Geopolitical Risks and Market Uncertainty

SPEAKER_1 (0:02)

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Paul Sweeney (0:27)

We're back to school, folks. The Labor Day is over, the summer is over. Let's talk to some professionals here. We started off strong with Jim Caron, CIO of Cross Asset Solutions.

Boy, the people at Morgan Stanley that hand out the titles, they do a phenomenal job. They got just titles that you just can't imagine. He's at Morgan Stanley Investment Management. Jim, thanks so much for joining us here.

Jim Caron (0:47)

Good morning.

Paul Sweeney (0:48)

As we kick off this final three months here, four months of the year, what's your top story here? What are you asking your teams to focus on? Or maybe what are your teams telling you they're focusing on?

Jim Caron (1:02)

The top story for me in terms of how we look at multi-asset portfolios is what's going to drive returns.

What's driving returns right now is really factors that align very closely with nominal GDP growth, right? So effectively, what we're getting is a lot of great top line growth in the US economy. We've had some notable Wall Street analysts upgrade their 3Q GDP forecasts and even for all of 2026

That is something that's going to drive earnings. That's something that's going to support earnings growth. It's going to support profit margins. This is why the equity markets are holding up really, really well. But now I've only told you half the story. The other half of the story is what's going on in bonds. Well, good nominal growth doesn't necessarily distribute itself evenly. It's better for equities. It's not so good for bonds because effectively what it's saying is that as nominal GDP rates start to move higher, that actually makes bond yields move higher as well. And as bond yields move higher, the price moves down and it hurts the performance of the fixed income markets. So then what you get is a rotation. Then you have investors that are investing in multi-asset portfolios, diversified bonds and equities, and they're making a choice. And they're saying, do I want to hold more bonds or do I want to hold more equities in this higher nominal growth environment? And what they're choosing is equities. So then you peel the onion back another layer and you say, within equities, how do I start to think about this rotationally? So you start to move to value, to quality, and you start to really broaden out the market. And that's what's happening. So what we are focusing on at Morgan Stanley Investment Management is we are focusing on ways that we can think about generating higher returns without taking excessive risk and what the weight and what the mix between fixed income and equity ought to be.

Tom Keene (2:58)

Jim, toss into the mix of the Fed meeting next week and your calculation for that.

Jim Caron (3:05)

So, you know, there's a lot of debate on this. I think the markets have priced that there's a 60% probability that the Fed's going to hike rates next week.

I'll say that my view is that they will not, but clearly that's highly dependent on what happens on Friday when CPI gets released.

But what I think is the more important, I really think it's a two-part question, what I think the more important part to that question is if they hike interest rates, how many do they go? How many times do they hike interest rates going forward? In other words, if they hike next week, does that start a campaign of four to six rate hikes going forward? Is this the signaling event that we're going to have a rate hiking cycle in front of us to try to slow down demand in the economy and bring inflation lower? Or is it a signal that, well, this is just a fine-tuning, policy rates are 3.5%, that may be too low, maybe we'll hike one or two times and that's it? Well, the market's already priced for that. So if that's the signaling that comes out of the Fed meeting next week, then it's not a negative for riskier assets like equities or even credit spreads. In fact, it could stabilize long-term bond yields a bit more and keep them relatively steady because it addresses the inflation concern risk.

Paul Sweeney (4:25)

So, I mean, one could argue, Jim, and I know it's kind of almost 50-50 at this point, but one could argue that the Fed really has a decent argument to do nothing next week. I mean, the market's already done a lot of the heavy lifting for it. Maybe just sit on the sidelines and maybe see how inflation plays out over the coming periods.