00:00What is sending yields to this level right now?
00:04I think what's been most interesting about the backup that we have seen in yields is the composition of that
00:10sell-off.
00:10In terms of we're seeing it predominantly being driven by real yields and less so in terms of inflation expectations,
00:18which is perhaps counter to what one would expect when we are navigating potentially higher than inflation regime with an
00:24energy shock.
00:25And I think that really does feed into a key debate that the Fed is currently having in that our
00:32rates where they currently are in terms of interest rates,
00:35are they sufficient enough, sufficiently restrictive enough to not warrant a rate hike from the Fed that they can stay
00:41on pause?
00:42Or are we going to see signs of price persistence come through?
00:46And that does warrant the Fed maybe having to start to tighten policy in September.
00:50Well, it's a quieter calendar of Fed speak this week than it was last year at the same time.
00:55But we did have Beth Hammock speaking yesterday saying some number of rate hikes may be necessary.
01:01Well, that's at least one, right?
01:02So she can't be too worried about any fragilities in the labour market or otherwise.
01:08And I think it's a really interesting dynamic in terms of the descents that we did see back in the
01:13July meeting.
01:14And I think the risk is that if the Fed does tighten policy rates in September, then to Hammock's point,
01:21you know, markets will start extrapolating that and pricing in the resumption of a tightening cycle.
01:27And it's not clear that the data would warrant that.
01:30Yes, we could potentially see some hotter than expected inflation move the needle in terms of that Fed rate pricing.
01:38But if we look at the broader inflationary trend, we are seeing unit labour cost ease that tends to be
01:45correlated with inflation.
01:46And we're seeing that softness in the labour market.
01:49And as well, housing inflation as well is also expected to start to slow.
01:53So it's not clear that the Fed really needs to take an aggressive stance, as Hammock is potentially alluding to.
01:59If we do see real yields continue to stay around these levels or even potentially go higher, though, Laura,
02:06how much is there the possibility that we'll see real difficulties in corners of the market?
02:12I'm thinking the amount of AI debt that's out there and that's coming to market, for example.
02:17And that's certainly a key risk.
02:20And the fact of, you know, how much can financial conditions tighten before it starts to weigh on the overall
02:25growth outlook?
02:26Now, that's not been the case so far, despite the backup that we are seeing in yields,
02:31because we are still seeing signs of a very resilient backdrop,
02:35looking at where GDP is tracking and Q3 still is to be quite resilient.
02:40But I think if we start to really test that 5% handle in the 10-year yield and that's
02:45real yield-driven,
02:46perhaps then that could be quite concerning.
02:48And again, it's one of the reasons why we think the Fed is going to take more of a wait
02:53-and-see stance
02:54to see how the data unfolds, because as Warsh has alluded to, this is a Fed that is very data
03:01-dependent
03:01and they're not going to give the type of guidance.
03:04But certainly markets will be watching for all of these indicators coming through
03:08for how much they can price in that tightening.
03:10How will the data have to unfold before the Fed actually pulls the trigger on a hike, though, Laura?
03:15Because, you know, obviously oil is going higher right now.
03:18That's going to start playing into the inflation data that we're getting in the next month or so.
03:23So will that be enough if we see oil-related inflation?
03:28Well, one could argue that oil price effects are relatively transitory.
03:32It's more around the oil price volatility.
03:35That does tend to lend itself to higher core inflation over time.
03:40But I think something that came out of Chair Warsh's press conference in July was really interesting.
03:46And the fact he said that they are looking at a broad range of underlying inflation metrics,
03:52rather than just kind of hinging their view on one key inflation point or their preferred Fed gauge around core
03:59PCE inflation.
04:01So that suggests to us that they're not going to look at one or two data points,
04:05but really a basket of data points coming through more meaningfully.
04:10Certainly if we see an upside surprise this week in CPI against another upside surprise in August inflation,
04:16perhaps that could tilt the scales a little bit more so.
04:20But I think really Jackson Hole maybe is kind of that key pivot point for whether we start to see
04:24any further guidance
04:26in terms of what that September meeting could be.
04:29Laura, take us through the process for you and your team when a whole new batch of hyperscaler
04:34or other AI company debt deals come down the line.
04:38And we're seeing another $500 billion of NVIDIA in consort with a consortium of companies, right?
04:44That's going to come to market at some point.
04:46So what does your team do?
04:49This is a fascinating time to be kind of a credit analyst at this juncture.
04:54I mean, we've already seen hyperscaler debt as a share of the U.S. investment grade market double to about
05:004%.
05:01If we look at what estimates are for CapEx in coming years of about $2 trillion from these hyperscalers,
05:08well, these hyperscalers could account for anywhere upwards of one quarter of the U.S. debt market in terms of
05:14investment grade.
05:14So that's quite notable.
05:16I think the way that we look at it is certainly we are seeing this being a dominant technical in
05:21the market.
05:22And interestingly, despite hyperscalers coming to market with more than $220 billion of issuance this year,
05:28that's not actually crowding up the market.
05:30We're seeing tight spreads across the space.
05:33So we suspect this is going to lend itself to more dispersion at the security level.
05:38And so that does warrant a much more selective approach, looking at high-quality hyperscalers,
05:44and even looking at old economy sectors like industrials, materials, and energy infrastructure
05:49that are going to be AI-adjacent, let's say, and not directly exposed to AI disruption risks
05:56and some of that pure-play AI software that is more vulnerable.
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