Bloomberg Wall Street Week: October 21, 2022

Bloomberg wool Street Week with David Weston from Bloomberg Rede call it the rescue week, with the President trying to rescue buyers at the gas bump, earnings trying to rescue troubled markets, and the British government just plane needing a rescue period. This is Bloomberg Wall Street Week. I'm David Weston. This week special contributor Larry Summers on having to make

hard choices to get inflation down. If your deficit projection starts to get out of control and your real interest rates start to rise, you can get into who are kind of doom? Loup and Debrael Laire of the Paulson Institute on whether President Je's ideology can get China's economy growing again. She's facing a lot of headwinds when it

comes to the economy. It was a tough time on Global Wall Street, but nowhere was a tougher than at Number ten Downing Street, where Liz trust Is on her way to becoming the shortest serving Prime Minister in British history, forced to resign after concluding she just couldn't get done what she'd set out to do. I cannot deliver the mandate on which I was elected by the Conservative Party. I have therefore spoken to His Majesty, the King to notify him that I am resigning as leader of the

Conservative Party. It wasn't easy for President Biden either, as he continued to fight high gas prices, for which he largely blamed the oil companies encountered with yet another release from the Strategic Petroleum Reserve. The Department advantage, you release another fifteen million barrels from the Strategic Patrolling Reserve, extending

our previously announced release through the month of December. The market spent the week looking for some form of rescue from earnings, and they did get a bit of it from companies like Netflix with read hastings giving thanks well, thank god, we're done with shrinking quarters, so the big feeling of we're back to the positivity. But Tesla didn't help much by disappointing on sales, though Elon Musk predicted

it would make it up in the fourth quarter. As a factors ran, we're looking forward to a record breaking pupil, so it's literally no one would it looks it looks like we'll have an happy command of here. And although Goldman Sachs earnings were a pleasant surprise, Chief DJ Officer David Solomon said they have a fair amount of work

to do. Importantly, talent is moving around tremendously at Goldman Sacks to a lie behind David Solomon's new new vision remix the Remix, And at the end of what was a wild week, the markets did find similarly finally, with the SMP five four point seven four percent for the week, while the NASTAC was up five point to two percent, and it was all pretty much driven by anticipation of where the Fed is heading, as the yield and the ten year climbed for much of the week, but after

peaking over four point three midday and Friday it fell to four point two percent to end the week, while the two years, well, the two year fell thirteen basis points on Friday alone, after speculation grew that the center right might just slow its rate hikes after November. To take us through the week in the markets, we welcome now you're in Timor he's director of Global Macro for Fidelity Management, and Sonal Decide c I O for the Franklin Templeton Fixed Income Group. Welcome both of you back

to Wall Street week. Good to have you here. So now let me start with you because so much after this week I think was driven off of fixed income, particularly those treasury rates. So what did we see this again? Why were there so many apparently violent moves up and down? It was a crazy week, but it's been several crazy weeks. I think until the market gets a sense of where the Fed is going to go and stop, we're going

to keep getting these wild bouts of volatility. We've been expecting it for a while in a sense, you know, there was not that much of news in the Fed saying that they're close to being done. Well, of course they are. We already know that we're going to get up to five, maybe five point two five, maybe a bit more, but quite early in the new year, it's pretty clear that they will be getting close to an end.

We get a seventy five, maybe we get another fifty, after which do we get another fifty, another twenty five? I think the more interesting thing is what happens after that, once the market feels that they know that the FED is not going to pivot on a dime. I think we might get to a point where we stop seeing these wild back and forths because these are these are

truly massive moves in the treasury market. And uh I would just note that every single data point is going to carry with it this level of gravity in terms of the moves that we see until we get to the stage that the market buys what the FED is selling. And you're in, where are we headed? Where is the FED head? Because I look at my Bloomberg right now, the FED futures rate looks like it's about five point oh five. At one point this we goes up close

to five point two in terms of a terminal rate. Yeah, so when you look at the SOFA curve, it peaks it around five percent um and you look at the you know, the implied terminal rate. You know, it's around

the it's around the same. You know, the markets have been in a relentless mode of price discovery this year, right, and the glass has been half empty for the last nine months, where you know, every time we think maybe the markets are bottoming and the FED is going to be close to being done, that moving target starts to starts to move again in the wrong direction. But I do think we're we're getting to a more glass half

full mode. And I think that's what the stock market is starting to signal here that you know, at this point the expectations for the FED are are so bad and meaning they're going to go so far that the possibility of a surprise may start to you know, go more in our favor. So maybe the fat doesn't have to go all the way to five. Maybe it only needs to go to four and a half. Uh. You know, financial conditions have tightened significantly, so maybe the FED is

closer to being done than we think. But you know, I think the FED is pretty committed to getting inflation back towards its target of let's say two two and a half percent, and you know, we're a long ways from that, and so I think the risk is not so much that the FED overshoots or undershoots in the near term, but that it's going to take longer to get back to a neutral policy after it gets to

that terminal point. So I'll design your intim we're gonna be staying with us as we turn to what investors should be doing in these uncertain times. That's going to go next on Wall Street Week Unhindered. This is Bloomberg Wall Street Week with David Weston from Bloomberg Radio. There's Governor Reagan now conceived that it would be inflationary if we just cut federal taxes and didn't cut federal spending. I don't know whether he does or doesn't, but that's

not his program. His program is in fact too, cut taxes significantly ten percent a year over the next three years each year, but also to restrain the growth in federal spending. That, of course is Lewis Rockaiser talking with a pre chairman, Alan Greenspan on Wall Street Week back on October eight, back when Alan was simply part of Townsend,

Greenspan and Company. It was just before Governor Reagan was elected president, and the concern back then was about tax cuts without spending cuts, something that frankly, we're still talking about today. The top movie back then was Goldie Hans, Private Benjamin and Woman in Love. Do you remember it? By Barbara streisand top the Billboard Hot one chart for the week. So where's Arsenal Deci of Franklin Templeton and you're in Timber of Fidelity Management. You're gonna start with you.

What's an investor to do in this environment where we do have inflation that seems to be broad maybe entrenched, we have a FED that's on the move. What does an investor do? What's overpriced? What's underpriced? Well, you know, the good news is um in a in a period where there isn't very much of it, is that both the forty and the sixty side of the sixty paradigm

I think, are now, you know, really attractively valued. I mean, you can get a ten year yield at a ten year note at four point to a two year note at four and a half. You can buy the SMP five hundred at around fifteen sixteen times forward earnings. Now that pe is only as good as the forward earnings.

So we will find out whether the earnings hold so far they have, so valuations have had a tremendous reset from the overvaluation days, you know, following the COVID lockdown, when the FED basically repressed interest rates down to much lower levels than they really deserve to be, and that raised asset price inflation in the stock market, because again, interest rates are an important factor in valuation. And so it's been a very painful nine months during which neither

the forty nor the sixty has worked. That's a very unusual environment to be in. But I think, you know, the good news is that if the Fed does overshoot, I think the forty will really present a lot of value at four plus yields, and maybe the forty will start becoming negatively correlated again to the sixty. And if our recession is averted, then the sixty I think will do well because earnings then will likely hold up and

valuations are now much more reasonable. So for me, the glass half full, you know view here is that at least one of those two engines is going to start working. I can't tell you which one it is, unfortunately, but I do think it's not going to be any longer this monolithic market where basically nothing works, So now when will the bond market be the engine that starts working. Our bonds getting cheap enough, now there's time to go

back in. They're beginning to look interesting. Let's put it this way, because if I look at investment grade bonds, I look at short short paper. You know, uh, we already we just discussed her, and just discussed that. We were talking about four point four, four point five. I think we're getting getting to interesting levels. We're seeing something finally that we haven't seen four again, close to seventeen years. Fixed income delivering income what a concept. I think income

becomes more and more important as we look forward. I do think that tenure yields are likely to still go up, but having said that, it does start becoming attractive. So over the coming weeks and sorry, coming weeks and months, I think the first step would be areas like investment grade, because you're getting paid healthily to hold good credit, and

our baseline is not to have a steep recession. We'll have a recession, but I think we might be able to avoid a steep one, which means that fundamentals can still look good. And furthermore, if I look in areas like high yield and emerging markets. You we are now getting paid between eight and ten percent in these areas, which means that finally liquid fixed income starts becoming a very decent alternative to alternatives, which up till now have really been the only area in the last multiple years

that could deliver those style of style of return. So I actually am also gloss half full at this point for the first time in quite a while. Ur in just coming back to you and just kind of cash for a way of looking at stock valuations as understanding in fact you've taught me in fact the FED has been buying bonds, but they've also in buying tips. Is

that skewing that as a measurements? It's it's interesting you you you mentioned that because I'm trying to I'm trying to figure that out actually in my latest my latest research, because the FAT owns thirty three of the Bloomberg Tips index, so that may not be all of all tips, so the overall number will be less than that um and so it makes you wonder whether there's any price signal left.

But you know, when I compare, for instance, the tips break even to the inflation swap market, which is you know, a direct swap. I don't really see a tremendous amount of price distortion from the FED owning so many tips, and of course the FAT owns a bunch of nominals as well, so maybe one cancels out the other. So

I think that the jury is still out. But clearly the tips market is saying a different message than the headline inflation numbers are, because the tips break evens are around two and a half across the curve, and that that's that's totally different from an eight CPI's And now one more here. Maybe the Bank of Japan has tamed the bond market, it sure hasn't tamed the FX market.

And then on Friday we got that news out of Nique at least that they are now intervened to support that yen, which a weekend so much we've got the b o J next week tell us about that. What does that mean? Is the yend broken? So you know, what we're seeing is something we haven't seen in a very long period of time. We have the EU, Japan, and the US all with dramatically different monetary policies, you know, So I think about this and when times were good

to uh misculled Tolstoy. All good markets, functioning markets look the same, and all of these markets, as they're breaking, they're breaking in different ways. And I think that is that could just could. It's never been more apparent than what you see in Japan. The reality is the yen is moving in line with infrast rate differentials with the US. You look at US tenure yields and you look at

where Japan's YenS and it continues to move. Can the Bank of Japan actually be actually can they control the end? I have my doubts. You know, they might take some of the air out of it, but ultimately this is a global system which is very interlinked, and the interest rate differential is simply too extreme right now to simply intervene to fix it. The other issue, of course, as

Japan does not have the US, is inflation issue. And speaking to the size of the bond market that is held the U in the US, you're, depending on what the bonds you're looking at the FED ones between twenty five and thirty of the bond market, right So it's huge, it's a huge impact. It's a great discussion. I really owe it to both of you. Thank you so much as Sonal Desiah Franklin Templeton, and you're in timor of

Fidelity Management. Coming up, le we take a look at next week on Wall Street Week on Bloomberg seen through the eyes of experts gives you a better view. So let's talk about the paint's right and that Bloomberg or market vision is twenty twenty. I am shocked by the moves that we're seeing in the rates market. Bloomberg Radio. The Bloomberg business happened, Bloomberg Radio dot com. This is Bloomberg Wall Street Week with David Weston from Bloomberg Radio.

Ten years of remarkable growth. That's what President Jijin Ping of China focused on in his speech to the Party Congress last Saturday about the historical lives in China's economic constraint. In past decade, China's GDP has grown from fifty five trilling them to fourteen mmen and come to account for eighteen of the world economy. Not a bad track record during she's time in office. But if president she had been willing to go back to before he was president,

the story is even more dramatic. Since Dung shaal Ping initiated the open door policy in China's economy has gone from under one fifty billion dollars to nearly eighteen trillion dollars last year. Now that growth is slowing down with

possible repercussions for the rest of the world. According to the head of the w t O, if China's economy continues to slow the way we have seen, that will have a big impact on what happens to the world economy and u S officials like Deputy Treasury Secretary Wally Adamo say that the open door isn't as open as

it used to be. In addition to add resilient supply chains, we want to make sure that American companies are competing on a level playing field with companies in China and around the world, and that's why we've taken actions like restraining the ability to shift some key components. But Bridgewater's Ray Dalio, who has been back and forth to China over the last thirty years, insists that despite all the problems,

he wouldn't bet against Beijing over the long term. I think the longer term victory in China is still bright because I know the people and I know the culture, and I think it's good. But they have major issues now and when it comes to China. The person we turned to here at Wall Street Week is Deborah Lair. She is the CEO Edelman Global Advisory and executive director of the Pulse and Institute. Debor, welcome back, Good to have you. We are all focused on President g and

what's going on over in Beijing this week. Give us your sense about what we're learning. It strikes me one of the biggest challenges he has is the economy and growing the economy. And yet I'm not sure we're hearing much about his economic policy. I hear a lot of politics, a lot about security. That's right, I mean she didn't. He gave his all important work report at the beginning of the plantum and it gave up a few previews of how he's going to start to look at the economy.

One of the things that he's emphasizing is common prosperity, his slogan about how he brings greater equality. One of the things that he's looking at is also how the Party can continue to play an important role in the economy.

And also he did give reassurance to foreign companies that they will continue to wish for market opening in Key areas well we get a sense from the personnel that surround him of where it might be headed, because as I understand it, eventually we will see him come out from behind the curtain, and we assume everybody assumes that he will get his third term, but there's gonna be a critical question of who's with him and he comes out absolutely the important thing, and we're all watching for

this weekend when the new party lineup is going to be announced. There's a lot of rumors starting to fly around, although not as many as there usually are, but it's a big guessing game because that will give us really our first clue into what the third term is going to look like. And I think there's three important things to watch. One is going to be what happens to Lee Ka Chung, the current premiere. Does he continue to

stay on the standing committee? He's termed out of staying on at the premiere, but could they make him the number two and head of the National People's Congress to who will be in the lineup too then take the premiere position. And the two leading candidates appeared to be Wang Yang whose viewed as being more open on the economic issues, and Wang Hu Ning, who really isn't ideologue. And the third to watch is what happens to Leoja who is currently the Vice premier, who's in charge of

the economy and finance. Does he stay he has good relations with many foreign firms, or who really comes in to take his portfolio? They were one of the things that we watch in the West, and we may be right or wrong, and watching it is the extent to which the markets in some way play a substantial role in economic policy over there. It strikes me that it's possible to interpret presidenc Thus far is moving somewhat away

from the markets. A lot of what do you emphasis right now is ideology and I think it's what he came out of more than perhaps we've seen in the past. Absolutely, we're seeing much more emphasis on ideology um under Shi Jimping, and if we look back under Jacksonman, jackson Men was saying the party is big enough to include business. She takes it in a different way. He says the party is all encompassing and it should be forced into business,

and so ideology is playing a much bigger role. Also, we need to keep an eye on how She's favorite slogan common prosperity is going to be implemented. China surprisingly is actually much more unequal than the United States, and one of the things that he's trying to do through this common Prosperity uh slogan is say there should be a cap on executive salaries. We should be looking at big companies, particularly the private sector, giving back to the community.

And how that's going to be implemented. At the same time when he's trying to grow the economy, when he's trying to encourage entrepreneurship and create jobs, is going to be a very tough thing for him to balance. Okay, Deborah, it's always such a pleasure to have you here. You are really are are China expert. That's Deborah Lair and she CEO of Edelman Global Advisor. Coming up, we'll wrap up the week with our special contributor Larry Summers of Harvard.

This is Wall Street Week on Bloomberg. This is Bloomberg Wall Street Week with David Weston from Bloomberg Radio. This is Wall Street Week. I'm David Weston. We're welcome once again. Our very special contributor in Wall Street Week is Professor Larry Summers, of course, former Treasury Secretary, So thank you

so much for being with us, Larry. Once again. Much of the week was consumed with the drama over the United Kingdom, which is good and serious business for people who are living in Great Britain, but what lessons might it have for the rest of us. Look at one level Bretain. Britain is unique. They went through Brexit, They've had some unique political challenges that have taken place within their Tory Party. We've rarely seen the kind of extreme

incompetence that was represented by the original trust proposals. But I think there are two lessons that policy makers around the world UH need to heed. The first is that things can change extraordinarily fast if you lose uh credibility. Just as it takes a long time to grow a forest, but you can burn it down very quickly. Something similar

is true with respect to uh credibility and confidence. And I think at a time of rising government debts and rising interest rates, that's a lesson to be careful that policy makers in many different countries need to take account.

I would say the second, more specific UH lesson just goes to the potential instability in government debt markets, and that's got both a macroeconomic aspect that if your deficit projection starts to get out of UH control and your real interest rates UH starts to rise UH rapidly, you can get into a kind of doom loop. And it also has to do with UH liquidity in the markets and the possibility that you'll get a situation where they'll be selling but there won't be buying, which will be

get a kind of liquidation cycle. And I think given the magnitude of the increases and interest rates that you're seeing in other parts of UH the world, that's something that policymakers are going to have to be very careful of. I thought Secretary Yellen was right to warn about issues around illiquidity in the US treasury markets. I think we're gonna need to be watching our own fiscal projections in the United States very carefully because I think they're gonna

look different with current market UH interest rates. If you factor in the recession it's likely to come, that's going to have some significant effects. If you factor in all the different steps that are being taken, whether it's the student loan debt relief, for the emergency funding that's going to take place because of the hurricane in Florida, or the increases in national security expenditures that I think are almost inevitable given what's happening in other parts of UH

the world. I suspect that the fiscal issue is going to need sooner or later to be back on the table in UH the United States. So I think that we can be amused those of us who don't live there by some of the things that are happening UH in Britain. But if we think of it is an experience that's entirely outside of any kinds of concerns that other countries could have, that would be a real mistake. Well, and Larry, as you say, we have to perhaps pay much more attention on the fiscal side, be a bit

more responsible. That's at the same time that many people and you included our warning that we may will be heading to our session here in the past several years, it's thought that if there's a session, we can just write some fiscal checks for it. If we don't have the ability that a way it turns out, Liz Trust

did not have over in the United Kingdom. What does that mean of our ability to pull out of it, and what is the prospect that when we've had so many years of feast, we may be handed for some famine on higher interest rates, lower growth, and lower productivity increase. Look, David, there's always a tendency UH at the beginning or in the early stages of very problematic periods to assume that everything is going to be resolved much more quickly than

actually proves to be the case. Think about COVID. I was early on your program and was very worried about COVID, but I certainly didn't envision that it would be something that would still be on people's minds going into the

winter of U three. And I think it's a mistake to think that all of our economic challenges are going to be met quickly, particularly if we heed what I think would be the dangerous advice that are coming from the erstwhile members of Team Transitory that the FED can back off UM already and not carry through on the increases that the market is now expecting. I think for that to happen would be to almost guarantee a portray active period of stagflation, as we had both we lacked

both price stability UH and UH confidence. I think we need to remember that apart from anything we do with discretionary policy. We have a whole set of natural stabilizers to kick in in our economy. As UH the economy goes down, tax collections go down, as unemployment crosses certain thresholds, there are increases in unemployment insurance UH payments. But unfortunately, I think we fired the fiscal cannon so strongly that there's going to be limited room for discretionary fiscal policy

if we have another recession. Finally, Larry, one of the other events of the week was the release of further release from the Strategic Patrolling Reserve by President Biden, who swears this is not a political issue, but could you give us the economic potential effects of that those sorts of releases, David, I think the the initial spro release was a powerful thing that over the last months has done a lot to contain oil prices, and I think

the Biden administration was exactly right to do it strongly, do it for a long time, do it in coordination UH with others. I think it's much less clear how much scope there is for that policy to work going forward. In part that's because it's a little bit like q e UH for the FED. Whatever you put out there, you're gonna have to get back in at some point and that's going to have the opposite uh impact on oil prices. Okay, Larry, thank you so much once again

for joining us on Wall Street week. That's Larry Summers of Harvard. Finally one more side, and this week it comes from Bloombrook Senior Executive Or for Economics and Government, and it's about her native land. Here is Stephanie Flanders.

I think Liz Trust started off with the right idea, which is the UK has been held back by slow growth since the global financial crisis of Actually, in the in the two decades before two thousand and eight, we'd averaged around two and a half percent growth, which was higher than many of our trading partners. We sort of caught up a bit with Germany, we caught up a bit with us during that period, but since then growth has been less than half that and certainly much slower

than other countries. So it did make sense to focus on growth, and it made sense to also to be spending some money in her initial mini budget on supporting households through a massive energy squeeze as we approached the winter.

I think the problem for financial markets, is that the government showed no willingness to engage with the difficult trade offs that all governments are facing in this environment where they want to stimulate growth, they want to help households face rising energy bills, but they don't want to make it harder for the central bank to bring down inflation, and they don't want to be building up a lot of debt just at the time when we know the cost of money, the cost of borrowing all around the

world is going up. So it was not what she did, but the way she did it and the kind of gay abandoned with which the government was proposing tax cuts that were not funded by any form of spending constraint and not targeted to the people who in this particular

environment needed help the most. I think what we also saw in the UK there had been this nervousness and financial markets that maybe dates back to the Brexit referendum, that some of the constraints, the institutional constraints on policymakers in the UK that had prevented, you know, silly politicians from doing silly things, that those have been worn away in the years in the tunnult since since per Exit, and I think what happened when you saw the new

chancellor installed, the seventh since sixteen. You saw potentially those institutional constraints come back that the Treasury, the Bank of England is still in charge. That's the message to markets, even if politicians are still messing around at the edges. There's a lot of schadenfreuder potentially, and certainly there but for the grace of God go i. Central bankers and

treasury officials around the world. They are looking at the UK and wondering what's happened to this previously great nation. But they should also be looking at potential pitfalls that they too will face as we go into this environment in which interest rates are going to be higher, the cost of government borrowing is going to be higher, and potentially strains are going to be put on financial markets.

We saw a particular investment strategy, the liability driven investment in the UK, which were which are particular to the UK mess up the pension market forced the Bank of England to intervene. But we know we saw similar fragility in the US treasury market back in March of and there may be other things out there that we should be nervous about as we see this very significant shift to a higher interest rate environment. That does it. For this episode of Wall Street Week, I'm David Weston. This

is Bloomberg. See you next week.