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The Fed is ‘basically responsible’ for the market now, Scott Minerd says

Guggenheim CIO Scott Minerd joins Yahoo Finance live to weigh in on the latest market action in October, discuss his thoughts on Fed tapering and more.

Video transcript


JULIE HYMEN: While, the Milken Conference is going on in Southern California, a number of different folks gathering there to talk economics, markets, policy. For that matter, one of those folks is Scott Minerd over at Guggenheim. He, of course, is the chief investment officer there.

Scott, it's always great to talk to you. And what's interesting is I've looked at some of your recent commentary or recent notes. I'm seeing a theme that is echoed perhaps elsewhere in the markets, which is you have a lot of concerns about challenges out there. But at the same time, you think stocks can continue to push higher. So explain to me what may be on the face of it looked like a disconnect?

SCOTT MINERD: Sure. Sure. Well, you know, it's interesting. And I appreciate you having me, Julie. You know, there's an old saying that bull markets climb a wall of worry. And if that's the case in this situation, we have a big wall ahead of us, which means we can still have a big bull market. But you know the reason that I'm so positive is there are two things right now.

One is there's still a lot of excess liquidity sloshing around the system. The Central Banks are starting to move toward taper. There's still more money to come.

And then the second thing is the seasonal factors. Just around the time of the World Series, which the Dodgers will win this year, the market tends to rally. And so you know, I did write a commentary a few months back about I was concerned about a pullback that might be related to the economic slowdown from a resurgence in COVID, which I think we did get.

You know, clearly, I think in the last week, the markets have bottomed out. And we're going to see stocks perform very well for the rest of the year and probably into the first half of next year.

JULIE HYMEN: Scott, I will not weigh in on the Dodgers. I am not qualified, nor equipped to talk about anything sports related. Maybe the guys can fill-- drop into that role. So it sounds like also is you're talking about this liquidity question. There seems to be a lot of comfort on the part of the market with the tapering and even with potentially rates going up at some point next year or beyond.

Do you think it's going to be a rockier process, even though it's well telegraphed, when it actually starts to happen?

SCOTT MINERD: Well, I think that-- I think tapering is pretty much accepted. And if you look at what we went through back in 2018 during the taper up until the fourth quarter, you know, the market continued to rally and perform well. So I don't think taper, in and of itself, is going to be the catalyst that would be a sell up. But I do think that we have a slow moving train coming out of China.

The Evergrande situation, in and of itself, will be contained. I think that the Chinese have that well under control. But the problem is, is that 20% to 30% of economic output in China is related to property development. And there's a massive overbuilding, which has occurred. And you know, like our housing crisis, they need to work through that inventory.

And so while I'm not expecting a crash in prices in China, because the market is so controlled and contained, I do think it's going to lead to a substantial economic slowdown. And the impact on that to the region and to the rest of the world at this stage of the game is largely untested and could be like the Asian crisis.

Back in 1997 when the Thai Baht was devalued, it really didn't hit our shores until the fourth quarter of 1998 when long-term capital collapsed. So I think, you know, this is very similar. And it could be a significant problem for the markets in the second half of next year. But I don't think people are very focused on that time frame right now.

BRIAN CHEUNG: Hey, Scott. It's Brian Cheung here. I wanted to ask about whether or not you see leverage being an issue in the United States as well, because we know that the stimulus has enabled a lot of kind of junk credit to thrive in this environment. I mean, what was interesting, I think, there hasn't been a single default for a triple C rated issuer in the last three months. And the last time we had a streak like that, it was in 2007.

So is leveraged stateside also an issue to the degree that maybe you were just describing at least in China?

SCOTT MINERD: Well, it certainly is an issue Brian. But I think something interesting has occurred in our country in the last year or so. And that is that the Federal Reserve essentially has socialized credit risk. And so if interest rates start to rise and that puts pressure on credit markets, there's a high degree of confidence right now that the Fed is going to step in and stabilize things.

That may not happen. They may be tested on this. But I do think that if they do get tested, that there is reaction function at the Fed where they will take a more active role to contain credit contagion. So I'm not overly concerned about credit right now.

And as far as interest rates are concerned, the other big impact of all this debt is it really constrains the Federal Reserve and its ability to raise short-term rates. And our work shows that you really can't push short term rates much above 2% before it starts impinging upon corporate cash flows. And that would be negative for credit.

So that would pretty much tell us that the top of the cycle for tightening will be around 2%, which would also mean that the 10-year note would probably be around 2% at the end of the cycle because historically the 10-year note is always trading around the same level as overnight rates when the Fed completes its tightening cycle.

BRIAN CHEUNG: Well, from a macro picture, if I could follow up on that, what is the consequence? I mean if it's OK that these triple C rated issues for example, can keep hobbling along, what will the consequences be if the Fed has to tighten maybe at an even faster timeline than what you just outlined? Because, if anything, that seems to be the prevailing tail risk here, that inflationary pressures run, you know, a muck, then the Fed is going to have to tighten faster and earlier.

Could that pop a bubble? Could that kill some zombie companies and really create a mess?

SCOTT MINERD: Well, I don't think so. Again, because I think they're going to be very constrained. Obviously, we're going to lose some companies as the Fed starts to raise rates. The question is, is will it become systemic? And that's the point where the Federal Reserve is going to have to intervene.

The policies that we've established in the era after the Great Financial Crisis really have tied the Fed's hands. And so you know, the Fed is basically responsible for the market now, a role that it wasn't designed to do when it was created in 1914. But you know, the evolution of Central Bank policy has been to keep expanding its role in supporting the economy. And one of the things that it will have to do to support the economy is let inflation go if it has to in order to stabilize the credit situation and risk assets.

BRIAN SOZZI: And Scott, if the Fed has, in fact, socialized policy as you mentioned here, what is the risk to global markets, bond markets, stock markets, you name it if the Biden Administration doesn't reappoint Jay Powell as Fed Chair?

SCOTT MINERD: I don't think it's going to matter very much. I think Chairman Powell, you know, will lean toward the dovish side anyway. You know, clearly Secretary Yellen would like to see him reappointed. I doubt that's likely now in the wake of what's happened and the issues with Elizabeth Warren.

That probably means Lael Brainard will be front and center. And you know, Lael Brainard is a dove. And the president is going to get to do four appointments within the next year at the Federal Reserve. And he has a great opportunity to appoint people.

And I think given the pressures from the populous side of the party, that he's going to have to basically appoint people who are in favor of easy money.

JULIE HYMEN: And so then what is that going to mean for policy, Scott?

SCOTT MINERD: Well, I mean--

JULIE HYMEN: Continued see money, I guess.

SCOTT MINERD: Well, there's a dirty little-- Yeah, I guess the dirty little secret is, you know, we are already doing MMT. We don't call it MMT. But you know, let's face it, the government-- the Central Bank is financing the government. As the stimulus pulls back, which it is right now, the likelihood of a stimulus package today looks to be in the neighborhood of $1.5 trillion on top of the infrastructure package.

You know, that's going to take a lot of pressure off the Treasury market for supply-- new supply. And so the Fed will be able to pull back without having interest rates spike. But the minute we're in trouble again, the Fed has basically, you know, appointed itself as the guardian of the economy. And it's going to intervene to do whatever it has to do.

JULIE HYMEN: Well, we'll be looking for those personnel changes and other changes potentially over the next year or so. Scott, thanks so much. It's always great to catch up with you. Be well. Scott Minerd is Guggenheim chief investment officer.

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