--athan: from new york city, i am jonathan ferro with 30 minutes, this is bloomberg real yield. ♪ coming up, valuations remain elevated, volatility sinks. the epicenter of the reflation trade comes unstuck and china's deleveraging campaign rocks commodities. where are the investors who turned bullish? we start with a big issue. is low volatility a sign of

investor complacency? >> we see that in equities, in credit, in interest rates, really across the board, markets are looking past almost all risks out there. >> the fix is very low and you have no real sense the markets are starting to crack. if the fed pushes their luck and titans too fast, i think that will change. seeyou are going to need to real evidence of inflation building. i happen to believe that is a real possibility on the back end of this year. right now, i think it's a bit -- i think the vix has it right. >> if the market is going to be that calm, you need to leverage your positions. you will get to a tipping point at some state. davis is here with me in new york. enough -- oksana

aronov. the theme of the week has been low volatility, not just in the equity market, but across assets and the bond market and fx as well. my question to you with that chart in mind is whether you reconcile low volatility with complacency, do the two things equal? is a bit ofk there both. when you look at what is driving it, you have a very monetary deposit -- policy helping to contributed to this low volatility environment we have been seeing. there has also been a lot of expectations around what is going to happen in terms of growth in the economy given regulatory reform, fiscal reform, and things of that nature. i think those are helping to contribute to this low volatility environment we see on the equity side, the fixed income side from treasury as well as spread product.

i think when we talk about complacency and that the volatility has been low, it is not just a week story. it is across markets and it is outstanding. there is perhaps more overvalued and more synthetically or absolutely not realisticay priced market out there than the bond market with $30 trillion of stimulus and we saw 200 billion pour into the market last year and it keeps on going unabated and it is unclear what investors are expecting to get, especially those getting exposure tracking the ag index which is at a record duration high. jonathan: the question i have asked on this program a couple of times, are you being adequately compensated for the risk you are assuming question at this is a fundamental question. looking at fixed income, are you?

>> i think you can make the argument that since volatility , the spread per unit of the volatility is actually pretty high historically, but i think it is hard to argue that there is a lot of absolute value. rates movewe saw a back up to 2010 levels, we would 6% to 8%hing like losses in traditional bond market portfolios, especially considering that most of those portfolios.ring i don't think there is enough realization out there that this is the risk that if you do see that move over a year's period of time, which is not unconscionable, those are have to losses you are looking at. jonathan: what of the -- what is the motivation to get exposure to the benchmark? what is the investment thesis

behind it? greg: for most i think it is broad-based diversification at a low cost. it is points well made in terms of valuations don't look attractive, but from a diversification benefit, bonds make sense for most investors. if you go back and look at what is happened during the worst markets -- month in the equity bonds have been the place to be. corporate and treasury bonds that provide balance and diversification. i think that is what investors are gravitating towards. oksana: that definitely true. one of the issues with taking historical analysis is that history tells us bonds historically have been not at 3% plusear, but even and they were in effect,

talents. that is no longer the case. you basically would come out even and while the equity market has the same amount of downside potential, the fixed income market does not have the same side of upside potential. disagree in terms of you are not getting compensated tremendously well. rates are very low and the isential for investor losses certainly there. however, i think you have to think at -- of what is the probability of those scenarios occurring. and i think you will probably be in this range until you get one of two things to occur. i think some of those things are to the upside and downside. to the upside, i think you would eitherneed to see through comprehensive tax reform happen or i think you would need

to see central-bank policy action that is in excess of what is already priced in. to the downside, i think the risks to the downside are what we were talking about before. does this cyclical inflationary and pulls from china start to dissipate? jonathan: over the last month what have we seen? we have seen softer data out of china. me and remarkable to other people is the only asset class really adjusted to the data change out of china. oksana: i am looking at a chart here that shows china's housing market essentially turning over somewhat and this has been the story china has gone through his credit creation and the effect it had on the housing market and that fed into em strength in general. that is another area that received sovereign type bonds and trillions in interest.

of 2016.ore than all and yet, we have not seen a significant stnger dollar this year, not significantly higher rates this year at al there is this rhetoric out there to try and explain this euphoric is resilient.m we haven't really seen the conditions that would warrant us to say that the em is resilient. an oilar was really recovery story and this year we haven't really seen the type of em.ironment that tests the i think generally the expectation is china will build -- will be dormant until the congress -- conference in the fall. greg: we think the fundamentals in em still look pretty attractive. from a fundamental standpoint, continue tocould

hold in for some time at least given what we are seeing. oksana: since i seem to be the em.m. isn here today, at the tightest five-year level right now and that maybe 100 basis points higher than the all-time tight. this is hardly a valuation. i am not think there are no ,ockets that may, looking good because certainly fundamentals very, but i think the exception would be the overwhelming sort inflows and iric question how much investors understand what they are buying and ultimately when we buy yuan, we by china. -- buy china. jonathan: china has rolled over, e.m. hasn't. why? oksana: it is going to take some time. jonathan: help me out here, why?

e.m. at the end of the day is still a higher asset class. and still -- until you see , you are going to continue to see investors flocking after higher-yielding products and that is driving some of the flows we see into the e.m. complex. oksana: here is an interesting point, too, there is certainly a global surge for yield and it seems to be a huge benefit for e.m.. yet we have another asset ass high-yieldbonds ich are not getting the love em is getting although there are pockets of that market offering significantly better compensation even on a default adjusted basis and anything around default and restructuring is a very well delineated process where you know exactly what to expect. jonathan: where in high-yield would you be buying right now? echo earlier comments, within high-yield, there are pockets in the lower rated part of the market, even

the triple c part of the market which is roughly 400 basis points above the all-time tights and defaults have been roughly 4%, but you can double that number and you are still on a default adjusted basis getting paid and i think there is this narrative a generally of confusing quality with safety whereas safety should be defined by your margin of safety, by your coupon cushion and from that perspective, you are definitely being compensated, but the flows are not reflecting it. jeff: i think the market is also taking a lot of comfort in this narrative that this is an administrative tightening. it is regulatory driven to clamp down on financial speculation and i think there is this be a that that -- it is not a fundamental growth for supply and demand type of situation and i think the market is buying into that. however, i do think you have to be careful because these are not

exactly precision instruments that they are using and so the potential for an over shirt -- overshoot exists. to the extent that china has been the epicenter of the , anytime theye are tightening or there is something going on there, i think you need to pay a bit more attention. jonathan: i love how much we trust the government with a multitrillion dollar company. i am not sure we would do that with the company -- business. much.ucunato thank you so greg davis is sticking with us. calling out the bond bulls after a lousy treasury auction. this is "bloomberg real yield." ♪ ♪

jonathan: from new york city, i am jonathan ferro. this is "bloomberg real yield." i want to take you to the auction block where commentary caused unease in the treasu auctions. the $15 billion 30 year saw wall street data stuck with the largest share since september. while the $23 billion 10 year auction had dealers absorbing a larger than usual amount, it has been more than two years since they drew more than expected. -- herew the attention wrote "lousy 10-year treasury auction. where are all the investors that turned bullish in 2015 talking about 150?" let's bring in our roundtable. oksana, the twitter account

raised a lot of eyebrows. i will not ask you to respond directly, but the story really is that the market has changed in terms of positioning. coming into the year, huge short and now a marginal long. what do you make of how the market is set up in treasuries? oksana: the market is still massively long, this kind of risk generally. long, traditional, interest rate driven. let's get that very clear. any amount of open short interest out there that fluctuates is meaningful and important to follow. if you look at individual institutional portfolios and the risk parity funds, think about the amount of leverage they are probably amassing. they are probably at or about max leverage and any kind of high frequency trading portfolio is probably low. i think talking about investors being short is way too premature

until we actually see rates move up and see how portfolios react. jonathan: greg davis, you are a privilege -- are in a privileged decision to see the flows coming across the desk. as you look at fixed income, talk about the amount of money going into something like treasuries over the last five or six months? we have been seeing it coming across the complex in a variety of areas. there has still been a lot of interest in short and -- investment products where you are getting additional yield and you are picking that up or of -- relative to the treasury market. thi that have somewhat moderate to low levels of duration and some credit spread pick up our areas we are seeing a lot of interest from investors. jonathan: the conversation that dominated the asset class was what was going to happen with d.c. and the risk was to the downside. i think the optimism from

investors that i am speaking to is kind of right down here and it is the risk to the upside that if d.c. can deliver something fundamental it will change? jeff: i think absolutely. we were probably overoptimistic about the process and the timing and there is still enormous challenges in terms of the legislative process. to the extent that now i think investors have downshifted with respect to in the -- expectations around policy, if you get something right where it is policy that is truly reform not justjust -- stimulative, there is potential for markets to react. oksana: i wanted to add one differ perspective. a lot of the discussion around rates and when they are moving up and what path of they should take, it is just on fundamentals. economic indicators are generally constructive in the u.s. and europe, but let's not forget about the technical

picture. on one hand, if you look at the three largest holders of u.s. treasuries and what they are doing, we know now the fed -- it has been suspected all along, but they said they are going to reduce the size. you have got the next two largest holders, japan and china reducing holdings of treasury since last year. hundreds of millions of dollars off their balance sheet treasury and banks have doubled the treasury holdings. what are they going to do if we do see some deregulation which i think that is one thing that is certainly reasonable to expect. jonathan: what is the balance sheet unwind. look at the end of the year? what is the actual policy look like? be aa: i think there will lot more conversation around it. i think it is hard to put any kind of specifics around it, especially in terms of how it will affect the market. generally, the market stands

toward the fed. it has been somewhat this missile. jeff: i think the fed has been sensitive about not disrupting markets that i think the balance sheet on wind will be gradual and i think they will not simply let whatever matures runoff, but my expectation would be that they would set a monthly limit that they would allow to runoff and that will be much more gradual than letting the $650 million -- or billion over the last -- next year runoff. jonathan: greg davis, is that how you view it? almost a nonevent? greg: i would not say a nonevent, but the devil is in the details. i think it will be gradual and the fed will try to figure out what impact the reduction of the balance sheet will have. we think it will be unlikely you see both of them happening at the exact same time, that they

will take a pause on the hiking cycle to see how the balance sheet unwind impacts the marketplace. jonathan: jeff cucunato from blackrock clicking -- sticking with me. treasuries throughout the week and yields grinding lower, down two basis -- about points. still ahead on the final spread, it is the week ahead featuring the -- president trump going on tour. ♪ ♪

jonathan: from new york city, i am jonathan ferro. this is "bloomberg real yield." coming up over the next week, the chinese president hosting world leaders, including the russian president as he promotes

his trade and in for structure plan. president donald trump getting his first international tour. some things on the agenda coming up in the next week. i want to bring in our roundtable including greg davis, oksana aronov, and jeff cucunato from blackrock. a question coming in from a viewer via the bloomberg terminal. on a default adjusted basis, isn't em better? oksana: the answer to that question will very much depend on what part of em. as i said, it is differentiated. if you look at the indices very simply and you are getting paid $250 over em and $850 over triple rated high yields, do not confuse quality with safety. even if you assume 1% of default e.m. versus 10% default in the andle -- you are better off

you have a much clearer picture of what your default -- what your recovery the fault may be in the high-yield space than you do in em because this year we are finding rules are meant to be broken. questions, there are no set answers to them and you have to consider all the variables. rounds the rapidfire where i ask you one question and it is one word answers only and i begin greg davis. more complacency in the u.s. or ?urope for the sovereign base greg: u.s. oksana: europe. jeff: u.s.. sell. oksana: sell. jeff: buy for now. here is the final

question for you. on the 10-year treasury, do we see 2% before 3%? yes or no? greg: no. oksana: predicting short-term -- i would lean toward no. jeff: yes. jonathan: my thanks to write davis, oksana aronov, and to jeff cucunato. a programming note, we will be speaking to the man possibly at the center of this week's white house drama, roger stone. that does it for us. you have been watching "bloomberg real yield." ♪

p.m. in new 12:30 york, by 30 p.m. in london, and 12:30 a.m. in hong kong. i'm vonnie quinn, welcome to bloomberg markets.

from bloomberg world headquarters, you're the top stories around the world. the dollar is falling with stocks. salese data on the retail in the united states. as in p five his first decline in four weeks. crude is holding $40 a barrel today. in company news, sprint and its largest shareholder is said to be in informal deal talks with t-mobile for consolidation. we will have the latest on that in the bloomberg scoop. seven finance cheats, including the u.s. treasury, are gathering in a southern italian ports.