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Speaker 2: Here's the view on Wall Street this morning, Andrew Sheets
Speaker 2: of Morgan Stanley writing, lowering interest rates into easy financial
Speaker 2: conditions raises the odds of a more speculative boom if
Speaker 2: growth does not weaken. Andrew joins us now for more, Andrew,
Speaker 2: let's talk about what that means for credit. Multi decade
Speaker 2: tights on investment grade high yield. Near the tides of
Speaker 2: the year, Andrew, We're starting to see that speculative move
Speaker 2: start to build.
Speaker 3: Yeah, thanks, good morning. So look, I think you are
Speaker 3: starting to see early signs of it. And again, the
Speaker 3: Fed has a difficult job. The FEDS at a difficult position,
Speaker 3: but it's certainly taking a risk by lowering interest rates
Speaker 3: and saying it's still going to lower them further despite
Speaker 3: inflation being above its target other measures of growth holding
Speaker 3: up large government deficits. And I think importantly some very
Speaker 3: easy financial conditions. As you mentioned, spreads are in your
Speaker 3: multi decade tights, equity valuations are in your multi decade highs.
Speaker 1: And I think.
Speaker 3: Importantly we're starting to see M and A activity really
Speaker 3: pick up. We're seeing IPO activity pick up, We're seeing
Speaker 3: more signs of corporate confidence. So while those levels are
Speaker 3: still low by historical standards, they're certainly moving towards more activity.
Speaker 1: And that's a trend we think continues.
Speaker 4: How does that.
Speaker 5: Square andrew with the idea that we've gotten some negative
Speaker 5: economic news in terms of the nonfarm payrolls report, some
Speaker 5: of the jobless claims data, albeit somewhat.
Speaker 4: Noisy, does bad news equals bad.
Speaker 5: News when you start seeing two reading labor market?
Speaker 1: Yeah?
Speaker 3: So I think this is what's so fascinating about the
Speaker 3: data at the moment is that you do see in
Speaker 3: labor market data and some other kind of traditional early
Speaker 3: cycle indicators, you really do see some weakness you everything
Speaker 3: from the jobs market to heavy truck sales, but you
Speaker 3: also see some other data that looks a lot better.
Speaker 3: You know, GDP tracking measures are holding up, retail sales
Speaker 3: have held up, and I think a really interesting one
Speaker 3: is if you look at commercial bank loan growth in
Speaker 3: the US, which is, you know, kind of one of
Speaker 3: our favorite credit cycle indicators to follow.
Speaker 1: It's accelerating higher.
Speaker 3: And that's before we get you know, the expected deregulation
Speaker 3: of the banking sector, which we think is coming. So
Speaker 3: I think the FED is taking the view that look
Speaker 3: usually the labor market is the most important cycle indicators,
Speaker 3: the most important driver of sessions. It's part of the
Speaker 3: Fed's mandate. That's what we're going to focus on. But
Speaker 3: the data is generally mixed, and with changes to immigration
Speaker 3: and other policy, there are a variety of factors that
Speaker 3: could be distorting the labor market in unusual ways.
Speaker 5: When you put this together, it sounds like, Andrew, there's
Speaker 5: a greater risk of upside to the economy the idea
Speaker 5: of a reacceleration. There is some sort of downside, the
Speaker 5: idea that you could see a real further deterioration in
Speaker 5: the labor market. What's the implication of how far that
Speaker 5: can go. People have talked about bubbles, people have talked
Speaker 5: about already tight levels and credit. People have talked about
Speaker 5: the idea of a steepening yield curve. Where do you
Speaker 5: see the potential mispricing of such a reacceleration.
Speaker 1: Yeah, so I think there are a couple of factors.
Speaker 3: So first, I think, certainly for the credit market, the
Speaker 3: market that myself and my.
Speaker 1: Team follow most closely.
Speaker 3: You know, of those two tails, the weaker growth scenario
Speaker 3: is I think the much worse tail than the more
Speaker 3: speculative boom scenario. That boom can take some time. And
Speaker 3: I think importantly, you know, we're still I think in
Speaker 3: the very early innings of the type of M and
Speaker 3: A activity that we would expect if things really pick up.
Speaker 3: You're still below average in terms of levels of M
Speaker 3: and A adjusted for the size of the economy or
Speaker 3: adjusted for trends.
Speaker 1: So there's a lot further that that can go.
Speaker 3: And I think for as much as we rightfully focus
Speaker 3: on higher levels of optimism, say among retail investors, corporate optimism,
Speaker 3: corporate activity levels have not been elevated, and I think
Speaker 3: there's more room to go there, So companies that benefit
Speaker 3: from from M and A transactions some of those advisors.
Speaker 3: Those are stocks that my colleagues on the equity side
Speaker 3: are more positive on. And I also think kind of
Speaker 3: importantly there are you know, this is a market that
Speaker 3: is still providing a discount to things that are small
Speaker 3: or more cyclical on the equity side in a way
Speaker 3: that's not true on the credit side. So again, I
Speaker 3: think this dilemma that the credit market has is that
Speaker 3: if you believe that things could get a lot better,
Speaker 3: there are lots of small, cyclical, more levered stocks you
Speaker 3: can buy at large discounts, But in credit we're often
Speaker 3: already pricing those things at twenty year thirty year lows.
Speaker 6: So Andrew, we at a space right now with the
Speaker 6: FED is cutting into what you view as a reacceleration
Speaker 6: of growth.
Speaker 3: So I think that there's a number of data that's
Speaker 3: suggesting that's a real possibility, and again that it might
Speaker 3: not even be a reacceleration of growth, but just if
Speaker 3: growth holds up, you know, just of growth is kind
Speaker 3: of stable, then the FED cutting into still above average
Speaker 3: inflation and rising inflation, the FED cutting into these already
Speaker 3: easy financial conditions and then I think also really importantly
Speaker 3: the FED cutting into what looks like a really historic
Speaker 3: boom in capex. You know, the amount of spending that
Speaker 3: we at Morgan Stanley are expecting from the AI Data
Speaker 3: Center revival growth is just enormous. You know, it's in
Speaker 3: the neighborhood of three trillion dollars we think between now
Speaker 3: and the end of twenty twenty eight. So again, these
Speaker 3: things might not be you know, three percent GDP type
Speaker 3: of numbers, but if the cycle can hold up for
Speaker 3: longer and extend for long longer, there are these There
Speaker 3: is this kind of dry tender of potential for m
Speaker 3: and a potential for more strategic activity, potential for more
Speaker 3: CAPEX that could kind of heat up conditions in our people.
Speaker 7: Stay with us.
Speaker 2: More Bloomberg surveillance coming up after this, Divisions on the
Speaker 2: Federal Reserve, clouding the fence communication as FED share.
Speaker 7: Jay Powell is said to speak tomorrow.
Speaker 2: Kristna Giller of Evercore ICI writing the active debate for
Speaker 2: policy going forward will be predominantly within the twelve who
Speaker 2: see more cuts in twenty five, not the seven who
Speaker 2: do not. Krishna joins us now for more Christna welcome
Speaker 2: to the program. Let's just start with that division of
Speaker 2: the Federal Reserve. Just how material is it and how
Speaker 2: different is it to what we've seen in years gone by.
Speaker 8: So I think we learned two things at the meeting
Speaker 8: just gone First, that this is still Powell's committee. He
Speaker 8: can still muster majority support, particularly although not disclosed among
Speaker 8: the voting members, if you guessimate whose starts or who's
Speaker 8: for the policy path that he prefers. And that's market
Speaker 8: risk friendly because Powell is on the more duvish side
Speaker 8: of the committee, the more preemptive risk management side. But
Speaker 8: there is this large block seven Fed officials who don't
Speaker 8: see any further cuts after the September cut this year.
Speaker 8: So the question is what influence will that seven have
Speaker 8: on the debate. My sense is not that much. I
Speaker 8: think the debate will mostly be among those who see
Speaker 8: their need likely to cut rates further, but will be
Speaker 8: debating exactly the economic conditionality in cadence rather than that
Speaker 8: block of hawks. But you can't completely dismiss the seven
Speaker 8: no cutters.
Speaker 2: Christ And when you started talking about the Federal Reserve,
Speaker 2: point to add that this was Chairman Pal's feder Reserve
Speaker 2: almost like it was his committee, is it too early
Speaker 2: to begin pricing a post Pal fared.
Speaker 8: So I think the market sensibly, in my view, is
Speaker 8: looking at two different time horizons in a different way.
Speaker 8: Right through the end of this year. Indeed, e've been
Speaker 8: through really at the end of Q one, early Q
Speaker 8: two to the very end of Pal's term. I think
Speaker 8: Chair Pal will continue to drive the committee. I think
Speaker 8: there is a lot of loyalty to Powell, and I
Speaker 8: think that the divisions among the central group, while they're
Speaker 8: there for sure and amplified by these political strains, I
Speaker 8: don't think they're very very deep. I think most of
Speaker 8: that core group would agree with Powell that you want
Speaker 8: to be stepping rates back to a more neutral setting
Speaker 8: thin and that if the labor side continues to look
Speaker 8: quite weak, you want to do that in a timely manner.
Speaker 8: So that's the success of September October, the Sema Cutz
Speaker 8: versus perhaps if the data were to pick up, then
Speaker 8: you might slow down that process. Separately, the market needs
Speaker 8: to look forward through the end of next year and
Speaker 8: beyond and ask what might change under new leadership. And
Speaker 8: I think when you look at the market pricing through
Speaker 8: the end of next year, you very clearly put some
Speaker 8: weight on the prospect of a more dovish shift in
Speaker 8: the FED reaction function as new leadership takes over.
Speaker 5: Krishna, has this market adequately appreciated just how duvish this
Speaker 5: central bank already has been. The idea that they're cutting
Speaker 5: at the most aggressive pace going back to the nineteen
Speaker 5: eighties when we weren't in recession. I mean, this is
Speaker 5: really an unusual type of paradigm. Given the inflation has
Speaker 5: remained above the two percent target for more than four
Speaker 5: years and is expected to remain above that for the remaining.
Speaker 4: Upcoming two years.
Speaker 5: I mean, at what point is this market not appreciating
Speaker 5: how hot this FED is already running the economy.
Speaker 8: So I certainly agree with you that this is a
Speaker 8: quite unusual set of circumstances. I think it's important to
Speaker 8: caveat that in two ways. First, the FED is not
Speaker 8: cutting rates to at least under Powell. It's not contemplating
Speaker 8: cutting rates to what the FED at least would cons
Speaker 8: a stimulative territory. What they're talking about is removing what
Speaker 8: they estimate to be the remaining restraint in the economy.
Speaker 8: That's the roughly seventy five basis points of restraint between
Speaker 8: where we were on the eve of the September meeting
Speaker 8: and a spot neutral setting that might be in the
Speaker 8: zip code of three and a half three and three
Speaker 8: quarters separate from where the long term neutral rate by
Speaker 8: lie when things settle down to equilibrium, which many still
Speaker 8: see at the FED as more like three percent. So
Speaker 8: you're talking about removing restraints, not providing stimulus. The other
Speaker 8: thing is, of course you're seeing, i think, under Powell's leadership,
Speaker 8: and of course with a pressure intellectual pressure from Waller
Speaker 8: and one few others, the FED taking a view that
Speaker 8: maybe they should be at least to some significant degree
Speaker 8: looking through that current elevated inflation because it's to a
Speaker 8: large extent reflecting the pass through of Tariff's c enter prices,
Speaker 8: and of course, from a textbook sense, at least you
Speaker 8: want to look through that first round mechanical tax impact
Speaker 8: if you like, it's a bit like a sales tax
Speaker 8: in that regard, and you want to be focused on
Speaker 8: where you think the underlying inflation dynamics are going, what
Speaker 8: risk there is of inflation persistence, And you know, if
Speaker 8: you look at wages minus productivity, if you look at
Speaker 8: a lot of the services, particularly the more market based services.
Speaker 8: You look at expectations, the news on that second round
Speaker 8: inflation dynamic is reasonably constructive, but I certainly still take
Speaker 8: your point that the FED is cutting onerous management grounds
Speaker 8: into what maybe the early stages of a cyclical re acceleration.
Speaker 8: I think the market is going to want to see
Speaker 8: more evidence on that birming inactivity and if it's passing
Speaker 8: on to affirming in the labor side too, before it
Speaker 8: really starts to trade that. But if you were to
Speaker 8: see that, then I think at a minimum, people would
Speaker 8: start to pay more attention not just to these three cuts,
Speaker 8: but the prospect that when the next chair picks up
Speaker 8: the cutting baton, we might well be in danger of
Speaker 8: overdoing it.
Speaker 5: Let's say the FED cuts rates and long term rates
Speaker 5: also decline. Will that help housing affordability? Will that help
Speaker 5: with this sort of declining trend and inflation that is
Speaker 5: hinged to the housing market, frankly, which has kind of
Speaker 5: gotten slack.
Speaker 8: Well, So certainly I think if longer term rates were
Speaker 8: to come down from here in an appreciable way, then
Speaker 8: obviously that would lower the classic thirty effects type financing costs,
Speaker 8: and that would certainly help buyers at the margin. I'd
Speaker 8: actually work a little bit more on price than on
Speaker 8: quantity in a number of cases, but certainly it would
Speaker 8: be good for housing, good for housing stocks. I think
Speaker 8: in the absence of that, what we're likely to see
Speaker 8: is more people moving to fund at the front end
Speaker 8: through arms, because, of course, as the front end rates,
Speaker 8: the FED sensitive rates do come down as an opportunity
Speaker 8: potentially to finance the front end rather than financed through
Speaker 8: the classic thirty year. I don't think that there is
Speaker 8: a huge amount of scope for ten year yelds to
Speaker 8: come down further from here. If we are indeed in
Speaker 8: the early stages of at least cyclical stabilization and possibly
Speaker 8: even cyclical re acceleration, and my hunches, if that's the
Speaker 8: path we're on, then the ten year year will be
Speaker 8: higher six or twelve months from now, not lower, and
Speaker 8: with it, of course, than those conforming loan rates. With
Speaker 8: respect to housing and inflation. I get the point you make,
Speaker 8: and it's a something one about the relationship between home
Speaker 8: construction and ultimately you know, oeer rent and those other
Speaker 8: housing services related components on inflation. I think that's right.
Speaker 8: I still think overall, though higher longer term interest rates
Speaker 8: will tend to restrict the economy in aggregate across all
Speaker 8: the sectors and put downward pressure on inflation and vice versa.
Speaker 8: If the tenure goes down.
Speaker 7: Stay with us.
Speaker 2: More Bloomberg Surveillance coming up after this. Counsei Parau of
Speaker 2: JP Morgan Asseid Management, writing the low higher low fire
Speaker 2: labor market is keeping wage growth moderate, allowing the feder
Speaker 2: ease policy in twenty five basis point increments over the
Speaker 2: next two to three meeting. Calci joins us now for more.
Speaker 2: Calci Good Mornic, Good morning. It's kind of the easy
Speaker 2: piece of this, potentially the next two to three meetings.
Speaker 2: Then it gets hard. What's the call for twenty six?
Speaker 9: Yeah, I think we're in a critical juncture right now
Speaker 9: as it relates to the direction for the US economy
Speaker 9: beyond the next three months. So there's kind of two
Speaker 9: ways that this could break. On one hand, you have
Speaker 9: the labor market, which is clearly weakening.
Speaker 10: I think it's not just supply. I do think it's
Speaker 10: a demand.
Speaker 9: But you have growth data that remains fairly robust and
Speaker 9: guidance from Corporate America that suggests a lot of optimism.
Speaker 10: So you have kind of two ways that that can resolve.
Speaker 9: One way is that the growth data starts to catch
Speaker 9: down to the labor market data, and the labor market
Speaker 9: data is the signal. The other scenario is that the
Speaker 9: labor market data is about to stabilize, the FED is
Speaker 9: going to cut rates, easy financial conditions are already there
Speaker 9: in the background, and in three to six months, or
Speaker 9: you're looking at companies that actually want to restart their
Speaker 9: hiring plans, continue their capex, and we could be looking
Speaker 9: at a FED that doesn't need to cut rates anymore
Speaker 9: and an economy that is operating above trend. So right
Speaker 9: now we're subtrend. I feel pretty comfortable with where we
Speaker 9: are now and the carry and credit we have in
Speaker 9: our portfolios. But there's still a lot of uncertainty about
Speaker 9: which way the economy breaks in the next six to
Speaker 9: twelve months.
Speaker 4: What's the market pricing? Which way does the market believe
Speaker 4: that this economy is going to break.
Speaker 9: I think the market is pricing that the economy is
Speaker 9: going to break more towards continued expansion and companies that
Speaker 9: after a period of pause, start to reinvigorate their activities
Speaker 9: and start and that labor market weakness that we're seeing
Speaker 9: is temporary. And the way that I see that is
Speaker 9: I like to look at the what.
Speaker 10: The market is priced in terms of the Fed, and.
Speaker 9: I think the way to look at it is you
Speaker 9: look at the median and you also look at the
Speaker 9: most hawkish and the most dubbish. Right now, for the
Speaker 9: next six to twelve months, the market is priced up
Speaker 9: somewhere between the median dot and the most dubbish dot,
Speaker 9: you know, so still reflecting the fact that the balance
Speaker 9: of risks for the Fed is more likely that they
Speaker 9: cut faster than they don't cut it all. But then
Speaker 9: if you look at the longer term trajectory for the
Speaker 9: FED funds rate, it kind of looks like we sometimes
Speaker 9: call it the Nike swoosh, because the policy path starts
Speaker 9: to turn up.
Speaker 10: And if you look at what the market.
Speaker 9: Is pricing for the long term, the market is actually
Speaker 9: slightly above the most hawkish expectation for the FED funds
Speaker 9: rate in the long term, and that reflects some of
Speaker 9: that longer term optimism around growth prospects that has kept
Speaker 9: yield structurally higher in this environment.
Speaker 4: So what you're saying is actually really interesting.
Speaker 5: The idea that long term rates potentially could go higher
Speaker 5: in a reacceleration trend, where you're saying suggests maybe that's
Speaker 5: not the case. Maybe that long end rates right now
Speaker 5: as they are, even with yield curf flattening, are already
Speaker 5: pricing in that reacceleration. And actually, if you get some
Speaker 5: sort of real deceleration the labor market, you get a
Speaker 5: bigger rally.
Speaker 4: Is that what you're basically leveraged too.
Speaker 9: Yeah, I mean, I think that speaks to the asymmetry
Speaker 9: and the value in owning jury. So I would say
Speaker 9: that the path for the market is priced for the
Speaker 9: FED in the short term is you know, priced fairly
Speaker 9: to the trailing data. But where we still see that
Speaker 9: there is valuation opportunities is in those long dated forwards
Speaker 9: where they are very elevated. They are pricing in a
Speaker 9: lot of optimism. And then on the other hand, you know,
Speaker 9: a lot of people have been concerned about the structural
Speaker 9: supply demand dynamics in the treasury market. You know, are
Speaker 9: there going to be foreign buyers coming in? So far,
Speaker 9: we've seen that the demand for fixed income is there.
Speaker 9: The other concern has been around the mix of treasury supply,
Speaker 9: and you know, and that's not even just a trend
Speaker 9: in the US. You know, the long end has had
Speaker 9: question marks around it across most developed market government bond markets,
Speaker 9: and what we're seeing there is signs that debt management
Speaker 9: offices and the Treasury in the US are actually probably
Speaker 9: going to be more active in terms of shifting the
Speaker 9: issuans to where the band is, which we see still
Speaker 9: in the five to ten year.
Speaker 4: Belly of the curve.
Speaker 7: Kelsie, can you give us some more detail on that.
Speaker 2: What has the Treasury've been doing more recently that's enabled
Speaker 2: this market to reject the supply fears.
Speaker 7: What have they changed?
Speaker 9: Well, they haven't actually changed anything. It's about market sentiment
Speaker 9: around around those things. So one is that you've seen
Speaker 9: very strong auctions generally.
Speaker 10: There's been a few exceptions.
Speaker 9: There's a pretty poor tips auction last week, but generally
Speaker 9: the nominal auctions for the long end have gone very well.
Speaker 9: The other thing that has shifted in terms of perception is,
Speaker 9: you know, now we have the roadmap for fiscal we
Speaker 9: have the one big beautiful bill. We kind of know
Speaker 9: what we're going to be collecting in terms of tariffs
Speaker 9: on an annualized run rate, and we can kind of
Speaker 9: feel at least more comfortable. The depth sit trajectory isn't great,
Speaker 9: but at least you know we know where it's headed.
Speaker 9: And then you know, while the Treasury hasn't done anything dramatic,
Speaker 9: they are doing buybacks on the long end, and we
Speaker 9: do think that over time they will be able to
Speaker 9: keep the long end supply stable. If not, maybe shrink
Speaker 9: it as a share of issuings and you'll see the
Speaker 9: bill issuings as a shares is going to actually be
Speaker 9: able to rise.
Speaker 4: A little bit.
Speaker 2: Stay with us more Bloomberg Surveillance coming up after this.
Speaker 2: Vina Krishner of Marcleak's writing, we've increased our year end
Speaker 2: twenty six price target to seven K from sixty seven hundred.
Speaker 2: We expect us TACH valuations to continue reflecting constructive investor views.
Speaker 2: VI who joins us now for more good Monarch, it's
Speaker 2: going to see sir, Good morning, John. So up, great
Speaker 2: to the outlook. Let's start there. What's underpinning that view
Speaker 2: at the moment for you in the team.
Speaker 11: A couple of things.
Speaker 12: First, you know, the first half has been much stronger
Speaker 12: than what we expect it from an earning standpoint. Two,
Speaker 12: if you dig in and see what's driving that. It's
Speaker 12: tech in financials, which is over fifty percent weight of
Speaker 12: the market, and the revisions for that actually are improving.
Speaker 12: And now we're in the cusp of rate cuts, which
Speaker 12: incrementally are of course positive for the market. Right So
Speaker 12: I think when you put and then don't forget that
Speaker 12: global growth, if anything, is stabilizing, and US will exit
Speaker 12: this year economic growth by our economist estimate, it's closer
Speaker 12: to around one point eight one point nine percent range.
Speaker 11: Which is pretty healthy.
Speaker 12: So I think while there's a lot of talk about
Speaker 12: you know, valuations being extended, which I don't necessarily agree with,
Speaker 12: but right now, if you see what is holding the market,
Speaker 12: it's three things. One is the AI narrative is still
Speaker 12: very much intact. Two, we are in the cusp of
Speaker 12: you know, fat cuts to three let's see what happens.
Speaker 12: And three we're entering a period of strong seasonality. That's
Speaker 12: more of a technical sort of phenomenon. But that said,
Speaker 12: we do believe that all that is priced in and
Speaker 12: our hard time seeing how the market can keep grinding higher.
Speaker 12: But then if you look past the serial into next year,
Speaker 12: we do see earnings improving ten percent, and we do
Speaker 12: see you know, the market going in the range of
Speaker 12: seven thousand, seven eight hundred. That's an upside and base
Speaker 12: case rate.
Speaker 2: Let's break it down earnings and valuations. Yeah, I just
Speaker 2: want to sit on valuations just for a moment. You said,
Speaker 2: I disagree there extended. Yeah, so time of the source
Speaker 2: of that disagreement.
Speaker 11: Yeah.
Speaker 12: So I think the tendency is to look at the
Speaker 12: aggregate multiple, which by historical standards looks high.
Speaker 11: One is, you know, we've done.
Speaker 12: Work and it shows that over the last fifteen years
Speaker 12: is a structural increase in multiple three SMP. And this
Speaker 12: primarily function of the domination of tech, which has been
Speaker 12: faster growing, higher quality earnings, better margins, and higher multiple.
Speaker 11: So that's one.
Speaker 12: But the other thing we do is you've got to
Speaker 12: unpack the market and we take some other parts approach.
Speaker 12: In other words, we look at Big Tech, rest of tech,
Speaker 12: and rest of SMP. So if you look at Big
Speaker 12: Tech's trading right.
Speaker 11: Now at about twenty nine times, right, looks high.
Speaker 12: Fine, it is true, but it started the year at
Speaker 12: thirty one times.
Speaker 11: They posted earnings about twenty eight percent.
Speaker 12: They increase their operating marke their net margins by over
Speaker 12: two hundred basis points. The beat numbers by eleven to
Speaker 12: twelve percentage points. That's one Rest of tech is trading
Speaker 12: around twenty eight times. Now that's a tad high for
Speaker 12: rest of tech, but if you remove some extreme names
Speaker 12: like you Palenteered, those sort of highly valued names, it's
Speaker 12: more reasonable. And in fact, the software part of it
Speaker 12: has got sold off because of a lot of concern
Speaker 12: about AI disrupting the business model, so we in fact
Speaker 12: think there's an opportunity there. And then last motion, the
Speaker 12: rest of US and PP we just call broadly sixty
Speaker 12: percent of the market. We really see it as a function.
Speaker 12: We have a good model for that, which is a
Speaker 12: function of where rates are, where in creation is heading
Speaker 12: economic growth Based on that, you're training it on twenty times,
Speaker 12: that's fair value. Remember just a few months ago the
Speaker 12: ten year was at four and a half percent. Now
Speaker 12: we're we're struggling to crawl, you know, to how around
Speaker 12: the four percent range.
Speaker 11: So I think that's reality.
Speaker 12: So in other words, I'm not suggesting it's cheap, but
Speaker 12: I'm saying it's not a rich market, it's a fully
Speaker 12: value market.
Speaker 5: How predicated is this call on further rate cuts by
Speaker 5: the Federal Reserve on the idea that yields have peaked
Speaker 5: and are headed downward.
Speaker 12: It's not predicated on that, but it's supported by that
Speaker 12: right because earnings are also improving. So we do see
Speaker 12: earnings actually improving next year, not a lot from this year,
Speaker 12: but call it around ten percent. But where the tenure
Speaker 12: absolutely happens. Is that fair value talked about That definitely
Speaker 12: gets impacted by the way the ten year is. You're
Speaker 12: always concerned about the correlation of rates and equities, and
Speaker 12: I think what we have found is that we get
Speaker 12: worried when the tens breach four and a half percent
Speaker 12: and start heading towards five percent. But it's a very
Speaker 12: distinct negative correlation we've observed over a very long period
Speaker 12: of time. On the flip side, and it's already low,
Speaker 12: then you're concerned because the destabilizing impact of deflation. Right now,
Speaker 12: we're in a sweet spot where we have some amount
Speaker 12: of inflation which is not necessarily bad, which actually strengthens
Speaker 12: the ability to do some pricing on the pricing power front.
Speaker 12: We have economic growth which is moderating compared to twenty
Speaker 12: three and twenty four, but still relatively robust. So and
Speaker 12: you have corpid earnings where with very strong and most
Speaker 12: importantly what has happened is the tariff effect, which you
Speaker 12: can be estimated has proved to be a little less
Speaker 12: worse than what we thought. It's probably got pushed out
Speaker 12: a little bit. But companies are figuring out, and most importantly,
Speaker 12: based on the transcript work we have done, it appears
Speaker 12: that in their guidance they are already taking into consideration
Speaker 12: the mitigation steps, and so the guidance is relatively safe
Speaker 12: at this point.
Speaker 5: This is so much optimism I can't even standard. I
Speaker 5: will just take one issue, this idea of seasonality. Everyone
Speaker 5: said that September was a bad season, it's always a
Speaker 5: bad month. Well we're up more than three percent and
Speaker 5: it's poised to be the best September going back to
Speaker 5: twenty ten.
Speaker 4: Has seasonality broken.
Speaker 11: Well in the recent year as it has?
Speaker 12: You were last year it was the same story August
Speaker 12: and September was pretty good. Historically it's bad, but I
Speaker 12: would argue that why just seasonality?
Speaker 11: Now?
Speaker 12: Everything is long term relationships were broken quite significantly post COVID.
Speaker 12: You have a negative yield curve for a long time.
Speaker 12: In whatted curve, did we have a recession. No, we
Speaker 12: had pmis in the negative territory. Did we have industrial
Speaker 12: session No? Did earnings collapse for industrials?
Speaker 11: No?
Speaker 12: Right, but it doesn't mean they're not us. So a
Speaker 12: lot of relationship which we thought existed are.
Speaker 11: Simply not true. Right.
Speaker 12: And it doesn't mean that you shouldn't worry. It just
Speaker 12: means that, you know, if you say this time is different,
Speaker 12: you've got to take it in.
Speaker 11: Blocks and see you know what next? What next?
Speaker 12: Right now, at least for the next twelve to eighteen months,
Speaker 12: we don't see significant catalysts for destabilizing where we are
Speaker 12: right now.
Speaker 6: So do you find policies like H one B, visa's
Speaker 6: the terrors they're still being legislat it in courts when
Speaker 6: it comes to AEPA. Do you find DC policies supportive
Speaker 6: or they headwinds next year?
Speaker 11: No?
Speaker 12: I mean one of the biggest concerns this year has
Speaker 12: been the level of policy uncertainty. But what is amazing
Speaker 12: is that the market is learned to look past it
Speaker 12: and to see, you know, the extent of rhetoric, how
Speaker 12: long it lasts, goes on. I mean, you saw even
Speaker 12: the HU and B thing, we had data shifting over
Speaker 12: the weekend right, first the use of modraconian and then
Speaker 12: they came back at clarified that you know it's one
Speaker 12: time and not for renewals and things like that. So
Speaker 12: I think policy and is certainly something we have to
Speaker 12: learn to live with. What we have to watch out
Speaker 12: for where it oversteps acceptable boundaries of the market, right,
Speaker 12: And so that's where I would actually watch the rates
Speaker 12: market more for that to see if and when the
Speaker 12: discomfort is there. I mean to talk about deficits is
Speaker 12: the biggest concern right now?
Speaker 11: Right? And what is your tenure doing?
Speaker 12: It's oh, it's not up right, so it doesn't blet
Speaker 12: me actually come down. So I think you start looking
Speaker 12: at those things and say that to what extent is
Speaker 12: the magnitude policy and certaintly going to hurt the market,
Speaker 12: and so far I think it's it's a risk where
Speaker 12: it's not an overwhelming risk thus far.
Speaker 2: If any What's amazing is what you said about earnings
Speaker 2: for next year EPs revisions. It's been a huge focus
Speaker 2: of this program for quite a while now that we've
Speaker 2: had this step down in payrolls growth, massive step down
Speaker 2: in payrolls growth, and maybe it's been building for a
Speaker 2: whole lot longer than people realized, and you're still seeing
Speaker 2: this step up in earning revisions, which makes me wonder
Speaker 2: just how relevant this is, which is an uncomfortable conversation
Speaker 2: for anyone following this right now sitting at home saying, well,
Speaker 2: it's relevant to me, it's relevant to everyone.
Speaker 7: Everyone needs a job.
Speaker 2: But at the moment we're seeing that tension just grow
Speaker 2: get bigger and bigger. How relevant is the payrolls number
Speaker 2: to the broader market and to ornics?
Speaker 11: You know, it is.
Speaker 12: Relevant, and that's why talking about you know, this market
Speaker 12: is highly bifurcated.
Speaker 11: That's why I said, if you look at where.
Speaker 12: The earning strength came from, it came from just two sectors,
Speaker 12: Tech infinancials.
Speaker 11: And that's where the divisions have been.
Speaker 12: If you looked at the best of the eight to
Speaker 12: nine sectors, ninety percent of them had negative operating leverage,
Speaker 12: in which their cost growth was faster than the sales growth.
Speaker 12: So to we should not allull ourselves into thinking that
Speaker 12: everything is hunky dory across markets. It's not right, and
Speaker 12: that's why we're paying attention. That's why you know, in
Speaker 12: our outlook, when I'll take some other parts approach.
Speaker 11: We are a lot more bullish on.
Speaker 12: The tech front, and we are very positive on financials,
Speaker 12: but compared to consensus in the street, we're a lot
Speaker 12: more on the rest of the economy. So, you know,
Speaker 12: how does the rest of the economy get impacted by all?
Speaker 12: This is important And to your point about the labor
Speaker 12: market being I mean, your tech companies are laying off
Speaker 12: people by the thousands, but their net margins have improved
Speaker 12: by two hundred basis points and their earnings are off
Speaker 12: the charts racial basis. When you say things are rich,
Speaker 12: it's kind of one and the range is one to
Speaker 12: one point six.
Speaker 11: So what are we talking about.
Speaker 2: Do you think the tech sector can continue just to
Speaker 2: try it on an island, it can just be its
Speaker 2: own base, this big ceclar thing, this detached from the
Speaker 2: cyclical story, or do you think when they do finally
Speaker 2: face a cyclical test, people might be surprised by just
Speaker 2: how resident they might not pay.
Speaker 12: Well, they will face a ceclitical test. It's not happening
Speaker 12: in the next eighteen months, and we do more work
Speaker 12: lookout for that.
Speaker 11: Bas doing some excellent work on that. But the interesting
Speaker 11: thing is.
Speaker 12: The text impact now is spreading across a rider cross
Speaker 12: section of the economy. So for example, when you talk
Speaker 12: about even big tech and all the cape spending, it
Speaker 12: is not just the big hyperscalers right now. It's gone
Speaker 12: into utilities, it's gone into component manufacturers, it's gone to industrials.
Speaker 11: So it's spread. So to the extent that.
Speaker 12: Tech is negatively impacted in terms of the scale of
Speaker 12: the business, it will percolate.
Speaker 11: To some extent.
Speaker 12: So yeah, it's a mixed back, but look out, I
Speaker 12: think probably we should come back and talk it.
Speaker 2: Well, I look awf your research piece before you go.
Speaker 2: We really wanted to squeze in. If you're on small cats,
Speaker 2: we've had this massive rally. You've talked about the lack
Speaker 2: of broadening cap for earnings revisions. Small caps have rallied
Speaker 2: almost exclusively on a rerating of the race cycle or
Speaker 2: the rate cuts, the repricing of that over the last
Speaker 2: site two months, since early August when we first had
Speaker 2: that really weight you like payrolls report.
Speaker 7: Are you seeing anything beyond.
Speaker 2: The ray cut story to justify the rally we've had
Speaker 2: over the last seven consecutive weeks.
Speaker 12: For the first time, we are, and let me paraphrase
Speaker 12: that we've been negative and small casts for the longest
Speaker 12: period of time, right, and it's not worked for the
Speaker 12: last two decades.
Speaker 11: I still am very skeptical.
Speaker 12: I think it's more of a rental trade or a
Speaker 12: tactical trade rather than a long term strategic trade. The
Speaker 12: reason I say that is, yes, rate cuts have been
Speaker 12: one of the huge booster for them, but if you
Speaker 12: start looking at the SML, which is the more profitable
Speaker 12: portion four hundred art companies from the Russell universe, we
Speaker 12: were surprised to see that they actually had some modest
Speaker 12: sales decline but managed to post pretty solid earnings top
Speaker 12: of that, and their divisions have improved and actually their
Speaker 12: divisions have gotten slightly better than the.
Speaker 11: SMP outside of tech that portion.
Speaker 12: So I think there is some fundamental strength which is
Speaker 12: going consistent with the recent rally. I just worry you
Speaker 12: whether how long it's going to last, especially for things
Speaker 12: like tariffs, which have not fully shown yet. I think
Speaker 12: it's going to percolate over the next few quarters. Business Wise,
Speaker 12: there's less flexibility. The other thing is, you know, with
Speaker 12: the tenure coming down and front end rates coming down,
Speaker 12: with a lot of floating rate debt, they do benefit
Speaker 12: in the short term.
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