♪ jonathan: from new york city, 30 minute dedicated to fixed income. this is "bloomberg real yield." ♪ jonathan: coming up, is a federal reserve losing conviction? europe's economy booming but german bond yields refusing to climb. a route in the chinese bond market. rhythm is flattening in the treasury curve. >> what is troubling is how fast the curve has flattened in the last few weeks. >> it almost always flattens when the fed is putting rates up.

last time i checked they are still doing so. i think what has caused people to stop and take note is the speed with which it flattened. >> you have lots of central banks around the world, even if the u.s. is going back. the bank of japan expanding a program. ecb is very involved. you are not seeing global central bank purchasing winding down. >> between 50 and 0 is the flashing sign. things are starting to get a lot more challenging. above 50 you can kind of explain it away. >> equities are doing well, credits are doing well. the economy in general in the u.s. and globally is doing well, i think they will be some willingness to look past the flatness of the curve. jonathan: joining us is lisa abramowicz, rob waldner, and joining us in a moment is alan higgins from london.

i want to begin with lisa. look at the chart we have been talking about from some weeks. pick your place on the curve. 60 basis points. how much signal is in that? lisa: a lot of people will say this time is different. this does not indicate a slowing of the economy but rather a fed that is saying this is typical. that said, bloomberg intelligence noted this is pricing in a policy error. right now this is saying a long-term economy is not accelerating. end of story. period. the more the fed hikes, the more it will slow down and you see the flattening continue. that is not a bullish sign for the economy long-term. jonathan: rob, do you agree with that statement? do you see something different? rob: we see a different

situation when it comes to the yield curve. the front and of the yield curve is being driven by growth, and growth is superstrong. the new york fed shows growth for the fourth quarter likely around 3.8%. the long end of the curve is being driven by inflation. inflation is mia. there is no inflation in the economy right now. the short end is rising. lisa: my issue is people can conflate inflation and growth at which point are the synonymous? there is a question of can we have this sustained growth without some kind of inflation? i don't know what the answer is but it seems like something is amiss. jonathan: there are two contents is points. one is the flattening yield curve and the other is a tremendous amount of attention for a long time now, bunds treasuries, two-year, and this aggressive widening we see so far. we are north of 240 basis points

on a two-year spread lease, lisa. is there any oxygen left up here? i wonder if the fed can go it alone. lisa: here is the weird thing. when you have the u.s. tightening or when a central bank is tightening and another one doesn't you will have people go into the dollar, into the currency of the bank that is tightening. you are not seeing that here. if that is not happening, you will not have a stronger dollar is a headwind and the fed can keep hiking. it will not necessarily de-balance the economy. jonathan: i want to turn to alan higgins in london. it is always great to catch up with you. it has been for too long for you and i. bunds two-year versus u.s. treasury two-year.

north of 240 basis points. my question is whether the federal reserve can continue going alone from here and if that's right can continue to get wider? alan: nice to talk to you. we can continue to go wider. for fixed-income investors who don't undertake risk they can't catch all that spread. if you hedge it out with fx forwards, you will pay circa 160. you don't capture all that spread anyway. for a fixed income, it is less wide than it may seem. the ecb is on hold doing nothing until the third quarter. jonathan: if you think about it in 2017, everything has kind of gone right you would hope to go right in europe. the market has not done much for the early -- the data is looking really good. the ecb has remained on hold. the economy has picked up. confidence numbers are great but deals have gone nowhere. why are we here with bunds at 40 basis points with the data where it is right now?

alan: you are quite right. if you came down from mars and look at this european data in particular, you might think maybe short rates at 3% or something. they are not because european growth is very strong right now. there is much more slack in the economy. put simply, the magnetism of where cash rates are. with cash rates in euros negative, that is pulling down the whole curve. the u.s. is a more interesting question. why is the u.s. 10 and 30 so resilient? having traded fixed incomes virtually all my career, one thing i learned quickly is the hardest thing to get right is the 10-year treasury. just when you think you have it right, the full narrative is discounted.

we wonder whether the 10-year treasury knows they are done and therefore we don't see much higher 10's or 30's. obviously the income stream is low, at the 10-year and the 30-year know. lisa: i love the idea of martians coming down and looking at european economic data. they would be confused on many fronts. europe is dealing with what the u.s. is dealing with, the goldilocks scenario. growth is accelerating but still not great and you are not seeing that much wage pressure. the same kind of story people are still piling in and the ecb is continuing with quantitative easing. jonathan: you have a decision to make. you either at duration along the curve, or you go further along the risk curve which means lowering quality. in europe that will be difficult to do. high-yield already trades so

tight. if you want exposure to this positive story in europe on a fixed income side, how are you going to express yourself? rob: it is undoubtedly true european credit is much tighter. about 3.4% right now. that being said, the ecb is still doing qe. the growth is still good in europe and the u.s. we think that should be supportive for credit overall. one thing we are concerned about is that we got u.s. yield curve to a flat, to be completely flat, that is typically in past environments the way you would get some sort of disruption in the markets. we are about 120 basis points in the u.s. that is a level where we are a ways to go before we get to a truly flat curve. in our mind that means a big disruption in credit is unlikely in the near term, but you start of a saint yields are tight and

they certainly are. they are low. jonathan: what is the most effective way of expressing that in europe at the moment in fixed income? alan: you have to be selective. within peripheral debt, portugal has come a long way. portugal is likely to get the full investment right very soon. the fundamentals look strong. the 10-year yield a little under 2%. not high but it is a government bond. staying with europe, it is different from the u.s. high-yield. it is a double b market. for us, we are investing in cocoa. financial credit. there is still a premium. they just very selective. over here we have an interesting hybrid market. for example, one of the issues in the portfolio we disclosed

would be volkswagen 10-year subordinated debt. that yields circa 3/10ths. in the context of bunds, selected on the. jonathan: would you continue to buy cocoas from here? you looking for more capital return? where is the upside? what you looking to get from that specific trade? alan: it is more income, a tremendous rally. the cocoas have fallen to low yield. you are still compensated. it is in excess of subordinated corporate bonds we have over here, the so-called hybrid bonds. we carefully chart the spread of cocoas with high-yield versus hybrids, and there is still some value in cocoas.

you need to stick with national champion banks. if you like you are being compensated for the memory of 2011-2012 in national champion banks. jonathan: interesting stuff lisa abramowicz, rob waldner and alan higgins will be sticking with us. coming up on the auction block, a race against the u.s. congress. that story is coming up next. this is "bloomberg real yield." ♪

♪ with the issue receiving $11 billion.

-- over and africa, the offering was its biggest euro bond issuance ever. the nation split the offering equally with the issue receiving $11 billion. they seem to be very much gone for the time being. company sold billions in new bonds this week. the lowest interest rate on the riskiest bank debt. cocoas. is there note investors wanted seven times as much as was offered. now a discussion we had previously. lisa abramowicz, rob waldner, and alan higgins. another big story throughout this week has been china and its aggressive spread widening. top rated-year chinese corporate

bond yields. that premium is the highest since june of the sovereigns. lisa, how significant is this blowing out of this spread at the moment? lisa: a lot of people think it is quite healthy and it means that the government is going to allow companies to face some serious funding pressures and for some to default. earlier we got some corporate bond defaults in china. that will allow a healthier market. that is the way it is being painted. the flipside is the default in the finance becomes onerous and it becomes disorderly. there is a very narrow face in between those scenarios that are two completely different outcomes. jonathan: the situation in china as a leveraging campaign continues. what strikes me is how isolated this appears to be. it has not bled through to developed markets or to e.m. either. are you surprised? rob: no.

chinese capital controls have been very effective since the beginning of last year. but we saw at the end of 2015 was large amounts of capital outflows out of china that had an impact of connecting the capital markets between the u.s. with the global markets and china. now those controls are quite tight. there is not much leakage. jonathan: i was looking at catalonia bonds earlier today. the reason i bring this up, as we look at china, is the route 2017 you have been paid really well to take risks when it shows up. this is catalonia. the political crisis really took off with yields north of 3%. now we are south of 2%. your experience so far, has that in the lesson so far? when you see risk, take the other side of the trade if you have to look silly for a bit? alan: generally we have that in

our philosophy. we did not catch catalonia unfortunately, but we still got some russian dollar bonds in our portfolio we bought in 2015. they turned out to be spectacularly good investments. with china this is healthy. the authorities know the number one problem is a buildup in debt to gdp and the corporate sector and they are doing something about it. they were successful with intervention on the currency. everyone thought it was going to collapse and it did not. we suspect the market should give them up a bit more credit. by the way, until recently the spread widening was correlated with moves in u.s. high-yield and investment-grade. maybe this will snap back next week. jonathan: some people will say they were bailed out to some degree. they pushed through the deleveraging campaign and every time there is a little bit of pain they back off again. by is this time different? alan: that is a fair point.

the chinese yuan is so idiosyncratic. the chinese yuan has been strong all year. and it is not just the dollar story but it has helped. you are right. if they see signs of distress, they back away, but debt to gdp has finally fallen for the first time since i have seen it in china. tentative signs they are moving the right direction. jonathan: rob, your thoughts more generally. what is happening in china you said it was well-contained. do you see anything that would push you to take additional

risks with this in the background? rob: there are a couple of factors. one is good growth in the core markets of the u.s. and europe. china has committed to this one road programs which is a massive investment across a number of different e.m. countries which is positive. all those are positives for e.m., tailwinds for e.m. if you like. we look for e.m. to do relatively well. for the geopolitical risk question, we think what is driving markets is growth and inflation and financial conditions. if the geopolitical risks do not impact one of those three, they are to be bought on the selloff. i think that is what you saw in catalonia. financial conditions, you buy. the same is true in a number of corrections we have seen this year. lisa: i think emerging markets have been in a sweet spot it remains to be seen if it will be as immune to some kind of pull back in developed markets or slowdowns as they have been. putting people are discounting the potential risk. not to say it is not a good investment, but this has been a sweet spot point.

perhaps ignoring some sort of fundamental issues. jonathan: bloomberg's lisa abramowicz with a dig. lisa: no, it is always a little unnerving when there is a trade. jonathan: i want to get you a check on where bonds have been this week. that picture really, two-yield up on the front and. 30-year down on the long end. a flatter yield curve once again. 174 on 2's. this is "bloomberg real yield." ♪

♪ jonathan: this is "bloomberg real yield." time for the final spread.

coming up, outside of cyber monday, the u.s. congress gets ready to work in the tax bill. the effort continues. elsewhere, jay powell will go before the senate banking committee for a confirmation hearings. current fed chair janet yellen testifying in congress. then you have the bank and financial stability report and the opec meeting. joining us is lisa abramowicz, rob waldner and alan higgins from london. alan, bringing up with possibly has been the biggest nonstory of the year, the concerns around the composition of the federal reserve. the chair pick is been quite consensus. very much in a similar vein. is it something you need to worry about going into 2018? alan: worry is pushing it but i think it will be more hawkish. i would add i would be interested to see if they

continue to emphasize financial conditions. when you look at the fed tightening, is not about inflation as janet yellen said. it is a big puzzle. it is about growth. i think financial conditions, and bill dudley, knowing can from his goldman sachs past, you have seen that mentioned in quite a few minutes or statements from people at the fed. i would be interested to see if that emphasis continues next year. if it does not, maybe we will not see as many rate increases as expected. i think they will. is not just bill dudley, they are focused on tight credit spreads, weak dollar, soaring equity markets. lisa: i think it should be easy and probably avoid saying anything too controversial or telegraph too much.

the interesting thing is that president trump's entire group is counting on the fed to pick up enough, make their tax plan work. you have to have a fed on board. yet the hawkishness would go against that. there is a huge business here. it is hard to square with a conservative idea of a fed with the need for really a very dovish fed for the worker president trump. jonathan: wrapping things up with a rapid fire around. you are all in your boxes. 2018, the yield curve flatter or steeper? lisa: flatter. rob: flatter. alan: flatter. jonathan: the u.s. bund two-year spread? lisa: wider. rob: wider. alan: wider.

jonathan: chinese -- contained or get ready for the pain? lisa: contained. they have a lot of money. rob: contained. they have a tremendous a lot of resources to throw the problem. alan: contained. you have to ask more difficult questions. jonathan: alan higgins coming in hot at the end of the program. great to have you with us. that you very much. my special thanks to bloomberg's lisa abramowicz, rob waldner and alan higgins. that does it for us from the york. we will see you next friday at 12:30 new york time. this was "bloomberg real yield." this is bloomberg tv. ♪

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