tv Bloomberg Real Yield Bloomberg April 12, 2019 1:00pm-1:31pm EDT
jonathan: from new york city for our audience worldwide, i'm jonathan ferro. bloomberg real yield starts right now. the rally continues driven by lower rates and signs the global economy is -- heroes into u.s. great credit funds for an 11th week. buting an impressive order for saudi aramco's debut bond sale. we begin with the big issue -- continues >> we are in a risk on environment. >> everything looks great in bonds. >> credit spreads are really tight. >> the fed is no longer your
enemy. >> the fed has called a truce on us bond investors. >> it is allowing this reach for yield. >> reach for yield coming across all different asset classes. >> the market has maybe more upside. >> more juice that can be squeezed out. >> we think there is more room to run. jonathan: joining me is the head of u.s. rates strategy at societe generale, michael collins, senior portfolio manager, and bob miller. great to have you with me. let's talk about that support mechanism. low rates and why they can remain low for a whole lot longer. >> central banks wanted that way. it is not just in the u.s. but globally, the ecb and the other central banks are keen on providing accommodation. if you listen to the fed speak thatweek, the feeling is
2.5 is close to neutral, so we are -- they are pretty much happy keeping rates where they are for an extended period of time until they get an indication of moving policy either way. bob: i think the fed has pivoted in a very durable fashion and will not go back to last year's game plan. instead of following the methodology and trying to pin real neutral rates at some assumed the level of neutral or tighter than neutral, they have clearly changed their reaction function to underwriting the expansion. they wanted expansion to continue. they want to do something that most federal reserve's have been unable to do, achieve a soft landing. i think they are dovish, will be dovish, they are sensitive to the low level of inflation. inflation is underwhelming. i think that lowers the bar to them easing, as opposed to a high bar with them tightening.
michael: we are in the same camp, as you know. we have been in this long low rates call for some time. 10 yeley i todd would be 2.5% for the next decade. that real rate is probably too high. the fed will continue, over time, to lower rates. our view is that does not cause wider spreads, not a risk of environment. lower rates they gets tighter credit spreads over the long term. jonathan: you can see your chart on the screen right now. decompose the 10 yada yada, nominal, break, effective real yield. what does this tell you about where we are going? michael: nominal yield on top, 2.5%, comprised of two of your components. one is the real yield, the yellow line, which is the tips yield, and the 10 yada yada real
yield is 0.6%. the blue line is the difference between the two, the inflation you need to justify the valuation of the other two. the inflation rate is priced it at 2% for the next decade. 2% inflation seems high to us. we are in this lower, disinflationary world. you see that every day with the competition. even today, disney, netflix. tapwe are in this tip for competitive pricing environment. the real yield of 0.6 has the biggest room to fall and that will probably go to zero over time. i think a positive real funds rate in the world we are in today, with so much demand for income, aging people, not enough bonds out there, why should deserve a positive return over inflation for having a t-bill? i was thinking real
yield this time around were higher than they were in 2016 and this year might be different than 2015. but if you look at the chart of real yield, we are pretty much tracking the same decline, lower in real yield. the market is basically saying the prospects is lowering the expectation for growth over the longer run. that to me is troubling. the one thing i find interesting is, in the u.s., inflation expectations are still pretty high, close to 2%. compare that to europe. breakeven in the five-year in close to at 1.35, very the lows over the last five years. to me, that divergence as credibility to the fed, and probably less credibility to the ecb. bob: i think the inflation pieces important. last year, we had the unprecedented combination of significant fiscal policy in an economy that was at all employment. has not happened since the
mid-1960's. we didn't see any meaningful price impulse. we have had wage increases without passing through two prices. a structural nature of the economy is different today. price pressures are difficult to sort. services,k at core that is the part of core inflation that is most sensitive to domestic slack. very low on employment rate. very high capacity utilization. core services has decelerated over the past six months. core services, if you take up the pieces subject to other factors, has declined 60, 70 basis points year-over-year for the past six months. there is no upward pressure on prices. i think that is what is different at the fed. richard clarida joining the fed last year has started to move the narrative toward a greater sensitivity toward inflation expectations and realized
inflation. that tips the balance of their decision-making. jonathan: we started by talking about these port mechanism for broader risk assets. can rates remain in this environment, and can assets continue performing, holding these levels? if the fed is successful in extending the expansion, underwriting a soft 3%ding from fiscally inspire gdp raise a year ago, i think risk assets do well. jonathan: is that your base case? michael: i am worried that we are threading the needle. if your goldilocks growth environment is 2% to 4%, that is one thing, but it is really closer to 1.5% and 2%. 1%, thats too low, to is where recall the stall speed in the economy. over credits,e the triple be part of the market, corporate bond market -- a quarter of the corporate bond market is to have leverage above, and now it is have.
those were junk bonds in the day. jonathan: can we talk about pockets of complacency? we have this big order buildup for saudi aramco. gauge ofbook is a demand, not necessarily a reflection of actual demand. to what degree earlier this week -- many people saw that this offer was going to be oversubscribed, therefore, had to upscale their orders, because they knew it would be scaled back. is that what happened this week? it was delivered well from the primary underwriters. i'm not sure all of that is up and that bought the bonds are as happy today as they were on monday or tuesday. i don't think anything negative happening. it is just arguably people paid on -- overpaid on a short-term time horizon. the capital structure looks attractive relative to other major energy complexes, but perhaps a bit rich. jonathan: the company carries no
debt. i wonder how you can value this. if you value this against the peers, you look at shell, exxon, it make sense from an investment great perspective. triple-a credit with no debt on the balance sheet. you can see why there would be appetite for the debt of saudi aramco. this from nem perspective, saudi arabia versus the sovereign curve. you get a different picture as to what the risk is associated with this credit. there is the aramco curve at the top, shell and exxon at the bottom. but if you have a look at it from the em perspective, this is where the risk lies. why are we trading so tight to the sovereign? in your view, are some maturities trading to tie to the sovereign russian mark michael: em trades wide to investment great for a reason. much more inherent volatility in
data associated with it. you have to price it off the sovereign. we saw the price going down. we bought some of the sovereign debt taking if this is going to come in -- this.erally try to avoid it looks really rich to us. the sovereign owns it. they can tax it, and they will in some cases, extract that entire $200 billion in earnings of even. as a tax, like they do in mexico. wasthan: do you think this a sign of risk appetite going to far, or was this idiosyncratic? bob: i think it was more idiosyncratic. new issuer, a lot of people one of the name, interesting story. as i said before, people overpaid for it. jonathan: bob miller, great to have you with us. coming up, the auction block. that conversation is up next. "real yield."erg taylor
jonathan: i'm jonathan ferro. and this is bloomberg "real yield." let's go to the auction block in saudi arabia. we talked about the issue previously, aramco raising $12 billion in a bond market debut. estate owned energy giant getting orders over 100 billion. in the u.s., the treasury selling 3, 10, and 30-year bond this week. europe, banko bpm .ringing its first at1
getting over 600 million euros on its. let's stick with europe. ecb president mario draghi emphasizing the balance of risk remains tilted to the downside. outlook is a growth remains tilted to the downside on account of the persistence of uncertainties related to geopolitical factors, the threat of protectionist, and vulnerabilities in emerging markets. still with me is subadra rajappa, michael collins, and bob miller. subadra, the financial repression trade is back. subadra: this is a classic financial repression trade. if the ecb is going to keep monetary policy accommodative? we know they will be introducing -- in september. the trade, you want to be in the peripheries. you want to be in btps.
we have seen spreads narrowed dramatically. end of last year, 300 basis 200 to 250.between great debt, the lowest level it's been in over a decade. me, it is basically a signal, the ecb being on hold is a signal to take on risk. jonathan: is that right, bob miller? do you expect you'll stick a lower? i think they grind lower. i don't think the ecb is in a position to increase interest rates or pursue anything other than accommodative monetary policy or a very long printer of time. jonathan: for the periphery, it matters whether they start trading like stocks again. i caught up with your colleague robert two-year who suggested maybe we are at an inflection point. he thinks they can start to trade like sovereigns. why does that make sense? bob: there are two things going
on, the demand for yield, high quality sovereign debt in europe yieldmendous, with bund stock and zero, probably forever. fundamentally, these countries are doing ok. we look at italy, they have a budget deficit over 2%. we are running close to 5% here. they look really austere over there as a block. they have a small deficit. the block is a strong, fiscal place. reaching a little on the margin in places like greece, spain, portugal makes sense to us. jonathan: it is the specter of redenomination risk that hangs over these currencies. with all due respect, the treasury does not have that. that is the problem with europe, which effectively makes a trade like credit, not a sovereign. i'm wondering why this trait makes sense. bob: they should have a credit spread. if you cannot print your own
currency, you have to have a credit spread. we saw that in puerto rico. if you cannot print your own currency, you need to spread over bunds effectively. we are not saying it is going to go to zero or 10 or 20 or 30, because you have a lot of political risk. the question is what is the right spread? or greece, probably tighter. get are going to improve to -- continue to get upgraded. growing faster than expected, primary deficit is coming in. surplus is coming in better than expected. the use the word for ever a little while ago about the german 10-year. do you see that? we use the word forever very loosely, but do you see it staying there for a long time? subadra: we have a forecast for 11 basis points for the next year. 04 at it will be close to least next year, given the fact that the ecb will not do much. if anything, the market is
pricing in some amount of cuts for 2020, 30% probability a read there is a nonzero probability that the market is thinking it might be easier monetary policy coming from the ecb by way of cuts in 2020. that means bond yields should remain close to zero. jonathan: is that within your base case? bob: i think europe has meaningful structural headwinds. the european design does not allow for a meaningful, organic growth recovery without substantial policy support. the challenge a run of things that we were talking about earlier, credits france, is the binary nature of asset pricing. you have aggressive financial repression that forces regulatory channels and other , yetels the yield lower you have this relatively large left tail. as you move toward it, the
pricing moves aggressively. in 80% of the scenarios, spreads can grind tighter. five to 10% of the scenarios it's a real problem. jonathan: bob miller, great to have you with us, michael collins, subadra rajappa. yields shaping up on the week as follows. five basis points on 2's and 10's. still ahead, the final spread, the week ahead containing a slew of fed speakers, as well as insight in the global consumer. retail down in the u.s. and china. that is coming up next. this is bloomberg "real yield." ♪
elsewhere, a ton of fed speak. in china, industrial production and she went gdp figures. in the u.s., we get the fed's beige book and retail sales for the month of march. last week, a holiday shortened week for many of you. final word when bob miller, michael collins, subadra rajappa. of people looking at the export data, saying it's an improvement, things are good. they look at credit, things are good. imports are still pretty soft. i would have thought it credit growth and stimulus were starting to bite, that is where i would see it. bob: i think you will see it. the chinese have pulled a lot of levers over the past 6, 9 months to provide some support or their economy. it may well be that support is domestically focused and not a lot of the activity spills out into the rest of the emerging-market complex, northern asian complex.
that remains to be seen. it's critical that china stabilizes in order for core europe to stabilize. europeans are particularly sensitive to the trade flows. to do the green shoots trade. people want to do this. i think it's probably the right trade. the deceleration in china was self-inflicted. it was intentional. they seem to be creating the scenario for a soft landing. i think that is the most likely outcome. , a much higherio probability of disappointment in overshooting on every acceleration. jonathan: it is a trade the market is increasingly position for. do you share that optimism about the bottoming out process as the year progresses, and maybe excel version through in the back half of the year? the base case is, the stimulus does take hold, that
you get some stabilization, maybe modest improvement. but remember the transmission mechanism for stimulus in china is a lot different than it was. maybe that is why you're not seeing a jump in imports. it used to be when they wanted to stimulate, we are going to import a bunch of commodities and iron ore from australia, we are going to build railroads. they are trying to encourage lending and borrowing at the retail, small business level. that is a much stickier transmission mechanism. i'm worried that this pickup will not be as robust as we have seen in the past and the data may be different than what we have seen. subadra: if you take a step back and look coming into the year, i would say economists and strategists brought they underestimated the impact of the china slow down on broader global economies. that is my we have had the tremendous revisions coming from the imf in january, as well as this week.
to me, it is too early to read into the data that we've got this week and conclude that we are on the road to recovery. we still need to see clarity on the trade negotiations between the u.s. and china. we need to see consistent improvements in data coming out of china. i personally think there is the potential for more easing coming from the pboc over the coming months based on how the data turns out. i think it is a little too early. jonathan: next week is another important week for the data specifically in china, and the u.s. as well. i want to wrap it up with a rapidfire round. first question, following off from that conversation, is the optimism for a second-half recovery in the global economy misplaced, yes or no? subadra: yes. michael: no. it will get better. bob: i think it gets better. jonathan: the low on the 10-year
this year, negative nine basis points. have we seen below for 2019, yes or no? subadra: yes. michael: yes. bob: no. moorean: cain and attracting significant controversy around the federal reserve. do either of them get confirmed to the fed? subadra: no. michael: no. bob: yes. subadra rajappa, michael collins, bob miller, thank you for joining us. see you next friday at 1:00 eastern time, 6:00 in london. this was bloomberg "real yield." this is bloomberg tv. ♪
previously rejected proposals to send migrants into places where local authorities don't cooperate with immigration and customs enforcement officials. sanctuary cities are often democratic strongholds. on twitter, the president said the move would make what he calls the radical left "very happy." nigel farage is returning to the campaign for brexit. he is spearheading a new vehicle called the brexit party. today the campaign for next month european parliament elections. at a rally, he called britain's political establishment incompetent and said he placed a bet on his party winning at the polls. marino's president explained his decision to withdraw us on a protection for wikileaks founder julian assange who yesterday was taken from ecuador's embassy in london and placed under arrest on u.s. charges of conspiracy. president