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Taming the Bear - Views from the North

FICC Podcasts 26 mai 2022
FICC Podcasts 26 mai 2022


Disponible en anglais seulement

This week, Joel Prussky, BMO's OIS and cross currency trader joins me to discuss the upcoming Bank of Canada policy decision, his view on the rates market, and his favourite trade ideas.

As always, all feedback welcome.


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About Views from the North

BMO’s Canadian Rates Strategist, Ben Reitzes hosts roundtable discussions offering perspectives from strategy, sales and trading on the Canadian rates market and the macroeconomy. 

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Disponible en anglais seulement

Ben Reitzes:

Welcome to Views from the North, a Canadian rates and macro podcast. This week, I'm joined by Joel Prussky BMO's OIS and cross currency trader, to discuss the upcoming Bank of Canada policy decision, his views on the rates market, and his favorite trade ideas. This week's episode is titled Taming the Bear.

Ben Reitzes:

I'm Ben Reitzes, and welcome to Views from the North. Each episode, I will be joined by members of BMO's FICC, sales and trading desk to bring you perspectives on the Canadian rates market and the macro economy.

Ben Reitzes:

We strive to keep this show as interactive as possible by responding directly to questions submitted by our listeners and clients. We value your feedback, so please don't hesitate to reach out with any topics you'd like to hear about. I can be found on Bloomberg or via email at benjamin.reitzes@bmo.com. That's Benjamin.R-E-I-T-Z-E-S@bmo.com. Your input is valued and greatly appreciated.

Speaker 2:

The views expressed here are those of the participants and not those of BMO Capital markets, it's affiliates, or subsidiaries.

Ben Reitzes:

Hi, Joel, welcome back to the show. It's been a while. You were last here in, I think it was February and I've been away for a number of weeks. A couple of vacations and some COVID put a bit of a wrench in my plans on publication dates. So here we are, about a month since the last podcast, and I'm very much looking forward to having you back on.

Joel Prussky:

Almost as much as I look forward to being back here, Ben.

Ben Reitzes:

It's funny, Joel, actually begged me a few weeks ago to put him on the podcast when there really wasn't much time, because I was just back from COVID or just going on vacation or doing something along those lines. And he just wanted to gloat about how high rates had gotten. But now here we are, what, two or three weeks later, and 10-year yields are back below 3%. Not a little bit either. And the macro backdrop has changed, or appears to be changing materially. The flow of data has kind of been one-way, and not on the good side. We'll see how this evolves over the next days and weeks.

Ben Reitzes:

But why don't we start with the Bank of Canada there. Their meeting is on deck next week. I think it's pretty straightforward but, Joel, what are your thoughts here as we look ahead to next week?

Joel Prussky:

Well, first of all, Ben, I'd like to thank you for getting your priorities in order and putting your vacation time ahead of having me as a guest on your show. Not to gloat but just to mic drop, because I think the first time I was on your pod we talked about how rates were foolishly and ridiculously low, and then they were, lo and behold, 200 plus basis points higher. And I was happy to say, "Well, maybe now they're getting close to where they should be," at the time being. But let's put that aside.

Ben Reitzes:

You are on record, so we do have those podcasts. You can go back and look at one of the first I think podcasts we had. And so he is telling the truth, folks.

Joel Prussky:

I would like to keep our audience engaged in this one before we get them to listen to something else that's a year and a half old, but I absolutely agree with you there.

Joel Prussky:

But sure, let's talk about the now. I think Bank of Canada is next week. The market is fully prepped and priced for 50 ... Actually it's trading at 51 basis points. And the argument there being, well, why wouldn't you pay one extra basis point for the chance of maybe an outsized hike of 75. However unlikely that is, as a betting person, risking one to make 24 or in theory 49, I guess possibly, although highly unlikely, makes some sense. So I get that.

Joel Prussky:

The Fed minutes were today, they teed up that there's 50 for the next couple meetings. So lo and behold, I don't think it's a surprise that the next meeting and the meeting after that are close to pricing in 50 from the bank. Growth has been strong. Inflation is quite high. Our fearless leader at the Bank of Canada tells us that they're very serious, and they take inflation seriously and they're going to do whatever it takes, and the same old stuff that we hear. And as they should. I mean, zero rates are an abomination and a crime against finance, and they finally realize that.

Joel Prussky:

I think the next two hikes are pretty much a given, gets us to the lower of the bank's neutral range to 3%. After that, I doubt that there's a pause there. I think they probably slow the pace down a bit. And I do think that their intent is to get to at least 2.5, And then wait and see what happens.

Ben Reitzes:

Now be before we talk about neutral, because I think that's the real question right now, what do you think the odds of them going 75 or 100? Do you think they should be on 75 or 100?

Joel Prussky:

I think the odds of going 100 are nil. I think the odds of going to 75 exist. I mean, mathematically they exist because I can tell you that's how the OIS is pricing. Look, they owe us at least 25 from January that they didn't go and screwed me in the process. So as far as I'm concerned, 100 should be on the table because of what they didn't do in January.

Joel Prussky:

Look, they're behind the curve, they are. But going 75 probably doesn't do much, except ... Because how do you message it? If you go 75, it's hard to message, "Oh, we went 75, but now we're going to downshift to 50 again." The benefit of going 75 probably doesn't do a lot. I think the messages will get out there at 50.

Ben Reitzes:

Well, I think that's the point, and they've signaled that 75 is ... They're not keen to go 75, I guess be the way to put it. And without the clear message from them that that's something they want to do, I think the odds are as close to zero as you're going to get without actually being zero. I guess that's where that one basis point comes from.

Joel Prussky:

That's really it.

Ben Reitzes:

And the one thing I will say about the bank is, even including January, and that's almost my takeaway from January is that the communication from them is very clear. They mean exactly what they say, just take them exactly at their word. If they don't say otherwise, don't think otherwise, that is what it is. And so, well, it will be a 50 again next week, probably one after that again in July.

Ben Reitzes:

And then we get to the kind of the gray area. So you talked about the neutral range of two to 3%. The Fed's neutral range is also two to 3%. And so the question that I think will capture the market, at least the front end of the market, is when they say they want to get to neutral, where is it in that range? Is it two, is it two and a quarter? Is it midway? Is it 250? Or do they want to be on the restrictive side and close to 3%, because guess what? Inflation in the US is printing at, what, north of 8%. Canada will be north of 7% next month. Numbers we have not seen since the early '80s. Maybe they should be on the more restrictive side of neutral, I don't know.

Ben Reitzes:

Where do you think they decide to stop? Want to put it that. Where do you think they decide to pause? Why don't we go there first, and if you want, you can also talk about at what point they slow down.

Joel Prussky:

We're going to know because they're going to make, I believe, it abundantly clear to us when it's time to downshift from 50s to 25s. This is a central bank that's pretty good on the communication side, so I think we will know when it's time.

Joel Prussky:

The beef I've had for a long time is thought the market's perception that we're going to stop in reverse mode. That the central banks are going to tighten to 2.5, and then all of a sudden have to turn tail and go the other way. And I-

Ben Reitzes:

Well, didn't Bullard just say, I mean, he came out and he said, "We'll get rates up real quick, and then that'll give put us in a good position to cut rates in 2023 or 2024."

Joel Prussky:

And those are the people who own the cloudiest crystal ball. These are a collection of knuckleheads who haven't seen a crisis coming in the 35, yes, folks, 35 years I've been doing this job. They have never seen a crisis coming. They are reactive, not proactive. So taking them at their word about what may happen in 2023, 2024, is kind of meaningless.

Joel Prussky:

I do think, look, there's obviously a lot of leverage in the system, much more so way more debt than there was before. So the effect of higher rates will slow the economy quicker. But let's not forget one thing, this is a feature, not a bug. Equity market weakness is the intent, the stated intent of the Federal Reserve and likely the Bank of Canada, although they've probably never said it in those words. If they were to get spooked because overpriced equities have become less overpriced and keep rates at the lower end of 2% while inflation's raging at 8%, I would be more fearful of where 10 and 30 year rates would be in that case, because that would show not a commitment to stopping inflation. And we have a lot more problems if 10 and 30 year rates moved up another 100 basis points, I think.

Joel Prussky:

That being said, I think 2.5 is an okay number, to answer your question. 2.5 seems like a reasonable number. Maybe we get 50,50, and then 25, 25. And then we wait and see what the data is. Monetary policy works with a lag, we know this. We know there's things that are going on globally, that the Fed and the Bank of Canada can't do anything about. You can't print wheat, you can't print oil. I mean, you got all these things.

Joel Prussky:

Canada will have good terms of trade. And as I've written before, I think the 2020s is going to be great for Canada economically, I do believe that. We may have to get through a bit of a housing correction first, but we have all the stuff in the world that people want, and we have a government that's not nearly as bad as Russia's.

Ben Reitzes:

I'll buy that, the first part, government side. No, I'm kidding. Our government's wonderful. Why can't the bank go 50, 50, 50, stop? Or the Fed either. I mean, why do they need to downshift to 25s? Because this is a conversation I've had with others as well who think that you can't go from 50 to stop.

Ben Reitzes:

But if they've said, and then both central banks have said, "We want to get to neutral, A, as soon as possible, why do you need to slow down? You get there and then you stop." Because they've kind of said ... I mean, Macklem even came out and said, "You get to neutral and you pause." I mean, those were his words pretty much.

Joel Prussky:

Sure.

Ben Reitzes:

So is there anything keeping them from doing that?

Joel Prussky:

No. I mean, look, remember, so we're now talking about what the bank may or may not do in September. It's not even June yet, and that gives us three months of data, three months of crises are not crisis going on in the world.

Joel Prussky:

I mean 50, 50, 50 is okay. I could buy into that, I could buy into 50, 50, 25, 25. I could buy into 50, 50, oh, crap. Things aren't going down. We really got a problem here and we better talk it up, so it's 50, 50, 50, 50. I mean, but let's get through the next three months before we can talk about what's going on in September.

Ben Reitzes:

That's fair. I think the next two meetings though are all but set in stone. I mean, something really bad has to happen for them to back off at all, just to not even get to 2% at this point. Although, I mean, the activity side of things is not looking great.

Joel Prussky:

Again, feature, not a bug.

Ben Reitzes:

Well, I mean, they kind of need demand to slow down, but how much, and then you start ... I mean, I don't think today's the day for this, but we've had chatter already about a potential recession and that's probably not happening this year. Maybe next year, we'll see what the data do.

Ben Reitzes:

And you talked about debt and that the greater impact of rates, given elevated debt levels. And in Canada, more so than in the US. And you can already see it in our housing market. Things have come off very quickly and will probably continue to do so. I mean, I'll be shocked if home prices don't fall double digits in relatively short order. Getting them back to trend is something like 20 plus percent decline in home prices. Every pocket of the country's a little bit different, but it's probably going to be a challenging period. And rates still, I mean, we haven't peaked on the overnight so variable rates are still going higher for sure. But fixed rates, maybe higher, maybe not. On that I'm not sold.

Ben Reitzes:

Why don't we touch on a related topic then? If you see a few more hikes from the bank, from the Fed, the market, has that fully priced, how do you view duration right now? When rates were at 1% or lower, 10-year rates were 1% or lower, you were seller all the way. I get that, I was too, yes. North of 3% you were much more neutral. We're back at kind of 275-ish and US 10s more or less the same in Canada. Where do you stand now?

Joel Prussky:

I mean, we've gone from TINA to TIA because at least now, if you want to take a longer term view, maybe you want to buy some bonds to help hedge your portfolio. When at 1% there that wasn't a hedge against anything.

Ben Reitzes:

Can you expand on the acronyms, for the listeners?

Joel Prussky:

TINA, there is no alternative.

Ben Reitzes:

Okay.

Joel Prussky:

TIA there is an alternative. But I think you have to really see what happens with inflation if you want to start talking about where I think value in bonds lies. If inflation goes from eight to six next year, and then down to four the year after and that's our new level, then it's hard to get excited about negative real yields out there. And then we may reset higher. I like to think of the last 15 years as an abnormal period in history of interest rates of the world, not what is going to be the future.

Joel Prussky:

Again, listen, my crystal ball is not any better than the Fed's, so I'm not going to go out too much on limb here. But I think when we are above 3% we were resetting to a more reasonable level of rates, but I think you have to see where inflation settles into, and where overnight settles into before you make that call. I mean, the one thing I'll say is, we've had since '08 all this QT and balance sheet explosion, we don't really know the true price of money. All I read every day is how Treasury liquidity is terrible. I mean, we've experienced that in Canada for years, but of course it's terrible. The Fed's been buying too many bonds for too long and we forgot how to find the clearing price for risk. We don't know it.

Joel Prussky:

And we complain about it now because we've been dumbed down by 10 or 15 years of it. And I don't know what the clearing price of risk is because we've not really had a long enough period where we've had to actually absorb the real amount of debt. So time will tell. I mean, maybe it is 4.5, 5%.

Ben Reitzes:

So that's the solution then to the liquidity issues is just, one, don't go back to zero. Two, central banks, get out. And three, just time to get people to learn how to reprice and where the real demand is. Fair?

Joel Prussky:

I mean, yeah, I think so. I mean, look, we all know why we got here. We never wanted anyone to feel any pain every time there was a crisis. So the response was, "Let's cut rates to zero. Let's QT. Let's try to minimize the business cycle." And hey, there was no inflation, other than asset inflation, so it's great news. Except at some point, I don't know, I mean, either the asset inflation's spilled over into the real economy, or the fiscal policy, which was probably should have been done in the first place more targeted, maybe caused it, whatever it was, it's here now and we have to deal with it.

Joel Prussky:

And I do think macro wise, onshoring, friendshoring, all of these things, generally speaking, are going to be inflationary. They're going to push the prices of stuff up. And if that's the world we live in, and that is more like the world we came from, except for the last 15 or so years, then we're going to have a higher level of rates in general. Whether it's front end rates, real rates, normal rates, whatever you want to call them.

Ben Reitzes:

Most people in the market have grown up in the past 15 years in that ... They know the financial crisis. They know the pandemic. They know everything in between, which I agree is not normal. I mean, you have two generational crises, even more, longer time span even than that, back-to-back pretty much. And that stuff isn't supposed to happen very often, especially not twice in 10 years.

Joel Prussky:

10 years, yep.

Ben Reitzes:

To get zeros and zero rates and massive QE. Hopefully the reaction functions of central banks do not stay the same. They don't go back to zero and do more QE when the eventual recession comes, I guess we'll see on that.

Ben Reitzes:

But I think you're right on duration in that we need to know, if the Fed gets to 2% and then the economy buckles severely, then clearly rates can't get all that high probably at the end of the day. Alternatively, maybe they get to north of 3% because they have no choice but to kill inflation, that is the only way they can get it. And the economy, they don't care as much, we'll have to see. Or maybe inflation settles a 4%. And then who wants negative 2% or negative 1% on real return basis for 10 years? Not me, that's for sure.I think we have a lot of information to go before you can really say that at 3%, 10 years are a bargain or not.

Joel Prussky:

Agree. I mean, right now politically it seems that the concern is inflation. If we do go into a recession and, which is again maybe the only way to slay the inflation dragon, politically that may change. What's a priority? But at the moment, all you hear politically is we have to get inflation out, and there's a couple tools to do it. You could tax the hell out of everybody, but that doesn't seem to be super popular. Or you let the Fed do its job with the only tool it has, which is the hammer.

Ben Reitzes:

They tax the hell out of us here. I mean, there's plenty of inflation still in Canada. Yeah, we will see on how weak the economy needs to get to slow inflation.

Ben Reitzes:

What would really be helpful, and I think the one thing that would really help out central bankers, if energy pricing would come down. That's the magic bullet to everything almost. If you could get oil sub 100, get natural gas six to $7, that pulls inflation down, that puts money back in people's pockets. That would kind of sow the seeds of a soft landing, I think, and maybe keep them from having to push rates too much higher or too far above neutral. But, well, I mean, that doesn't seem likely at this point unfortunately, and food prices as well.

Joel Prussky:

Only a cross-year recession's going to help that, I think. I mean, they've not put enough money into productivity in the oil business for a long time. And I think we're paying the price now, and no one's going to put it in now because you aren't getting a lot of government support for that or political support or anything. But I hope you're right. But I have a feeling that we've been holding this beach ball underwater for such a long time now and someone's arm's getting tired.

Ben Reitzes:

Oh, I think I'm wrong. I'm just hopeful. And if China's shutting down or half the country more or less shutting down for lengthy periods of time doesn't pull energy prices down, I'm not entirely sure what will. The second half of this year, or probably later in the second half, we'll probably see big stimulus out of China. They're not going to have a choice if they want to maintain their political-social stability. They have no option there. And that's going to mean demand for everything, all commodities, like it always does.

Joel Prussky:

But they're also going to want to go gangbusters on the production side, so that should have some deflationary impact on goods. Assuming that we-

Ben Reitzes:

But raw materials will go up a lot.

Joel Prussky:

Right, right.

Ben Reitzes:

So those energy prices are 110 now, what if China demand rises 5% tomorrow?

Joel Prussky:

Sure.

Ben Reitzes:

And metals and I mean, you name it. It's going to be a challenge, I think, to keep inflation relatively contained. And that might mean higher terminal rates at the end of the day, from Western central banks, from the Fed, from the bank, from the ECB, from the Bank of England, you name it, higher rates generally.

Ben Reitzes:

All right. Let's leave that conversation there. And since we're about 20 minutes in, coming up on time here, let's get to your favorite trade ideas.

Joel Prussky:

Sure. Unfortunately, most of the trade days have kind of played themselves out with this repricing over the last month. We did 10s on the five, 10s, 30 Canada curve, which moved in from 31 to 16, although still quite cheap versus the US. I just think given the illiquidity you might have to sit with that trade for quite a while, and maybe fours, nines, 29s by the time you actually, A, get out of it.

Joel Prussky:

In the OIS space, December meeting of 3% was always a beacon for us. The idea was to receive it there. Get flattered around 275, which is roughly where we are now. And then if we get down to 250, maybe set up a short. Again, all these things have come to fruition. The only trade that I really left is in the cross currency space. I'm not sure how many of your readers follow that stuff, but things like three-year, two-year, five-year, two-year is inverted by five basis points. Three-year, one-year, five-year, one-year, also inverted. These are cross currency basis swaps, inverted by same, about five basis points.

Joel Prussky:

That's on a very steep, positively sloped curve. It has to do with a general lack of risk taking out there and dealers who don't know how to move risk and wind up with bucket risks they want to get out of. So anyone want to talk further about that offline by all means, then call me. I don't want to bore your listeners, if they made it as far in the podcast, any more than they already are.

Ben Reitzes:

I would strongly encourage anybody interested in cross currency to just to speak to Joel. He is the expert in the field, been doing it for quite some time.

Joel Prussky:

We do have the June 1st Canadian coupon payment. Historically, that's been really good for some Canadian performance, as well as some curve flattening. Obviously macro factors are going to affect that, some years more than others. This year the biggest macro factor being the fact that the Bank of Canada meeting is on the coupon date of June 1st.

Joel Prussky:

Traditionally I think dealers would want to inventory Canada versus US trades as we're coming into, let's say, the last two weeks of the month, and then use the flow to get out of it. I think the problem is there's only so much of that you want to strap on ahead of the bank, just in case a surprise comes. But I do think if we get the ham on rye 50 beeps with teeing up another 50 the next time, that the market will have some sigh of relief to some extent, an can and will then very quickly outperform for a while.

Ben Reitzes:

Last question, market related. Risk, risk tone, risk assets. NASDAQ's well and willing to bear market territory, S&P touched it. TSX has done better because of its materials and energy weighting. Credit spreads have widened out a fair amount and provy spreads in particular have come off and seen levels we haven't seen in some time. Do you think we've bought them there?

Joel Prussky:

I think there are a lot of very inexpensive investment worthy companies. I don't think just because some overpriced piece of tech crap went off 70% when it was overpriced before it went up 70, whatever. And honestly, I'm not a real specialist in that stuff. I mean, I think-

Ben Reitzes:

Just your opinion.

Joel Prussky:

I think, put it this way, I would rather sell the rip than buy the dip at the moment. I think there's way too many unknowns out there. And something we're not used to, is we could go through a two-year period where stocks basically flatline. I know it'll put CNBC out of business, God, what will they talk about without-

Ben Reitzes:

Don't worry, they'll find something.

Joel Prussky:

But we could get that, and a lot of money that you'll be putting to work is dead money. And I do think we're going into a stock picker's world, I think that's changing. I don't know enough about the individual stocks, that's why I look for people smarter than me to tell me what I should buy or not buy.

Ben Reitzes:

Me too. And I totally agree on that, that it's going to be a more challenging market. When there is liquidity not being pumped into the market, it should make for a more challenging environment, I suspect, and not just a straight slope higher that we've seen for, I don't know, most of the past 15 years.

Ben Reitzes:

Why don't we leave it at that, Joel. Thanks for coming on again. Always appreciated, always entertaining.

Joel Prussky:

Always a pleasure, Ben.

Ben Reitzes:

And we'll talk to everybody again in a couple of weeks. Thanks for listening.

Ben Reitzes:

Thanks for listening to Views from the North, a Canadian rates and macro podcast. I hope you'll join me again for another episode.

Speaker 2:

This podcast has been prepared with the assistance of employees of Bank of Montreal, BMO Nesbitt Burns Incorporated, and BMO Capital Markets Corporation, together BMO, who are involved in fixed income and foreign exchange sales and marketing efforts. Accordingly, it should be considered to be a product of the fixed income and foreign exchange businesses generally, and not a research report that reflects the views of disinterested research analysts.

Speaker 2:

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Speaker 2:

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Benjamin Reitzes Directeur général, spécialiste en stratégie – taux canadiens et macroéconomie

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