♪ jonathan: from new york city, 30 minutes dedicated to fixed income. this is "bloomberg real yield." ♪ jonathan: coming up, in the race for yellen's chair, front runners. trump's tax-cut effort takes a step forward in the senate. the ecb prepares to unveil its next move. better data offset by ugly politics. we begin with the big issue, the race for the fed chair. >> leadership matters and who is in the chair does make a difference. >> i think there are a lot of good names on the list.

i don't think with that list of names, even yellen, i don't think the president can make a bad choice. >> the political considerations outweigh the current economic situation. a new administration often just once its own people on board. >> the interesting part is this discussion is coming at a time when there is the so-called mystery about the low level of inflation. the interpretation is quite important. >> i think they would view jay powell as someone to be more continuous in the policy we have been experiencing. >> we will have a very accomplished economist as the head of the federal reserve for the foreseeable future. jonathan: joining me is mike collins, bob michele, head of the global fixed income commodities group at jpmorgan asset management, and marilyn watson from blackrock.

great to have you with us. let's begin with where the odds are for the race for fed chair. the number one spot seemingly is jay powell. at the number two spot, if you look the front runners is reportedly jay powell and john taylor. the spread between those two is really quite wide. mike: in the last few days powell's odds have really soared in the marketplace, because he is probably the one most conducive to a more continuation of existing policies. more of a certainty, less of an unknown. less risk to the markets. taylor is a little bit of a wildcard. jonathan: how are you thinking about this at the moment? bob: i will take jay powell, because he is a moderate. i think he will be good for asset prices. i hear john taylor, kevin warsh. i really want gary cohn in there. jonathan: why would you really want gary cohn? bob: i think it is time to get a markets practitioner into the fed seat and balance the

econometric models of the ivory towers with the real world we all have to deal with. jonathan: i don't think i have ever heard anyone talk about gary cohen for weeks. bob: i thought i would serve him in when you gave me the airtime. jonathan: marilyn, as you sit around with the guys of blackrock anticipating the decision that could come any day now, how you approach a decision like this? marilyn: you have to look at the probability. we are looking at what the market is pricing in. when you look it all the different candidates, a lot is known about several of them. potentially when you look at taylor and how hawkish he will be, i think it's overplayed. when you look at the list of candidates, some on the more hawkish side, but actually it is one person that will be leading the fed, but they will have one vote. they will be leading a

committee. it is all focused on the fundamentals and the committee as a whole at the federal reserve. jonathan: if it dropped across the bloomberg terminal that john marilyn: we expect to see more volatility. if you look at the bloomberg terminal and where it's pricing in where the taylor rule is reserve. jonathan: if it dropped across the bloomberg terminal that john taylor had been nominated as the next fed chair, would you be fading that move off the back of it? pricing in interest rates, is about 2.5% higher. when you look at taylor himself, he is much more flexible in his approach to the unemployment rate. he is much more flexible in his approach. we would look to trade volatility. we would expect to see a flattener. mike: i think the monetary policy implications for whoever the fed governor is is not that big a deal. i think the monetary policy is on a set course. remember, it is driven by the consensus of the committee.

i think the regulatory policy is a bigger deal. a bigger deal. trump wants someone new is a -- someone who is a regulatory dove. taylor would fit that bill better. jonathan: there are a lot of things to think about. i noticed mr. powell, the politico story, drives yields lower then the tax-cut story drives yields higher. i wonder how that will way out -- will play out over the next couple of months. bob: i don't think monetary policy can be put to the side. monetary policy is in a ridiculous place right now. i think if you look at somebody like john taylor coming in, why the markets are more frightened the markets are more frightened that the next paul volcker is coming in. he has got his rule. he is telling you it is 3.75%. i think he is right. i think the period of distorted monetary policy is something of the past. the fed, ecb, bank of japan need to step up. they need to step up the pace the normalization. what comes out of washington is

something different than that. if we get some stimulus, what is the stimulus going to do? it will accelerate the recovery we have already seen. i can see rates buffeting back-and-forth between this. i don't know if it has much to do with the fed chair or stimulus, it is still qe after effect. jonathan: people say we want a real market back, but volcker back? really? he had inflation to deal with. not inflation with a to handle. come on. bob: inflation is picking up. i am going to pull up a chart because i get this all the time. people say no, there is no inflation. you see it. you see year-over-year wage gains coming up. you see the inflation across europe, japan, china. it is all picking up. jonathan: is it picking up, marilyn? marilyn: it is picking up to a certain extent. still from very, very low levels. it is all relative.

certainly still at very low levels. jonathan: michael collins, you will take the other side of that? mike: all day long. given the fund rate is 03% it will assure we go into a recession and the stock market crash. if you have a money market fund at 3% or 4%, everybody would take all their money out and put it into money markets. it is too good to be true. on the inflation side, i'm in the disinflationary camp. i'm looking at anecdotal evidence of companies in the world that have the ability to raise prices on their goods and services to consumers. evidence of companies in the there are very few that can do that. it is the opposite. they are all fighting with each other for market share. bob: i found the chart i was looking for. what you are looking at is developed market core inflation and china cpi year-over-year. this goes back to 2012. there is the deflation? where is the downside risks they are trying to respond to? they are behind the curve.

it is starting to get away from them. you can look at the recent wage data in the jobs report. you can look at the atlanta wage tracker. it is all headed one way. jonathan: you joined me on this program since its inception. mike collins said i will take the other side of the trade. bob michele is in trouble. you can be right about inflation but wrong about a market? bob: it is true. before you claim i have been wrong about everything. jonathan: i have not done that. bob: youth could be higher -- yields could be higher and should be approaching 3% now. the other thing we have seen is the weight of quantitative easing that has come in and suffocated the market. it is that weight of the cash that is helped yields in a very narrow range. 215 to 250 or most of this year. there has been a bear market. it has been on the front end of the curve. they will raise rates in

december. it will be the third time. it does not make any sense to me that they are still going this low unless you look at qe coming into the markets. jonathan: i wish we had a camera and a microphone during the commercial break. everyone sticking with us. mike collins, bob michele, and marilyn watson. coming up, the auction block. nathan's first bond. this is "bloomberg real yield." ♪

♪ jonathan: welcome back. i am jonathan ferro. this is "bloomberg real yield."

some breaking news regarding fed chair janet yellen. back at the white house. said to be back at the white house according to a person familiar with the matter. this appearance following the day with her interview with the president of the united states. fed chair janet yellen is said to be back at the white house. this is according to a person familiar with the matter. by michael from j.p. morgan, marilyn watson from blackrock and michael collins from pgim. looking at the situation, we barely discussed fed chair janet yellen staying on his fed chair in the previous segment. why? bob: i think her time has come and gone. i think she did well in the aftermath of the financial crisis helping to continue bernanke's policies. i think the administration feels they need a breath of fresh air to come in particularly if they're trying to pull the

republicans along with them and trying to bring the rest of congress with them. jonathan: i thought she signed a resignation letter off the back of the jackson hole speech which she defended the regulatory regime. you put the emphasis on deregulation. is that ultimately look at sign a resignation letter as well? mike: i think so. she pushed back against trump's emphasis on deregulating the banks. in her defense, that is the right move. one of the best things that is -- that has happened in the cycle with the regulatory pushback has been the fact that banks are in as good as financial shape as they have never been in our career. bob: but not extending credit. that is the one problem. it is true the regulation has done a lot of very good things. has it gone too far? where is the extension of the credit? why all this raised capital and then buy riskless government bonds and in europe and mostly negative yields? jonathan: janet yellen is said to be back at the white house. the appearance following a day

after her interview with the president of the united states. you asked where the credit is. let's get it up on the screen. credit spreads are as tight as they have been for quite a while across the whole quality spectrum. they could not get much tighter. that is where the credit is, right? bob: it can get a lot tighter. most investors look at high-yield at 5.5%. it does not strike them as high-yield. they think high-yield should be 7% to 8%. it is not the 5.5% yield or the 3.5% credit spread. it is the risk-free rate, which is about 2%, and the real yields which are negative. i have pulled up a chart where i look at real yields on the 10-year treasury. you can see the distortion that has been created by quantitative easing and the growth of central bank balance sheets. credit spreads of 350 over, at 1% defaults i think they should

be 250 over. jonathan: mike, way in. mike: credit spreads are getting to the point where they are not only fully valued but potentially overvalued. i'm looking at spreads it gets a lot of corporate sectors and the be 250 over. jonathan: mike, way in. mike: credit spreads are getting -- and they are basically at historical tights now. in the last couple of weeks and days we have seen a snap tighter in spreads with the optimism on tax reform. we are pushing back against it. we are fading the credit rally. jonathan: marilyn, is this is a sign of complacency or is the risk mentality here to stay? marilyn: we see the risk on mentality here for the time being. when you look at global growth, it is still on a very robust stance. when you look at global monetary policy and central banks, they are at an inflection points where they will reduce monetary policy. when you look at the investors, where they are putting their money and trying to get yields, the markets and credit are two sectors -- we do feel they have

some value. we are becoming increasingly cautious on the names we invest in. it will be incredibly important going forward to look at the risk, leverage, and where you are investing. jonathan: where are you selling? mike: we are selling double b rated credits. that spreads in the low to mid 100's. we are selling some inside 100 100 basis points, because there is such a demand for extra yield from investors around the world that they are not that price-sensitive. we are selling those and rotating into triple-a asset-backed securities, collateralized loan obligations that spread of 100 or higher in some cases. jonathan: i need to take a fee. i can make a market. [laughter] you are going to sell them. bob, buying? bob: absolutely. i'm not selling credit in here. i don't believe we are anywhere near the tights. if you go back to 2006, 1996, credit spreads got to something like 250 over. that is where we are heading. we have 100 basis points to go.

we are selling the markets that are distorted. it is the central banks that bought the government bonds and compressed real yield. get rid of that stuff. right now, everyone is looking for credit. marilyn is right. corporate balance sheets, earnings, the quality of earnings all the pretty good. jonathan: wait a second. distorted markets exist across the whole fixed-income environment. bob: true. jonathan: if you want to sell distorted credit, that is it, isn't it? bob: no. there are a lot of things you can do. you can go into the loan markets. you can take out the fixed rate component. the other is you can buy spread credits. all of us can sell the treasury market against it to hedge interest rate sensitivity and just capture the credit spread. you are right. if the fed continues to normalize and the other central banks jump in, you will see a return of real yield to the market. that will ripple through every

asset class and every discount rate people are using in those asset classes. jonathan: michael collins, bob michele, marilyn watson sticking with me. i want to get you an update on where the bond market is this week. choppy over the last 24 hours. yields higher throughout the week by seven basis points, front end by nine. still ahead, the final spread. the week ahead features that decision from mario draghi. this is "bloomberg real yield." ♪

♪ jonathan: i am jonathan ferro. this is "bloomberg real yield." it is time for the final spread. coming up, japan holds an election with prime minister shinzo abe favor to win reelection. lawmakers will meet in the catalan parliament. you have u.s. gdp and the ecb decision. still with us, michael collins,

bob michele and marilyn watson over in london. janet yellen said to be back at the white house, returning just a day after her interview for the president of united states. some choppy market action off the back of that. this fed race is very difficult to interpret. how do you view the headline risk around all of this? mike: it looked to me like some somebody assumed she was there for a follow-up interview. i don't think that is the case. -- she is the front runner. i don't think that is the case. i think she is told she will not be the fed chair and will be allowed a chance to step down. jonathan: 24 hours later this will get replayed. we could all sound really stupid. why shouldn't to give her the job? bob: i think mike pointed out there is the whole regulatory

issue. you want somebody in there that will be a bit more balanced. just to get a breath of fresh air and get rid of these unconventional tools. they are distorting the markets. let's go back to a market-based economy. jonathan: the ecb is meeting next week. they are set to unveil potentially -- what they are going to do with the qe program. do they cut it for an extended period or extended for a longer period? which one is it going to be? mike: they telegraph what they will do a little bit last week. their staff came out with a report that looks like they will cut the purchases from 60 billion a month to something less, presumably 30 billion a month and extend that. it is supposed to expire at the end of this calendar year. extend that through september of next year. another nine months. jonathan: this is just remarkable from deutsche bank. seven times net issuance. that is the ecb's activity in this market. when they pare back, how significant is that going to be?

bob: it is going to be pretty significant, but they will still be buying 3.5 times the net issuance. they will still be distorting the markets. i think it is not the next nine months where they will cut the purchases in half. it is the nine months after that. you really have to get about a year from now to figure out how the markets are going to revalue. jonathan: the situation with treasuries when the federal reserve steps back and yields went lower. why can't the same thing that happened with bunds? marilyn: bunds are already very low. rates are negative. as both michael and bob pointed out, there will be a sustained period where the ecb is still buying. it is our view they will buy about 30 billion between january and september of next year. looking forward is when the forward guidance comes into

play. the market will look at if interest rates might rise from a negative rate. when you look at the eurozone economy as a whole, it is continuing to grow. particularly when you look at germany, spain. economic fundamentals are very positive. even when you look at the labor market, it is coming back from weak levels. it is difficult to see a situation in two or three years we still have a negative rate. jonathan: looking at the periphery, you told me last time you were buying greece. are you buying any other peripherals at the moment? mike: we are long on a handful of peripheral countries. i think credit spreads are still wide. the eurozone is seeing a real rebound in economic activity. they have been the star performer globally.

it feels like a coalescence happening politically in europe as well. we are pretty comfortable with some of the peripheral credits. jonathan: what is the trade in europe for you? bob: it is still corporate credit. particularly euro high-yield. it looks great to us. we look at something like 10% of the universe is going to become a rising star. you can get yields a 2.5%. i would take that all day long over peripheral europe. jonathan: guys, you're going to stay with us. the next segment is the rapidfire round. keep your answers as short as possible. taylor, powell, or yellen? mike: powell. marilyn: powell. bob: powell. jonathan: credit, wait for the correction, or it's not getting any cheaper? mike: i think you sell and wait for the opportunity to buy at wider spreads. bob: buy all day long. marilyn: stay in it for now. jonathan: bund yields, higher or lower your end? mike: lower. bob: higher. marilyn: higher.

jonathan: that does it for us. thank you for joining me, mike collins, bob michele, and marilyn watson. that does it for us. we will see you next friday at the same time. 12:00 new york time, 5:00 p.m. in london. by then, we might know who the next fed chair is. this is "bloomberg real yield." ♪ marilyn watson.

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