interest rates rise, the more it's the weak growth.

The less the interest rate rise, the more it's the high inflation because and if the fit takes the foot off the brake, you're gonna that inflation improvement is going to go away, and they're gonna, you know, and they're gonna favor growth. So you don't know which, which which

how they're going to play it quite yet. So what we try to do in this kind of environment is maintain some balance, right diversification obviously, don't not too heavily committed to any one direction, but also even within the equity market, um, you know, structuring equity portfolios that have a cash flow and balance sheet base under them, so that if you tightening is very aggressive, that there's a strong enough balance sheet to hold that up to to

sustain their their their position in the markets, or uh, sustain a positive cash flow. UH. And I think that the companies that are you have a lot of debt in relation price value or vulnerable profit margins, that sort of thing, um, you know, are the are the type that are most vulnerable for that environment. So it sounds like an awful lot of hinges on the FED. Surprise surprise,

Jackson Hole coming up next week. Okay, a lot of people are gonna pay attention to j pals to say, if we remember last year at this he was talking about transitory still that doesn't work so well this year. So how much guidance can the FED give us about exactly where they're heading on some of the questions that Bob just talked about, Well, it's hard to hard to know. I do think we're going to get a financial crisis some queer somewhere pretty soon. It's always been part of

the of the tightening cycle. But like you point out, David, you know, last year it was really about transitory. He had five differ you which you went through five different things that would prove transitory. And I personally think the FED is now on the other side of the wrong foot. You know, now they're doing the entrenched and uh, you know, a year ago I thought Bonnio could go to five percent and FED funds go to five percent, and I'm

not quite sure what's happened. But you know, money growth DIDs slow dramatically, and commity prices have come down dramatically, and now I'm saying pricing power coming down. And so I think we've made a lot more progress on inflation than I expected. And that's why the market was going up until today. But that's that's if inflation keeps coming down, uh,

then the market is gonna appreciate that. So one thing I don't understand, Bob, we heard why ED thinks the FEDS job maybe it's gotten easier actually with some of the things that have happened, But financial conditions actually have not tightened. Actually, if anything, that in someone looser that makes the FEDS job harder. In recent weeks, yeah, I mean the first half, the first half of the year, literally the first quarter of the markets were doing the

fed's job entirely, and then the FED joined in. And once the FED joined in and the markets saw some you know, positive signs of inflation, you know, they actually pulled back, and so bond yields came back down, equity yields, you know, came back down. Um. And so you know that, as you said, about half of the tightening that the markets were applying has been retracted. If if yields had stayed where they were, uh, it would be that much

less that the FED needs to do. But the fact that the yields have actually dropped some and kind of given back some of the work that they were doing, it's that much more that the FED needs to do. Um. And so I think you know it's into ed referred to the last you know you you you raised it, and then you know, we talked about last year's Jackson whole speech bit. Um. They were clearly wrong about transitory inflation. If you actually look at the indicators that they followed,

they tend to be lagging indicators. UM. I haven't heard yet an explanation about how they think inflation, why they think there is an inflation, why they think that that was wrong. And I think that that cau caused you to question how well this this process is going to be managed, just gonna be very tricky. Well, and that's a really powerful point. I think. Does the Fed need to explain to us what went wrong and why they're not going to do a mistake again for us to

really believe in this time it would be helpful. But you know, from my vantage point, as you can see, what they missed was that fiscal stimulus, quantitative easing led to increase in the money supply, and that did it. And if you look back at that Jackson hole, they completely missed that. Now money growth is plunging and my prices are coming down, all sorts of signs that early signs,

and so the job not over by any means. Do you agree with Ed that in all likely we'll have some sort of financial crisis, that that's what happening happens in serious tightening cycles. Uh, odds are pretty good. Yeah, yeah, I mean we haven't had enough tightening get to really have that, But um, odds are good. Yeah. I mean we haven't had the downturn yet. If there's gonna be a downturn, it hasn't happened yet. It's gonna be hard

to bring inflation down. How are you going to bring nominal spending down from ten percent to five without a significant contraction? And credit? You need to slow credit growth by about half. Money growth is slowed, but you need to slow credit growth in half. But it's still rising. You're gonna have to You're gonna have to hold interest rates up enough. And that's when things that's when bad things happen. I have to tell you this is not a bad thing. It's a real treat. They had the

two of you here on Wall Street. We really thank you so much. That is Ed Hyman of Evercourt and Bob Prince of Bridgewater coming up. Do you know what Warren Buffett says about the tide going out? Well, some of those who may be caught are those so called zombie companies who've loaded up on debt when it was cheap. You talked about the risks and possible opportunities with selling your gifts of the Institute for International Finance. That's next

on Wall Street Week on Bloomberg. This is Bloomberg Wall Street Week with David Weston from Bloomberg Radio. It was nice while it lasted, all that support from the Fed from zero interest rates. We continue to expect it will be appropriate to maintain the current zero to one percent target range for the Feller Funds rate. To pumping money into the economy. More directly, we are deploying these lending powers to an unprecedented extent, enabled in large part by

the financial backing from the Congress and the Treasury. We will continue to use these powers forcefully, proactively, and aggressively until we're confident that we are solidly on the road to recovery. All of which allowed companies to borrow as much as they wanted, which was worrying to Russ Kastrick

of Black Rock as much as four years ago. The eight pound guerrilla, which eventually we're all going to have to question, is whether or not that's built up in corporate leverage which we've seen over the past three or four years, is that sustainable. Now those happy days are over, as the Fed has reversed course and says it will keep raising rates until the inflation dragon is slain. The idea that we're going to start cutting rates early next year when inflation is very likely going to be well

well well in excess of our target. I just think it's not realistic. Where does that leave all those companies who have borrowed so much, Well, at least some of them are so called zombies. No, not those zombies, companies that don't generate enough cash to pay their debt. And that leads economists like Neural Robini to say, we're going to see some of them fail, which may just be

what we needed to get to the other side. There are tons of firms that were highly leverage, you didn't have much profits, that were zombie that would have gone fast. But during COVID we bailed out. Everybody's zero rate, negative rates, wants toy easy, credit easy, not that they we have to tighten as inflation is higher. The zombe is not going too And to thank us to the strange and exotic world of zombie companies, we welcome now Sonya Gibbs.

She's managing director and headed Sustainable Finance at the Institute of International Finance. So Sonia, thank you so much for joining us on Wall Street Week. Let me start with those basic of questions, what exactly is the zombie company and how many of them are they're out there? First of all, to take a step back, what you need to think about is that over the past ten or

fifteen years, global debt levels have skyrocketed. We've had very low interest rates, and for example, non financial corporate debt around the world is now close to a of g d P and that's more than double what it was a decade ago. So that's a very worrying backdrop. And so what we mean by zombie companies is a company that essentially has to borrow to keep going. They're highly leveraged, they're not growing very fast, their revenues are not up to power, and at the want they face a very

difficult situation. You've got higher input costs, so your commodity prices are higher, wages are rising. At the same time, you don't earn enough revenue to cover all of these higher costs and your debt service. So if you have a ratio of revenues to interest costs that's one or less. If you can barely cover your debt service costs, we call you a zombie company. And it's a very good name.

It's very evocative. And for how many I mean, it's difficult to calculate, right, because for a lot of firms that, for example, aren't publicly listed, the information might be less available. They might be smaller non public companies, but the Federal Reserve estimates that between five and ten percent of US firms fall into this category. It's also important to remember that this is not a static world. It's not once

a zombie, always a zombie. Conditions change, and in fact, coming a zombie company is a little bit cyclical in the sense that when times are good, maybe interest rates are low, growth is high, maybe you're not a zombie, but then you know, bad things happen, pandemics happen, shocks happen, interest rates go up, and a company that was formally doing reasonably well might suddenly fall into the zombie category.

So so you mentioned the overall debt load is true st in the United States and not just in the United States, in part because interest rates are so low. There's a very, very successful, healthy companies that loaded up on debt because it was so cheap. But whenever we've talked about this risk in the last few years, they said, don't worry. As long as interest rates are low, we're fine. It looks like those days maybe on their way out, we're gonna have higher interest rates. So what kind of

pressures that put on these zombie companies. Well, I think it's a good analogy. Right. It's all fine until it's not. And so you've had a kind of a confluence of factors that have hit pretty much at the same time. You had a pandemic which hit growth, had a commodity price shock, you have rising inflation, you have higher interest rates, and you also have firms whose whose business models, for example,

have been entirely changed by the pandemic. I mean, amongst the list of zombie companies, you might find a company like we Work, you know, a company that has been very successful, but at the same time the pandemic has changed a lot of things for that for that company. Carnival Cruise Lines is another good example of a type of company who's now in the zombie category. Or some of the meme stocks, you know, a mc R game stop.

So these are really household names. Sonia, thank you so much for that tour of the exotic world of zombie companies that Sonya gives. She is from the Institute of International Finance, plans you to be here. Coming up, we wrap up our week with special contributor Larry Summers of Harvard. This is Wall Street Week on Bloomberg. This is Walter. I'm David Weston. We're gonna wrap up the week once again with our special contributer Larry Summers of Harvard. Larry,

thanks so much for being back with us. So let's start with those Fed minutes that everybody was waiting for eagerly, and they came out. The markets didn't know quite what to do with them. What did you make out of those minutes? They confirmed what I suspected, which was that the FED doesn't know where it is, that the world is very ambiguous at this point, and minutes of a

meeting are a very poor way to convey a collective message. Look, the FED has a fundamental problem about which it is not yet willing to be realistic, and that is that it is exceedingly unlikely that inflation can be brought down

to target levels without a substantial increase in unemployment. They launt to be very concerned about unemployment and about inflation, and the reality is that it's probably not so realistic to think that they're going to get inflation all the way down without getting unemployment up, and they don't want to acknowledge that, and that forces a certain confusion uh

into all of their UH statements. I can sympathize and understand why they don't want to acknowledge that part of the problem is they've taken on an excessive obligation UH to UH communicate. So I think they're in a very very difficult situation. I don't know to what extent they're going to choose to take the pain that is ahead on the stag side, and to what extent they're going to choose to take it on inflation UH side. That

remains to be seen. I suspect in some ultimate sense they don't really know either which way it's going to go. It's got to worry them that UH financial conditions are now materially looser than they were when the FED last met, and when in the middle of a tightening cycle, financial conditions are substantially loosening. That has to make a central

bank UH nervous. David, There's one other aspect of the situation that I think is very important and underrecognized, and that is because everybody focuses, and focuses rightly on the geopolitics, what's happening with Russia and Ukraine, what's happening with droughts, all of it. They don't really fully internalized that oil prices and wheat prices have both come down substantially and are predicted to come down substantially in the future. That's

what's driving the relatively limited inflation expectations. And those who were quick to focus on concepts of core inflation when headline inflation was higher than core inflation can't stop doing that when headline inflation is lower than uh core inflation. And I don't see that we're really making any great

progress with perspect to core inflation. One of the things that Fed emphasized in the minutes, besides really being concerned about inflation expectations, on the other side of that was a softening housing market, something you referred to last week on this program. Give us your take of the housing market. Some people say we're in a housing recession right now. So I think you have to distinguish um movers from

stayers sort of put it afferently. You have to look at you have to think about what the right way to look at rents is. Here's what's true. What's true is that last year people who were signing new leases, we're buying new homes. We're paying fifteen or more than they had a year ago. Nothing like that fed into UH, the consumer Price Index or the FEDS preferred measures pc UH index. All that fed through was the small fraction of people who saw their rents change and a constant

rent for everybody else. What that means is that down the road, like now, you're seeing inflation, not because new leases are going up so fast, although they still are going up at a reasonable rate, but just because the people whose leases are coming up are seeing substantial increases. And so we're gonna see significant housing price inflation in the measures of inflation that are used probably for another six to nine months. That's a different thing than what

builders are responding to. Builders aren't responding to that. Builders are responding to what they think the price of houses will be a year from now, and that come down, and so we're seeing a slowing in UH building. And that's what happens when UH interest rates UH. When interest rates go up, in some ways, it makes sense if we're going to have a decline in economic activity, it's better to have a decline in something where we've already got a huge stock of it and it's only the

new flow that's being affected. Then in UH, the in something that we need to consume on a continuous basis and that doesn't have any duration to it. We're talking about softness and slow We certainly saw that in numbers coming out of China at the beginning of this week. And I wonder what you make of the Chinese problems as we know there are three or four then they're interlocked there. But on the other hand, is it possible that will give a little, at least a little relief

to the Fed here on slowing inflation? I probably will. UH. It goes back to the issue we discussed a few minutes ago, UH David about oil prices and UH grain prices. The main impact of Chinese slowing is likely to be on commodity prices, and there's a question as to how much weight those should be given as we think about our inflation rate UH in this country. But it probably is a positive on inflation. I think the larger questions involved how we see China in the future and how

China will be responding to these economic h difficulties. These, as I've been saying now for some time, are looking like increasingly profound events. UH. In China, it was taken as almost axiomatic six months or a year ago that at some point the Chinese economy would surpass the American economy in terms of total GDP at market exchange rates. That's now much less clear than it previously was. And I think you're seeing all kinds of challenges for China.

There's the huge financial overhang, there's the where the growth is going to come from. There's the growing Communist Party involvement in a wider range of enterprises. There's the demographic challenge. I have been saying for some time that I think people are going to look back at some of the economic forecasts about China in the same way they looked back at economic forecasts for Russia that we're made in nineteen sixty or for Japan that we're made in ninete. Okay, Larry,

thank you so very much, says Hilarry. Summers for Harvard are very special and trainer here on Wall Street Week. Finally, one more thought. Getting old. It's one thing that we all have to do, and none of us wants to think about it. And it sometimes seems like some of the oldest among us may be the deepest in denial. Where there's rock musicians like Mick Jagger still performing live on stage at the age of seventy nine, or Sir Paul McCartney, who's still going strong way past that age

of sixty four he wants worried about. Or are political leaders in or nearing their eighties like President Biden and Mitch McConnell and Nancy Pelosi who snapped back at a reporter ten years ago when asked a question some of your colonies finally say that you're just going to stay on for the quality and having a younger leadership and to be first and first the party belong persons, questions Tonal and who can forget President Ronald Reagan, who in provoked the age old or should I say old age

question after stumbling through his previous debate with Democratic challenger Walter Mondale, only to come back with this zinger, I will not make age an issue of this campaign. I am not going to exploit for political purposes my opponent's youth and inexperience. The world of business and finance isn't entirely immune from this, led by Warren Buffett, who at ninety one shows no signs of stepping down and told our own David Rubinstein his goal is to keep going.

I'd like to be the oldest man that ever lived, actually, and who knows, maybe we don't really just get older, we get better. For those of us hoping that that may just be true, we now have a concrete, provable example coming from the world of golf, where a journeyman tour professional who'd struggled for years suddenly became a star simply by turning fifty, pushing him into the Older Player

p G a tour champions League. To be sure, Stephen Alker from New Zealand happened to be at the very top of his game when his birthday came around, but according to The Wall Street Journal, adding that extra year has led him to make in one year three point five million dollars, which is more than he'd made in all the rest of his career put together. And if he keeps sinking extra long puts like he did to win the Boeing Classic, he may just be getting started.

That does it For this episode of Wall Street Week, I'm David Weston. This is Bloomberg. See you next week. M