new york -- jonathan: from new york city for our viewers worldwide, i'm jonathan ferro with 30 minutes dedicated to fixed income. this is bloomberg "real yield". ♪ jonathan: coming up, investors exhausted from political narratives, from the trade war fears to geopolitical concerns. one thing washington can guarantee -- more debt, the cbo forecasts $1 trillion deficits are just around the corner. in the u.s. needs foreign investors to step up. but this week's auction suggests they are taking on the sidelines. we begin with a big issue -- geopolitical risk. >> it is a tough question. it is trying to protect unstable politics.

>> the middle east has more faultlines than any other geopolitical part of the world you can think of. >> i think at the top of the list is trade and geopolitical. >> rather dazed and confused by the tweet storm, by the geo policy rhetoric. >> the middle east has moved way beyond what we think of it. it is humpty dumpty time. we are not going to bring back the old middle east, the old syria, the old libya, the old yemen. the middle east is seriously broken. not too far away from a tipping point. where the escalation of tensions between countries can become very significant. >> think about where positioning is right now. the massive short from the global macro community in the 10 year space. and so, any sort of catalyst like this can really set it off. jonathan: joining me here in new york city is craig bishop, lead strategist of income fixed strategies. co-cio and head of fixed income strategies.

guys, great to have you with me. rachel, i want to begin with you , and talk about how quickly we switched from one narrative to the other with such velocity. why are we doing this? rachel: you know, we enter the last couple years with a very positive macro backdrop. and the first quarter tends to get quite distracted by disappointments on data, and the noise that people say, there is a lot of uncertainty. well guess what? , there is uncertainty over time. you are never going to know what happens next. i don't think we feel the uncertainty right now. it is -- is it materially more worrisome? yes. it is not just the middle east, it is china, it is russia. and all of these have the potential to become something bigger. frequently, the market can get through geopolitical things like

that. so, there is a mix of narratives , one is the healthy global economy low defaults, but the , volatility around geopolitical has put some foxes in the hen house, if you will. jonathan: and craig, we can obsess about some of this. it is the equities side of the story obsessed over these narratives. we have not seen this story grip credit, grip sovereigns in the same way we have inequity? >> that is absolutely true. the impact you have seen is those risk-off, risk-on environments, which tend to be a little bit more frequent than a heaven in the past? . and i think that will continue to be the case as we go for. with regard to the global risks, the geopolitical risks, as they simmer, depending whether or not that simmer turns to a boil will determine how fixed income is impacted. certainly treasuries benefiting

from a fight to credit, while equality and similar to the equity markets, the long-term impact of corporate credit. jonathan: yeah. and, matt, just to bring you into the conversation. someone said to me earlier in the week fixed income investors, , a few tweets shaped by washington, d.c. is not the way to go, is it? match: no, not at all. i think the markets have to remember, we survived bill clinton's scandals, we survived the bush wars, both one and two. we survived president obama is policies that -- we survived president obama's policies that might not have been as business-friendly. the medium has changed with the tweets. i agree with the other panelists. these sorts of risks, the technicals change much more than the fundamentals do. jonathan: i haven't seen much of

a story for the havens at all. you don't see a proportional move from equity into treasuries in the same way we did a year ago. it has been a big focus of the program. and i am trying to why treasuries don't have the same risk aversion characteristics, that safe haven quality they used to. what has changed? i think what has changed, we are seeing the correlations between stocks and higher-quality bonds change. and, you know, i think one of the reasons is that we are getting more back to normal, more back to an inflation mindset. but clearly, you are right. not feel it does risk-on, risk-off anymore. it feels as though things are moving in the same direction. that is causing problems for people. their hedges aren't working. they may have too much leverage giving the volatility. and that is something, there is no quick answer, and i think it

is going to take a couple of quarters at the earliest to see which way this false. but i think the inflation answer is the strongest right now. jonathan: rachel? rachel we don't disagree, : although we think the more bullish case is possibly around the corner, that there is some technical and fundamental particularly the treasury asset class. you are seeing more issuance and the deficit moving up. the expectation is there will be more issuance. you have seen less buying. you have seen the balance sheet beginning to shrink. but we think that the man somewhat limited because people are a little bit concerned about u.s. political behavior at the moment. and so, if we are the cause of greater geopolitical uncertainty, they will hold off pretty more money back in the u.s. treasury market, but we do think the demand is going to be there. among other things, as inflation continues to move up it will , bring people back to the treasury market. so we expect this could be a

, material moved in rates as the year goes on. jonathan: just to pick up something rachel said the cbo , saying we could reach a $1 trillion deficits. saying the assumptions are still too big and it could be next year. is that is what is -- is that what is weighing on treasuries as well? >> let's be clear here. are alwayskets somewhat anticipatory. so, the rising debt is not necessarily a new story. so, i think the move higher in yields was in anticipation of that as well as what the fed was going to start to do with the balance sheet. wea result, rw on rates is likely have seen close to the highest this year. 295, maybe 3%. to 80nk we are in a 272 trading range. we don't see rates moving significantly higher into next

year either. >> where are you on the front end? >> the front end will continue to be dictated by fed policy. you will see short-term rates creep up. to us, that means a flatter yield curve as we continue to move forward. jonathan: is that what you see too, matt? just to bring you into the conversation quickly. do you see a flatter yield curve throughout the year? is that why so many people expect higher front yields despite risk aversion elsewhere? matt: yeah, i think that is right. divide the yield curve into two halves. the front that the fed influences, and the long end driven by growth expectations and inflation. and i think rachel's point on is a very serious long-term concern. whether it is a social security trust fund having to sell, whether it is the fed balance sheet, whether it is deficits, but in the short run, we think inflation expectations have

actually peaked. i think that inflation going up is baked in the cake. i don't know if it is going to get dramatically higher on pce been 2.25%. so, we think global growth is still doing well, but look at the fed minutes. he talked about things -- they talked about things moderating, flattening. to weaken. that is supportive of the long end. on the front end, again, the fed chair has been very clear, they want the real neutral fed funds rate to be around 2.5%. we think they get there by the middle of next year. we have this interesting dynamic of fed funds on the short any dent of the curve. nothing too dramatic. i think, again 2.5% by next summer. and the long end being supported by global growth. isch is starting, again, it

not dissipating, it is just telling out where it is. jonathan: let me be clear here, matt would you be willing to buy , the long end? the conversation i have with so many people is, i don't want to take the minimal yield risk down the curve. are you saying you're willing to take a duration risk? matt: there are two questions, how much duration you want to have in your portfolio, and how you build that duration in? right now, we think your duration should be at or slightly below your benchmark or your targets. we think that makes sense. but we would build that with a combination of front end exposure -- we really like bank loans -- but we like credit to do for years. and a small slice of long duration because that is a great hedge if economic conditions we can he unexpectedly -- conditions weaken unexpectedly, so a small slice. >> we like duration. we have moved to longer duration

in our portfolios. to us each rate hike from the , fed brings us closer to a time when they begin to ease. we are willing to lock in rather -- we are willing to lock in duration here rather than having to roll short-term rates later. jonathan: coming up on the program, the auction block amid all of these political tensions in the middle east, saudi arabia, and qatar, both holding offerings. this is "bloomberg realyield." ♪

♪ i'm jonathan ferro. this is "bloomberg real yield." i want to head to the auction block. all the intention on the middle east did not stop on offerings coming through the week. first up, saudi arabia raising

$11 billion. saudi sell received more than $50 billion in bids. had qatar raising $12 billion in his first dollar bond sale in two years, surpassing the biggest bond in a nation in 2018. the sale receiving more than $53 billion in bids. and then there was the option that failed to happen. u.s. sanctions against russia forcing russia's finance ministry and the biggest state bank to pull bond sales, the first debt auction russians -- russia has abandoned since 2015. this has been a remarkable story over the last year. the investor appetite has not gone anywhere. i caught up with mike's well with goldman sachs -- with mike swell with goldman sachs asset management to ask if he was still comfortable with taking the fx risk. take a listen. mike i want to take the risk. : it is not just a level of complacency, i think you will see depreciation. if you look at differentials

between emerging markets and develop markets, still large despite the fact the fed is hiking, racing some of the differential, you have to think about the flows of capital. flows of capital are going to the higher growth markets in emerging markets. developing markets much more questionable. jonathan: matt, i want to put jonathan: still with me, my guests. matt, i want to put the question to you. there seems to be an immense comfort taking fx risk. given how benign the move has been in the dollar, it has been a much weaker dollar over the last year. are you comfortable taking that fx risk to get the pickup in the end? matt: you know, the dollar has clearly been on a weakening trade. debte neutral oem from a -- we are neutral em from a debt perspective. we like it on the equities side. some of the things that hurt the dollar, slower u.s. growth relative to europe, it feels like we are in transition where the united states is doing

better relative to europe. i think the dollar may pause and consolidate. i don't think you will get the easy gains you had over the last six months. jonathan: craig? craig with our positioning in : em, we are confident. your positive on the fact there are opportunities there, especially as the dollar continues to be somewhat softer. i think you have to be cautious cautioustoring -- the and monitoring conditions with the bigger holdings in various etf's out there. jonathan: i think the consensus view was to have -- i keep hearing more about the risk. it started this summer, and the continuing concerns. this morning morgan stanley, rising interest rates may shutter the junk-bond window. where are you guys on high yield credit now?

rachel: you know, the party is not over yet. we are in the late inning. there are questions about technicals, fundamentals. on the fundamental side, defaults are low. we just seen one big default, i companyhe broadcasting it brought the average default , rate up over 2%. that is very low historically. release expects the default rate to declined between now and year end. we see leverage moving up, but when you look at high-yield, one very big signal is what is the level of issuance in triple fees? we saw a five your period from 2003 to 2007 where issuances where triple fees were as high as 33% in 2007. right now 12% of issuance year to date. it has been 10, 11, 12 over the last four years. the actual amount of leverage in the new issuance isn't extreme. there are problems in the

underwriting and there have been outflows on the high-yield asset class. your today has flown out of the date, 20ion -- year to billion has flown out of the mutual funds. that could seem an alarming number. there is a lot of cash flow that comes out of the high-yield bond market. we see about $20 billion just this month being freed up. we don't actually worry that much about the supply-demand. jonathan: morgan stanley also pointing out the maturity wall for high-yield is very dated. it is not imminent. rachel: yes, negligible. we have seen the last years pushing maturities way out to the future. what is the backlog of deals that need to be financed? one of the things we came into 2018 believing is there was going to be a ton of new issuance in the market this year because there would be a lot of m&a announced. there have been some m&a announcements, but some unraveled. broadcom and qualcomm, that is a huge deal that did not happen. there is every risk that the at&t time warner deal has been funded with $30 billion of debt

likely to come undone and put that $30 billion back into the market. rafvery few transactions in high-yield at the moment, so we can be nimble. jonathan: you talked earlier about how treasury can give you the risk on, risk averse protection. triple c's, who would've thought ? why would so be the case going forward? matt: you know, it is hard to talk about triple c's broadly as a group. they really are a market of individual stories. we have seen support in the energy space. nighi do think it is fascinating that energy stocks are unchanged on the year, despite the increase in oil prices, but you have seen a nice reaction in the credit markets, with a lot of those names that were iffy in 2016 doing quite well. you know, when we look at high-yield, the fundamentals are

really very, very strong. the high-yield market today is actually smaller than it was three years ago. but you have to pick your spots. the one area we are a little cautious on is the longer, higher-quality high-yield. we think that area could potentially can lose twice. it will lose if rates go up, and it will lose if it spreads wide. -- spreads widened. we are picking our spot. rachel: high-yield has done well relatively year to date. investment grade has done less well. and if we had to pick between the two of them for the second quarter, it would be the investment grade. jonathan: you guys are going to be sticking with me. check wheremarket bonds have been this week. the two-year note yield climbed nine basis points to you do not 236. get the same of further down the curve. you end up with a flatter yield curve in the treasury market. still ahead the final spread of

, the week ahead featuring earnings from u.s. banks. that is coming up next. this is "bloomberg realyield." ♪

♪ jonathan: i'm jonathan ferro. this is "bloomberg realyield." it's time for the final spread. coming up over the next week, earning season in the u.s. is picking up with bank of america, goldman sachs, and morgan stanley reporting. plus the president of the united , states will be meeting with prime minister of japan shinzo abe. bank of canada will make a rate decision. and we get the fed book as well. still with me, craig, rachel, and matt. just time for some final thoughts. rachel, i want to go to you. i want to reflect on the final quarter as quarterly earnings come through. what has changed in the last three months, if anything at all? despite all the volatility we have seen in equities and global politics? rachel: that is just it, i don't

think a lot has changed, and yet , the market has gotten very flustered at a pickup in equity volatility. his vix higher than last year? yes it is. in the zip code of 15 to 20, it doesn't disrupt things. earnings are going to be solid. you have tax reform that is going to help. we agree with the market. s&p 500 earnings up 70%. supply and demand. we had been in a blackout period. it is been a relatively common period. near-term smooth sailing on global economies. the comment that the pace of growth is slowing, absolutely true, but that could lead us back goldilocks environment. into a goldilocks environment. >> i think we are in the goldilocks environment still. growth we are still waiting for, fiscal stimulus to boost the economy. most the markets. hasn't happened yet. to me that has already been , built in. once trump wasaw

elected expectations of tax , reform started in february 2017. so, i think that is already built-in. we are not going to get a boost in my mind. jonathan: you don't think this story over equities is going to become a more widespread issue? >> i don't know. right now, the normalization, or a normal story seems to be a little far off given everything going on in the volatility. to me, that will continue. what we have seen so far is something that investors should expect going forward. scarlet: i'm going to wrap jonathan: i'm going to wrap things up with quick fire questions. over the next few months, does the rate issue start to pick up, or does the equity issue roll over? does that volatility story bleed into rates or just roll over? rachel: rolls over. matt: i think that is right, it rolls over. craig: we have seen it with fully equity looking, especially in the credit space.

scarlet: this week, we have seen a hawkish tilt to the federal reserve and a dovish tilt to the ecb. matt: treasuries. jonathan: russian or saudi debt of a similar maturity? craig: saudi. rachel: saudi. matt: saudi. scarlet: that was too easy, was in it? that does it for us. same time next week at 1:00 p.m. in new york, 6:00 p.m. in new york and in london. this is bloomberg tv. ♪

♪ scarlet: i'm scarlet fu. this is "bloomberg etf iq," where we focus on the assets, risks, and rewards offered by exchange traded funds. ♪ scarlet: diy investing -- the world documented love affair between millennials and etf is all well and good when you have a bull run, but what happens when a tech selloff hits the market? and this is not your father's biotech fund. immunotherapy another new technologies drive one of 2018's best-performing non-leverage etf's. we put it under the microscope.