>> from new york city for our viewers worldwide, i'm jonathan ferro. bloomberg real yield. jonathan: coming up, from the global equity market. the fed indicating a market enough to won't be shake policy and the optimism supported by strong u.s. -- 3.5%. we begin with a big issue, but risk is part of a fixed income. and bastion of stability in a volatile world. >> credit conditions remain extremely generous. it's too expensive to buy, but

it's too early to short. >> if you look at highly leveraged equities, they are underperforming. yet the fixed income credit markets aren't really that worried about it. it's a really interesting disconnect and quite unique. >> high-yield should be compared to equities and somehow made even on an absolute basis, more attractive. >> if you start seeing lending standards being tightened, credit spreads widening on a sustained basis, you know you are going to create that same feedback loop into equities and you are going to head into a recession. we don't think that's a story for the next few quarters. >> u.s. recession still looks a long way away to me and you would normally see credit starting to weaken, starting to widen if we were starting to see deteriorating. that is not there at the moment. >> a full house in new york city today. joining me is rachel, cohead of high-yield and bank loans at goldman sachs asset management.

the global -- blackrock. and head of global bonds for fixed income. i want to begin with you. asking the question essentially that the essence of our peace. -- other piece. the junkiest part of junk, leveraged loans are doing ok. why? >> you can either assume that the equity is the beginning of the end and credit would catch down with it, or that this is a flash in the pan and that there will be a recovery inequity. we believe that there will be a recovery. actually, the fundamentals of the credit market and the economy are still very strong. you look at the underlying rate, very benign. likely to be so for years to come. one of our strongest conviction views is that the energy recession of 2015-2016 really hit the reset button for corporate behavior, for how the margaret was being addressed. it really gave the market a chance to heal.

the quality is not as dire as people have suggested. >> you share that view? >> when you look at the high-yield market, there's some very strong technical reasons why it has performed very well. the lack of supply versus demand, and i think you still continue to see that. ,ou see a bit of a shift evaluations in europe, for example. it's actually pretty attractive now. the market is evolving and particularly of the fed continues to hike. robert? >> it's a good environment. it's a u.s. linning market. the economy is doing well. while europe has been having its problems, emerging markets have been getting it, more downside than outside. high-yield is kind of the sweet spot. the equity market was wasting away. , you are having

steep correction in equities spilling over. i think to the extent that this recovery, this expansion continues, they are likely to reemerge as a sweet spot. >> it would be disingenuous of me to say that credit has come out completely ok. isuess the broader point that the outperform is a state of the worst part of high-yield. the broader point is that leveraged loans have remained. to your point, if there are people watching this program right now worried about the equity market volatility, is your message them ultimately that the messaging credit is not one of doom and gloom? >> leverage loan is the hot area. the value is not necessarily there and that's going to be theweak undervalue. in the meantime, the technicals are very strong. it has gone from a wholesale chief fixed income market a couple years ago to much more of

a bond-pickers market. you have to be very selective. the gems now are ig. >> can i pick up on the point that the leverage loan market is strong. why? >> the retail demand is very high and you have a fed rate hike environment. that has created a bulletproof technical for that market despite really high issuance. >> is fundamental strong? >> i think the technical that we need to mention also is the clo demand. clos now represent over 50% of the holder base and actually, it's important to look at this as a relatively stable tool of assets. they will not be forced sellers in the next recession. they came through the financial crisis in really good shape. i see the clo base as a stabilizer but also the demand has created a supply that is

relatively unique. the loan market has changed materially, a percentage of the loan market that is loan only has more than doubled in size in the last couple of years. you have weaker covenants. i am not saying we don't like loans, we still like them in the view that rates are continuing up for the next couple of quarters. they will still be a go to investment asset class. >> your point is really important because a lot of people, there will be nothing but need them. -- there will be nothing beneath them. what does this mean for recovery rates? a lot of people will say recovery rates are ok. is this time different? is it a different market than 10 years ago? >> we would expect it will be. entire capital structures comprised of loans, no first lost piece beneath those loans. it's historically the loan

recovery rate has been as high as $.70 on the dollar. we would use the lower numbers, probably something in the 60 or maybe low that. it also depends on how stressed the balance sheets. overall leverage is not terribly worrying but then we would look at the nature of the underlying cash flow and say a lot of bad backs -- add backs have been for -- permitted to boost that number. and actually these companies might be somewhat more levered. not only lower recoveries but -- -- potentially more volatility. >> just underlying how much homework you need to be doing if you are trying to get to this space. how much homework to you need and leveraged loans at the moment? >> exactly, those are the points. the demand is strong, the clo demand is strong. you need a really well-versed credit team to go into every deal. if you have that, you may have

similar downside experience to high-yield. for those goign in that are not doing that homework, it's not going to be pretty. >> spreads have been wider. do you anticipate high-yield relative to leverage it loans -- >> i think it's going to be in high-yield. that's for a couple reasons. high yield spreads are on 50 basis point in the index. rates are up. i think that we are getting to the point where a few interest rate hikes down the road, the fed is going to be done. there is going to resume -- be some dropping. the technical point, the loans get called away. you are not going to participate in that interest rate rally. >> to be clear, you don't think

we have seen the most crisis times of high-yield? >> i don't. ig is different, there are good opportunities. the spreads were incredibly tight earlier this year. in high-yield's, if the fed succeeds in not killing the economy and we have a moderation in growth and this goes on for a few more years, then i think the technical could move the market quite a bit. >> do you share that view? >> as the fed continues to raise rates potentially. i think one of the effects to be aware of is the change in the size of the ig market. how that grows exponentially when you compare it for example. they do it closer to recession, we do get to the end of the cycle. if you do see some downgrades,

it's also a factor that you need to consider. >> final word on credit? >> several percent yields in high-yield. it's a threshold that really matters to people. i think we have seen with the rate rising, we can see further spread compressions. the technicals and fundamentals are looking good. >> bullish, i've got to say for asset management. coming up on the program, the auction block. netflix with high yields to invest in a $2 billion bond offering. this is bloomberg real yield. ♪

>> i'm jonathan ferro, this is bloomberg real yield.

i want to head to the auction block were netflix was the headliner and high-yield. the company sold more than $2 billion. it had to offer yields of the high end of the price expectation. the first time that happened. u.s. debt investors are helping to finance consolation grin spread. it sold more than $2 billion in bond. in leveraged loans, space-x is said to be working with goldman sachs to raise $500 million of leverage loans. space-x valuation has climbed to about $28 billion. the former fed chair joining a chorus of people concerned about the rise of leverage loans. she said in an interview, worried about the systemic risk associated, there has been a huge deterioration in standards. it's a big issue that she has chimed in on and many others have as well. rachel from goldman sachs asset management, blackrock, and fixed income.

robert, i raised that quote because i'm wondering whether former fed officials and current fed officials are trying to tell us something. the guiding light at the moment seems to be worried about financial assets and financial troubles. >> they are operating in a world of uncertainty, but they do know that would ultimately has cost the average american and even more than that, the big downturns. the crashes. the crashes have been caused by the bubbles. those are the ones -- recovers very slowly. it was probably five years ago that we were warning on biotech. i think it behooves them to kick the tires and see if anything rattles. that is ultimately what is going to extend this expenditure is the fact that while you are not seeing the widespread access of

aggressive lending versus appreciated assets, the real estate level or any fixed single, they are continuing to raise rates. i think that's what is going to, in the end, be very helpful. >> that's the former fed chair. current fed officials, one of them has warned this week about the leverage loan market. in a quite emphatic way. jay powell has talked himself about financial instability is being the biggest risk, not so much inflation. on a week where fed officials of come out one after one and basically said that the equity market is not going to force him to pull back from their rate caps, i'm wondering what the guiding light actually is. >> that the billion dollar question because they have made it very clear that they are not sure where the neutral rate is. the economy with the gdp numbers continued to do incredibly well. we are still seeing some very strong things come true for

consumption data. what we are starting to see is the impact in the housing markets on other rates. we are starting to actually see where rate rises are having much more of an impact. especially as it gets closer to next year, the committee has less of a conscience about the hikes next year. the question becomes, at what point do they pause? at what point in the start to go by a meeting by meeting basis rather than is consistent gradual increase? >> we are seeing some tension start to emerge between the market pricing and federal reserve interest rate hikes and whether the fed is telling us where they are going to be. even this week, when that hike comes through. i am wondering where the market and the federal reserve is an how that spread reconciles? >> the fed and the market have

gotten much more closely aligned in the last couple of months than they had been at any time in the past. now it looks as though powell is actually trying to dial down the reliance on this sort of forward guidance. trying to paint a steady picture going forward. we still think the fed is there but it is deeply out of the money in that you really are seeing the strong economy, decent inflation, but not really an immediate threat of inflation breaking out to the upside as we go into 2019. i would agree very much with marilyn that there are a number of other forces that are going to push the fed's hand. we think the tax reform has been a tailwind that will begin to fade. trade is already be getting cause some supply-chain disruptions. as we look among other things at the difference between the performance of the equity market which has been very weak and the credit market which has been somewhat stronger, i think it leads to the expectation of slowing cost line growth.

you have slowing topline growth. if margins begin to erode, you will see leverage worsening. this is one of the pieces from the financial conditions and that will influence the fed. it's just not immediate. >> you mentioned inflation, i think that's important. are they starting to roll over a little bit? looking at the breaking on a five-year maturity. >> yeah, today you are seeing it. i'm surprised how little they have come down given how much energy has come off and the curve is incredibly flat which suggests the market does not really have a strong view about where it's going to be headed in the long-term. i think that on the fed, when you look a year or two and the fiscal is fading and energy prices are going to crash and begin to go horizontally, once they are at a neutral rate and the economy is doing well and they are not inflation pressures, that is really going to rise.

they will be going into possibly restricted territory, hurting the economy when they are not really sure that they need to do it. >> are they hurting the economy now? >> i don't think so. they have safely created room to cut. the economy has plowed through this but you are just beginning to see in new home sales in particular, a correction which is extending a little bit further. there have been waves in the rise. this one is just beginning to be a little bit longer than the ones before. your interest rates are just beginning to buy and we are thinking they have easily two or three more moves before i need to slow down a little sooner. >> robert from fixed income alongside rachel from goldman sachs and marilyn watson from blackrock. a check on where treasuries have been. treasury yields a shaping up as follows. the front and yields low by nine basis points, down by 10 on 10 year and down to 322 on the 30

year. still ahead, the final spreads. and a payroll report is around the corner. from new york, this is bloomberg real yield. ♪

♪ >> i'm jonathan ferro, this is bloomberg real yield. it's time for the final spread coming up over the next week. we will have a parrot of central bank rate decisions. one from the bank of england and the other from the bank of japan. another round of earnings, the brazilian election and the u.s. report to close out the week next friday. payrolls friday, just around the corner. still with me to discuss this, rachel from goldman sachs. marilyn, the front end has been a big story for the team of blackrock.

are we getting to the point where we are seeing that move now that we could be close to the peak? >> we still really like the front end of the curve. we think that it might be from here pretty well anchored but actually, if you continue to hold that, then we think it is very reasonably priced. but actually next move you could see is more of a steepening. particularly if the fed does indicate the rate hiking cycle. i you still have a lot of cushion and get some very good income even if we see rights rise a little bit. further up the curve if you go to the tens or 30's, there's just no cushion. >> can you walk me through that, why the next big move could be so big? >> if the fed announces that is going to pause at some point, the market is not yet retired for that. we have seen a few signs that the market is concerned but it is not yet priced in that the

fed might false in a rather than later. next year, i think the market will really start to reassess. it's going to reassess the view of the u.s. to europe or japan. you have seen the curve flattening for most of this year, now we're seeing at stephen elop of the area it has -- we're seeing it steepen a little bit. some of it has played through. the hedging costs is so expensive that you can see foreign investors going up elsewhere and they are getting a much better yield. >> it's been a big conviction for you. have you changed if you wanted? >> is relocated a bit. the bond was a spectacular performer and part of that was the shift in issuance. the fear with trump was that they were going to extend, that they might want ultra long treasuries.

instead, they had a change of course where they moved supply heavily into the front end of the treasury curve. they have been pounding that and introducing the maturities, hitting it with supply and the bond has been a spectacular performer until lately. i think now your performance is somewhere in between fives and tens. at this point, it may be a little early for twos. they peaked with the last hike. the last hike is going to be close to three or above 3%, than twos may still have some downside. >> going to wrap it up into the rapidfire around. quick final questions and quick answers if we can. will credit still leave equity into the next downturn? will credit still leave equity into the next downturn? yes or no? >> yes. >> yes. >> yes. >> have we seen the post crisis hikes on high yields? >> no. >> yes.

>> don't think so. >> that's interesting. is the fed a thing of the past? >> no. >> yes. >> no. >> interesting stuff. my special thanks to rachel from goldman sachs, maryland from blackrock and robert from pgm fixed income. that's it for us this week. we will be back in new york same time, same place friday. 1 p.m. new york 6 p.m. london. this was bloomberg real yield, this is bloomberg tv. ♪

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