ANDREAS STENO LARSEN: Good afternoon, folks. And welcome to the Real Vision Daily Briefing. I'm Andreas Steno and quite tellingly, I'm sending live amidst a very severe thunderstorm here in Copenhagen, Denmark today. It's been another interesting day in the world of macro, not least as we've had an official sovereign debt default basically. It is today, the 27th of June. And I am very happy to be joined by an old friend of the show, Peter Boockvar, the CIO of Bleakley Advisory Group. How are you today, Peter?
PETER BOOCKVAR: Good, Andreas. Thanks for having me on again.
ANDREAS STENO LARSEN: Of course. Basically, a few are better at assessing bond markets than you, Peter. Russia defaulted on a few international debt obligations today. In my opinion, probably more of a technical default than anything else, but please unpack this situation a bit for our audience. Should we care about this debt default in Russia?
PETER BOOCKVAR: I agree that it's technical, and that it was not by their choice. It was, of course, forced upon them. Certainly, they have the capability of paying back these bonds, but were not allowed to. If anything, it's the bondholders that are getting screwed. Russia is saying, well, we have the money. And if you don't want our money, then we'll just keep our money.
So, I look at this as a very idiosyncratic situation. I would not extrapolate this to broader emerging markets or country ability to pay. And as you said, it's more technical than anything else.
ANDREAS STENO LARSEN: Yeah, I tend to agree. It's been an ongoing debate for a couple of weeks in a row now, whether the Russian economy is doing better or worse than before the invasion of Ukraine. And one of the things that have been debated quite a lot is the level of the Russian ruble, because it looks really strong on charts if you chart it against the US dollar, for example. Do you consider the strength of the Russian ruble on the charts as a sign of strength in the Russian economy?
PETER BOOCKVAR: I think it just reflects the flows. The oil money that continues to come in, the huge current account surplus that they have as their exports obviously go up pretty strongly, and their imports have essentially collapsed. The economy itself is in a really tough situation. We don't hear about the 1000s and 1000s, 10s of 1000s, 100s of 1000s of people that have lost their jobs with a lot of Western companies closing down.
Now, some will reopen under a Russian umbrella, but plenty have lost their jobs. They are losing access to a lot of technology, whether it's technology at the oil pump from Halliburton, or Schlumberger, or Western technology in a variety of other areas. So, they're hurting. But again, it's all about the flows that they're benefiting from. And whether that's also only accepting rubles for payment for oil, or having capital controls within their country, all adding up to the strength.
But again, it's certainly not reflective of a robust Russian economy. It just reflects the still heavy revenue that's piling in specifically with energy at these very high prices and their ability to still sell even though the customer mix is obviously different.
ANDREAS STENO LARSEN: Yeah. But Peter, who are the winners and losers have this current situation with Russia? I know we have a chart that we can bring up on the export destinations of Russian exports. We have Germany, Italy, big countries within the Eurozone high on that list. So, who would you claim to be the winners and losers of the current situation?
PETER BOOCKVAR: Well, Putin is clearly a winner, because he's still able to finance his military machine through the exports of oil and gas in particular. Obviously, agriculture as well. But for purposes of this conversation, dollar wise, it's going to be predominantly oil and gas. So, he's able to continue on as it is in terms of revenue.
I wouldn't say the Russian people because it's not like he's using that money to filter down to the Russian people, the Russian people instead, as we mentioned, are dealing with a very difficult economy. Now, from an inflation standpoint, the strength of the ruble is helping to mitigate their jump in the cost of living. But we're at a point where even the Bank of Russia is now worried about the ruble being too strong, and they're doing what they can to actually weaken it.
Now, other countries that are able to buy Russian barrels at a discount, like India, like China, they're also a beneficiary. I'm not sure what the exact dollar amount is right now, but I know it's a $15 to $20 discount that these countries were able to procure Russian barrels with. We know who's hurting, of course, is European countries that are now getting clipped by the reduction in gas deliveries, where Putin's playing a game with them. That's not helping them.
And we'll see to what extent this game of Putin actually starts to hurt him because he's losing more customers. And like I said earlier, he's losing the technology to continue on producing at the rate at which he was, or they're not producing as much because their wells are not as productive as they once were. And over time, that will hurt them, but at least for now, he's able to get away with it.
ANDREAS STENO LARSEN: Speaking of commodities, I actually think that we've seen some interesting price actions in many commodity markets over the past two, three weeks here. We've seen a retracement in a few of the very important industrial metals. We've also seen a material retracement lower in the price of natural gas in the US, for example. So, what do you make of this recent repricing lower in commodity markets?
PETER BOOCKVAR: It's clearly in response to global growth concerns with the R word, recession word, on everybody's mind, and what that potentially is going to do to the demand side of the supply demand curve with respect to commodities. It's also in the context of a very sharp run up that we saw where everyone was bullish, and we got certainly offsides in terms of that sentence.
So, the question is, to what extent do we get demand destruction going into this downturn? How elastic or inelastic is the demand for commodities? And of course, we can break it down amongst the groups. The demand for food is not necessarily going to alter. But if you look within the commodity space, if you're going to play it as an investor, and we did here but we had sold our fertilizers, but demand disruption for fertilizers has certainly taken place. And we've gotten some better deliver yields out of Brazil and Argentina.
But if farmers are going to plant less fertilizer this summer, it means that maybe the harvest come October may not be that as robust. Industrial metals, which are probably the most cyclical and the most elastic of the commodity space. Well, that's certainly gotten hurt, particularly copper. I think energy is certainly much more inelastic that people still have to get into their cars to drive to work and see friends, and you still need to heat your house and cool it during the summer. So, that will likely remain more sticky in terms of the demand side.
But from a market perspective, like I said, it got overheated. Now, everyone's talking recession. So, what do you do? You sell economically sensitive things and certain commodities certainly fit that bill.
ANDREAS STENO LARSEN: If you listen to Jay Powell at the latest Federal Reserve meeting, it almost sounded as if he started targeting the price at the pump as the main inflation target for the Federal Reserve, at least indirectly via the channel of inflation expectations. Do you think it will matter for the Federal Reserve outlook if we get a further slide in commodity prices?
PETER BOOCKVAR: I think it will matter in where the Fed Funds Rate ends up. And we've certainly seen that repricing in the Fed Funds Futures were at the peak, we were pricing in a 4% call it terminal rate, which people like to use that term, in the middle of next year. And now, we're probably closer to 3.3, 3.4, which actually is where the Fed thinks that they can take the Fed Funds Rate this year alone.
So, I do think that, and just as we've seen with the mentality of the Fed is that they obviously went extreme on one end, they seem very intent on going extreme the other end, so they're going to raise 75 in July. So, this decline in the commodity prices, to your actual question, will help determine whether they go 50 or 75 in September, but I think that they've lost so much credibility in how they played this inflation game where they of course had their chips all in on transitory that they're going to take the opinion of, they're more focused on getting the Fed Funds Rate to a certain level, which then they can take a step back and play by ear from there.
And if the inflation numbers start to come in, well, good, they feel like they did their job. If the inflation numbers come in rather sharply, and we go into a deep recession, well, at least they then have rates to cut. And I think around 3%, it is that number. And granted, the dot plot got the 3.4 in their last meeting, but I think they're intent on doing 75 in July, which will get you to about 2.5, which is where the Fed Funds Rate topped out in the fourth quarter of 2018. And I think they'll probably go 50 in September, depending on the data, which would get them to that 3%.
And then from there, it's completely play it by ear, but I think the Fed's credibility in their eyes will be lost if they start having buckling of the knees, just because oil prices went from 120 to 100. That's not enough for them to pivot because they know if they lose any credibility that they're trying to regain, well, then the markets are going to play around with them. And maybe you see a big sharp fall in the dollar and a spike and commodity prices. And then they will look like complete idiots.
So, I think again, the level of Fed Funds Rate, while they say we were going to do we can bring down inflation, I think they're very focused on getting to 3, because that they believe will give them flexibility to go either way from there. And one last point on this, I wouldn't be surprised if they ended at 2.5 if history is any guide, because we know the last 40 years, each hiking cycle ended below the previous hiking peak.
ANDREAS STENO LARSEN: Yeah, that's a very fair point. I've also noted how the correlation between the gasoline price and then the Eurodollar futures in the first quarter of 2023 are very correlated. And it goes right to your point that for the terminal rate, for the ultimate expectation for the Federal Funds rate level, we should probably watch the development in the commodity space, but not for the very near-term outlook.
I know, Peter, that you want to discuss another central bank also this afternoon. Because you have a great point in terms of what's going on in Japan, a lot of people are watching the development in the 10Y space in the yield curve. But there's actually maybe an even more interesting development going on further up the curve in Japan. We can bring a chart up on the development in the 40-year point on the yield curve, please unpack your thinking on Bank of Japan and why this 40-year point is so important to watch.
PETER BOOCKVAR: So, as you mentioned, we know that the BOJ has essentially fixed the yield curve out to 10 years with that 10Y trading within a band of minus 25 basis points plus 25. And we keep bumping up against the upper end of that. The reason why I like to look at the 40Y is because it's the furthest away from BOJ manipulation of not just 25 basis points at the 10Y, but a negative 10 basis points on the deposit or call it overnight rate.
So, going out 40 years, it's the most market driven part of the JGB yield curve. Therefore, if you want to look for signals, if there's any signaling left in the JGB market, there's some there, the 40Ys is where to go. And overnight, it got the yield got close to 140 which is a fresh six and a half year high. So, when I see that, it just tells me that it's getting tougher and tougher for the BOJ to be sitting on that 10Y beach ball underwater, and that it's just inevitable that that ball is going to is going to spur higher.
Now, the BOJ I think will widen that ban. I have no idea when, but I think they'll have no choice. But they're going to do it would most likely what will be in thin increments of maybe 10 basis points just to start, as a way to cap the weakness in the yen. Because just from a signaling standpoint, if they went from 25 to 35, economically, it really wouldn't matter that much. It's 10 basis points. Signaling though, it could lead to a rally in the yen, which I think at some point, they're going to want because at the same time as Kuroda is sitting on yields because he wants to generate his 2% inflation sustainably when he's already done that for two straight months.
I think that there's a lot of pressure within the Ministry of Finance that they don't want any more weakness in the yen. Now, maybe they don't get it if oil prices stop going up because over the past couple of years, there has been some relationship FX wise with the yen and energy prices because we know they import so much energy. So, you can draw a chart up until the past month that crude oil and the yen have pretty much moved in lockstep.
It's broken down a bit of late with oil prices pulling back and the yen really not at around 135. But I would really again, look at that 40Y yield every day as the real part of the yield curve that is speaking out with its own voice and not being fully manipulated by the BOJ.
ANDREAS STENO LARSEN: And in that regards, we should remember that I think there are two countries that are extremely reliant on foreign energy sources, one being Germany, the second being Japan. And that could be the reason why we have this correlation between the oil price and the dollar/yen FX cross.
We talked initially about the market slowly but surely reacting to the growth scare that is potentially upcoming. And today, we got news out of the US related to the durable goods orders. Of course, one of the gauges that one could look for when assessing the outlook for the US economy, what do you make of the positive surprise on the headline for the durable goods orders?
PETER BOOCKVAR: So, yes, it came up seven tenths the headline, I think a 10th was expected and also the core durable goods or whatever they call that indexing out. It's basically non-defense capital goods [?] that also slightly beat also the prior month was revised upward. So, in response, the Atlanta Fed actually raised their second quarter GDP estimate by three tenths from zero to plus three tenths. But these numbers are reported in nominal terms so even with the upside surprise in real terms, and yes, the Atlanta Fed is in real terms, but they don't necessarily quickly adjust on the inflation side as quickly as they do on the nominal side.
So, if you look at May, in the May PPI numbers, I'm just doing a back of the envelope, this is nothing scientific here. May goods prices in PPI putting aside services was up 1.4% month over month, headline durable goods orders were up seven tenths. So, you can argue that, yes, in nominal terms, durable goods orders went up. But in real terms, they're still falling.
And I think when you break down the GDP equation in trying to figure out, are we in a recession? Are we about to go into recession? Obviously, the biggest chunk is consumer spending. And on in real terms, we can argue that that is on the cusp of breaking down. And then you have gross private investment, which some of that is commercial real estate, residential real estate. But the other component is capital spending. And are we on the cusp of a downturn in real terms and capital spending?
Now, durable goods orders, keep in mind, does not include software spending. Software spending is still going to remain pretty healthy, but mostly bigger companies. And when you think about investment, investment comes from savings or theoretically it does. It comes from company cashflow. And if we're going into a growth slowdown, and companies have less cash flow, well then just by default, they're going to be investing less in their business, because there's less cash to go around. So, that is another component, which is potentially going to reflect a downturn in the economy.
And then you have trade, which the global economy is slowing down so terms of trade is going to slow. And then you have government spending, which is typically a plus sign. But this is how you should break down the debate about whether we're going into recession or not. So, that's why the durable goods numbers, I think was important about how companies are going to respond from here.
Now, Google, Microsoft, the big companies don't maintain a certain level of capex because they have the cash flows to do it. But not everyone does in a large company space, and certainly not for the small or middle-sized companies in an economic slowdown.
ANDREAS STENO LARSEN: In relation to this debate on whether we are about to enter a recession or not, I wanted to play a clip for you from an interview that aired earlier today on the Real Vision platform between-- a discussion between Francis Gannon and Maggie Lake on the small pockets that are still performing within the US economy. So, let's have a listen and get back to the discussion on the US economy.
FRANCIS GANNON: I think people in general are looking for a big crescendo. They're wanting this moment that everything screams this is the bottom. I think this is an environment where you're not going to get that, and the bottom might take a couple of months to actually happen. And so, second quarter earnings reporting period are going to be increasingly more important.
I would tell you that when I look at the economy and the slowing economy, the economy is still working, it's still open, there's still pockets of strength. And I think people forget that you have regional pluses and minuses typically in the United States, just given the size of our overall economy, but it's still open and working. It might not be perfect here today, it might not be growing 2% plus, it might be 1%. It might be zero, wherever it might be, but it's still open, and I think that's something to remind ourselves.
ANDREAS STENO LARSEN: You can watch the entire interview if you are an Essential, Plus or Pro subscriber on the Real Vision platform. But back to the points of the interview, Peter, are there still pockets of the US