Speaker 1: We're going again.
Speaker 2: Ever since the early two thousands, starting with the dot
Speaker 2: Com crash and nine to eleven and then on to
Speaker 2: the Great Financial Crisis, we have been in an ultra
Speaker 2: low rate environment. Sure, rates have been steadily falling since
Speaker 2: nineteen eighty two, but starting in the twenty tens they
Speaker 2: were practically zero, and in Japan and Europe they were negative.
Speaker 2: That era is over, regime change occurd, and now rates
Speaker 2: are much higher than they've been since the nineteen nineties.
Speaker 2: Investors should consider the possibility that rates remain high and
Speaker 2: for much longer than they've been. The era of zero
Speaker 2: interest rates and quantitative easing is dead. I'm Barry Retults
Speaker 2: and on today edition of At the Money, we're going
Speaker 2: to discuss how these changes are likely to affect your
Speaker 2: portfolios and what you should do about it. To help
Speaker 2: us unpack all of this and what it means for
Speaker 2: your money, let's bring in Jim Bianco, chief strategist at
Speaker 2: Bianco Research. His firm has been providing objective and unconventional
Speaker 2: commentary to professional portfolio managers since nineteen nineties and remains
Speaker 2: amongst the top rated firms amongst institutional traders. So let's
Speaker 2: start with the prior cycle, rates were very low for
Speaker 2: a very long time.
Speaker 1: Tell us why coming out of the financial crisis in
Speaker 1: two thousand and eight, DEFED was worried that the psyche
Speaker 1: of investors was to stay away from risk cury assets
Speaker 1: like home prices or equities. Remember, the stock market fell
Speaker 1: almost fifty percent in two thousand and eight. Home prices
Speaker 1: had their biggest crash according to the case Shiller measure,
Speaker 1: and so they wanted to try and reinforce that these
Speaker 1: assets were safe to own by doing that. One way
Speaker 1: to do that was they took safe assets like bonds,
Speaker 1: treasury bonds and their yield and tried to make them
Speaker 1: very unattractive by lowering their interest rates all the way
Speaker 1: down the zero. And they used a fancy term for it.
Speaker 1: They called it the portfolio balance channel, which meant that
Speaker 1: you were like, I have this internal clock in my head.
Speaker 1: I need to make so much every year. These bond
Speaker 1: yields will never get me there. So what do I
Speaker 1: have to do to make my yield? I have to
Speaker 1: start thinking about taking on a little bit more risk,
Speaker 1: putting money in corporate bonds, putting money in equities, maybe
Speaker 1: putting money more back into real estate again. So the
Speaker 1: idea behind it was to try and push people into
Speaker 1: risk your assets.
Speaker 2: And we sore in the two thousands. It certainly was
Speaker 2: a contributing factor to the financial crisis. When they took
Speaker 2: yields as low as they did, did they sent bond
Speaker 2: managers looking for higher and riskier yield And it obviously
Speaker 2: raises a question in the twenty tens, why were they
Speaker 2: on emergency footing long after the emergency ended? How much
Speaker 2: of this is just a function of the FED tends
Speaker 2: to be conservative and move slowly. Is this just the
Speaker 2: nature of a large, ponderous conservative institution.
Speaker 1: Oh yeah, I definitely think it is, and you're right.
Speaker 1: I mean, the first example of emergency policy was after
Speaker 1: nine to eleven when they cut rates down to the
Speaker 1: unfathomable level back then of around one percent, and they
Speaker 1: kept it there all the way to two thousand and four.
Speaker 1: And the joke was in two thousand and three to
Speaker 1: two thousand and four was an emergency rate when there
Speaker 1: was no clear emergency. And by keeping that money cheap,
Speaker 1: they encouraged speculative movements in markets, and the big one
Speaker 1: that we all aware of was housing prices took off
Speaker 1: like crazy, because everybody borrowed at low variable rates and
Speaker 1: produced a big But you're right that the FED is
Speaker 1: very very slow in starting to think. And part of
Speaker 1: the problem I think with the FED is there's a
Speaker 1: group think at the FAD that there's a consensus view
Speaker 1: of the world and everybody is to purport to that view,
Speaker 1: and they don't allow heterodox opinions.
Speaker 2: I have a vivid recollection following eight oh nine of
Speaker 2: you and I having a conversation. At the time, we
Speaker 2: were both constructive, hell I could say bullish, and but
Speaker 2: for very different reasons. I was looking at Hey, market's
Speaker 2: cut in half, tend to do really well over the
Speaker 2: next decade, down fifty seven percent. I'm a buyer. You
Speaker 2: were the first analyst of everybody on Wall Street who
Speaker 2: turned around and said zero interest rate policy and quantitative
Speaker 2: easing is going to leave no alternative and all of
Speaker 2: this cash is going to flow into the equity markets.
Speaker 2: I recall exactly where we were where we had that conversation.
Speaker 2: When you talk about change, is that the sort of
Speaker 2: substantial change in government policy that impacts markets. Tell us
Speaker 2: a little bit about that.
Speaker 1: Yeah, I think it's even more fit basic than that.
Speaker 1: It impacts psychology. One of the reasons that the FED
Speaker 1: wanted to put rates at zero and push all that
Speaker 1: money in the risk markets was the psyche coming out
Speaker 1: of two thousand and eight was people were afraid. They
Speaker 1: were afraid that their nest egg, their net worth, their
Speaker 1: wealth was at risk, and that they could work their
Speaker 1: whole life save some money and it just disappears. And
Speaker 1: so the fear was that they were just going to
Speaker 1: all pilot into tergery bills and they were never going
Speaker 1: to move into risk assets. And without that, you know,
Speaker 1: investment in the economy, we weren't going to get the
Speaker 1: economy forward. So they cut rates to zero to force
Speaker 1: that money in. But what did people do in twenty ten,
Speaker 1: twenty eleven, and twenty twelve when they saw, wait a minute,
Speaker 1: my house prices recovering, my stock portfolio is recovering, my
Speaker 1: net worth is starting to go back up, they felt better.
Speaker 1: Oh good, my nest egg is still there, it's still safe,
Speaker 1: it's not going to fall apart. They didn't do anything
Speaker 1: other than they felt better. They felt a comfort level
Speaker 1: because that was happening. Twenty twenty comes we have a
Speaker 1: big downturn. In twenty twenty, we have MASSI fiscal stimulus,
Speaker 1: we have mass of spending the Cares Act that you
Speaker 1: point out, And so because we're spending more money, we're
Speaker 1: seeing higher levels of growth, We're seeing higher levels of inflation. Again,
Speaker 1: like I said, three or four percent, not a ten
Speaker 1: Zimbabwe and to higher levels of growth and higher levels
Speaker 1: of spending means that the appropriate interest rate in this
Speaker 1: environment is higher. It's probably in a four or five
Speaker 1: percent range. If nominal growth is running a five or
Speaker 1: six percent, you should have five or six percent interest rates.
Speaker 2: Active managers have not distinguished themselves in an era of
Speaker 2: rising indexing. At what point is there enough inefficiency and
Speaker 2: price discovery that active managers can begin their keep.
Speaker 1: Oh, I think that we might be seeing it, you know,
Speaker 1: evolved now with the whole you know, And I'll answer
Speaker 1: the question in two ways. In the whole area of
Speaker 1: like artificial intelligence and everything else, we're starting to see
Speaker 1: somewhat of you know. The fancy Wall Street term is
Speaker 1: a dispersion of returns that certain stocks are returning much
Speaker 1: different than other stocks. Look no further than what some
Speaker 1: of the AI related stocks are doing. And if you
Speaker 1: want to look on the other side, a big cap
Speaker 1: stocks that are really struggling. To look at the banks,
Speaker 1: they're really kind of, you know, retrenching in the other
Speaker 1: direction because the banks are struggling with overvalued office real
Speaker 1: estate and it's really starting to hurt them. Where AI
Speaker 1: is the promise of some kind of you know, Internet
Speaker 1: two point zero boom that's coming with technology, and people
Speaker 1: could start looking at managers to try and differentiate about that.
Speaker 1: This is not the twenty nine ten to twenty twenty
Speaker 1: period where basically all you needed was and I'll use
Speaker 1: the Vanguard example Voo, which is their S and P
Speaker 1: five hundred fund, sixty percent in that, and then B
Speaker 1: and D which is there, which is their Bloomberg aggregate
Speaker 1: bond fund forty that there, I just need two instruments,
Speaker 1: sixty in stocks, forty in bonds. Thank you. Let's see
Speaker 1: how the decade plays out. I don't think that the
Speaker 1: next decade is going to be quite like that. So
Speaker 1: far as as far as active managers, I did want
Speaker 1: to make this distinction and throw in a cheap commercial
Speaker 1: here because I do manage an ETF and explain that
Speaker 1: in the equity space, it is well established that active
Speaker 1: managers have a hard time beating the index, and there's
Speaker 1: several reasons for it. I'll give you one basic broad reason.
Speaker 1: Your biggest weightings you're in videos, your Microsoft's of the
Speaker 1: world are your all stars. And if you're not all
Speaker 1: in on your all stars, it is very, very hard
Speaker 1: to beat the indus. And so that's the challenge that
Speaker 1: an active manager in equities has. In fixed income, the
Speaker 1: index runs it around the fiftieth percentile. There's a lot. Now.
Speaker 1: One of the big reasons is your biggest waitings in
Speaker 1: fixed income in bonds are your over levered companies and
Speaker 1: your countries that have borrowed too much money, and so
Speaker 1: they're your problem children, and you could recognize them as
Speaker 1: your problem children, and you avoid them. And that's why
Speaker 1: so many active managers in fixed income can beat the index.
Speaker 1: To put a sports metaphor on it, equities is like
Speaker 1: playing golf. In golf, you play the course, but fixed
Speaker 1: income is like playing tennis. In tennis, you play the opponent.
Speaker 1: No one asks. In I shouldn't say no one asks.
Speaker 1: You're more likely in fixed income to be asked a question,
Speaker 1: not can you beat the Bloomberg Aggregate Index, but can
Speaker 1: you beat Jeff Gunlock? Can you beat Pimco. Can you
Speaker 1: beat Metropolitan West. That's the question. You'll be fixed income inequities.
Speaker 1: They ask question is can you beat the s and
Speaker 1: P five hundred? Can you beat the course?
Speaker 2: So let's put some number. Let let's put a little
Speaker 2: flesh on the on the active bones. You know, you
Speaker 2: look at the active equity side and historically, once you
Speaker 2: take into fees, taxes, costs, you know, after ten years,
Speaker 2: active doesn't there's very very few winners. But on the
Speaker 2: fixed income side, it seems like there are many many
Speaker 2: more winners in the active bond management if nothing else,
Speaker 2: As you mentioned, you screen out the highest risk players,
Speaker 2: the bad companies, the over leveraged countries, and just dropping
Speaker 2: the bottom pick a number, twenty thirty percent of the
Speaker 2: worst participants, your way ahead of the index. Is that
Speaker 2: a fair way to describe it?
Speaker 1: Yes, And that's exactly right, because you know, it's a
Speaker 1: very different type of game in fixed income where it
Speaker 1: is you know, just avoiding the land mines is really
Speaker 1: all you have to do, and you wind up doing better.
Speaker 1: And remember by avoiding the land mines. The other thing
Speaker 1: that's different about fixed income now relative the last fifteen years,
Speaker 1: there's a yield as they said, there's a yield to observe.
Speaker 1: So if you can avoid those land mines and continue.
Speaker 1: You could start the year by saying, on a fixed
Speaker 1: income portfolio, a broad based bond portfolio, it's going to
Speaker 1: return four point eight percent. That's if every price is unchanged.
Speaker 1: That's what the yield's going to be. Now, I've got
Speaker 1: to try and avoid those land mines that keep taking
Speaker 1: me down from four point eight percent, and you know,
Speaker 1: trying to you know, protect that yield and hold as
Speaker 1: much at that yield as I can.
Speaker 2: So to wrap up, from the dot com crash to
Speaker 2: the COVID nineteen pandemic that's twenty to twenty twenty, Monetary
Speaker 2: policy was the chief driving force in markets. But since
Speaker 2: the twenty twenty Cares Act, the pandemic, which led to
Speaker 2: an infrastructure legislation, to the Semiconductor Bill, to the Inflation
Speaker 2: Reduction Act, the shift has been to fiscal not monetary stimulus.
Speaker 2: This tends to mean higher GDP, higher inflation, higher yields,
Speaker 2: and perhaps lower market returns from the equity portion of
Speaker 2: your portfolio. Investors should take this into account when they
Speaker 2: think about alternatives to riskier stocks. I'm Barry Ridholts, And
Speaker 2: this is Bloomberg's At the Money