jonathan: from new york for our viewers worldwide, i'm jonathan farro. bloomberg "real yield" starts right now. jonathan: coming up, looking for the fed to remain on the sidelines in 2020, even if u.s. manufacturing data hits the weakest levels in a decade, and s&p takes the most bearish stance on credit since 2009. we begin with the big issue, just how high is the bar to bring the fed back to the table. >> the fed is on hold. >> on hold. >> on hold. >> the fed goes to the sidelines. >> markets are ok with that. >> the threshold is extremely high. >> impossibly high.

>> they may get back in. >> conditions have to worsen. >> if something dramatic happens. >> or inflation has to majorly overshoot their level. >> they don't want to be the reason the markets fall off but they also don't want to be the reason they go up. >> they are not going up or down. >> they will probably try to stay out of the spotlight. jonathan: joining me around the table, diana amoa, gregory peters, and in london, andrew chorlton. andy, your thoughts on the threshold to bring the fed back to the table in 2020? andy: i think if we put aside what happened overnight, because i think that is much more complex, otherwise, i don't think the fed is coming back to the table anytime soon. i think the same can be said of basically all central banks in the g7. no one is expecting anything

from anyone. we are in a very benign period, absent any further escalation to political issues. jonathan: diana, is that your take? diana: for now, for the first half of the year we are likely to see the fed remain on hold. in the second half of the year, we could see them come back to play, especially because we don't see much follow-through on growth in the u.s. and the expect inflation pressures to remain contained. jonathan: greg? greg: i think consensus is right that the fed is on hold but a year is a long time, so a lot can change as we learned that overnight. i think the base case is right, but i think it is important to retest the base case and not get too comfortable. jonathan: some see more slack in the labor market than before, but the way they respond to data has shifted too. how key is that?

greg: you look at the dot plot that has been dramatic. that shows you how their minds have shifted, but i still think they are surprised by the lack of inflation. the labor market is still tight, not as tight as they thought, perhaps, but you are not seeing the inflation that i think everyone at the fed expected and i think as a result they will continue to run the experiment a little hot. jonathan: you expect to see it anytime soon? greg: not really. it's firming and has come off the bottom, but to have a big uptick in inflation, i don't see it. jonathan: diana? diana: we think inflation will get to two this year, and will be close to that, but i think the fed will want it to stay at that level. i think that's what will be put

into play. jonathan: andy? andy: i think that's spot on when it comes to inflation. if you get an uptick in inflation, they will let it ride. i think people's expectations have become so benign in recent years that inflation is not really the problem. they are focusing on growth or any challenge to the growth outlook. their focus on the others, hiking rates to defend against inflation. they kind of know they can control that side of it. jonathan: does that keep a lid on 10-year treasuries at 2% or lower? andy: not necessarily lower than 2%, but in the 2% area. we could get toward 2.25%. this time of year, you look at outlooks for 2020 and lots of people are predicting rates much higher. i think they are looking for volatility where it doesn't exist. i think the rate environment will be benign and credit is where the problems are.

jonathan: looking at the bloomberg terminal, yearend, 193. you look for numbers around 120, 125. where do you come down on this rates debate in 2020? greg: i still think it's range-bound at sub-2%. but the way i think about it and the way we think about it, the world can handle higher rates. that's what we learned in 2018, and sure, the fed was in play and central banks were moving, but real rates moved up and that was the killer to risk. my number one focus for 2020 continues to be the level of real rates. if real rates move higher, i think it's a risk off environment. jonathan: any move higher is self-limiting because any move higher creates a risk off environment and the bid comes back in? greg: correct. jonathan: is that your thought, diana? diana: it is.

it's been our call for the last year that anytime you get close to the 2% range, you need to have duration. it would not take much to get back to growth again. the rest of the world, rates are in negative territory and that demand for duration remains well anchored. jonathan: what does it mean for bunds? greg: i think it's a little different when you have ecb in transition, but absent that, yes. but the fly in the ointment is that the ecb is recalibrating, rethinking the strategy going forward, and that adds risk premium into the curve across europe. jonathan: let's talk about the shape of the curve in the u.s. we inverted last summer and started to steepen into the back end of 2019. how does that materialize? greg: i still believe the bias for the curve is to flatten and

not steepen. it points back to the real rate argument. basically when rates move higher, there is a bid for u.s. s and i think it pulls it down. it is not representative of a decline in economic growth, it is more of a need. to the point where there are negative rates everywhere else, the higher it is above zero relative, the more attractive it is. jonathan: andy, your thoughts on how much steeper the curve can get in the u.s.? we had some steepness come through into 2020. do you think it can continue? andy: i think it can continue based on domestic factors, but as greg says, as soon as you get any reasonable yield anywhere, people pounce, which limits the move higher. i think it makes some sense to have a steeper u.s. curve because ultimately i think they need to price in the risk of inflation picking up, you need to price in the risk perhaps a further issuance on the longer

end if the treasury decides to shift. but to greg's point, i think things will be limited in the absence of anything else worth buying. jonathan: how important is the front end of the yield curve? greg: i think it's critically important. the big hiccup in the market and what i was concerned about year-end that the fed alleviated, have a well-functioning funding market is critically important to fixed income and the movement of capital. the fact the fed has stepped in, there is still more work to do, but injecting the front end program has been really important. i expect that to continue until there are other fixes. jonathan: have we addressed those issues where they can think about backing away again? greg: i think it's too premature for that. they need to lay out a roadmap and there are other things beyond their control and much more difficult just from a

regulatory standpoint. banks are penalized on treasuries. jonathan: the kind of thing that i'm thinking about for 2020 is to what extent the fed will be backed into a corner with the balance sheet. they find it difficult to back away from the operations at the moment. there is a separate issue that we have some areas of the market, many viewers would disagree, but some areas believe this is qe. and because of that they are bidding up risk assets. if the fed starts to say, we have solved issues, back away from some of these operations, the balance sheet starts to go the other way again. what do they do? greg: i think it's really difficult for them to get out. that's going back to the ecb experience where they feel trapped, same thing with the boj. the fed doesn't want to be trapped but i think they are. this isn't qe, it just looks and feels like qe, and the difference is there is no

duration to it and it doesn't have the same impact. there's also talk in some circles on how they will help funding by going out the curve. jonathan: diana? diana: i think it certainly trades like qe. i get the point on duration not being bought, maybe not anchoring the yield curve, but the amount of reserve in the system is increasing in the fed is increasing liquidity. that is teh qe-like impact. we are seeing equities in risk assets across the board. i feel like this could be tricky for markets to maneuver this year. jonathan: our guests will be sticking with us. coming up, the high-grade bond market gearing up for a big month of sales following a slow december. that is coming up next. this is bloomberg "real yield." ♪

jonathan: i'm jonathan ferro and this is bloomberg "real yield." to the auction block in europe, where the primary market is starting to shake back to life with a handful of deals to close out the week. three sterling offerings in the spotlight, including sales from eib and nationwide building society. in the u.s., the high-grade building market gearing up. reinsurance group of america making up a thin pipeline expected to grow in the coming days and weeks. it could be a busy month for u.s. high-yield issuance. junk bonds scheduled to mature this month as companies look to refinance debt while borrowing costs remain cheap. s&p global ratings most bearish on corporate debt than at any point in the decade. last year seeing the most

downgrades for companies relative to upgrades since 2009. with me, diana amoa and greg peters, and andrew chorlton in london. we know the story of the price action. greg: they've given companies the benefit of the doubt the past five years. there's been a slowdown of cash flow growth. it's manifest in earnings. this is somewhat of a topping off. i don't view this as a really horrible trend, per se. it's a little slow to react as quite frankly in years prior, there has been so much leverage put onto the balance sheets that they quite possibly did not deserve the ratings in the first place. jonathan: when you hear things like the most downgrades relative to upgrades since 2009, people worry when they hear the number 2009. should they be concerned about the credit ratings for some of

these companies, relative to where they are priced currently? andy: i think the pricing is the issue opposed to the fundamentals. the pricing is way ahead of the fundamentals because of the qe and the search for yield. i think what we will see in 2020 is much more dispersion, especially among investment-grade. you saw this in high-yield last year where the ccc's didn't do so well. i think you will see companies that are on top of deleveraging plans and following through, and they will be rewarded, and those that don't show discipline will be punished. there's no question that prices are expensive of credit. you don't get the kind of excess returns we have last year across pretty much every sector. you can't get that this year without materially changing something and people should be cautious in credit just because the entry point. jonathan: greg, do you agree?

greg: no, not really. you should always be cautious in credit, there is nothing but downside and upside is very limited, and that's very much the case in 2020. but it's still a decent environment for credit. pricing has come a long way in a short time. a lot of that was a reversal of the prior year. but i think unless you see a real uptick in defaults and companies continuing to trash their balance sheets -- there's been more of a downgrade but you haven't seen companies actually look to impair their balance. i think that is important. i think it's too early to sell the credit rally and there's too much negativity around bbb and negativity around high-yield bonds in particular. jonathan: bbb's had a fantastic year in 2019, and ccc's did not until december of 2019. are you on the bandwagon for 2020?

greg: yeah, we were on the show in november and you asked me the question and it was too early, but there has been such a big price dislocation. for us, there's much more value in single b and ccc. versus double b's for example. i see value in ccc's, the capital structure at least for now. if pricing changes, then we will exit. jonathan: diana? diana: i think you need to be select, but with the fed balance sheet still increasing and you have relatively easy monetary conditions, there is money to be made further down the credit spectrum. i think for the first part of the year, it will not be a rally and everything should be supported barring a geopolitical shock. everything should be supported by the external backdrop. i thought the s&p report was interesting because the things

they are talking about are things markets have talked about a long time. the auto sector, the problem child, is flagging and could be one that needs to adjust more. we have seen some improvement in other sectors. like in telcos. in ccc, it is energy stocks that have underperformed. you look at where the valuations compensate. jonathan: bloomberg has crunched some of the numbers with the credit ratings, 11 to one was the downgrade to upgrade ratio in 2019 in autos, which is terrible. to greg's point, if you're going to start looking at the areas of the market that were lacking in 2019, is that an area you would be willing to look at? if we get a stablization, is a cyclical tailwind enough to offset what are very big

structural issues in that particular area in that particular sector? diana: again, it's on a name by name basis. i think the structural issues, in the u.s. they are talking about market saturation and that's not going to go away. the sector may have gotten a boost from what the fed did last year, so consumer credit becoming more accessible, but again it's very much a name by name basis. some of the bbb autos are expected to be downgraded this year. the markets are pricing that in to an extent. in europe, i think the balance sheet starting point is stronger, some of the names have been hit hard. they have been forced to get up to speed sooner. again, very much on a name by name basis rather than a sector. i think long-term challenges for the sector will remain with us. jonathan: andy, a quick word on the auto sector? andy: as diana said, there are some fundamental problems that

need to be addressed in terms of the change in the sector. same thing with the energy sector, it's going through a fundamental change in how people buy cars and the type of cars they are buying. i think the challenge with europe, looking more generically at european credit, last year over 5% and the index yields about 50 basis points. i don't really understand how people can come into 2020 with a particularly bullish view on credit given the returns we have enjoyed in 2019. i think autos, again, it will be name by name, but in that area, there may be the opportunity to pick some names that deliver and recognize the challenges. but it is another sector in transition. jonathan: final word around the desk? greg: i think it's time to be invested in credit. i think it's too early, it is name by name, it is dispersion. i think it's a place for alpha.

jonathan: coming up, the week ahead. this is bloomberg "real yield." ♪

jonathan: i'm jonathan ferro and this is bloomberg "real yield." in the next week, fmoc president taking center stage. charles evan, and others speaking in new york. plus, economic reports out of the u.s., including factory orders. the main event, next friday, the u.s. payrolls report. diana, just to pick up on where we ended the week with a really weak manufacturing in the u.s. should we be worried about what is happening? diana: i think that's been one of our big concerns, that the

markets were getting a bit ahead of themselves and that's why we think being in duration in the u.s. makes sense. the economy is not picking up to the extent the markets seem to be anticipating, at least the equity markets. i thought the ism today -- when you look at the underlying data, there is just general weakness. employment also came in lower than expectation. that should make next week's payroll data interesting. given that the markets expect something fairly robust. i think if we see downside, they might have to rethink. jonathan: the hope more than anything is to see stabilization in china, and if we see it in europe, the u.s. will lag manufacturing recovery but not lead it, and it will be the last out. is that the right approach? greg: i think it's more concurrent. clearly, europe has been copied

-- caught between the u.s. and china, and they should definitely react, but they are separate. just because the u.s. entered last doesn't mean it will not be the first to exit, either. i think people are too negative on the u.s. in terms of that. but it bears watching. what today's number told you due is that the consumer better hold up because that is the key driver to the economy. jonathan: so far, so good into 2020. le's get to the rapid, three quick questions and three quick answers if you can. first question, can high-yield credit spreads in the u.s. breakthrough 300 basis points in 2020? yes or no? greg: yes. andy: no. diana: yes. jonathan: will 2020 be the year of ccc in the u.s.? diana: no. andy: no. greg: yes.

jonathan: on the u.s. 10-year, can we retest the 2019 lows on 10-year treasury lows, yes or no? andy: no. greg: yes. diana: absolutely. jonathan: guys, great to catch up. we will see you next friday at 1:00 p.m. new york time and 6:00 p.m. in london. this was bloomberg "real yield," this is bloomberg tv. ♪ [ dramatic music ]

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