jonathan: from new york city to our viewers worldwide, i am jonathan ferro with 30 minutes dedicated to fixed income. this is "bloomberg real yield." ♪ up,than: coming chair yellen says value waiting looks somewhat rich. draghi's words sparked a bondage antrum -- bond tantrum. did investors misjudged the speech? credit is on track for the past record. the big issue, did investors misjudge draghi's speech? >> i think it was eloquently put. >> the words were confusing, to be honest.

>> is this the titanic shift we have been waiting for? >> the speech itself, i'm not sure the market misinterpreted it. there was a very clear shift in the town relative to the last policy meeting. it was a dramatic tone. how backslide to explaining tightening is not really a tightening and i think the hope was, if you explain it that way, financial markets will not get into it. >> i did not read the statement on tuesday to be anywhere near as bearish as the market was taking it. i took it the other way. i think it was a signal from draghi that even if there is further support and tailwind, the central bank is still there. >> they need to get going early here. already they are getting going . jonathan: was it eloquent or confusing? analysts is david

and from boston, senior portfolio manager with the wells fargo asset management. let's get to the quote itself. these are the words that seem to move markets. this was at the ecb forum in portugal. >> as the economy continues to recover, the constant policy stance will become more common and theodative accompany it -- not in order to tighten it, but to make it broadly unchanged. jonathan: there with the words of president draghi. big moves in the bond market. treasury yields higher and bunds plunging. did the market misjudge the speech?

according to people familiar with the speech, a kind of did. corrected it's interesting because what the draghi said was 100% correct. they are not looking to tighten, they are looking to remove excess accommodation to keep accommodations at levels that are consistent with where financial conditions need to be. i did not view his talk as overly hawkish. i think it's a reinforcement of what he has been saying, but it came at a time when the marks were surprised. people were expecting a dovish comment. we have looked at inflation prints at the u.s. which have been low. the data has been decent globally, but nobody was expecting it to come out so strongly put by mario draghi and it caught people by surprise. >> i would actually have to argue that this is not necessarily about the short-term course of policy, but rather steepening the ecb's policy response functions, which for the last five or six years since the whatever it takes speech, no has been basically no matter the data comes out, ease, these come

ease, ease. we are returning to the policy outlook going from flat to steeper, not naturally where it was 10 to 15 years ago. jonathan: we have been aggressively pricing from central bank to central-bank, whether it's the european central bank, the bank of england, or federal reserve. across the board, excavations expectations have increased on the back of the central banks. do we now have a market that may be a little bit more in line with the reality of the direction of the central banks or in the market that may be misjudged some of the central banks this week? >> no, i think the central banks will maintain what i call really dovish posture. they are concerned about rattling the markets. we have seen this pattern before where they have strong talk and weak action. i think it as a momentary reaction to the market, but i do

not think this is the beginning of an upswing. jonathan: my colleagues at bloomberg pointing out we have this strange emerging paradox where inflation expectations are diminishing or rolling over. yet central banks redefining, recalibrating their reaction functions at the same time. how do we make sense of that? >> it's certainly puzzling. i have a chart that looks at the five-year forward inflation breaks even in the eurozone as compared to where the bund has been trading. if you take a look at the last two weeks or so, you can see the increase in inflation expectation has been linked inch worth of move, where the action has been five inches worth of a and the other moves. that's an extreme reaction, considering we have had swings much larger in terms of inflation expectation then has than has occurred in the last couple of weeks. jonathan: if you want the answer as to who holds the key to

global rates, did you get the answer this weekend? >> i don't know if i got the answer, but the first thing i look at when i come in the morning is where our bund yields and gilt yields? the u.s. has been dictated by what other banks are doing. today is a great example. we have alon a low-inflation print. core pc comes out at 1.4%. yields are higher. jonathan: as expected. jim: absolutely. but it's been on a downtick for the last several months. we are in a position where it's mattering more what the ecb and what the bank of england is doing more so than what the u.s. data is telling us. jonathan: what is on the curve? now,on my bloomberg right i'm looking at the shape of the 2/10 curve. perspective really matters a lot here. people talk about the yield curve flattening in the u.s. and certainly there have been historical periods if you look at the left kam part of the screen in 2004, where the

fed was tightening policy to slow down the economy and kill inflation. today, the yield curve has been flattening since 2011. aside from a small blip we have had from 2013, we have been in a flattening trend since 2011. i do not think the fed, which has been flatlined, the fed is really not trying to tighten policy right now. they are trying to remove excess accomodation. what i call what they are doing today is not tie tightening. jonathan: we have a change in the way the curve is flattening. last year it was a long duration, now we have a bear flat. how does that shape, do you think? >> the front and this pretty much tend to the point where it will follow what the fed is telling it and it's going to follow the data and make that assessment. the back end is for you to move more along expectation. depending on where those

inflation expectations though, so far we have been in a low, that is going to produce a flatter curve. we have the excesses of qe, all the bonds that central banks have bought, that's keeping the demand or supply duration very low in the markets and that's keeping yields very low. jonathan: how important is that for the federal reserve that we have an anchor at the back end of the yield curve? does that give them more accommodation to move? likewise for the ecb with a look , at the shakeout this week, the tightening of financial conditions, and on the periphery, is that an automatic stabilizer before they get out of the corner? give them a does little more flexibility and they can begin to unwind their long portfolio or they could try and raise short rates. that's flexibility they did not have. it does not change the fundamentals, which is their

actions will have very little effect on the real economy. it's more trading reaction. as long as inflation is low, it will be more or less pinned to low rates. jonathan: you agree? guy: i think we don't go into our bunkers and hide out for a long time. you have the strongest hand in the markets by a long shot and so far, the exit path or wind down path that was discussed in june, really does not include any management on the back end of the yield curve. one thing lost in the equation is, each year that progresses, the fed stock portfolio comes shorter in duration, whereas the markets are extending right now. there is still plenty of duration and i am not too concerned about the stock effect of central banks, at least not in u.s. dollar terms compressing long written i rates anymore. the bigger source of compression changes to the supplementary liquidity ratio rules from the

federal reserve. jim: i think we cannot look past the high level of cash for the yield. one ways to pick it up is to extend duration. as long as we see a benignly positive growth environment where inflation is not taking up, you will see more demand for longer duration assets. guy: we started this conversation about the 210 spread and on a historical basis, we are only roughly in the 40th or 50th percentile of what that to 10 spread is, so all this drama a week ago about a flattening yield curve, only a little bit below average. jonathan: we've got an opposite story of the one last week. now we are talking about the yield curve going steeper. are we trapped in this range of 215 to 260 and we bounce around between it? guy: we just published the update for the balance of 2017, 2018, and took down our forecast range from 220 down to a to 60.

-- 28 260. the primary reason for that is inflation in the united states is essentially a random variable in the short-term and it down shifted a little bit and pulled the entire curve down with it and we are stuck in that range. jonathan: do you agree with that? outside of the drama and the future of central banks, we have a wimpy bond market yes, and this may be an inflection point. margaret: that's right. for the last how many years from the end of 2008, we have been in this trading range for the 10 year and we have not broken out on the upside, which people have been hoping. it's because inflation is anchored in a low rate, so where can they go in the intermediate term? nowhere. that is why we are cycling around. jonathan: stick around. coming up next on this program, "bloomberg real yield," the auction block.

a record year of investment rates apply. from new york city to our viewers worldwide, you are watching bloomberg. ♪

♪ i am jonathan ferro. this is "bloomberg real yield." i want to head to the auction block now. we talked about a few debt deals. one came back to the market quickly. charter communications sold at $1.5 million a bond. the company sold secure debt, which hired secure ratings last week. over in investment grade, we have of course hit the midpoint of the year, 2017 sales of u.s. high-grade corporate bonds are on track to surpass 2016's record, total volume reached $768 billion, 4% ahead of last year's tally at this time.

in and sovereigns, treasuries $28 billion worth of seven-year notes have drew a a yield just over 2% with a ratio of 2.46, the lowest since january. and below the 2.53 average. still with us around the table guy lebas, and margaret from wells fargo asset management. earlier this week, we heard from the fed chair and in fact locally, we had a series of central banks worried about financial stability. rich asset prices, and risk. do you take notice of what they have to say about asset prices? margaret: i think what they really are saying is that they are extremely sensitive to upsetting the financial markets. most of the zero rate policy that they followed has caused money to flow into financial assets rather than raising the economic growth rate. so of course, they are very concerned about the reverse

happening, lower financial asset prices cascading into the real economy. the real economy looks good at this point. jonathan: the real economy looks pretty good, but what interests me in terms of risk this week is that equity fell out a couple of days, bonds were plunging a couple days, investment credit hung tough. high-yield was ok. ig spreads, still tight. credity was performing so well when the rest of the market was experiencing a series of misses? jim: like in the last segment, yields are in a range. volatility is still low. the likelihood you will capture that is still pretty good. that's the way to markets are thinking. where else are we going to go for yield? high-yield, security? there's a lot of different things you can do. there has been an insatiable demand for fixed income product, now we will see 12 months from now if rates rise. that has got to be the catalyst.

you need to see rate rise and the shock, or you could see a financial event take place. jonathan: was that a sign of resiliency or complacency? guy: i want to pull two pieces of your earlier, a part. -- earlier comment apart. on the id side, one of the keys here today was the source of issuance. increasingly we are seeing tech companies becoming the dominant net issue of new debt and guess what was buying that debt? in many cases, tech companies. these are entities like apple -- i'm taking on them for no particular reason. they have that cash with investment managers. they buy bonds and issue bonds in the u.s. and provide various functions to tax arbitrage. -- basically to avoid tax arbitrage. they are both the source of supply and demand. if you strip out that number, is there an increase in supply for 2017? i doubt it coul. jonathan: is there a story here?

maybe something else is going on? margaret: i think it shows you there is continued voracious demand for higher income securities. as far as looking at high-yield markets, so far is here for the -- this year for the last couple of years, over half the gross issuance has been to take out other debt, pay off bank lines, to pay off existing higher coupon high yield bonds. companies are going crazy in the high-yield market. they have improved their balance sheets and that's what makes the spread so resilient. fundamentals are good. guy: they're not high on the historical basis. at the same time, spreads are not historically tight. spreadsnted give some pretty high during the financial crisis, but that does not screen rich to me. jonathan: how do you think about that, as the spread or absolute nominal yield? because nominally, they are incredibly low. guy: they are incredibly low.

in the ig space, we think about everything as spreads. in the high-yield space, because there is a floor for return on investors, i would have to argue it is nonlinear to some degree, but nonetheless spread high yields are relatively tight, not as low as 2014. jim: i think you are hitting on the right question. there is the duration component to this risk. when you construct a portfolio and think about putting a portfolio bonds, there is a duration component to it. the lower yields go and the tighter spreads get, the more duration you have. you are exposed to a shock higher move in rates. that's something but we do at morgan stanley investment management is balance that risk. a lot of the funds, we strip at out that interest rate component and isolate the credit component. i agree with god. guy. in some cases, when we look at

spreads and yields, they can be attractive for a period of time. jonathan: do you see that as well -- the increase in the effect of duration risk and the risk around it? margaret: when i look at high-yield, you are taking fundamental credit risk. that's how you lose money. it's better to have a longer than average duration risk and high yields because it is not in the risk of rates. you have 360 basis points, which i don't think is coming and when you look at the default rate at 2%, that is a low risk market. you are being paid to extend duration and the high-yield market and get that extra yield. jonathan: i get the rest of the last 10 years has been central-bank policy. are the central banks still your friend? guy: there's certainly going the wrong way to be good friends. with the federal reserve

tightening, the next step the ecb tightening. it's pretty unclear about the next step for the boe. the only front we have is over in asia, the bank of japan, for the most part right now. that said, whether a central bank is supporting or detracting from risk demand in a given market, it's defined by whether they are tightening faster or slower than what is priced in and what is priced in right now for most central bank action is a relatively gradual pace of tightening. if we do get tightening that is at priced in, that poses modest problem for risk assets. i doubt it is a huge one. the issues with high yields are and tiesout valuations to the equity markets rather than bank policy. jonathan: everyone seems to be confused by bank of england policy. stick around with us. let's get you up to speed on the markets this week. what a week it has been. yields higher by a margin of

three basis points, the big move further down the curve, 13 basis points higher. as we get back up to 2.82 on the 30 year treasury. still ahead on this program, the final spread and the week ahead, the first meetings of the president trump and putin, plus the u.s. jobs report as well. from new york to our viewers worldwide, you're watching "bloomberg real yield." ♪

♪ york to ourom new viewers worldwide, i'm jonathan ferro. this is "bloomberg real yield." it's time for the final spread. we have a shortened trading week in the united states with an early close on monday and markets closed entirely on july 4. the fed will release minutes a little bit later in the week. auto sales in the jobs report will come out of the u.s.. president trump and putin will be meeting at the g-20 summit over in germany. a look ahead to next week, jim karen from morgan stanley

investment management, guy leb as, and margaret patel from wells fargo asset management. jim, the heavy lifting for the bond bears comes the central test comes from the central banks. are they going to get it from the table this week? jonathanjim: i think we should e recovery. 175,000 payrolls is the survey estimate right now. i think that is a good number. anything above 120,000 is a good number. guy: the markets are not going to treat 120,000 as a good number. the bias here is for economic upside surprises drive further up until july 14. jonathan: i want to put you in your boxes and do the rapidfire around quickly. short questions, short answers. did the market misjudge the words of draghi, yes or no? jim: no. guy: negative. margaret: yes. jonathan: who hikes first -- the

bank of england or the ecb? jim: bank of england my head by a hair. guy: bank of england by sheer accident. margaret: ecb. jonathan: where is the highest risk -- bunds or high-yield? guest: bunds. bunds. guy: bunds. margaret: high-yield. jonathan: we will wrap it up there. see you next friday. from new york, this is "bloomberg real yield." ♪

♪ coming up on "bloomberg best," the stories that shaped the week in business around the world. another global cyber attack causes havoc. most u.s. banks ace the fed's stress test. the gop postpones a vote on health care reform. european markets try to stay in sync with central banks. >> the euro and markets have reacted very strongly to a speech by draghi. >> his comments now today in sintra suggest that august 3 is going to be quite a tricky meeting. scarlet: italy commits billions to save two banks. the country's finance minister explains the deal in an exclusive conversation. >> it is not a bailout. everything was done by the rules. scarlet: china preaches openness at the world economic foru