The Sherman Show™

Jefferies’ David Zervos on Evolution of the Fed Put and Jay Powell’s Learning Curve (E150)

DoubleLine Deputy CIO Jeffrey Sherman and Portfolio Manager Jeffrey Mayberry welcome back David Zervos, Chief Market Strategist for Jefferies and Head of the Global Macro Division of Leucadia Asset Management. The last time Mr. Zervos was on in May 2019, he discussed Federal Reserve Chair Jerome H. Powell’s tenure in harsh terms, so this episode kicks off with what’s changed with Chair Powell, and Mr. Zervos believes he has come a long way. The group then gets into how the Fed acted in March 2020 (7:45), with Mr. Zervos noting that Fed officials think of their reaction as a success, setting up a framework for future intervention. He says areas that could draw Fed attention are private equity and commercial real estate (22:39), “two areas that have gorged on zero rates more than anybody.” Mr. Mayberry then turns the conversation back to Chair Powell and the specific way he has improved in his role (26:43). In discussing the performance improvement, Mr. Zervos notes, “I look at the evolution from what happened in ’18 and ’19, he really got caught up in the politics of the time and tried to stand his ground at a time when economically that wasn’t a very smart thing to do, and he looked kind of foolish.” The episode also includes discussion of the market’s eagerness for cuts (31:52) and whether there will be one before the election (34:36), what Mr. Zervos likes out there (38:19), the Fed framework shifting from average inflation targeting to nominal GDP targeting (45:53) and what Mr. Zervos thinks are the risks that are not being talked about (47:40). This episode was recorded May 7, 2024.

TSS Episode 149: Bianco on a “No Landing” Economy, Sticky Inflation and Powell Pivot

Jim Bianco, President of market and macroeconomic research firm Bianco Research, appears Jan. 11, 2024, with hosts Jeffrey Sherman and Samuel Lau to discuss among other issues his outlook for a “no landing” U.S. economy in 2024, sticky inflation of 3% to 4% and his theory on Fed Chair Jerome H. Powell’s dovish turn on Dec. 13. “The problem with the economy is there isn’t a problem,” Mr. Bianco says. “My biggest concern is too much growth and sticky inflation.” Between a hawkish Powell speech on Dec. 1 and Powell’s softened stance on Dec. 13, the data showed no change in economic fundamentals. So what changed his mind? Mr. Bianco notes that Federal Reserve officials prefer unanimous or near-unanimous votes on monetary policy and bank regulations. He suspects “a bunch of doves” among the FOMC’s voting members let Chair Powell know they were prepared to vote in dissent, “and I think he acquiesced.” Mr. Bianco thinks the biggest change in the economy coming out of 2020 was remote work. On economic fundamentals, he sees little case for “a macro problem with the labor market” or trouble with the consumer. He does note warning signs in credit and the potentially problematic rise of the U.S. government’s interest expense. Asked about exogenous risks, Mr. Bianco points to attacks on commercial shipping in the Red Sea and the consequent rerouting of 30% to 40% of the world’s cargo shipping from that critical Asia-Europe route to around Africa. Mr. Bianco warns delays will spell inventory trouble not only in Europe but in the U.S. Mr. Bianco has some criticism of the Federal Reserve. “The Fed first raised rates in March of 2022. What was the year-over-year inflation rate when they finally got to the first rate hike? It was 8.6%. Boy, they waited way, way, way too long before they got it.” Messrs. Sherman and Lau also discuss with Mr. Bianco why the bond market sometimes is “smarter at sniffing out disaster” than the stock market, the absence of recession despite protracted recessionary warnings from leading indicators and complacency in the credit market.

TSS Episode 148: Andy Constan on Macro-Driven Investing, Inflation and the 3Ds of De-Globalization

Andy Constan, founder, CEO and Chief Investment Officer of Damped Spring, joins DoubleLine’s Jeffrey Sherman and Samuel Lau to discuss his approach to macroeconomics-driven investing. They also discuss, among other timely topics, Mr. Constan’s outlook for persistent inflation above the Federal Reserve’s 2% target. Damped Spring is a full-service macroeconomic research firm. This episode of the Sherman Show was recorded Nov. 20, 2023. DoubleLine Deputy Chief Investment Officer Jeffrey Sherman opens the conversation (0:38), asking Mr. Constan to describe his 35 years in the financial markets, a career that began at Solomon Brothers in 1986 and spans roles at such notable names as Bridgewater Associates and Brevan Howard before the launch of Damped Spring. Then the discussion turns to Mr. Constan’s macroeconomic approach to investment decision making (4:45). Mr. Constan operates with a four-pillar framework. First, he focuses on how growth occurs in an economy and how inflation works on an economy. From those two starting points, he seeks to understand “the risk premium that assets contain and how policymakers and market participants can influence the risk premium, which is the return you get on assets.” Once those three factors come into focus, Mr. Constan overlays a fourth pillar his framework: positioning. “When those three other things are moving, it still matters how people are positioned, what's priced into markets and what's going to cause investors to change their positioning.” Mr. Constan warns against decision-making based on taking risk premiums as objective levels for trade exit or entry (7:18). “There's no level that is the correct level.” Attempting to buy or sell based on perceived whether a term premium is too high or too low can land investors “in a lot of trouble – just as most investors get themselves in a lot of trouble” buying and selling simply because assets are priced above estimates of fair value. “Markets overshoot all the time. It's very difficult to be an investor to base your investment thesis just on the level of valuation. And so the level of risk premium is not that important to me because nobody knows what it is. The only way you can interpret risk premium is through a model. All models have assumptions. All models require assumptions of forward-looking information which is unavailable.” Instead of focusing on estimated risk premium levels, Mr. Constan’s framework “just focuses on what could change term premiums because that's what you need to know to be an investor. If you think term premiums are going to fall, you want to own assets. If you think term premiums are going to expand, you want to sell assets. And so my framework just focuses on the factors that would cause term premium to change” (8:50). He then describes variables that can change risk premiums. These include changes in the supply of an asset vs. demand for it as well as changes in credit availability and monetary conditions. Jeffrey Sherman then asks Andy Constan for his thoughts on inflation (12:32), noting “perhaps people have not been thinking about the inflation component for, let's call it, over a decade. What are your thoughts about inflation today? What are your thoughts about how investors should incorporate some of this into estimates that raise premiums and hence thinking through the allocation process?” Mr. Constan starts with the fact of falling inflation, under the twin drivers of correcting supply chains and “less easy” monetary policy. A naïve extrapolation of those trends forward would point to inflation soon falling to the Fed’s 2% target or even undershooting it. Mr. Constan, however, expects inflation to a plateau well above 2%. Factors driving resilient above-target inflation, he says, are “a still-very-strong job market,” ample residual reserves “that will keep liquidity high and support demand” and “the three Ds” of de-globalization.

TSS Episode 147: DoubleLine’s Scott Thomson on the Evolution of ETFs

DoubleLine ETF Specialist Scott Thomson discusses his role at the firm and describes the growing use and evolution of exchange-traded funds as vehicles for trading and investment with DoubleLine Deputy Chief Investment Officer Jeffrey Sherman and Macro Asset Allocation Analyst Mark Kimbrough. The discussion begins (1:08) with the career of Mr. Thomson, who joined DoubleLine in 2022 after working as an ETF Capital Markets and Fixed Income Strategist with PIMCO. Mr. Thomson next discusses the history of ETFs (5:29) since the first of this vehicle launched in 1993 and their evolution, a trajectory that began with passive equities funds but now includes fixed income as well as active strategies and commodities, among others. ETFs (9:11) continue to evolve and diversify, Mr. Thomson says, noting the development of semi-transparent structures and derivative-based strategies. He foresees growth potential in fund-of-funds strategies, which have long existed in the mutual fund universe, becoming available in ETFs as well as ETFs as a share class of mutual funds. Mr. Sherman asks Mr. Thomson to discuss his role heading up DoubleLine’s capital markets efforts in ETFs (11:34). Mr. Thomson breaks his role into four areas: primary markets, secondary markets, client execution services and relationship management between authorized participants and market makers. Asked by Mr. Kimbrough to explain the drivers behind the growth in fixed income ETFs (17:09), Mr. Thomson points to a combination of factors, including advisors seeking new and different investment tools, among other reasons, to the implementation of ETF model portfolios, which have grown in number and variety. Asked for advice for people who wish to trade ETFs (22:18), Mr. Thomson advises, “Always use limit orders. Don’t use market orders. That just helps you avoid paying more than you want.” For financial advisors looking to trade more than a couple of hundred shares in an ETF, he recommends they work with their firm’s or custodian’s block trading desk to support best order execution. Mr. Sherman, recalling Mr. Thomson’s comments on the efficiency of the arbitrage mechanism in ETFs, asks the ETF specialist to describe (25:13) the liquidity and efficiency of ETFs amid the dislocation of fixed income markets in March 2020.

TSS Episode 145: Modelist CEO Joseph Mallen on Evidence-Based Investing

Joseph Mallen, founder and CEO of Modelist, discusses with Jeffrey Sherman and Samuel Lau evidence-based investing, the integration of customized models with the securities and managers to implement them, the role of AI in his platform, and his take on the present state of financial markets and the macroeconomy. Modelist constructs model portfolios tailored to the needs of financial advisors. This conversation took place Sept. 7, 2023. After Mr. Sherman introduces (0:33) Mr. Mallen and they discuss the career that led him to launch Modelist, Mr. Mallen shares (4:00) his approach to modeling and the way Modelist works with independent financial advisors. Modelist develops and maintains models that implement a diverse array (9:01) of investment methods, including trend-following, relative strength, duration management, credit management and inflation expectations. Modelist’s models incorporate passive strategies as well as strategies that allocate among active managers. In the case of using tradeable securities (12:46), Modelist often relies on exchange-traded funds. At the end of the day, Mr. Mallen says, the objective, regardless of the choice of models tailored for the advisor, is “robotic-type investing based upon what the data says and taking emotion completely out of the equation” (17:09). Toward the end of the conversation (49:51), Mr. Mallen discusses Modelist’s use of artificial intelligence as an investment tool. Turning to market and macroeconomic outlooks (29:45), Mr. Mallen observes markets have “churned up,” leaving equity valuations “pretty extended” amid a “severely inverted” yield curve and signals of a “recession that’s looming” but “still has yet to come.” He notes (30:44) that the Federal Reserve has “done a good job of putting itself in a position where if data does start to get pretty gnarly, they can reverse course. And I think that’s what’s kind of priced in and embedded right now is the fact that people are expecting economic weakness, and, in turn, they are expecting the Fed to react and loosen monetary policy.” With respect to U.S. stocks (31:15), Mr. Mallen would “like a little bit of a mean reversion” with value “catching up, maybe providing that leadership between now and the end of the year relative to growth. I think growth could use a little bit of a reset. We’ve had seven companies in the S&P drive most of the return so far this year.” In fixed income, he still favors short duration. “Just from an academic perspective, I’m getting a greater yield with less expected volatility than on the longer end of the curve. I’m not as insulated if rates do fall, but I like that kind of conservative approach. Take that 4½% and 5% on the fixed income side of the book – go value.”