U.S. is on a path to Japanification: portfolio manager
Yahoo Finance’s Alexis Christoforous and Brian Sozzi speak with Matt Brill, Senior Portfolio Manager at Invesco Fixed Income, about the state of the bond market.
Video Transcript
ALEXIS CHRISTOFOROUS: The Fed's virtual Jackson Hole conference is now on its second day, but the bond market is still reacting to Chair Jerome Powell's announcement that the Fed would be shifting its inflation approach and staying dovish. Here to talk about the state of the bond world is Matt Brill. He is Senior Portfolio Manager at Invesco Fixed Income.
Matt, good morning to you. You know, yesterday we had a strategist on, Michael Lee, who talked to us about the fact that he thinks the Fed has set us up to be a lot like Japan. He said that the yield curve controls are next, negative rates are in our future. Would you agree with that?
MATT BRILL: Hey, good morning. I would agree with some of that. So we are certainly on a path to Japanification, as we would call it. We do not believe that negative rates are on the table. But yield curve caps or yield curve control certainly could be. But the Federal Reserve is going to keep rates very low for a very long time. That is for certain, though.
BRIAN SOZZI: Matt, how do you believe what Jerome Powell uncorked yesterday, how will that change the future of fixed income investing?
MATT BRILL: Yeah, so it was a pretty historic day yesterday, and this was the classic fool me once, shame on you. Fool me for a decade, shame on me. So we've been looking for inflation for a long time, and it just hasn't come. And the Federal Reserve has said we need to have 2% inflation, that's our target. And that's the average that you're looking for.
And so one of the things about an average-- it's just math-- is that if it's always below, at some point, you have to be above it, and it's never been above 2%. So at this point, the Federal Reserve is basically begging the economy, begging the market for inflation, and they're saying we're going to let things run hot. But just because you want it to run hot doesn't mean you're going to get it to run hot.
And that's the biggest thing right now for the Fed, is can they actually get inflation to happen? We do believe that rates are going to stay low. You know, this is an interesting time because you've got kids going back to school. I sent my kids to second and third grade this week. And I'm thinking there's a strong likelihood they will be in high school before the Federal Reserve hikes rates again.
ALEXIS CHRISTOFOROUS: Wow. That puts it in perspective. Matt, you know, you've got higher inflation, which we know that the Fed now is changing its-- or changing it the way it looks at its inflation target. But higher inflation typically erodes the purchasing power of bonds fixed payments. So potentially, are we looking at making longer-term bonds less appealing for investors?
MATT BRILL: Yes, I mean, to a certain extent. You know, longer-term rates are low. And if you actually get inflation, you would-- you would have negative real yields from that standpoint. You know, our-- our view is that you can be in cash or you can be in-- or part of the curve in fixed income.
And right now we know that cash is anchored at zero. We know it's-- you're not going to get anything there for a very long time. So we do believe you have to go further out the curve, but not just in government securities. So governments or treasuries are really not that attractive.
The play here is-- in our opinion, is in corporate credit, particularly investment-grade credit. You can get two to three times the amount of yield by buying high-quality investment-grade credit. So it's still not the magnitude that it was years ago. However, you're going to have to adjust our lifestyles and our expectations around returns.
And we do believe that high-quality corporate credit still offers attractive valuations, particularly to the US investors-- or US investors are getting it. But if you look at it from a foreign aspect, or the Japanese aspect as you mentioned earlier, they've got negative yields over there. They have $15 trillion in negative yields around the globe. So our low yielding, but still positive yielding corporate credit looks very attractive to them, and we are selling a lot of bonds into Japan right now.
BRIAN SOZZI: Matt, do you think we will see a flood of new issuance from corporates ahead of the election, under the premise, either way, four more years of Trump, that first year uncertainty, or you get president-- you get a president Joe Biden, first year uncertainty? Why shouldn't corporate shore up their balance sheets?
MATT BRILL: So I think you're absolutely right. There's an uncertainty. We don't know which way this is going to go. I mean, at the end of the day, we think it's probably not going to be a huge market-moving event one way or another. But if it is, you might as well go ahead and issue now. So go ahead and get your debt now, and go ahead and lock these rates in.
And we are seeing corporations borrow more. We do believe that September is going to be a very large issuance of corporate credit. It'll give us an opportunity to buy some high-quality names that we hadn't been able to buy in the past at attractive yields, so we're looking forward to that.
One thing to point out, though, is that companies did already borrow a lot of money earlier in the year. They were worried about the end of the world and whether or not they were going to have access to capital anymore, so they stockpiled liquidity, and they borrowed at record rates. So companies have already borrowed a lot of debt, and they don't want to just keep buying more.
So what they're going to do now is they're going to pay off a lot of their near-term debt and replace it with longer-term debt. So that's the big trend we're going to expect. You're seeing record-breaking amounts of what are called "tenders." You know, companies cannot just buy back their own debt. They can't be like you if you're on a mortgage and just refinance it and go get a lower rate.
They actually have to pry it out of our hands and get us to give it back to them at a higher premium and then replace it with something else. So we're making a lot of money off of tenders right now of companies offering up very big premiums to get the money out of our hands and pay down that debt. And then they're then, in return, issuing new debt at very low coupon. So it's a bit of a circular thing here, but they're not actually adding net debt at this point.
ALEXIS CHRISTOFOROUS: What's the real impact for-- for investors, though, what you just explained with tenders? Is this creating a scarcity value for short-term debt right now in the market?
MATT BRILL: Yes, that's a great question, and it's twofold. One is exactly what you said. There's a scarcity of front-end debt. So if you can't get any money out of cash and companies are buying back all their front-end debt, it's going to get harder and harder to find attractively yielding securities on the front end, so we believe you want to be in now.
But the second thing is that we have sort of a saying that a-- an extended debt no longer-- can no longer default. So if companies are pushing out their maturities, then they cannot default. So this is good from a fundamental standpoint that companies are not going to have a one or a two-year maturity wall. Bonds that they have to pay off in order to survive, they've already paid them off, or they're going to be paying off. They're going to be kicking the can down the road, and that will then reduce defaults down the road, and that's very good for fundamentals as well.
ALEXIS CHRISTOFOROUS: All right, Matt Brill, Portfolio Manager at Invesco Fixed Income. Thanks for being with us today.
MATT BRILL: Thank you.
