♪ taylor: from san francisco for our viewers worldwide, i'm taylor riggs in for jonathan ferro. bloomberg "real yield" starts now. ♪ taylor: coming up, yields on the u.s. 10-years slipping back below 1.90 heading into the final week of the year, as investors place their bets on rates in 2020. plus, signs of optimism. it may not signal the all clear just yet. what it means for inflation and growth expectations in the new year. and wrapping of the year of outperformance in credit.

corporate bonds on track for the best returns in a decade, but how long can the rally continue? we begin with the big issue, markets betting low rates are here to stay in 2020. >> it is hard to really see the yield breakout from here. >> bond yields moving sideways. >> trapped in this range. >> we can't generate any efficient right now. >> that should eventually be a good year for bonds. >> still attractive, but certainly not breaking out. >> 1.20 by the end of the year. >> to get to 1.2% on the 10 year, we are looking at a global recession. >> we are going to test 1%. >> a lot of things would have to go incredibly wrong to get to 1%. and if i'm wrong, i think we're going lower. >> in the u.s. economy could potentially go into recession. >> unless the market begins to price in additional cuts, the 10 -year at most, will drop down to the 1.60 range. >> the fed will probably not cut again. >> if there is any weakness in the data, you will see an outsized rally in bonds. >> the path to least resistance has been for decades, lower, and

i see no reason to think that is going to change in 2020. taylor: so, the key question, can we break out of the range set in 2019? joining us from new york are : of charles schwab peter tchir , of academy securities, and in pasadena come john bellows of western asset management. i want to get your 10-year forecast from each of you for 2020. collin: we think it will rise modestly in 2020, somewhere in the 2.25 range. the fed will stay on hold. with signs of stabilization across the global economy, as well as in the u.s., pickup in inflation expectations, we can get close to 2.25 for the 10 year treasury. taylor: peter? your take on the 10 year in 2020? peter: i think we will see 2.25 as soon as january and february. i think of the status the year

rough in treasuries higher , yields, deeper curves as the global growth curve gets priced in, and a bit more fiscal stimulus out of europe. taylor: john, your thoughts. the better growth optimism is an argument for higher yields, but i would highlight two other components. inflation continues to be very subdued. 2019 was supposed to be a year of higher inflation. not only did that not happen but inflation moved lower across a set of measures. the second component is the fed. they have adopted an asymmetric reaction function, unlikely to raise rates given the low inflationary environment. i think there is a chance they cut rates, whether that is in response to a growth downturn, which would be a straightforward reason to cut, or even if inflation is too weak, chance that they cut. against that, subdued inflation and asymmetric and accommodative fed. our view is those two things will matter more and keep yields

, low for the foreseeable future. taylor: i wanted to talk about the fed, because john brought it up. the wirp function on the bloomberg shows no movement in either direction in the first half of the year. i know it is far out, but what is your take on fed action, at least in the first half of 2020? collin: we think they will be on hold. we like to say we think they will be on hold for the foreseeable future. that is what the markets are pricing, and i think that is what fed officials are telling us. with the three cuts they did this year, they have successfully un-inverted the yield curve, and now, things are ok. financial conditions remain easy. barring some change in the economic outlook, there may be a risk-off environment where we see stocks fall, we think it will be on hold. taylor: peter, i want to get your take now that phase one of the trade deal has been sort of resolved. what do you need to see in the economic data, in the trade tensions, to get the fed to move in either direction?

peter: i don't think the fed will do anything in rates unless there is a big change in sentiment, either very positive or very negative. i do think we start to see as early as january them containing how big the balance sheet will be. a lot of this rally started in october when they started regrowing the balance sheet. looks like we will make it through the year-end without any refunding in the short-term market. they may start to set expectations saying, hey, we can't keep growing the balance sheet at this pace. i think that will be a headwind on stocks, ok for the rates market. taylor: i want to go back to the steepening yield curve. it is bringing some optimism to a lot of the markets here. take a listen to what morgan stanley investment management saying krishna's is that it is a step in the right , direction. >> i take confidence from the steepening of the yield curve. that is a measure of success, confidence in the future. we are talking about an

endogenous rise in long-term rates. it is not the fed pushing them higher, it is the market pushing them higher because we are more optimistic about the future. taylor: james athey giving a little bit of a different take. this is what he had to say. >> you don't get a recession when the curve inverts, you get it when it comes back, dealing with the problems that have built up in the expansion phase of the cycle. essentially, if i were to look at the curve today, i would say this is classic pre-recessionary yield curve behavior. taylor: john, your take on the very steep yield curve at the moment, the steepest since john: 2018. i think the re-steepening of the yield curve, the fed deserves a little bit of credit their bring. there.le bit of credit beginning of 2019, the yield curve was inverted, sending a

clear signal that short rates were too high, monetary conditions too tight, and the fed's cuts have addressed that. however, it is premature to signal an all clear here, declare success. if you think about the level of yields right now inflation , breakevens on the 10-year are fed's 2%ably below the mandate, below where we were six months ago, and a lot below where we were 18 months ago. the yield curve is not inverted, and that deserves credit. but we are a long ways from an all-clear. i think the level of inflation breakevens is still worrisome and still demands attention from the fed. taylor: peter, we are showing a chart of the fed's balance sheet, and you were highlighting this, the togetherness of the fed's actions and the balance sheet, and how we see a steepening yield curve. is the steepening yield curve, in your opinion, different this time around? it is a good sign given rates are rising on the long end versus the last time, when we saw a steepening of the yield curve, and then eventually,

recession. it is bets on the short end of the curve. peter: i want to take one step back. august is when we got the diversion. there were a lot of technical factors in play. a bunch of inflows into long -dated treasuries, there was a shortage of sellers, so some of that flattening was purely technical. we reversed that. the thing that i like going forward -- we wrote back in august, steepening the yield curve should be the fed and treasury department's job. i think the fed has done a lot of that. what i'm for now is the treasury department will start issuing more duration. this department is focused on issuing a lot of t-bills and front-end bonds. they haven't issued as many 10's and 30's. the value is skewed a little to the front end. i would like to see them come out and issue more 10-year, 30, maybe introducing a 20-year. i think the steepening yield curves really gives a lot of comfort and it can help the economy. the other way around, it is really the yield curve that leads the discussion, rather than the discussion leads the

yield curve. taylor: collin, do you agree, are you comforted by the steepening of this yield curve? this time is different with the re-steepening after the initial inversion. collin: i agree with john, this is a success by the fed. i do think it's important to put this in perspective. they lowered the rates and they got out of negative territory. it is still relatively flat if you look at the three-month, 10 -year you are still in the 25, , 30 basis point range. so when you pull back and really look at the broad yield curve, is still a relatively flat trend. but if you look at the past midcycle adjustment of the 1990's, that was also followed by a steepening of the yield curve, albeit modestly, and we saw a recession expectations move back a little bit. ,o we do think it is a success but we need to see more before we see an all-clear sign. taylor: john, as you look at 2020, is the pain trade higher yield or lower yield? john: first, for could respond

to something that collin said ofut the midcycle adjustment the 1990's, i think it is important for investors to understand this is not the 1990's anymore, the fed is doing something different than what they've done in the past, not responding to something global. they are responding to low inflation here in the u.s. they have made that very clear. powell has tied future rate hikes to inflation explicitly. this is not something that we think will be reversed in the next two years. but instead, as long as inflation remains low, the fed remains on hold. it is really important to 1990,ize, this is not this is about inflation. one thing that strikes me about trades, they are about, what is the consensus? one consensus that we hear all the time is the steepening of the yield curve, for reasons that have been discussed. that could happen if you see some kind of readmission of global growth and optimism, yields move higher on the backend. but if inflation did not move higher and we didn't see an increase in global optimism,

then i think steepening the yield curve would be a pain trade in the sense that consensus is there already. you could see a flattening as a result of that. first point, this is not 1990. it is important for investors to understand that. second point, i do think the steepening yield curve is somewhat of a consensus trade. that means yields are flatter here. taylor: everyone is sticking with me. coming up next is the auction block. the u.s. treasury department selling $113 billion of longer -dated notes in the final full week of 2019. plus, a strong finish for the corporate credit markets. that is all coming up next. this is bloomberg "real yield." ♪

taylor: i'm tayler riggs. this is bloomberg "real yield." i want to head over to the auction block and begin with asia. japan sold just under two trillion yen of negative yielding two-year bonds. the bid to cover ratio was 7.4 times close to the average. italy sold 2 billion euros of zero bonds due in 23 months. investors offered to buy 1.8 times the amount sold. the bonds were sold at a slight premium, with a yield of -.005%. here in the u.s., the treasury department holding three auctions this week for 2, 5, and 7-year notes. the demand for $32 billion for seven-year notes rose from the last auction of securities demand for two and five-year . demand for two and five-year notes was lower than average. -- demand for two and five-year nose was lower than average for bonds of the same maturity.

elsewhere, corporate credit is looking to finish the year on a high note with high-yield rallying for 16 consecutive sessions. wells fargo weighing in on the recent performance in the junk space. >> across high-yield, you are pulling in 2020 returns into 2019. there is a year-end squeeze going on as people scramble, looking for that recovery trade, where can i get the incremental yield, incremental return, how can i set myself up for next year. and we have seen a very meaningful squeeze into the market. taylor: still with me are collin martin, peter tchir, and john bellows. collin, i want your take on some of the comments that george bory was saying, basically that would we have pulled a lot of those returns in the ccc space specifically back into 2019. do you see that as being the case? collin: we do to we think it will be difficult to mimic the returns we saw this year in the credit markets, especially high-yield. we have gotten to a point where spreads are low, prices are

high, and the returns we saw this year, frankly, will be difficult to follow, unless we see spreads go to all-time low levels. our outlook for next year, and our guidance for investors is to be very defensive, suggest underweight in high-yield bonds, especially the low rated. junk used parts like ccc's. the outlook is to earn your coupon. coupon payments will make up most of the return in 2020. taylor: peter, your take on credit in 2020? peter: we came into december looking for this squeeze across the board. the first step is figuring out which credits benefited unfairly by the squeeze, start selling those. there is going to be a return to weakness for those weaker credits. having said that, we like cyclicals, autos, commodities. certain names were beat up that are starting to come back. i think those can continue. so it will be very difficult for managers to figure that out, but i think that is where you are supposed to be doing with your portfolio now. figure out which of those weaker names are underpriced and still have upside, adding to them, and then cutting losses on those that have a surprising rebound.

taylor: the dallas fed president , robert kaplan weighed in on , the credit market, telling bloomberg tv that those tighter spreads might be cause for concern. >> b and bb credit spreads are so tight. bbb spreads are very tight. if i see evidence that the market is distinguishing between lower-quality credits and better credit, i think that is an encouraging sign. my bigger worry is, you have got increasing pe's, historically low cap rates, tight credit spreads, and i'm just keeping a close eye on excesses and imbalances. taylor: john, do you agree, with the fed president tight , spreads, a cause for concern? john: one thing he highlighted that is true is that there has been some differentiation this year. higher-quality has outperformed,

ccc's have lagged, a little bit of recovery in december, but still disappointing performance this year relative to the broader market. that is an important point. in that environment, managers that have the ability to do the fundamental credit work and differentiate between names and sectors, are really best positioned to outperform. our team has done a great job on that, and i think this will be the key thing going forward, to do that differentiation that president kaplan is talking about. it is not just buying the highest yielding bonds and waiting for them to tighten, you have to do that differentiation, have to be a fundamental manager in order to perform well. taylor: what is the high-yield market telling you with spreads at 3.26, down from 5.50 a year ago, collin? collin: investors are not being compensated that much for taking on the risk that high-yield bonds offer. aaa's down look at to b's, if you look at the tiers

sub-tiers of the market, they are close to the post-crisis lows. the only types of bonds that have spreads above that is ccc. you are not being compensated. with high yield, it is not out of the ordinary to see spreads move sharply, whether it is 100 basis points, or 150 basis points. the lower they are, there is less of a buffer for investors to kind of offset some of that. taylor: peter, we were looking at the chart. it is shocking to see high-yield at 3.26 basis points, and then investment grade at 97 basis points. what looks more overvalued to you? peter: i actually unfairly comfortable with credit here. we all talk about reversion to the mean. we talk about how tight this has been since the crisis. you go back to the early 1990's, we spent all the 1990's at these credit levels, most of the 2000's at these spread levels. i think it is going to turn out the investors were way ove overcompensated to take investment grade credit risk the past seven years, maybe longer, and i think we could normalize.

we will see a world of bbb todits where a's moved on bbb, bbb holds at bbb, and maybe if we get a recovery in the economy, bb getting upgraded. i think we will all look back and say, what was the concern about bbb spreads? we saw this year, as companies went through what we were calling the debt diet, those vtment grade level could turn themselves around and regain the credit rating. i think we will probably not see a ton of spread type thing from -- spread tightening here, that i don't think we will go back to widening. people will have to find the opportunities in those beaten up cyclicals, those names that were undervalued. people will be searching for yield, and that is where they will find it, in those names that were left for dead, when they come back. taylor: john, i want to read something from pimco who thinks the strength in high credit is here to stay. he says "there simply not enough high-quality in assets the demand. reason credit did so

well this year, it wasn't just the fact that the fed and other central banks cap rates, the fact is just that there is that much more demand." does demand continue in 2020? john: i think the fed is a big component of this. they are accommodating in policy. their moves this year will lengthen the cycle, and that is reducing one of the major risks in credit, reducing the recession risk. another thing the fed has done by bringing down rates is reducing the hedging costs for foreign investors who want to buy credit. i think both of those are positive. so, yes, the fed is definitely a part of the pro-credit story. i want to come back to the idea that there is differentiation within the credit market, and fundamental managers can take advantage of the. let me give you an example. we have noted that energy credit has really lagged. one thing that is striking is that energy credit has lagged even though management teams are being very prudent with their balance sheets. you see asset sales in order to manage their maturity schedules,

bring down leverage in some cases. and yet, spreads are still quite wide to the markets. energy would be a case where prudent balance sheet management from the leadership and those companies is a positive. spreads are not reflecting that. that is a place where you could take some risk. taylor: everyone will be sticking with me. still ahead, it is the final spread. this week, it is featuring manufacturing data out of the china, and the u.s.. before closing out the year. this is bloomberg "real yield." ♪

>> i'm taylor riggs, this is bloomberg real yield. .ime now for the final spread coming up over the next week, on monday, we get chinese pmi's and u.s. wholesale inventories.

tuesday, the bond market closes early ahead of new year's day on wednesday. thursday, china manufacturing pmi data. friday, minutes of the fed's latest meeting. still with us around the table are collin martin, peter tchir, and john bellows. peter, tony crescenzi told us that 2020 will be a year of coupon clipping. if you take a look at returns, is it price or coupon in 2020? peter: think it is going to be different. for total return investors, you'll have to be careful. it may be a coupon clipping. for spread investors, people are nimble. you can do well. you will have to be aggressive, as john talked about. energy could be the area that outperforms. so you have to be overweight those sectors that still have juice in them. you have to time the market. there will be opportunities to buy and sell, rebalance your portfolio. i thing that will drive returns much better than clipping the coupons back. taylor: it is time for the rapidfire around. to each of you, how many fed cuts in 2020? collin. collin: zero.

peter: zero. john: i will be a little more bullish and say one. taylor: what is the upper bound for the 10-year in 2020? collin: we think 2.25. but upper bound, we will say 2.5. peter: 2.75. john: for the 10-year treasury? yeah upper bound. ,john: am going to say 2. taylor: what part of high-yield outperforms? you know what, i will just get one answer there. collin martin, peter tchir, john bellows, thank you. this is bloomberg "real yield." ♪

♪ >> a landmark deal for green finance. the e.u. comes to an agreement on governmental standards. that was the election and brexit set to happen, we speak to a ceo. she says we need new rules to safeguard the financial system. from money laundering to me fed mifid