Player:
Media Manager
Video ID:
18566
Video ID:
56007491140ba090168b456a
Basic Info
Video Image:
Description:
What the Fed does matters, notes Western Asset’s John Bellows, but the underlying trends in growth and inflation matter more to the broad bond market.
Duration:
00:11:01
Transcript:
Trish Regan: John, good to see you and talk to you, I know that you were watching The Fed as we all were of course this week. What was your reaction, were you surprised at all?
John Bellows: No, we were not surprised. We thought they were going to not raise interest rates yesterday. You know, we had been in the camp that they were going to raise rates back in the summer. And then as the market turmoil really started in August we changed our view. And you know the reason we changed our view is that the global growth risks increased. The pressure on emerging market currencies, the pressure on commodity prices, some of the volatility in the stock market, we think is symptomatic of increased concerns about global growth risks. And a Federal Reserve that wants to be responsive to the outlook has got to take that into consideration. So in response to those global growth risks, we changed our view. We did not think they were going to hike in September. And the Fed similarly changed their view and I think that’s why they didn’t hike. So it wasn’t a big surprise yesterday.
Trish Regan: I mean you go back a couple of years and see the economy really was showing some strength and improvement, not great, but some. There was an opportunity to do something but now we’re in an environment where everybody’s in this race to the bottom, you can call it currency wars. You can call it QE. But everybody’s trying to depreciate their currency in an effort to grow their economy and drive down rates and free up money in liquidity. And so if we’re the only ones not doing it, do we run the risk that we are giving ourselves a disadvantage?
John Bellows: Well, I certainly think there is a global component to The Fed’s thinking here, you know, they’re looking at what other central banks are doing, they’re looking at the growth risks around the world as I mentioned. And so yes, the Federal Reserve is looking at that global component and taking that into consideration. However I guess I’d push back a little bit on the idea The Fed missed their window. The risks of increasing rates are significant and the costs of keeping rates low are really fairly small. You know, we’re not seeing financial stability concerns. We’re not seeing any inflationary pressure at all. So you know, in our view I think The Fed has been justified in being slow here.
Trish Regan: How come, why no inflation? I mean for goodness sakes, they’ve been at this for nearly seven years. And still John, no real signs of inflation?
John Bellows: Well, I think there are some pretty significant secular forces holding down inflation. And whether that’s labor compensation in the United States which has been under pressure -- it’s been under pressure due to competition with low wage workers in emerging markets. It’s been under pressure due to changes in the US manufacturing sector which has really been eroded quite a bit. Labor compensation has also been under pressure due to changes in just the way the US workforce is structured. We have more part-time workers. We have more service sector workers who are generally compensated less. So all of those are longer term secular forces holding down labor compensation and I think as a result of holding down inflation. So in some sense the reason that inflation hasn’t picked up is really more of a long term secular story. And we think a lot of those forces are going to remain in place and that’s going to keep inflation under pressure for quite a while.
Trish Regan: So is this some kind of new normal where we’re just going to maintain sort of a low rate environment for the foreseeable future? And if so, what are the dangers in that?
John Bellows: Well, so the first thing is I would definitely agree that inflation is a key driver of interest rates. You know, there’s been a lot of talk about The Fed, a lot of talk about will they or won’t they hike. But in our view The Fed is really not the main event. The main event for the bond market is what’s happening on growth, what’s happening on inflation, what’s happening in the risk environment. And as you suggested, if inflation remains low we think that means the bond yields are likely to remain low in addition to that. As far as the risks, you know, I think the risks are very clearly to the downside in terms of inflation. You know, you can get oil shocks like we saw in late 2014 that can push inflation into negative territory and irate deflation, that’s a very real risk, any type of growth slowdown certainly raises deflationary risks. So going forward we think the risks are to lower, not higher inflation. But again just to emphasize, we think that inflation is going to be a key driver of bond market yields and will keep going slow.
v
Trish Regan: We talk about lower inflation, disinflation --can we just call it deflation, is that the risk?
John Bellows: So I think, yeah, I think that is the risk. And we have seen some deflation. In 2014 over a third of advanced countries had outright deflation, so prices were lower at the end of the year than they were at the beginning of the year. We’re not quite there in the United States. We printed some monthly numbers that have been negative. But I think in order to have a real deflationary episode you have to see sustained negative numbers, which we’re not there in the United States, we’re still in very low inflation and what I’d call, yeah, disinflation.
Trish Regan: Here’s the thing though with inflation, I mean, sure, you know, you look at the most recent, you know, the CPI numbers and it shows nothing really. You look at wages and again nothing really. And yet you look at housing, housing is going up; I mean these are things that people must have and must use. Food prices, there’s a little inflation there, education, through the roof, healthcare, tons of inflation there. So you know, on the one hand we say there’s no inflation in the economy. There’s no inflation in wages and yet there’s tons of inflation in the things that Americans need.
John Bellows: Yeah, I think there is something to that. So, a different way to make that observation is that we’ve seen a lot of asset price inflation. You know, you mentioned housing, you can also see asset price inflation in the equity market which is up something like 40 or 50% over the last three or four years. So we are seeing a lot of asset price inflation. That’s very different than the inflation The Fed’s focused on which is more goods and services inflation. On goods and services, I think the picture is much more downbeat. You know, partly because of the currency, partly because of slowdown in emerging markets, good prices are not going up, the same thing with services prices, you mentioned education and healthcare. But I think more broadly we’re not seeing an increase in services prices. So you do have this kind of interesting divergence between asset price inflation which I would definitely agree is going up and then goods and services inflation which is quite low.
Trish Regan: You know, it’s a fascinating time, and it must be fascinating to be a central banker, but also extremely scary because I think, you know, the fear here is that they’re running out of bullets and you know, I don’t know if they can do another round of QE and what that might actually cause. But as an investor, because you’ve got to make money in all of this, what do you do, John?
John Bellows: Well, so I guess I’d make a few observations. The first is that I think focusing on The Fed is a little bit missing the point in terms of the broader bond market. You know, as I said, I think the bond market, the main event for the bond market is growth and inflation, as long as you’re able to develop a fundamental view on those, you know, you can take a position. And our view is that growth and inflation are likely to remain moderate to low, that’s going to keep bond yields well anchored. And accordingly we think there’s some value in the bond market from that perspective. The second point is that, you know, we think there’s a lot of opportunity in the credit parts of the bond market. Take IG Corporate Bonds for instance, IG Corporate Bonds have underperformed recently, and as a result the yield advantage in IG Corporate Bonds has reached a historically pretty high level. We’re back to 2011 levels, back when we had a lot of turmoil. And from an investor’s perspective what that yield advantage means is that they can buy an IG Corporate relative to treasuries and collect that extra pickup, they’re compensated for any type of extra defaults. And if defaults come in low or if the risk environment normalizes, then the prices on those corporate bonds will go up much faster than prices on kind of comparable treasuries. So this is kind of the other message we have right now is that you know, focusing on The Fed is interesting, it’s good for talking points but it may not be the main event.
Trish Regan: No, it satisfies our intellectual curiosity but the reality is everyone’s in this to make money. So interesting to hear your thoughts on, what you’re saying is a stability mechanism in the bond market and just take a view and work off of that. Anyway, John, always good to talk to you, thank you for joining today.
John Bellows: Good, thank you, Trish.
Definitions:
The Federal Reserve Board ("Fed") is responsible for the formulation of U.S. policies designed to promote economic growth, full employment, stable prices, and a sustainable pattern of international trade and payments.
Emerging markets are nations with social or business activity in the process of rapid growth and industrialization. These nations are sometimes also referred to as developing or less developed countries.
Quantitative easing (QE) refers to a monetary policy implemented by a central bank in which it increases the excess reserves of the banking system through the direct purchase of debt securities.
Liquidity refers to the degree to which an asset or security can be bought or sold in the market without affecting the asset's price.
Deflation refers to a persistent decrease in the level of consumer prices or a persistent increase in the purchasing power of money.
The Consumer Price Index (CPI) measures the average change in U.S. consumer prices over time in a fixed market basket of goods and services determined by the U.S. Bureau of Labor Statistics.
Investment-grade bonds are those rated Aaa, Aa, A and Baa by Moody’s Investors Service and AAA, AA, A and BBB by Standard & Poor’s Ratings Service, or that have an equivalent rating by a nationally recognized statistical rating organization or are determined by the manager to be of equivalent quality.
Investment risks
The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, or a guarantee of future results, or investment advice.
Common stocks generally provide an opportunity for more capital appreciation than fixed-income investments but are subject to greater market fluctuations.
Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls.
International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.
U.S. Treasuries are direct debt obligations issued and backed by the "full faith and credit" of the U.S. government. The U.S. government guarantees the principal and interest payments on U.S. Treasuries when the securities are held to maturity. Unlike U.S. Treasury securities, debt securities issued by the federal agencies and instrumentalities and related investments may or may not be backed by the full faith and credit of the U.S. government. Even when the U.S. government guarantees principal and interest payments on securities, this guarantee does not apply to losses resulting from declines in the market value of these securities.
Commodities and currencies contain heightened risk that include market, political, regulatory, and natural conditions and may not be suitable for all investors.
Yields represent past performance and there is no guarantee they will continue to be paid.
Important information
This material is for information only and does not constitute an invitation to the public to invest in any funds, securities, strategies or other products. You should be aware that the investment opportunities described should normally be regarded as longer term investments and they may not be suitable for everyone. All investments involve risk, including possible loss of principal. The value of investments and the income from them can go down as well as up and investors may not get back the amounts originally invested, and can be affected by changes in interest rates, in exchange rates, general market conditions, political, social and economic developments and other variable factors. Past performance is no guide to future returns and may not be repeated. Investment involves risks including but not limited to, possible delays in payments and loss of income or capital. Neither Legg Mason nor any of its affiliates guarantees any rate of return or the return of capital invested. Unless otherwise noted the “$” (dollar sign) represents U.S. Dollars.
Please note that an investor cannot invest directly in an index. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed and is not a complete summary or statement of all available data. Individual securities mentioned are intended as examples of portfolio holdings and are not intended as buy or sell recommendations. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not take into account the particular investment objectives, financial situation or needs of individual investors.
The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, or a guarantee of future results, or investment advice. The information in this material is confidential and proprietary and may not be used other than by the intended user. Neither Legg Mason or its affiliates or any of their officer or employee of Legg Mason accepts any liability whatsoever for any loss arising from any use of this material or its contents. This material may not be reproduced, distributed or published without prior written permission from Legg Mason. Distribution of this material may be restricted in certain jurisdictions. Any persons coming into possession of this material should seek advice for details of, and observe such restrictions (if any).
This material may have been prepared by an advisor or entity affiliated with an entity mentioned below through common control and ownership by Legg Mason, Inc.
This material is only for distribution in those countries and to those recipients listed.
All investors in the UK, professional clients and eligible counterparties in EU and EEA countries ex UK and Qualified Investors in Switzerland
Issued and approved by Legg Mason Investments (Europe) Limited, registered office 201 Bishopsgate, London EC2M 3AB. Registered in England and Wales, Company No. 1732037. Authorized and regulated by the Financial Conduct Authority. Client Services +44 (0)207 070 7444.
All Investors in Hong Kong and Singapore:
This material is provided by Legg Mason Asset Management Hong Kong Limited in Hong Kong and Legg Mason Asset Management Singapore Pte. Limited (Registration Number (UEN): 200007942R) in Singapore
This material has not been reviewed by any regulatory authority in Hong Kong or Singapore.
Qualified domestic institutional investors in the People’s Republic of China (PRC), Distributors and existing investors in Korea and Distributors in Taiwan:
This material is provided by Legg Mason Asset Management Hong Kong Limited to eligible recipients in the PRC and Korea and by Legg Mason Investments (Taiwan) Limited (Registration Number: (98) Jin Guan Tou Gu Xin Zi Di 001; Address: Suite E, 55F, Taipei 101 Tower, 7, Xin Yi Road, Section 5, Taipei 110, Taiwan, R.O.C.; Tel: (886) 2-8722 1666) in Taiwan. Legg Mason Investments (Taiwan) Limited operates and manages its business independently.
This material has not been reviewed by any regulatory authority in the PRC, Korea or Taiwan.
All Investors in the Americas:
This material is provided by Legg Mason Investor Services LLC, a U.S. registered Broker-Dealer, which may include Legg Mason International - Americas Offshore. Legg Mason Investor Services, LLC, Member FINRA/SIPC, and all entities mentioned are subsidiaries of Legg Mason, Inc.
All Investors in Australia:
This material is issued by Legg Mason Asset Management Australia Limited (ABN 76 004 835 839, AFSL 204827) (“Legg Mason”). The contents are proprietary and confidential and intended solely for the use of Legg Mason and the clients or prospective clients to whom it has been delivered. It is not to be reproduced or distributed to any other person except to the client’s professional advisers.
© 2015 Legg Mason Investor Services, LLC, member FINRA, SIPC. Legg Mason Investor Services, LLC is a subsidiary of Legg Mason, Inc. 9/15 FN1514083
Disqus:
Disable
Company info:
Western Asset
Advanced
Allow Preroll:
0
Disable contact-me:
Show Contact me
Archive www.player:
0
Archived:
off
Structured:
Nonstructured
Akademia
Coming Soon:
0