- Are you talking about emerging marketsfrom the equity perspective or the fixed income perspective?Because fixed income, this particular cycle,the rate tightening has shown usthat emerging markets have really evolved.They are not the emerging markets of the 1990swhere if the Fed hikes rates, they go into a stress period.Emerging market debt did very wellbecause they have extended their duration,they're much more in local currency,their fiscal balance sheets are far stronger.(upbeat music)- Indrani, thank you very much for coming along.I always look forward to a conversation with you.- Thanks, Jamie. Likewise.- Let's start in the us.Let's start with the fact that we just hadthe debt ceiling raised.I'm not sure the exact number.I think the fiscal gap now is around 7% or so,and yet the dollar remains relatively strong.I think if it wasn't the world reserve currency,the dollar would probably be a lot weaker,but we still have this fiscal gapthat needs to get solved somehow,and we also have this, you know,presidential election next year.So what do you think is going to happen here in the USin terms of resolving the debt problem,and what do you think happens to the dollar?- That is such an interesting question.This is a very nuanced question.It's not a unidirectional good or bad.So see, the repeated dead ceilingsand I would say this is a repeat.2011 was really bad this time.It got really bad.You saw the credit spreads, sovereign credit spreads,on the US really ballooned out.So while it got resolved this time,it does make the markets more jittery.Each time it happens, it's a cumulative effect.And that is certainly not good for the reserve currencybecause reserve currency depends on global confidence,it depends on the soft power of the rest of the worldlooking at the US.So certainly, it's not a good thing in that perspective,and it is true that our debt to GDP is on the higher end.It certainly crossed a hundred percent, it's about 130%.So it is getting on the higher end.The two counterpoints that I would make to thatis while it is certainly true that the UShas lost its share of the reservesglobally in the last 20 odd years,it's got dropped from about 70% to 60%,but 60% is still a very high number.And the other fact we should look atis how much of the global trade is conducted in dollar.Like, let's say US is about 10% of the global trade,but more than 50% of the global trade is settled in dollar.So I think those are indicatorsthat we should be looking at,and certainly post Ukraine conflict,the de-globalization has picked up a little more trend.Traditionally, commodities are always priced in dollar,which is why you see a very strong negative correlationbetween dollar and commodities historically.That has weakened somewhat in the last two odd years,and that very weakening of that correlation tells methat a lot more of the commodities,particularly energy trade,is happening outside the dollar world so to say.So these are some long-term headwinds.On the other hand, as Warren Buffet says,"Don't bet against the United Statesfor the simple reason that it's a verytechnologically agile," and, you know,we just might be on the cusp of the next technological boom.Just like 1990s internetand its usage into everyday worldled to a productivity boom for some time,and the US really wrote that we just might beon the cusp of another AI led boom.And if that happens, then the US could again pick upits lead relative to the rest of the world.We'll of course have to see the consequencesand the guardrails being put aside on this AI issue.But I think those are things to consider,which might work in favor of the US and the economyjust again, booms and, you know,this debt to GDP ratio becomes less relevant.And last I'll point out, I mean,there are countries like Japanwhere the debt to GDP is far higher than the US,but you haven't noticeddistinct loss of confidence in Japan.If anything, Japanese equities have really been doing wellbecause of the structural reforms that they have gotten.So I would say this is a very nuanced issues.There are certainly some headwinds,but there are lots of tailwinds too.- So in some ways it seems likeit's as simple as America is a great place for business,and therefore, it's a great place for technology to be.And in that respect, it's very difficultto ever bet against the USbecause technology is innovating so much here in the US.- Yes, I mean we have certainly reached probably the limitsof the last technology led boom.Like today in US equities, particularly the Russell 1000.Technology as an industry,the highest level 11 classification,it's almost one third.So certainly it cannot grow in relation to the economygiven where we are right now,unless a fresh boom comes in,which could either be AI, and I would also arguethe Inflation Reduction Actwith it's emphasis on clean energy, or the CHIPS Act,bringing back lots into semiconductors.You know, pure technology that embedsinto every part of the ecosystem, so to say.Because of these public sector investment,private investment has also actually gone upa lot in the last year, year and a half.The onshoring is certainly helping,so these are the kind of trends that can leadto the next economic growth boom,and then technology can grow alongside it, yes.- I wanted to ask you a little bit about China.Coming into this year, I think a lot of us, including myselfwe're expecting China to open upwith a huge amount of demand for commodities for example,and that really hasn't happenedand I'm wondering if you would liketo just comment on that, and did you expect commodity pricesto be higher than where we are,and is this China reopening much slower very deflationary,and could it actually be inflationary in the future?How do you feel about it?- To answer this question, I would saylook at the importance of what happensthrough a business cycle and what happens structurally.I think most of the time,because markets we are like constantly deep in the weeds,we overestimate the cyclicaland underestimate the structural.So China, coming out of the COVID closing,there was a lot of expectationthat China is really gonna boom,and alongside that the commodities,and it'll pull up other parts of the worldthat are very export-oriented.While certainly the growth has picked up,it has not met the expectations.I would argue because China has reached a pointwhen its structural problems need a cure, so to say.So in its last decade, two decade,China has been riding on the investment led,infrastructure led, export led growth.In the world that we are in now,much lower growth in many other parts of the world,China really needs to increase its consumptionas a part of the GDP to have a sustained high growth period.And similarly, the demographics.I mean, China has started aging distinctlywith a drop in population,and certainly drop in the working age population.So demographics which usually become a headwindwhen countries are far more developed,is hitting China at a far earlier pointin its economic cycle growth.So this is something to definitely consider in mind.And on the commodities front, I would like to say,you know, this commodities versus equities,they tend to play out in very long cycles.Typically, you'll see they play out about 10 years.So we had a long period of commodity under performance,relative to equities, which has actuallyturned around the corner.So as an asset class,commodities will probably do better relative to equitiesthan they have done in the last 10 odd years.- Interesting, that's very interesting.Thank you, Indrani.Turning back to the US,I'm interested on your thoughts on the labor market.It's been very resilient.In fact, you know, when you have a rate hike cycleas fast as we had over the past 12 months,I think many would've expected usto be in a recession right now.Where do you standon whether the US will go into recession,and where you think the labor market goes from here?- Well, I mean we have been expecting a recessionfor quite some time, simply based on the inversionof the yield curve, which most people seeas one of the most accurate predictorsof a recession coming or not.So while the yield curve, depending on whether you see10 minus two years, or 10 minus three months,they pretty much inverted last summer last fall.Going by the timing of, you know,when they invert and a recession sets in.We are probably looking at end of 2024.Something like that, or maybe early 2024.But there are a couple of things that have again changed.See, after this COVID disruption, so many people retired.Labor supply I think really got changed.So how much impact wage inflation will have on inflation,and rates increase, and subsequent impact on recession,it may well be different in this cyclethan it has been in the past.And I would again argue you'll see that in,you know, how technology is playing out,we had a very long period where higher paid employeesthey were having a different impact than lower wage,and now you are actually seeing a lot of growthin the lower wage percentage of the economy,which I would argue is a good thing.So I don't think the traditional yield curve inversionwill have the exact same impact this time roundbecause the quantitative easing over the last 10 yearshas distorted those signals a little bit.And I think labor force,because it's starting to reduce in the US,the linkage between wage inflation, inflation and ratesis different than in the past.I do think there'll be other componentslike compression in corporate marginsthat will have an impact on the inflation coming down.Rents in real time have actually startedcoming down in the last few months,and that'll flow through into the inflation numbers.So I do think the inflation numbersthat currently we are looking at,about four and a half, fivedepending on which measure you're looking at,could come down to aboutthree percentage points fairly fast.Whether it'll come down to two percentage pointsis another story, but then we have to rememberthat the two percentage points targetit's a fairly new last couple of years,and there's nothing very sacrosanctabout two percentage points per se.So as long as the reduction in inflation continuesand it comes to about three percentage points,chances are we are at pretty much at the endof the rate hike cycle, and we'll just have to seehow it plays out over the last six to nine months.But the US is a consumption led economy,so if labor force is doing well,then we have reasons to be optimisticabout a soft planning.- So it sounds like you think the Fed does have a plan,like it's got an idea of what it wants to do,or do you think that actually it's gonna be more data ledand will pause the rate hiking cycle,and then see what the data tells us and then move?Or do you think that the Fed has got a plan nowto basically pause its rate hiking cycle,and start the easing?- So given that I know about the Fedonly as much as they make statements in the public markets,obviously the recent statements by a Fed chairpersonhas indicated that they are close to at least a pausefor the simple reason that it's not justthat the absolute amountof the rate hikes have been so high,the pace has been so high.And since economic theory traditionally saysthat the effects play out over 12 to 18 months,we still have to give it time to play through the systemso that we don't enter the downside scenarioof too much too soon.So I think that's one reasonthat the Fed might go into more of a pause.Let the effects of what has already happenedshow itself in the systembefore they take a decision, and hence the data dependency.So which is why, you know the reasons we just talked aboutthat if the rental inflation plays upin inflation numbers pretty soon,corporate margins playing intothe inflation numbers pretty soon,then we have reasons to be optimisticthat we are at the end or very closeto the end of the rate hike cycle.- Indrani, I wanted to ask about emerging markets.Do you think there's gonna be more opportunityto invest there?- So, you know, opportunity to investI look at in two different ways.One is obviously the return,and also the risk adjusted return.Are you getting paid to take the risk?And the third is in a portfolio,where does it fit and where the correlationand the diversification impact is very strong?And again, are you talking about emerging marketsfrom the equity perspective or the fixed income perspective?Because fixed income, this particular cycle,the rate tightening has shown usthat emerging markets have really evolved.They are not the emerging markets of the 1990swhere if the Fed hikes rates,they go into a stress period.Emerging market debt did very wellbecause they have extended their duration,they're much more in local currency,their fiscal balance sheets are far stronger.So that's one point to remember.On the equity front, China plays a very predominant effect.China is about one third of EM equities.When you consider countries that are very dependentand linked to China together, they make up with Chinaabout 50% of the EM equities.So what happens in EM equities is very dependenton what happens to China, which we discussed.So that's why probably EM Equities are still notthey haven't picked up their under performancerelative to the developed markets for a very long time,even though emerging market debt has been doing well.But that brings me to the third partof portfolio construction, the diversification effect.And there we see, you know,people talk about de-globalization now,but if you take a slightly longer viewbetween 2000 and 2010, roughly that decade,the correlation between EM and DM about mid 85, 85% or so.In the next decade, 2010 to 2020,it dropped to about 74%.Now currently it's about low 60s,just about 60% correlation between DM and EM equities.My point being aside from the return in EM equities,the diversification benefit is very strong.So in that sense, it certainly has a role to playin a well diversified portfolio.- That's a great point about diversification.So last thing, Indrani.You say you're an optimist.Are you generally quite positivein your outlook for markets from here?- I do think so.I do think we could possibly be on the cuspnot only of a technology in the senseof AI related revolution,but even on the pharmaceutical front,the new vaccines that came out, the mRNA technology,and there's lots that's happening in healthcare.And you have to remember that we are in a worldwhere demographics, aging demographics,so anything on the healthcare front, it's very important.Anything on the technology front, very important.As long as the global economy grows, financial markets grow.That's a good thing.Any changes that happenbetween different industries, different countries,that dispersion makes for investment opportunities.But as long as the economic cyclegoes in a positive direction,I think we're all headed in the right direction.- Indrani, always so great chatting with you.Thanks for your time.- Thanks, Jamie.Always great to have a discussion with you.Thank you.(upbeat music)
