Speaker 1: Thank you know, let's get to our guess. Nancy Davis
Speaker 1: is founder and ce IO of Quadratic Capital, joining us
Speaker 1: on the line from Greenwich. So we're saying that two
Speaker 1: year yield in near full percent for the first time
Speaker 1: in fifteen years. Nancy, you say, the last time the
Speaker 1: curve was this inverted, Gorbachev was sitting in the Kremlin.
Speaker 1: What kind of opportunities are there for investors, Well, the
Speaker 1: rates market is definitely expecting the FED to hike more UM.
Speaker 1: The you can see on your Bloomberg terminal, we have
Speaker 1: a hundred and eighty seven basis points of additional hikes
Speaker 1: just this year alone, so in two thousand and twenty two.
Speaker 1: So even if the Fed um you know, there's very
Speaker 1: little expectation about twenty that they're going to hike a
Speaker 1: hundred tomorrow. But even if they hike a hundred, there's
Speaker 1: still another you know, seventy five plus basis points eighty
Speaker 1: seven basis points baked in. And so I think what
Speaker 1: you're seeing right now is a lot of people speculating
Speaker 1: that the number of FED hikes is going to increase
Speaker 1: UM using FED fund futures or treasury options or other
Speaker 1: derivative contracts, and the speculation has actually gotten I think
Speaker 1: a little bit too high um and that has really
Speaker 1: inverted the yield curve. Guield curve is the most inverted
Speaker 1: um over you know, for for for decades um. Currently
Speaker 1: you can see the two year swap rate on your
Speaker 1: Bloomberg terminal is four thirty four, so it's almost four
Speaker 1: thirty five already, and the level of the ten year
Speaker 1: yield is seventy two basis points lower. So it's a
Speaker 1: really odd time for the rates markets because they do
Speaker 1: believe the FET is going to hike. I think the
Speaker 1: question is whether these hike expectations are realistic or whether
Speaker 1: the FET is going to hike seventy five and maybe
Speaker 1: another seventy five this year and then hold um. So,
Speaker 1: so there is a lot baked in, yeah, And how
Speaker 1: much more painful could it get if we continue to
Speaker 1: see the Fed really try to tame the inflation. You
Speaker 1: say inflation potentially could have paked, but even if it
Speaker 1: remains above two percent, we're going to have to continue
Speaker 1: to see these behinds. Well, It's interesting because the five
Speaker 1: year break even, even the Fed Zone calculation of it,
Speaker 1: currently the five year break even is two point one
Speaker 1: one per cent right now. UM, So even though the
Speaker 1: last CPI print was eight point three, the inflation protection
Speaker 1: market is saying inflation is going to fall dramatically. Um
Speaker 1: the two year break even for instances two point three
Speaker 1: right now on your Bloomberg terminal, the ten years two
Speaker 1: point three nine. So there's very little priced in that
Speaker 1: the Fed is going to lose control over the inflation markets.
Speaker 1: In fact, the inflation markets are priced dramatically to have
Speaker 1: falling inflation expectations. And so that's where I think the
Speaker 1: opportunity allies for investors because like all markets, it's um
Speaker 1: it's all about what's priced in, and the market is
Speaker 1: expecting that these rate hikes are going to get the
Speaker 1: job done and inflation is going to fall dramatically. And
Speaker 1: I think taking the other side of that trade, where
Speaker 1: you say, look, does the Fed's rate hikes really impact
Speaker 1: the supply side issues or does it solve the labor
Speaker 1: market crisis, It doesn't really solve any of the bigger issues,
Speaker 1: which are more geopolitical and pandemic related. And I think
Speaker 1: that's an opportunity for investors to add inflation protection in
Speaker 1: the future because it is so cheaply priced relative to
Speaker 1: where it's realizing. What as well, does it mean in
Speaker 1: terms of movement to risk assets, Nancy. When you've got
Speaker 1: the likes of Ray Delio predicting that you could see
Speaker 1: a decline in Stokes and Neural Robani warning that the
Speaker 1: FED could drive the US into a stagflationary dit crisis,
Speaker 1: well we we definitely have a lot of commentarators and
Speaker 1: a lot of positioning that are quite bare as Shaun markets. So,
Speaker 1: I think, you know, as a contrarian, whenever you have
Speaker 1: everyone expecting one outcome, you know the other side is
Speaker 1: usually um, probably right. So I think the FED could
Speaker 1: really avoid, you know, the rate hike tomorrow. I think
Speaker 1: they'll probably hike seventy five. But if they hike and
Speaker 1: then hold to allow the raid hikes to ease their
Speaker 1: way through the economy and also do more with the
Speaker 1: balance sheet reduction, they really haven't been talking a lot,
Speaker 1: even though the caps have doubled in the month of September.
Speaker 1: They initially started in June with the quantitative tightening. I
Speaker 1: think they could be doing a lot more with the
Speaker 1: balance sheet to ease off hiking rates. Um. So I
Speaker 1: do think, yeah, go ahead. I was just gonna say
Speaker 1: I've asked you this before, and I'm just curious to
Speaker 1: get your thoughts, considering things have changeds we last book.
Speaker 1: But but the sixty forty portfolio is that now? Is
Speaker 1: that now a dead way of looking at investing? You
Speaker 1: know a lot of people still have it, so it's
Speaker 1: not dead because it's definitely alive and well, and in
Speaker 1: most institutional as well as retail portfolios have something that
Speaker 1: looked like a sixty forty portfolio. I do think it's
Speaker 1: time for investors to really be looking at the fort
Speaker 1: in bonds because a lot of the passive indusseries don't
Speaker 1: have any inflation protected bonds in it, and that's because
Speaker 1: they were created before these The Treasury even invented the
Speaker 1: inflation protected bond market in so I think the challenges
Speaker 1: is a lot of people in this very high realized
Speaker 1: inflationary environment have been looking at things that worked in
Speaker 1: the seventies and the rates market, even the inflation protected
Speaker 1: bond market didn't exist before the late nineties. So I
Speaker 1: think it's really a time to just be adding inflation
Speaker 1: protection into your portfolio on the fixed income side, because
Speaker 1: so much of the benchmarking in the indusseries has moved
Speaker 1: to nominal treasuries or mortgages, and it's a really dangerous
Speaker 1: time to be just owning that traditional sixty forty for sure.
Speaker 1: So let's tokyobok a little bit. How how is the
Speaker 1: a t F going amidst the recent scenarios that we
Speaker 1: are facing in the global economy? Well, are are depends
Speaker 1: which et F are. Deflation in ETF has been doing
Speaker 1: quite well. UM deflation is really being priced in. A
Speaker 1: lot of people think the Fed hiking rates is going to,
Speaker 1: you know, cause a slowdown in growth and a slowdown
Speaker 1: in economy. Our inflation to e t F UM i've
Speaker 1: all which is the larger and older e t F
Speaker 1: is UM definitely UM not been performing very well because
Speaker 1: the yield curve is massively inverted. So before Jackson Hole,
Speaker 1: we had about ninety two basis points of additional hikes
Speaker 1: priced in before the end of the year. After Pal's
Speaker 1: eight minutes, you know, mega, you know, screaming match about inflation,
Speaker 1: the rates market, the hikes went up. They more than doubled,
Speaker 1: and we have over you know, hundred and eighty seven
Speaker 1: basis points of hikes priceton, even though we still haven't
Speaker 1: had actual FED meeting, So I do think the inverted
Speaker 1: yield curve is not a normal environment. UM investors are
Speaker 1: not being very rational, in my opinion, when you can own,
Speaker 1: you know, the two year swap is four thirty four,
Speaker 1: why would you go by uh, you know, a ten
Speaker 1: year bond for instance, seventy basis points you know, lower
Speaker 1: what meaning less yield and more risks. So inflation expectations
Speaker 1: have been falling dramatically, and that is a lot of
Speaker 1: confidence that the Fed hiking policy rates is going to
Speaker 1: really kill inflation. But like all markets, they move off
Speaker 1: of expectations. So I do think it's a good opportunity
Speaker 1: for investors to buy future inflation expectations because they are
Speaker 1: so cheaply priced. Um the five year break even you
Speaker 1: can see it on your Bloomberg terminal, it's two and
Speaker 1: a half right now, the ten years to thirty nine,
Speaker 1: even the two year is to thirty three. So UM
Speaker 1: inflation is very much on sale alright now, So we're
Speaker 1: gonna have to leave it there, unfortunately. Always a pleasure
Speaker 1: of Nancy Davis is found in ce io of Quadrantic
Speaker 1: Capital on the line from Greenwach Forest