Welcome to COVID Time, a podcast series on Markets and Economies from Devious Group research. I'm Tambe, chief economist. Welcome you to our 102nd episode today. It's time to take a deep dive in the world of global fixed income macro from debt ceiling to the forthcoming tsunami of treasury issuances, funding conditions to fed rates and quantitative tightening. There's a lot to chew on.

Welcome to COVID Time, a podcast series on Markets and Economies from Devious Group research. I'm Tambe, chief economist. Welcome you to our 102nd episode today. It's time to take a deep dive in the world of global fixed income macro from debt ceiling to the forthcoming tsunami of treasury issuances, funding conditions to fed rates and quantitative tightening. There's a lot to chew on.

Our guest is an absolute expert on these issues. Musta Chori has held senior positions at several leading firms including voya Investments, Deutsche Bank, Bear Sterns and Freddie Mac. He has a wealth of knowledge and expertise on trading research and

Our guest is an absolute expert on these issues. Musta Chori has held senior positions at several leading firms including voya Investments, Deutsche Bank, Bear Sterns and Freddie Mac. He has a wealth of knowledge and expertise on trading research and

proportio management of G 10 macro rates, mortgage backed securities and derivatives. Most recently, Mustafa was the head of rates, effects and derivatives at Y investments where he was part of a team that managed more than $40 billion in institutional fixed income portfolios. Must chori a warm welcome to Cope Time.

proportio management of G 10 macro rates, mortgage backed securities and derivatives. Most recently, Mustafa was the head of rates, effects and derivatives at Y investments where he was part of a team that managed more than $40 billion in institutional fixed income portfolios. Must chori a warm welcome to Cope Time.

Thanks for having me on your show and congratulations on uh more than 100 100th episode at this point.

Thanks for having me on your show and congratulations on uh more than 100 100th episode at this point.

Thanks very much. And you know, we've been talking about having you on for a long, long time. So I'm finally glad that between your busy schedule and travel, you manage to squeeze in some time for us, but I will take full advantage of that one. So I have lots of questions for you. So, uh let's uh, start with the recently quote unquote concluded debt ceiling matter. Looks like we're done for a couple of years. What should we take away from this drama? And what about the eventual resolution that we have right now?

Thanks very much. And you know, we've been talking about having you on for a long, long time. So I'm finally glad that between your busy schedule and travel, you manage to squeeze in some time for us, but I will take full advantage of that one. So I have lots of questions for you. So, uh let's uh, start with the recently quote unquote concluded debt ceiling matter. Looks like we're done for a couple of years. What should we take away from this drama? And what about the eventual resolution that we have right now?

Uh I think the drama ended a lot better than I had anticipated. Uh I had, I was uh deeply uh uh

Uh I think the drama ended a lot better than I had anticipated. Uh I had, I was uh deeply uh uh

uh uh uh uh part of our observing 2011 and 2013 drama and that those both of those ended with a lot of volatility and anxiety, et cetera this time around. Uh It clearly shows some maturity among the key players and so it ended without too much shock. Uh in the market 2011 was really ugly

uh uh uh uh part of our observing 2011 and 2013 drama and that those both of those ended with a lot of volatility and anxiety, et cetera this time around. Uh It clearly shows some maturity among the key players and so it ended without too much shock. Uh in the market 2011 was really ugly

uh with even rating agencies not knowing what to do um downgraded right in the middle of the whole drama. This time, rating agencies away from everything. So I, I very encouraged by uh the maturity shown by the players. Uh what will happen politically. I don't know, there will be some turmoil probably in, within individual parties, probably in the Republican Party, but that's a different story.

uh with even rating agencies not knowing what to do um downgraded right in the middle of the whole drama. This time, rating agencies away from everything. So I, I very encouraged by uh the maturity shown by the players. Uh what will happen politically. I don't know, there will be some turmoil probably in, within individual parties, probably in the Republican Party, but that's a different story.

So you wouldn't say there was any winner or loser. This seems like possibly the best of all worlds, a bit of a win, win for everybody.

So you wouldn't say there was any winner or loser. This seems like possibly the best of all worlds, a bit of a win, win for everybody.

Well, winner clearly is Biden administration uh in the deal, it, they got a much better deal than uh initially anticipated and the Republicans, the G O P got a worse deal than what they were significantly worse deal than relative to what they were asking for. Um And Biden also got two years,

Well, winner clearly is Biden administration uh in the deal, it, they got a much better deal than uh initially anticipated and the Republicans, the G O P got a worse deal than what they were significantly worse deal than relative to what they were asking for. Um And Biden also got two years,

uh time got the and so it don't come up until after the next uh coming election.

uh time got the and so it don't come up until after the next uh coming election.

So uh winner clearly uh is Biden administration. But as individuals, both uh speaker mccarty and President Biden won for their personal carriers.

So uh winner clearly uh is Biden administration. But as individuals, both uh speaker mccarty and President Biden won for their personal carriers.

The uh most of all we are having this discussion on the sixth of June. I remember a couple of weeks ago, Janet Yellen saying by the first week of June, the treasury would be basically out of cash. Um So even though the deal has worked out, they need to replenish their cash balances. And we're hearing all these astronomical numbers about how they have to issue like a trillion dollars worth of treasury. And it could have some seismically destabilizing impact on the market. What are your views on this?

The uh most of all we are having this discussion on the sixth of June. I remember a couple of weeks ago, Janet Yellen saying by the first week of June, the treasury would be basically out of cash. Um So even though the deal has worked out, they need to replenish their cash balances. And we're hearing all these astronomical numbers about how they have to issue like a trillion dollars worth of treasury. And it could have some seismically destabilizing impact on the market. What are your views on this?

Um I don't think it's uh it will be destabilizing but it will be important and probably will provide opportunities for investors. I think that um they will probably target replenishing the PGA that uh uh the uh the treasury's account in the Federal Reserve to about 500 billion from near zero at this point.

Um I don't think it's uh it will be destabilizing but it will be important and probably will provide opportunities for investors. I think that um they will probably target replenishing the PGA that uh uh the uh the treasury's account in the Federal Reserve to about 500 billion from near zero at this point.

And so 500 billion plus the ongoing funding needs uh could get to a trillion dollars. Uh I think that the the treasury will uh focus more on the short end of the curve because there is uh the biggest challenge. Uh challenge will not be selling the E bills. I think there will be enough demand for, for T bills just because uh of the higher rates and transition from bank deposits to money market funds.

And so 500 billion plus the ongoing funding needs uh could get to a trillion dollars. Uh I think that the the treasury will uh focus more on the short end of the curve because there is uh the biggest challenge. Uh challenge will not be selling the E bills. I think there will be enough demand for, for T bills just because uh of the higher rates and transition from bank deposits to money market funds.

I think the, the challenge uh would be uh

I think the, the challenge uh would be uh

not to disturb the reserve bank reserve positions as much and try to take away from the revers of uh the book of business, the rev reversible funding uh that the fed has so the, the slight cheapening or some cheapening in T bills will be healthy because that will allow

not to disturb the reserve bank reserve positions as much and try to take away from the revers of uh the book of business, the rev reversible funding uh that the fed has so the, the slight cheapening or some cheapening in T bills will be healthy because that will allow

uh money market funds to switch from reverse people positions within the feds that uh with the fed to buying G bills uh without fed, having to shrink the bank reserves too much. Uh My biggest worry is that uh the system is not uh ready to handle large sudden changes in bank bank reserves and we can come to that. Uh This is a whole lot, whole topic by itself.

uh money market funds to switch from reverse people positions within the feds that uh with the fed to buying G bills uh without fed, having to shrink the bank reserves too much. Uh My biggest worry is that uh the system is not uh ready to handle large sudden changes in bank bank reserves and we can come to that. Uh This is a whole lot, whole topic by itself.

Uh But, but uh it was a bit cheaper and it uh and an opportunity probably to buy T bills.

Uh But, but uh it was a bit cheaper and it uh and an opportunity probably to buy T bills.

Would you uh consider the possibility that that half a trillion, which is above the sort of the target balance that they absorb uh because they need to spend, but they go ahead and spend it immediately and the cash then just goes back to the economy within a month or

Would you uh consider the possibility that that half a trillion, which is above the sort of the target balance that they absorb uh because they need to spend, but they go ahead and spend it immediately and the cash then just goes back to the economy within a month or

two.

two.

Um

Um

The uh go goes back. Uh

The uh go goes back. Uh

uh I am uh I'm, I'm not totally sure they, uh the uh that's, I, I don't know there is any, anything that the, that was uh pending or postponed in terms of spending. Uh There, there were some coupon payments to some trust funds, et cetera. That was the only extraordinary matter that the treasury did in the last

uh I am uh I'm, I'm not totally sure they, uh the uh that's, I, I don't know there is any, anything that the, that was uh pending or postponed in terms of spending. Uh There, there were some coupon payments to some trust funds, et cetera. That was the only extraordinary matter that the treasury did in the last

5.5 months or so.

5.5 months or so.

So I'm not sure that, that, that itself will be very stimulated because the cap will go to the uh on the a the asset side of the pet balance which will not increase as well. It will just be a rebalancing. They're not seeing a huge um stimulus to the economy just from that cash. It's more of a valuation between bills. Um And uh also the reverse repo rates as well as the um

So I'm not sure that, that, that itself will be very stimulated because the cap will go to the uh on the a the asset side of the pet balance which will not increase as well. It will just be a rebalancing. They're not seeing a huge um stimulus to the economy just from that cash. It's more of a valuation between bills. Um And uh also the reverse repo rates as well as the um

uh the banks having enough reserve. That's the biggest question,

uh the banks having enough reserve. That's the biggest question,

correct. Um So Mustafa, you said earlier that there is this, you know,

correct. Um So Mustafa, you said earlier that there is this, you know,

need for replenishing the target balances. And then uh we're gonna have this large insurance which may or may not have a establishing impact with the question mark around reserves. But who is going to buy this? Um Are we talking about non-bank financial institutions with a substantial need for short term securities or who else is out there are a large demand internationally. What's your sense of the investor base that will pick up this issue?

need for replenishing the target balances. And then uh we're gonna have this large insurance which may or may not have a establishing impact with the question mark around reserves. But who is going to buy this? Um Are we talking about non-bank financial institutions with a substantial need for short term securities or who else is out there are a large demand internationally. What's your sense of the investor base that will pick up this issue?

I think that will, that will be an increasing challenge to sell treasuries. Uh Right now, the uh the cushion between the H two L A, the H T L A cushion for banks is fairly tight. So we might see banks try to buy more bills and uh take uh get out of uh reduce some of the other longer duration assets, et cetera. Uh Just because they trust a lot of

I think that will, that will be an increasing challenge to sell treasuries. Uh Right now, the uh the cushion between the H two L A, the H T L A cushion for banks is fairly tight. So we might see banks try to buy more bills and uh take uh get out of uh reduce some of the other longer duration assets, et cetera. Uh Just because they trust a lot of

changes are coming in terms of banks uh managing their balance sheets as well. Uh I also think that investors in general, uh this is an uh for them to remain a

changes are coming in terms of banks uh managing their balance sheets as well. Uh I also think that investors in general, uh this is an uh for them to remain a

remain more, having a higher rate in cash and using bills uh would be uh would be another source of um buyers in the in the bills market. But over, over a, over a longer horizon, there is a big challenge for buyers for treasuries. Uh whether it's foreign central banks um or banking system, the traditional buyers are uh

remain more, having a higher rate in cash and using bills uh would be uh would be another source of um buyers in the in the bills market. But over, over a, over a longer horizon, there is a big challenge for buyers for treasuries. Uh whether it's foreign central banks um or banking system, the traditional buyers are uh

are slowly going to drift away from us treasuries. Uh given the size that's coming, not just this replenishment, but just the fiscal expansion that's expe expected over the next two years that uh selling would be a big problem. So in that context, I do, I also think that the Q T, uh, they'll have to stop Q T fairly soon.

are slowly going to drift away from us treasuries. Uh given the size that's coming, not just this replenishment, but just the fiscal expansion that's expe expected over the next two years that uh selling would be a big problem. So in that context, I do, I also think that the Q T, uh, they'll have to stop Q T fairly soon.

Ok. I was gonna ask you a question at the very end of the podcast and I will ask you that question, but just as an early favor. So it sounds like you are not particularly bullish to fix and come out luck.

Ok. I was gonna ask you a question at the very end of the podcast and I will ask you that question, but just as an early favor. So it sounds like you are not particularly bullish to fix and come out luck.

Uh, I am more. Um,

Uh, I am more. Um,

I'm not particularly bullish at all, uh, in general in terms of duration, in terms of, uh rates. But within the fixed income, there are areas where there is value and, but generally, I think that the fed will have to come back after the skip in this week's meeting, but uh they will have to come back and hide quite a bit.

I'm not particularly bullish at all, uh, in general in terms of duration, in terms of, uh rates. But within the fixed income, there are areas where there is value and, but generally, I think that the fed will have to come back after the skip in this week's meeting, but uh they will have to come back and hide quite a bit.

All right. Hold on to that thought, we will get a deeper into that later. But before we go in that direction, I just wanted to ask you your overall sense, you know, given this debt ceiling saga and the fact that us fiscal debt GDP ratio is, you know, in triple digit territory,

All right. Hold on to that thought, we will get a deeper into that later. But before we go in that direction, I just wanted to ask you your overall sense, you know, given this debt ceiling saga and the fact that us fiscal debt GDP ratio is, you know, in triple digit territory,

w what would allow for a political consensus to fiscal consolidation or is it just hopeless regardless of Republicans or Democrats, we will not see meaningful fiscal consolidation in years if not decades.

w what would allow for a political consensus to fiscal consolidation or is it just hopeless regardless of Republicans or Democrats, we will not see meaningful fiscal consolidation in years if not decades.

Uh Yes. And uh I think that we will not see any um any sort of fiscal consolidation in years to come.

Uh Yes. And uh I think that we will not see any um any sort of fiscal consolidation in years to come.

And uh there's a lot of it in the there will be increase in borrowing coming from new sources. Of the some of the trust funds are running out by the end of this decade. So those will have to be run as ongoing entities going forward. So there is a lot more insurance needed and this, sorry,

And uh there's a lot of it in the there will be increase in borrowing coming from new sources. Of the some of the trust funds are running out by the end of this decade. So those will have to be run as ongoing entities going forward. So there is a lot more insurance needed and this, sorry,

I just want to interrupt you for one second. So by trust funds, you mean social security related

I just want to interrupt you for one second. So by trust funds, you mean social security related

trust fund by Medicare,

trust fund by Medicare,

if Medicare especially is running out uh sometime uh within the next 89 years. And so the amount of the borrowing that needs to be done just to replenish the trust funds or making it an ongoing uh making it ongoing rather than using trust fund. Uh will the borrowing will go up a lot but interest payments is going up also astronomical level, we keep touching a trillion a year and these high rates.

if Medicare especially is running out uh sometime uh within the next 89 years. And so the amount of the borrowing that needs to be done just to replenish the trust funds or making it an ongoing uh making it ongoing rather than using trust fund. Uh will the borrowing will go up a lot but interest payments is going up also astronomical level, we keep touching a trillion a year and these high rates.

So you uh yes, I I I don't see any sort of fiscal consolidation coming up or any kind of ignorance,

So you uh yes, I I I don't see any sort of fiscal consolidation coming up or any kind of ignorance,

right? So it goes back to your earlier point of not being particularly constructive of this income outlook. Um So a few months ago, I was visiting you in Washington DC and we were talking about the information content in the yield curve. Uh It's deeply inverted, it expects lots of cuts within a 12 to 18 month horizon.

right? So it goes back to your earlier point of not being particularly constructive of this income outlook. Um So a few months ago, I was visiting you in Washington DC and we were talking about the information content in the yield curve. Uh It's deeply inverted, it expects lots of cuts within a 12 to 18 month horizon.

Uh Is it necessarily pricing and recession and rate cuts or there's something else going on with respect to the market structure that we tend to have such steeply inverted yield curve?

Uh Is it necessarily pricing and recession and rate cuts or there's something else going on with respect to the market structure that we tend to have such steeply inverted yield curve?

I I, I don't think it's, uh, maybe a little bit of recession, but I don't think it's, uh, reflecting recession or impending recession. Because if you look back a year ago, the curve was equally sort of like a hockey stick shape is steep decline for the next

I I, I don't think it's, uh, maybe a little bit of recession, but I don't think it's, uh, reflecting recession or impending recession. Because if you look back a year ago, the curve was equally sort of like a hockey stick shape is steep decline for the next

eight quarters and fairly flat after that. And it remained the same shape for last one year. So, if the yo was any predictor of recession, recession would have uh come any uh already by this time. But there's no sign of recession. And I don't think when it comes, it will be uh

eight quarters and fairly flat after that. And it remained the same shape for last one year. So, if the yo was any predictor of recession, recession would have uh come any uh already by this time. But there's no sign of recession. And I don't think when it comes, it will be uh

nowhere close to where the yield curve is telling us. I think yellow curve reflects uh mostly markets

nowhere close to where the yield curve is telling us. I think yellow curve reflects uh mostly markets

extremely positioned for uh the carry that's available. It's unusually large carry from uh betting against the easing that's pricing the curve and it's so large that it doesn't allow the curve to move much. So every time fed height, then the market rep prices one more height and then in the curve and not the terminal rate

extremely positioned for uh the carry that's available. It's unusually large carry from uh betting against the easing that's pricing the curve and it's so large that it doesn't allow the curve to move much. So every time fed height, then the market rep prices one more height and then in the curve and not the terminal rate

and then an offsetting ease after that. And that reflects more positioning rather than uh a any kind of uh recession uh ahead of us. And I don't think us is anywhere near a recession.

and then an offsetting ease after that. And that reflects more positioning rather than uh a any kind of uh recession uh ahead of us. And I don't think us is anywhere near a recession.

OK. So the flip side of the uh lack of, you know, information content in the um inversion of the yield curve is also the question that what are the uh inflation expectations market telling us? So when we look at tips for the five plus five implied inflation rate, very well anchored 2.4% 2.5% that doesn't shift. Although in the near term, everybody seems to be rather worried about inflation. How do you reconcile these two uh perspectives coming from the market?

OK. So the flip side of the uh lack of, you know, information content in the um inversion of the yield curve is also the question that what are the uh inflation expectations market telling us? So when we look at tips for the five plus five implied inflation rate, very well anchored 2.4% 2.5% that doesn't shift. Although in the near term, everybody seems to be rather worried about inflation. How do you reconcile these two uh perspectives coming from the market?

I think the tips curve is under pricing. Um

I think the tips curve is under pricing. Um

The the tips uh break evens like in the intermediate part of the curve uh real rate at so 17 sort of range, um 10 years sort of uh 1 61 51 60 range. The uh the break even on between 2 25 I to 2 40 I uh break that break even is really low. The the you can look at

The the tips uh break evens like in the intermediate part of the curve uh real rate at so 17 sort of range, um 10 years sort of uh 1 61 51 60 range. The uh the break even on between 2 25 I to 2 40 I uh break that break even is really low. The the you can look at

many sources to compare why I think it's the first Michigan uh consumer expectation one year forward one year, it's still 4%. And so 4% minus 2.25, you have 175 basis points gap between what consumers are expecting versus what the tip curve tip curve is staying at.

many sources to compare why I think it's the first Michigan uh consumer expectation one year forward one year, it's still 4%. And so 4% minus 2.25, you have 175 basis points gap between what consumers are expecting versus what the tip curve tip curve is staying at.

Uh So I think that the real rate either the real rate is too low uh at five year at 1 70.

Uh So I think that the real rate either the real rate is too low uh at five year at 1 70.

Uh And remember also that the Michigan consumers uh one year ahead forecast is actually very reliable. If you look at 2000 and uh 21 when even uh Chairman Powell was saying transitory, et cetera, et cetera, the Michigan consumer expectation was actually fairly high.

Uh And remember also that the Michigan consumers uh one year ahead forecast is actually very reliable. If you look at 2000 and uh 21 when even uh Chairman Powell was saying transitory, et cetera, et cetera, the Michigan consumer expectation was actually fairly high.

And uh so, and that's, that's more of what the consumers are feeling on a day to day basis. So my feeling is that the market is uh somewhat underpricing either uh future uh inflation or uh uh or uh also underpricing the fact that uh some

And uh so, and that's, that's more of what the consumers are feeling on a day to day basis. So my feeling is that the market is uh somewhat underpricing either uh future uh inflation or uh uh or uh also underpricing the fact that uh some

uh sources of inflation are robust and chances of coming back up is very high. And one of them that I'm watching quite closely is rental inflation.

uh sources of inflation are robust and chances of coming back up is very high. And one of them that I'm watching quite closely is rental inflation.

So they initially the views among economists where that there is a 12 month lag uh between the real time rental measures and the shelter component of CPR and it will gradually get incorporated. And so the expectation was that uh we'll see the shelter component gradually uh decline and which has been the case.

So they initially the views among economists where that there is a 12 month lag uh between the real time rental measures and the shelter component of CPR and it will gradually get incorporated. And so the expectation was that uh we'll see the shelter component gradually uh decline and which has been the case.

But if you look at the recent data on rental, whether it's uh zero dot com or if you see the rental uh read uh the margins and the profits of rental rates, the pricing power is very high in the rental uh in the apartment industry. And also the rent versus buy decision is that is obvious that uh rent overwhelms buying

But if you look at the recent data on rental, whether it's uh zero dot com or if you see the rental uh read uh the margins and the profits of rental rates, the pricing power is very high in the rental uh in the apartment industry. And also the rent versus buy decision is that is obvious that uh rent overwhelms buying

because of the mortgage rate and the monthly payment. So rental is coming back real time rental is coming back up. So it will be another shock few months down the line that we'll start to see shelter components to P I instead of declining as expected starts to go back up.

because of the mortgage rate and the monthly payment. So rental is coming back real time rental is coming back up. So it will be another shock few months down the line that we'll start to see shelter components to P I instead of declining as expected starts to go back up.

So uh all of these are not priced in the tips market. So that's one of the recommendation I'm making our clients is uh a long term uh value of the curve value of the tips curve is probably good value plus. Uh this whole question of uh is this R star et cetera, which I I'm nervous about

So uh all of these are not priced in the tips market. So that's one of the recommendation I'm making our clients is uh a long term uh value of the curve value of the tips curve is probably good value plus. Uh this whole question of uh is this R star et cetera, which I I'm nervous about

uh of piling on uh that whether our star has gone up a lot and what it is et cetera uh is given, given all the other things that have been changing structurally. Um buying tips is probably a good idea.

uh of piling on uh that whether our star has gone up a lot and what it is et cetera uh is given, given all the other things that have been changing structurally. Um buying tips is probably a good idea.

That's very interesting. So I have to say that one hand, you know, there is this question, whether the R star is going up or not. And then there is this question of this R star star, the financial stability related interest rate, whether that the system cannot really absorb the actual R star, it'll collapse long before that. Um So it seems to me that the market is also sort of betting on that, that, you know, 2% inflation will never happen,

That's very interesting. So I have to say that one hand, you know, there is this question, whether the R star is going up or not. And then there is this question of this R star star, the financial stability related interest rate, whether that the system cannot really absorb the actual R star, it'll collapse long before that. Um So it seems to me that the market is also sort of betting on that, that, you know, 2% inflation will never happen,

any attempt to get there would create a major financial crisis. So let's just not assume that inflation will stay high uh or rates will stay high even if inflation stays high. I'm gonna come back to that because I want to ask you two questions on us, fiscal and monetary policy. The first one is fiscal, then we'll come back to monetary in a second. So Larry Summers famously, almost two years ago, wrote that the Biden administration

any attempt to get there would create a major financial crisis. So let's just not assume that inflation will stay high uh or rates will stay high even if inflation stays high. I'm gonna come back to that because I want to ask you two questions on us, fiscal and monetary policy. The first one is fiscal, then we'll come back to monetary in a second. So Larry Summers famously, almost two years ago, wrote that the Biden administration

um repeated fiscal measures were going to be stimulatory excessively. So, and would be inflationary. Now, he had made other nuanced arguments, but that's the argument that is stuck and he's become so extra famous for making that. So, are you in his camp that the last couple of intimate measures on the Biden administration coming into office in 2021 was the, so the Camels back if you will, that was broken and inflation picked up because of that.

um repeated fiscal measures were going to be stimulatory excessively. So, and would be inflationary. Now, he had made other nuanced arguments, but that's the argument that is stuck and he's become so extra famous for making that. So, are you in his camp that the last couple of intimate measures on the Biden administration coming into office in 2021 was the, so the Camels back if you will, that was broken and inflation picked up because of that.

Yes, I totally agree with that. I think that uh that took us to about six trillion of uh fiscal spending. And remember the student loan forgiveness is still sitting in the court system and that will push uh add another trillion into the system. So uh uh I totally agree with uh Larry Summers on this point that we actually went pretty far

Yes, I totally agree with that. I think that uh that took us to about six trillion of uh fiscal spending. And remember the student loan forgiveness is still sitting in the court system and that will push uh add another trillion into the system. So uh uh I totally agree with uh Larry Summers on this point that we actually went pretty far

uh even before the Biden a station, the in terms of the responses to the uh to COVID. But that's sort of hard to judge because if no one knew at that time, uh what the, what the total impact of COVID would be. But in the last couple of years, it's known and we COVID is under control and we are still spending uh almost out of control. So I think I, I totally agree that uh the fiscal

uh even before the Biden a station, the in terms of the responses to the uh to COVID. But that's sort of hard to judge because if no one knew at that time, uh what the, what the total impact of COVID would be. But in the last couple of years, it's known and we COVID is under control and we are still spending uh almost out of control. So I think I, I totally agree that uh the fiscal

uh impulse has been a key driver of the uh demand side of the inflation. Equation at least.

uh impulse has been a key driver of the uh demand side of the inflation. Equation at least.

And the supply side was already there.

And the supply side was already there.

Right. Right. And, and now we're seeing supply side easing, but the demand side is still not going away

Right. Right. And, and now we're seeing supply side easing, but the demand side is still not going away

and, uh, unlikely to go anytime soon.

and, uh, unlikely to go anytime soon.

Right. Ok. But what about the fat? I mean, do you have any sympathy for the ft that it's easy for us to look back and say they should have started hiking much earlier. But given the information they had at that time, uh they probably did the best they could. I'm sort of using the Paul Krugman argument. Do you have any

Right. Ok. But what about the fat? I mean, do you have any sympathy for the ft that it's easy for us to look back and say they should have started hiking much earlier. But given the information they had at that time, uh they probably did the best they could. I'm sort of using the Paul Krugman argument. Do you have any

sympathy with that?

sympathy with that?

Uh

Uh

Not as much because I think that uh F F I, I, I think that the fed has uh fed had uh or rather, I'd rather say that this fed

Not as much because I think that uh F F I, I, I think that the fed has uh fed had uh or rather, I'd rather say that this fed

even before all the dash New Davis members join is inherently Davi.

even before all the dash New Davis members join is inherently Davi.

And so they want always an excuse not to hike even now, uh You see, uh the, this whole skip versus pause, there is the wording. So there is an inherent ness in the Fed and this whole uh transitory versus permanent and leaning towards transitory and then suddenly change. All the impatient data was

And so they want always an excuse not to hike even now, uh You see, uh the, this whole skip versus pause, there is the wording. So there is an inherent ness in the Fed and this whole uh transitory versus permanent and leaning towards transitory and then suddenly change. All the impatient data was

fairly strong throughout 2021. Not until November that the chairman uh first time mentioned something about non transitory. So I, I do believe that there, there, there, there was a somewhat of a policy error in 2021 we are paying some price for that.

fairly strong throughout 2021. Not until November that the chairman uh first time mentioned something about non transitory. So I, I do believe that there, there, there, there was a somewhat of a policy error in 2021 we are paying some price for that.

Um Earlier, you said that you don't necessarily see a major recession on the horizon. You see rental prices, you know, again, ratcheting up demand being strong.

Um Earlier, you said that you don't necessarily see a major recession on the horizon. You see rental prices, you know, again, ratcheting up demand being strong.

Um but we've had substantial policy tightening in the last year. Mustafa, and we saw perhaps a bit of that percolating through the banking system in March and April. Are you worried that there are other areas, there are other fault lines to borrow a phrase from Ra Ra Rajan that there are other fault lines that are lurking here and there that would uh cause us some distress by forward.

Um but we've had substantial policy tightening in the last year. Mustafa, and we saw perhaps a bit of that percolating through the banking system in March and April. Are you worried that there are other areas, there are other fault lines to borrow a phrase from Ra Ra Rajan that there are other fault lines that are lurking here and there that would uh cause us some distress by forward.

Um

Um

within the banking system there is I I'm not sure prices personally. Uh

within the banking system there is I I'm not sure prices personally. Uh

in terms of the way the market is positioned, I wanted to uh mention that before I answer this question. If you look at the market,

in terms of the way the market is positioned, I wanted to uh mention that before I answer this question. If you look at the market,

the Silicon Valley Bank news when it came out on the first week of March, the interest rate, the two year rate rallied something like 125 basis points almost overnight.

the Silicon Valley Bank news when it came out on the first week of March, the interest rate, the two year rate rallied something like 125 basis points almost overnight.

And then whenever we get a news about heights, it doesn't sell off. So there is an asymmetry in the market. So the the rallies are big if a bad news arrives, but the selloffs are not are sort of gradual. It just shows where the vulnerability lies in the market. The market, the bond market is vulnerable to bad news, bad banking news. It's just that banking, bad banking news

And then whenever we get a news about heights, it doesn't sell off. So there is an asymmetry in the market. So the the rallies are big if a bad news arrives, but the selloffs are not are sort of gradual. It just shows where the vulnerability lies in the market. The market, the bond market is vulnerable to bad news, bad banking news. It's just that banking, bad banking news

is not happening.

is not happening.

Uh The the interest of uh in terms of the strength, why this session is less likely announced when the fault lines are coming, the strength of the market,

Uh The the interest of uh in terms of the strength, why this session is less likely announced when the fault lines are coming, the strength of the market,

uh the, the fed, the and also the economist commu the analyst community et cetera, all sort of misread and constantly under uh predicting the payrolls that 15 months in a row that the payroll forecasts have been lower than realized. So the everyone's forecasting a recession, but it's not happening. I think that one of the things that

uh the, the fed, the and also the economist commu the analyst community et cetera, all sort of misread and constantly under uh predicting the payrolls that 15 months in a row that the payroll forecasts have been lower than realized. So the everyone's forecasting a recession, but it's not happening. I think that one of the things that

the most ignored has been how strong the households are,

the most ignored has been how strong the households are,

the and most of that is because of the lock in effect,

the and most of that is because of the lock in effect,

uh that they're locked in a 2.5 to 3% mortgage, but they stay, they close to 7% that created a lot of implied wealth in the housing household balance, even if it doesn't show up in the bank account and the impolitic to take risk uh for the households as well.

uh that they're locked in a 2.5 to 3% mortgage, but they stay, they close to 7% that created a lot of implied wealth in the housing household balance, even if it doesn't show up in the bank account and the impolitic to take risk uh for the households as well.

And so what it really means is that

And so what it really means is that

any, any kind of credit tightening does not seem to affect the households, uh They seem to be rock solid fan. Uh And I think it, that's that that whole lock in effect is way bigger and has not been in anybody's model because there is no data uh from the past for the lock in effect.

any, any kind of credit tightening does not seem to affect the households, uh They seem to be rock solid fan. Uh And I think it, that's that that whole lock in effect is way bigger and has not been in anybody's model because there is no data uh from the past for the lock in effect.

So when it left leaves us, so we can't tighten credit for households because they're coming to this hiking cycle. So strong and getting stronger. Um

So when it left leaves us, so we can't tighten credit for households because they're coming to this hiking cycle. So strong and getting stronger. Um

But at the same time, firms are gradually starting to um with show weakness. And the first we start the pricing power and the the ability to maintain margin that's starting to deplete somewhat. And the weak link really is, uh in my opinion, coming from, eventually come, already started coming from and get bigger is the small banks

But at the same time, firms are gradually starting to um with show weakness. And the first we start the pricing power and the the ability to maintain margin that's starting to deplete somewhat. And the weak link really is, uh in my opinion, coming from, eventually come, already started coming from and get bigger is the small banks

to small firms

to small firms

to jobs and then demand as opposed to path when we had demand directly from tightening credit to consumers.

to jobs and then demand as opposed to path when we had demand directly from tightening credit to consumers.

So there is a few steps that will happen. And that's where the main uh a measure weekly because I'm, I'm playing with some data on uh small banks, uh financial statements for the first quarter. And I see that

So there is a few steps that will happen. And that's where the main uh a measure weekly because I'm, I'm playing with some data on uh small banks, uh financial statements for the first quarter. And I see that

almost all of them have significant decline in non-interest deposits. And then they have replaced that with higher interest rate bearing deposits uh or a home loan advances which are full interest rates, et cetera. So the margin is compressing much faster than the aggregate data show that. And if you look at the behavior of the small banks in the United States,

almost all of them have significant decline in non-interest deposits. And then they have replaced that with higher interest rate bearing deposits uh or a home loan advances which are full interest rates, et cetera. So the margin is compressing much faster than the aggregate data show that. And if you look at the behavior of the small banks in the United States,

they tend to uh lend, they, they, they usually don't have securities and they lend to small businesses that are mostly relationship based

they tend to uh lend, they, they, they usually don't have securities and they lend to small businesses that are mostly relationship based

and as uh the margins compressing for small banks, the small big businesses will have the first hit in terms of credit availability from small banks. And we are already seeing that, that some of the survey results for small businesses, uh N F I B et cetera. Uh The creditability for small businesses are

and as uh the margins compressing for small banks, the small big businesses will have the first hit in terms of credit availability from small banks. And we are already seeing that, that some of the survey results for small businesses, uh N F I B et cetera. Uh The creditability for small businesses are

uh compressing and so, and the jobs, a large portion of the job in the US are actually small firms. And so that's where we'll see uh the, the weak link coming. Uh but that it's slower process than in the past. And, but that's that I think is uh a major weakness uh going forward.

uh compressing and so, and the jobs, a large portion of the job in the US are actually small firms. And so that's where we'll see uh the, the weak link coming. Uh but that it's slower process than in the past. And, but that's that I think is uh a major weakness uh going forward.

First of all, what about the link between banks and commercial real estate?

First of all, what about the link between banks and commercial real estate?

Uh If there is a uh

Uh If there is a uh

commercial deals, say that you know, that um really uh vulnerable

commercial deals, say that you know, that um really uh vulnerable

uh with the vacancy rate uh and office properties is extremely large. Uh so, but proportionate. So there will be vulnerability uh especially the same banks that are uh also uh the small banks will also be hit with the commercial real estate uh but also commercial C N I loans for local small banks. But middle price banks um

uh with the vacancy rate uh and office properties is extremely large. Uh so, but proportionate. So there will be vulnerability uh especially the same banks that are uh also uh the small banks will also be hit with the commercial real estate uh but also commercial C N I loans for local small banks. But middle price banks um

uh will also be hit somewhat with the commercial real estate as they reprice uh going forward.

uh will also be hit somewhat with the commercial real estate as they reprice uh going forward.

Uh But they are not

Uh But they are not

the size of the commercial real estate market is still not big enough to cause a serious systemic risk of the kind that we have seen in 2008 and nine from uh residential real estate.

the size of the commercial real estate market is still not big enough to cause a serious systemic risk of the kind that we have seen in 2008 and nine from uh residential real estate.

Um What about non-bank financial institutions? I mean, over the last decade and I have private equity venture capital, these entities have played such a big role in fundraising, financing, the expansion of the tech cycle and perhaps even going forward the industrial policy that is being pursued by the US government. Um Where do you see those sort of

Um What about non-bank financial institutions? I mean, over the last decade and I have private equity venture capital, these entities have played such a big role in fundraising, financing, the expansion of the tech cycle and perhaps even going forward the industrial policy that is being pursued by the US government. Um Where do you see those sort of

financial models which are highly leveraged, which tend to be, you know, long gestation period? Can they survive this spike in interest rates?

financial models which are highly leveraged, which tend to be, you know, long gestation period? Can they survive this spike in interest rates?

Um I the, the, the uh those are uh

Um I the, the, the uh those are uh

I don't know the survival question, but those are, there is

I don't know the survival question, but those are, there is

need to study more of those in general. But in the analyst circle, uh there is always uh the question of what, what does the price thing mean in private equity? Uh the all of the, the whole industry is dependent on the fact that uh this sector is not market to market and therefore will survive. Uh So the point

need to study more of those in general. But in the analyst circle, uh there is always uh the question of what, what does the price thing mean in private equity? Uh the all of the, the whole industry is dependent on the fact that uh this sector is not market to market and therefore will survive. Uh So the point

uh the thing to look for is what are the events that will lead to market to market uh for venture capital, for example. And so they all of that will depend on the funding uh as they go for refunding and every time they go for refunding, they get there is a uh mark to market event for private equity. So a lot of this, it is

uh the thing to look for is what are the events that will lead to market to market uh for venture capital, for example. And so they all of that will depend on the funding uh as they go for refunding and every time they go for refunding, they get there is a uh mark to market event for private equity. So a lot of this, it is

uh I I think that will happen, the leverage, the refunding will be based on the amount of leverage uh in that particular industry. And uh so it may be a little slower but there is some vulnerability there

uh I I think that will happen, the leverage, the refunding will be based on the amount of leverage uh in that particular industry. And uh so it may be a little slower but there is some vulnerability there

if we are indeed going to have a higher for longer interest rate environment. Comment on the international ramifications of that every time we have seen an interest rate cycle of the US, it's caused emerging market distress going back to the eighties. Uh who's gonna get hurt and how bad will be that pain?

if we are indeed going to have a higher for longer interest rate environment. Comment on the international ramifications of that every time we have seen an interest rate cycle of the US, it's caused emerging market distress going back to the eighties. Uh who's gonna get hurt and how bad will be that pain?

Uh I think it's always the emerging market seems to pay a price uh as the interest rates um increase. Uh take for example what I think. Uh, so we will have no hikes this week, but in July, we will have another hike and, um, and maybe one or two more hikes the rest of this year. So that, uh, the, the, we had a little bit of a do in dollar, but we will start to see,

Uh I think it's always the emerging market seems to pay a price uh as the interest rates um increase. Uh take for example what I think. Uh, so we will have no hikes this week, but in July, we will have another hike and, um, and maybe one or two more hikes the rest of this year. So that, uh, the, the, we had a little bit of a do in dollar, but we will start to see,

uh, and this next 100 basis point of hike would be a surprise for the market because everyone's thinking, oh, it's already too high. It's the end of the hiking cycle. But suddenly we are heading for 6, 6.5 in rate. And so the dollar, uh, will come back into play and, um, hit the emerging market. Uh, I think fairly hard that if the dollar, uh starts, uh, we already, uh,

uh, and this next 100 basis point of hike would be a surprise for the market because everyone's thinking, oh, it's already too high. It's the end of the hiking cycle. But suddenly we are heading for 6, 6.5 in rate. And so the dollar, uh, will come back into play and, um, hit the emerging market. Uh, I think fairly hard that if the dollar, uh starts, uh, we already, uh,

being three towards, uh, with the euro. Uh, so, uh, I think probably about one oh 51 oh six now. And so that's, um, I worry about that a lot in terms of the US consumers being so strong leading to,

being three towards, uh, with the euro. Uh, so, uh, I think probably about one oh 51 oh six now. And so that's, um, I worry about that a lot in terms of the US consumers being so strong leading to,

uh, in, in, in, uh, inflation, persistent more height than

uh, in, in, in, uh, inflation, persistent more height than

already happened, which should be a complete surprise to both analyst circle and the market. And uh at the end, emerging markets and FED has not absolutely always ignored that part of their policy decision.

already happened, which should be a complete surprise to both analyst circle and the market. And uh at the end, emerging markets and FED has not absolutely always ignored that part of their policy decision.

So I share your concern that yes, of course, you know, interest rate channel is one that will create refinancing risks all around the world. But this dollar channel in my view is even more underpriced because everybody that I talked to in the street is basically be the dollar. They think the fed is about to pause time to go along. Euro long y et cetera. If that scenario that you're contemplating that there are several more hikes left in this cycle.

So I share your concern that yes, of course, you know, interest rate channel is one that will create refinancing risks all around the world. But this dollar channel in my view is even more underpriced because everybody that I talked to in the street is basically be the dollar. They think the fed is about to pause time to go along. Euro long y et cetera. If that scenario that you're contemplating that there are several more hikes left in this cycle.

Um I think it's gonna be pretty bad uh through the channel as much as it is through the

Um I think it's gonna be pretty bad uh through the channel as much as it is through the

interest rate channel.

interest rate channel.

And most interestingly is that it will be, it will be bad for everyone else, whether it's emerging markets or even credit products like high yield. And uh but us consumers will still be fairly redeemed. Yes. Which is the interesting part of this whole uh this uh this whole uh high episode.

And most interestingly is that it will be, it will be bad for everyone else, whether it's emerging markets or even credit products like high yield. And uh but us consumers will still be fairly redeemed. Yes. Which is the interesting part of this whole uh this uh this whole uh high episode.

Yeah, or you could say the unfair part of this whole episode, the

Yeah, or you could say the unfair part of this whole episode, the

unfair part of it.

unfair part of it.

And, and I, one thing I will, I will add is uh is that I think the the that the part dependency, it's not about what the interest rate level is. It's the part which the interest rate took to get to this point is critical and everyone's ignored that. And the fact that we remained at this zero rate environment for almost a decade makes a big difference to

And, and I, one thing I will, I will add is uh is that I think the the that the part dependency, it's not about what the interest rate level is. It's the part which the interest rate took to get to this point is critical and everyone's ignored that. And the fact that we remained at this zero rate environment for almost a decade makes a big difference to

uh of uh of this uh 500 plus basis point than if it was just a V shape cut and high. But zero for many years and then coming back up has changed the structure of different participants in the economy. So we have uh the market hasn't been able to capture that and so constantly underpricing the terminal uh rate scenario.

uh of uh of this uh 500 plus basis point than if it was just a V shape cut and high. But zero for many years and then coming back up has changed the structure of different participants in the economy. So we have uh the market hasn't been able to capture that and so constantly underpricing the terminal uh rate scenario.

Very, very well put Mustafa I think that academics themselves have not spent a lot of time thinking about this a couple of episodes ago, we had Robert M Raj and he is one of those few academics who have been writing fairly consistently about this asymmetry associated with Q E versus Q T and the various applications get through the banking system. Uh You echoed it also very, very well. So yes, I I I that

Very, very well put Mustafa I think that academics themselves have not spent a lot of time thinking about this a couple of episodes ago, we had Robert M Raj and he is one of those few academics who have been writing fairly consistently about this asymmetry associated with Q E versus Q T and the various applications get through the banking system. Uh You echoed it also very, very well. So yes, I I I that

um OK. Uh Here's a final question for you. How would you construct a fixed income portfolio for next year? You've talked about the belly of the tips curve already, but give us a little more.

um OK. Uh Here's a final question for you. How would you construct a fixed income portfolio for next year? You've talked about the belly of the tips curve already, but give us a little more.

Yeah, so I the the portfolio that I have been uh recommending uh uh my clients is that the tips, of course, the value of the tips curve uh potential for. Uh and that's mainly because the fed might change its target, even if it's, they don't talk about, they won't announce it publicly, but uh just change the target to a higher level. So a good long term investment investment, I also think that the US consumer would be very solid.

Yeah, so I the the portfolio that I have been uh recommending uh uh my clients is that the tips, of course, the value of the tips curve uh potential for. Uh and that's mainly because the fed might change its target, even if it's, they don't talk about, they won't announce it publicly, but uh just change the target to a higher level. So a good long term investment investment, I also think that the US consumer would be very solid.

And so uh mortgage US M BS is a good buy even at this current level. And mainly because because of the lock in effect, American households are not moving around as much as they usually do. And so housing turnover is at its historic low record low and

And so uh mortgage US M BS is a good buy even at this current level. And mainly because because of the lock in effect, American households are not moving around as much as they usually do. And so housing turnover is at its historic low record low and

just because everyone's so happy with their mortgage, they don't want to move. But eventually there is a certain minimum amount of relocation that the society has to do so or there's only upside to uh housing turnover. And at this interest rate, housing turnover is going to be very positive for uh valuation of uh us uh mortgages. I also think that uh there's some turmoil coming up uh in terms of valuation in the next few months

just because everyone's so happy with their mortgage, they don't want to move. But eventually there is a certain minimum amount of relocation that the society has to do so or there's only upside to uh housing turnover. And at this interest rate, housing turnover is going to be very positive for uh valuation of uh us uh mortgages. I also think that uh there's some turmoil coming up uh in terms of valuation in the next few months

with the uh with especially this how this replenishment of the um the the PGA account and whether the Reserves bank reserves will have to fluctuate because of that. And that might create some happening in credit uh corporate credit products. So I will pay with some cash uh Now at this very high yield and potential for higher rates going forward.

with the uh with especially this how this replenishment of the um the the PGA account and whether the Reserves bank reserves will have to fluctuate because of that. And that might create some happening in credit uh corporate credit products. So I will pay with some cash uh Now at this very high yield and potential for higher rates going forward.

And then I jump in later in the year, maybe a few months down the line in probably there will be opportunities in high yield and also opportunities in investment grade. It seems like unusually tight for this environment. If the, the curve was reflecting recession, the brand don't show it.

And then I jump in later in the year, maybe a few months down the line in probably there will be opportunities in high yield and also opportunities in investment grade. It seems like unusually tight for this environment. If the, the curve was reflecting recession, the brand don't show it.

So on that,

So on that,

I was just gonna ask you any view on a European fixed income.

I was just gonna ask you any view on a European fixed income.

Uh the, the uh I think that they, they will probably uh well, we, we have about two hikes price in uh uh in the. So I, I still think the US will be a better buy uh in the, in the tip,

Uh the, the uh I think that they, they will probably uh well, we, we have about two hikes price in uh uh in the. So I, I still think the US will be a better buy uh in the, in the tip,

uh especially uh with the higher dollar uh staying with the US will probably.

uh especially uh with the higher dollar uh staying with the US will probably.

All right, you're, you're, you're giving us views that is not widely shared in the markets. And uh so we will remember these

All right, you're, you're, you're giving us views that is not widely shared in the markets. And uh so we will remember these

ones

ones

time. We'll catch up again a few months down the line and see if that comes back and hikes. Oh, it doesn't have to

time. We'll catch up again a few months down the line and see if that comes back and hikes. Oh, it doesn't have to

be a couple of months. I'll, I'll give you long longer than that. We'll, we'll release the six months from now and we see during the IMF animal meetings, we'll probably take stock. Uh Most of us, thank you so much for your time and insights.

be a couple of months. I'll, I'll give you long longer than that. We'll, we'll release the six months from now and we see during the IMF animal meetings, we'll probably take stock. Uh Most of us, thank you so much for your time and insights.

All episodes of copy time are available on youtube as well as an all major platform uh for podcasts including Apple Google and Spotify. As far as our research publications and webinars are concerned, you can find them all by Googling D BS research library. Have a great day.

All episodes of copy time are available on youtube as well as an all major platform uh for podcasts including Apple Google and Spotify. As far as our research publications and webinars are concerned, you can find them all by Googling D BS research library. Have a great day.