00:00Kai Hay of Goldman Sachs writing, our base case remains that the Fed can just about avoid hikes,
00:05but the path is narrow and there will be a high premium on the incoming inflation data.
00:10Kai joins us now for more. Kai, thank you so much for being with us. Let's just start there
00:14in terms of your reaction and whether you changed anything in your rate hiking expectations as a
00:20result. Oh, good morning. Look, clearly the meeting was unambiguously orkish, but there was a lot more
00:29actually that we would like to focus on. I think that the communication was extremely clear,
00:36prioritizing inflation in the short term and making it very data dependent as to how
00:41the Fed is going to react at the next meeting. So what does that mean for our expectations? Look,
00:46it means two things, really. The first one is we will also look and track the data very, very closely,
00:52particularly inflation data, particularly to understand how sticky inflation will be and
00:57continues to be. But then there's a second factor. And looking at the two-year yield chart,
01:03I think we will see much more volatility in the two-year sector going forward. And that's a
01:08combination of firstly, you know, focusing on inflation, calming down the longer end of the
01:13curve and seeing that flattening action. And then a lot of commentary around kind of forward guidance
01:19indicating that it will be less of it, that the Fed will be more data dependent. And a lot of
01:25that
01:25will translate into two-year volatility. So we will see much more of the price action,
01:30type of price action that we saw last night.
01:32The irony, Kai, is that we could see less volatility at the long end, right? I mean,
01:36how much does this actually increase your expectations of stability at the long end of
01:41the yield curve and endorse some people who have been going into duration as a result of this promise
01:48to get to price stability? Yeah, great, great question. Look, it's early days. But I think
01:54the chairman started off very, very well in terms of reducing volatility at the long end. And we spoke
02:00about, you know, the impact communication will have and the clear focus on inflation. There are also
02:06these task forces that he alluded to yesterday. And they were very clearly designed to kind of
02:13re-examine the kind of operating model of the Fed. And we're very curious as to how that develops.
02:19If, you know, if there are other sources of data, different inflation framework, communication,
02:24and all of those things, we need to see how that pans out. But that could very well translate into
02:29less volatility at the long end, which in our view would make it much more attractive for investors.
02:34Right. Basically, what Kevin Warsh said in announcing all these task forces,
02:39are you actually more interested in buying treasuries now? The task forces themselves, we don't
02:47think right now are going to drive kind of allocation into interduration. But very much to
02:54kind of focus on inflation and, you know, keeping the long end under control, the Fed doing its job in
03:00getting inflation closer to the target, all of that is very supportive for treasuries. So, yes, at the
03:06margin, that's a positive. We've seen individuals on the Fed get concerned with higher oil prices.
03:11Obviously, this is all coinciding with the fact that we have this deal the president signed. We're
03:15actually seeing more ships move through the Strait of Hormuz. Did you get a sense that Kevin
03:19Warsh is concerned about other parts of inflation as well? And where are those other parts?
03:25Look, I think he said very clearly yesterday that second, third order effects are important,
03:29right? So, you know, we've got to now track a little bit the kind of reduction in the oil price
03:36and how far it will drop. Because, of course, you know, there's every indication that countries are
03:43going to replenish their reserves and that's going to put some upward pressure on oil. So, we've got
03:47to see where the equilibrium gets to. But then the second and third order effects are very, very
03:52important, right? He talked a little bit about the housing market. He talked a little bit about the
03:57financial markets, financial conditions. We're going to continue to focus on the labor market
04:01and see how that develops. So, I think you're right. It is not just the price of oil, but how
04:07that propagates throughout the economy, that will be very important. Kai, this is my stock question
04:11to everyone in fixed income who comes on this morning. Are you on any task forces? No, I'm not.
04:16Well, this is, to me, going to be a key question. Not yet. But the door is open. A key
04:22question for a lot
04:22of people is going to be exactly who are shaping some of these expectations that were
04:26five different task forces. They are a range of different issues from communications, balance
04:31sheet, data sources, productivity and employment in an era of AI and sources of inflation. Kai,
04:37how concerned are you about the balance sheet? We've heard about that as one of his goals. And
04:41that directly feeds into liquidity, given some of the tweaks that the Fed has made around the edges
04:46that have really fueled a wave of liquidity, at least earlier this year.
04:51Well, let's see what comes out of that debate. Actually, the positive is that there will be a
04:55debate. There will be a task force and people will look at that. You know, it is not just the
05:02size of
05:02the balance sheet, but the speed of reduction. It is not just only the speed of reduction. It's then
05:08also what will be the kind of duration of the issuance that the Treasury will bring to the market.
05:13So there's a lot of variables that are important. In principle, the idea of reducing the balance sheet
05:19in a kind of controlled environment is not necessarily a bad one. So let's see how that
05:25evolves. But I wouldn't call it a concern at this point.
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