Michael Reynolds. He is the VP of investment Strategy at Glen Mead. Michael, welcome.
Happy to be here, Ashley.
All right. So national debt. You say it is the elephant in the room. Break that down for me.
Everybody's focused on treasury yields, especially a day like today looking at the term premium asking these questions. Is the market getting jittery about the sustainability of debt and interest costs for the federal government? There's this worry that if interest rates are going to get out of control here, it's really going to be a focus on the sustainability of the federal government's finances.
Our perspective is it's actually a little bit early on that we're not quite in troubled territory when it comes to U.S. government finances. That doesn't mean that the politicians are out of the clear and don't have to do anything. But is this the moment where bond vigilantes start to come and reprice risk materially for the risk free rate for the world?
We really think that's premature. At this point in time.
Right now, about 60% of traders are pricing in a rate hike when the fed meets on September 15th and 16th. Do you think a rate hike is imminent? Do you agree with the majority?
I think I'd ask you to ask me again on Friday once I see that CPI report, because everything is really going to hinge on that CPI report. If you start to see signs that inflation is broadening out beyond some of the recent trends you've seen over the past few months, I think the Fed's really going to look seriously on whether it needs to hike by 25 basis points next week.
But if we start to see also that the other side of that coin, that you don't see this broadening of inflation, that energy prices are not going through to broader goods. You can actually make the case that they can sit back and wait to see more data. Our perspective is the market's kind of from our perspective at least overpricing the likelihood of a hike.
At this point we'd probably flip those odds maybe 6,070% chance that they remain on hold. But there's just so much uncertainty and we are ready to go this Friday for that CPI report.
Why do you see CPI, not CPI or PCE, which is the Fed's preferred inflation gauge.
So we're not going to get PCE in time for the fed meeting. But we we will get that PPI report which will also inform our view here. But there's just going to be more of a one for one corollary on the CPI. We're going to look at the diffusion beneath the CPI index to see the percentage of those components that are above the Fed's target.
And that's really going to be informative to the extent that Warsh has pointed this out as a really key barometer for the general trends of inflation. That's our best proxy right now for what PCE may ultimately look like. So we're laser focused on that CPI. But the CPI will inform ahead of that meeting.
And now that bonds are competitive, how should investors be positioning themselves.
Our view right now is that investors should have a neutral risk profile. That means a healthy amount of bonds, but also a healthy amount of stocks. We're getting to this point where valuations are getting full, but not overly so, to the point where you'd want to start weighting them in favor of bonds. But we're coming off of a 1015 year period where investors did get compensated very little on a real basis for owning bonds.
And this is a really unique environment. Now you have a whole generation of investors that haven't seen bonds as a really decent alternative to stocks, but it's increasingly becoming so as you're seeing interest rates rise to the cent that they have.
And I understand that you're pointing investors towards small caps and international stocks. Why is that?
Small caps we really like from a valuation perspective. Also really big beneficiaries of a lot of the fiscal stimulus that has come through. And we see that continuing into 2027. There's a little bit of sensitivity on interest rates there. So we do expect that if we look ahead 6 to 9 months, we may be lower on rates.
That could be a reprieve for small caps. And investors just really need to take a hard look at their overall portfolio. If they find that all of their investments are denominated in dollars, they're just not diversified well enough. You need to have a slice of your portfolio denominated in non dollar denominated assets that will ultimately actually be fruitful investments, because you're getting the earnings and the cash flows from those international equity investments as they are productive investments.
So we really like that as not dollar exposure right now.
All right. Michael Reynolds from Glenn Mead. Thank you for joining us on taking stock.
Happy to be.
Here. Thank you. We're.
