Reacting to PCE and Market Look Ahead

**SPEAKER_1** (0:02)
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**Tom Keene** (0:27)
Head of Broadmarket Fixed Income, he's in charge of yield at Morgan Stanley Investment Management. Vishal Khanduja joins us. Do you and Jim Caron disagree? When you go to a meeting with Jim Caron, are you on the same page?

**Vishal Khanduja** (0:43)
A lot of times you are on the same page, but there is quite a bit of times healthy disagreement.

**Tom Keene** (0:48)
Good.

**Vishal Khanduja** (0:48)
What's the point?

**Tom Keene** (0:49)
Because of time, what's the key distinction now in that disagreement at Morgan Stanley?

**Vishal Khanduja** (0:55)
I think there are two key themes right now. I think Fed definitely was and remains to be the center stage. We'll find out more at 10 o'clock on Friday from Kevin Warsh, reiteration of the 2 percent and maybe a little bit more hawkish reiteration of the same. I think the big thing now, Scott Bessent or the Treasury Secretary wants to take the center stage.
Things that have not changed fundamentally, we still don't have a very clear plan for deficit reduction. They say that they're going to have some something for us in the next two weeks. Things that have changed is now you have clearly gone out of your way to come out, surprise the market and then give us a little bit more information that this is some sort of a pain threshold has been reached. Either it is the curve shape, it is absolute level of yields or it is a worry that these higher yields are going to add to deficits even more.

**Paul Sweeney** (1:50)
So Vishal, one of the narratives for higher interest rates is this whole crowding out issue that all this investment grade, AI debt is crowding out the treasure market. Is that really happening?

**Vishal Khanduja** (2:03)
It's definitely happening on the margin. It is. The way we measure this is just the amount of duration that is coming out.
High-quality balance sheets, which are AA, AAA, almost by quality, are now finally trying to use the strength of those balance sheets, the corporate ones that I'm talking about, and they're going to use quite a bit of that given the amount that they need for the capex. Now, the same high-quality buyer of long-end duration also buys a lot of treasuries in their portfolio. So definitely they're crowding out, but size is very different. You're talking about a 40 trillion market versus a less than 2 trillion market on the other side.

**Tom Keene** (2:41)
Do we need to get used to higher rates? We had a guest earlier, Vishal, who suggests a grinding yields, you know, just sort of a movement here. Dare I say to 5%, are you in that camp?

**Vishal Khanduja** (2:54)
So four and three quarters, I think we might spike to five on the 10 year, but four and three quarters is a pretty fantastic threshold here and why we say that is because of the fundamental reasons. We do see very clear-cut, broad-based disinflationary pressures in the economy, got a little bit delayed because of the conflict, because of the nominal growth picking up, because of the gap ex spend that you're seeing from the corporates. But we do see quite a bit of disinflationary pressures, which then brings down that yield or anchors that yield down over the long term. So yes, quite a bit of value and we do see that we're topping up some yields at these levels on the 10 year in the US.

**Paul Sweeney** (3:34)
Vishal, I understand a lot of smart folks are heading out to Jackson Hole, Wyoming, which I presume is for the Bison Burger thing. But I guess we're going to hear from some economists. What do you expect to hear from Fed Chairman Warsh? What do you think the market would really like to hear?

**Vishal Khanduja** (3:49)
I think the market would love to hear some reiteration of the target. And then a little bit more about those five working groups or forums that we've heard about, the leadership of those forums that has been set is pretty fantastic and terrific. We would love to see what the initial work from those forums tells us at the moment. So I think a little bit more on that one and a little bit more about what is your assessment about the economy? We don't need some forward guidance here, but that will tell us if there is some piece of information that is you looking at that we should be also focused on as a market participant.