Bill Campbell on Global Bond Markets over the Near and Medium Term
In this episode of the Sherman Show, recorded the morning of May 6, 2020, Sam Lau does the weekly macro and market update; then DoubleLine’s Bill Campbell joins the Sherman Show to discuss the global markets. Mr. Campbell organizes the discussion by timeframe, for he sees the near-term risks giving way to a very different picture in the medium term, and by region, including breakouts for Europe, emerging markets and China. As he tells Mr. Lau and co-host Jeffrey Sherman, Mr. Campbell warns that risk managers may be misdiagnosing today’s investing conditions.
“We’ve been in a late-cycle phase for several years, and we’ve been waiting for the crisis that would take us into the cyclical downturn. In 2018, it was the Fed over-hiking interest rates. In 2019, it was trade. Then finally in 2020, we get the COVID crisis,” Mr. Campbell says. “And now, people have pulled out the cyclical playbooks and said, `OK, the government has come in and given a bridge loan to a lot of businesses and to individuals to try to get us to 2021.’ And then if we look out, and there’s GDP and activity repair, maybe there are a lot of good investments. I think that cyclical playbook needs to be used with an element of caution this time around. There are some serious structural changes happening in the global economy” outside of the business cycle. Among these are the rebalancing of the global supply chain away from U.S. dependence on China, changing work behaviors and consumer preferences in response to the COVID-19 pandemic, and the buildup of U.S. debt to the point of constraining economic activity. “These are big structural items that may disrupt that the cyclical playbook,” he says. Furthermore, the “full stop,” government-ordered shutdowns around the world, he notes, are different from the cyclical downturns of the past. Another medium-term factor: the Federal Reserve has injected a massive dollars into the financial system, not only via quantitative easing, but also by extending its dollar swap lines and repo facilities, including to emerging market central banks.
In contrast to rebounds in U.S. equities and corporate credit, emerging markets have less policy power to cope with crises, including the COVID-19 pandemic and related economic shock. “Emerging markets are a derivative play on growth,” Campbell says. They “need to have those growth prospects for investors to get excited to deploy capital.” Emerging markets in fact have been hit by three shocks: the COVID economic shock, the collapse in industrial commodity prices, and record outflows of foreign capital. One EM debtor Mr. Campbell likes: Peru (for its stable currency policy).
In developed markets, central banks and governments appear to have room in the near term for further monetary and fiscal action. However, looking out to the medium term, Mr. Campbell warns the debt load threatens “to hamper the ability of global growth to rebound back to the levels of even pre-crisis.” Europe faces an interesting crossroads this summer. In response to a lawsuit brought by German businesses against the European Central Bank’s asset purchase program, Germany’s constitutional court this week ruled that the ECB must explain how the program is “proportional,” i.e., not intruding into the domain of fiscal policy. The ECB has three months to respond. Mr. Campbell cautions against treating Berlin as a rubber stamp. If the German court is dissatisfied with the ECB’s answer, he believes it could stop the Bundesbank of purchasing Bunds (the sovereign bonds of Germany). This would seriously crimp ECB’s ability to implement quantitative easing. In the near term, Mr. Campbell’s developed market positioning favors investments which he thinks can weather another leg down in the risk markets. This includes “avoiding Italy completely” and exposures to the Japanese yen and to Australia while hedging out that country’s currency.
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