I just spent three weeks on the road talking to U.S. investors and corporations, and I wanted to share some of what people told me. I always get a lot of insight sitting down with people in small groups and discussing markets and concerns, especially as we all try to make sense of these volatile markets.
I visited large investors (primarily fixed income) and corporations (mostly the treasurer's departments) in Minneapolis, Illinois, North Carolina and Texas. Interspersed with the meetings were multiple formal calls with corporations (and the usual back and forth with asset managers).
One call that I want to highlight, in particular was with the House Finance Committee's Democratic staff ahead of new Federal Reserve Chairman Jerome Powell's recent testimony preparations. Here are some key things I learned from my road trip:
Very Few People are Worried About Long-Term Yields Rising
There seems to be a disconnect between the number of news items that I see predicting higher yields and the actual investor sentiment that's out there on the topic.
In reality, virtually everyone that I spoke with thinks that yields are contained. That doesn't connect with the hype that I hear about higher yields or the alleged short positioning that exists.
In fact, as a contrarian, I might have to revise my yield-risk expectations higher. While I still think the 10-year Treasury yield stays in a 2.7%-2.95% range, I'm more fearful that it could break 3% and maybe even hit 3.25% (especially after the monster February U.S. jobs report that we got on Friday).
They're Not Worried About Tariffs, Either
The view I heard is that all of President Trump's tariff talk is just a negotiating ploy -- nothing bad will happen, as everyone will back off at the appropriate time. It seems like people are interpreting everything in the most positive light possible.
Investors have been trained for years to buy dips, and that's what occurred even after top Trump economic adviser (and free-trade advocate) Gary Cohn resigned to protest the president's steel and aluminum tariffs.
I saw Cohn's departure as a big deal, but clearly I was wrong, as the S&P 500 surged 100 points from its low point on Wednesday. (In contrast, I did agree that Friday's monster jobs number was a great reason to rally.)
Short-Term Yields (Especially LIBOR) Are Another Matter
There were two distinct discussions that I had regarding short-term rates.
First, asset managers are generally concerned that higher front-end yields at a time when the yield curve is so flat will discourage risk-taking. Why buy 10-year Treasuries at 2.9% when the two-year Treasury is up to 2.26% -- yielding a full percentage point more than it did just in September?
Let's pick on the PowerShares Senior Loan ETF (BKLN) for a moment. This leveraged-loan ETF has a 3.63% indicated yield, which seems like a lot of additional credit risk for just over 130 basis points better than what you can get with a risk- free two-year U.S. Treasury.
Such competition from higher short-term yields Treasury could discourage flows into riskier assets, not just because the risk premium seems insufficient, but because investors can meet their income needs without that extra risk.
Meanwhile, I had some interesting discussions with debt issuers, especially those who rely on short-dated paper for their funding needs or to help their customers finance purchases. These issuers expressed concerns about how quickly costs are rising, particularly with the London Interbank Offered Rate (or "LIBOR").
I'm not sure that we're seeing the effects yet of rapidly increasing LIBOR rates, as it takes time for them to impact consumers and balance sheets. However, this is one area where markets and the Federal Reserve might be overly complacent.
Speaking of the Fed
This seems like an ideal segue to discuss the Fed. While Wall Street seems to be outdoing itself in an effort to raise predictions for the number of 2018 Fed hikes, most people I met with seemed to think that such calls have gotten way ahead of themselves.
I remain in the two- to three-hike camp, not because the Fed doesn't hope to hike more, but because:
-- Rising short-term rates are already starting to impact borrowers and consumers. Why is the Fed in a sudden panic to raise rates and potentially strangle economic growth? The higher rates' impact is already real, and the Fed needs to monitor and digest this before hiking too many more times.
-- The Fed's balance-sheet reduction is about to increase to $30 billion per month beginning in April, and observers expect that the hit as much as $50 billion a month starting in September. That's unprecedented. Maybe balance-sheet reduction won't act like a rate hike, impact front-end yields like the LIBOR or increase volatility ... but I for one think it will bring all three.
Stock Buybacks and M&A
This was a topic of discussion with everyone -- not just the issuers who are doing the buybacks, but every investor that I met.
Nothing that I heard indicates a slowdown in stock buybacks. And while mergers and acquisitions aren't quite the same as buybacks, I think we can consider them another example of corporations buying stock (just not their own).
In other words, it seems likely that corporations will continue supporting the stock market by purchasing shares of their own and/or other companies' stock.
Bitcoin and VIX
VIX and bitcoin were at the top of many people's minds back when I was last on the road in October and November, but I heard absolutely nada about either this time around.
Geopolitical risk wasn't a big topic of discussion, although energy producers and those companies for which energy is a big cost did focus on the Middle East and risk of higher fuel prices.
Otherwise, President Trump's plan to meet with North Korean leader Kim Jong-Un seemed nice to people, but they weren't really pricing North Korea in as a risk anyway.
And while cyber-risk was something that everyone wanted to discuss, they weren't sure what to do about it. Still, look for cyber-risk to be a focal point for many companies going forward -- even more so than it already is.
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