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(Runtime: 5 min, 39 sec; size: 3.35 MB)
My name is Ignacio Sosa. I am the director of international relationship management at DoubleLine Capital in Los Angeles.
The election cycle in the United States has basically started. We have had a number of debates among the numerous Democratic party candidates, and of course we are in the midst of a situation involving the potential impeachment of President Trump. For all practical purposes, the election season has already started. This has impacted markets in the United States in a variety of ways.
One is that the uncertainty related to President Trump’s China tariffs has really dampened the outlook for economic growth — certainly in the rest of the world, particularly in Europe, but also in the United States, which has pushed up the probability of a recession. We still believe a recession at this point is probably a 50/50 proposition. If you look at the survey of Bloomberg economists, I believe it’s a little bit lower, around 35. But we think it’s a 50/50 proposition. Tariffs are something that are unlikely to be ratcheted up in the near term. The reason for this is of course it’s an election year. If the President were to continue to ratchet up tariffs and certainly talk of a lot of tariffs, it’s going to increase the likelihood of a recession, which, as you can imagine, is not exactly something that any President wants to run with. The incentive for President Trump is to dampen down the language on tariffs. We think the worst of the tariffs and the tariff-related language has passed, which means that the chances of a recession are probably slightly lower now.
The other question is what about interest rates? Given what’s happened in terms of a weakness around the world, in particular a weakness in some sectors of the American economy, the Fed has been reducing rates. This of course has pushed down rates, some more particularly: the 10-year U.S. Treasury this year. Again, it all boils down to the expectation of lower economic growth, largely due to tariffs and other factors. At this point, as we look at 2020 we see a situation where we’re not going to have this headwind of additional tariffs. We look at the economy and it’s a bit of a mixed bag, because some sectors are doing incredibly well. Housing for example, has been doing extremely well. Consumer confidence is still relatively good. Then you have a bunch of other kind of indicators which are all flashing green. Home builder confidence, existing home sales, durable goods.
All these economic indicators that we look at look reasonable. The ones that don’t look particularly good are those related to manufacturing. Assuming that tariffs in terms of being at top of mind kind of recede, we would expect that we’d go back to a more normal market environment. Which means that there’ll be less downward pressure on rates. That being said, the Federal Reserve has been slowly but surely, and maybe accelerating, the purchase of a federal government obligations, which of course is something that can help drive rates down.
At this point, when we look at the outlook for interest rates in the United States, they’re kind of where they should be now. You could make the argument that given our quite enormous budget deficits and the kind of spending that particularly Democratic candidates are talking about, that the amount of Treasurys that the United States will have to issue could go up quite significantly. In the fiscal year that ended in September 2018 the United States issued $1.4 trillion of Treasurys.
If some of the more radical, shall I say, proposals that some of the Democratic candidates have — for example, “Medicare for all” and free public school education and forgiveness of student debt. If those were to pass, which we think is very unlikely, but if they were, you’re talking about potentially multi-trillion dollar deficits every year.
The United States, relative to the rest of the world, still continues to have a relatively strong economy. Key word, relative. And rates in the positive. I think we’re at where rates should be. It’s very difficult to say if they’re going to rise or fall, but we could end up the year where they are today. That will depend on who wins the election.