Bond Selloff Fades as Oil Cools; Trump-Xi Takeaways

0:00If you invest, lead a business or allocate capital, one-sided views aren't enough. Join me, Brad Rogoff, the Global Head of Research at Barclays on the Flipside podcast. Each month, I go head to head with one of our expert analysts on my global team to debate the economic and market issues that matter most. From inflation and AI to equity and credit trends, each debate helps you see what headlines might miss. Find the Flipside wherever you get your podcasts. When you're a business owner interested in expanding to new markets, there's a lot to consider and countless questions to answer before making the call.

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1:52or watch us live on YouTube. This is our interview of the day for Global Wall Street. I don't know what else to say about it. Michael Gapin brings prodigious academics and abilities across market economics, now chief U.S. economist at Morgan Stanley, with a couple brilliant notes. And what I would really, it's Indiana University, Paul. Love it. It's like grounded. Yep, they're solid. You know, they're solid. It's like serious, serious economics. Good morning, Mr. Bullard, as well as St. Louis Fed. Michael, buried in one of your notes is the heart of the matter, which no one's talking about. And this goes back to Friedrich Bastiat, 1850, which is second and third round effects.

2:36And that everybody's looking at the immediate oil bonds and that. But what we need to consider are the second round and third round effects of what we're living right now. Can you see out into 2027, What are the second and third round effects of all this inflation, these yields in the central bank policy? Well, in one direction, well, first of all, good morning, Paul. Good morning, Tom. Thank you for that introduction. The second round effects on inflation are related to, as you've been discussing, gas, diesel. Normally, oil shocks are relatively short lived. Oil goes up, oil comes down, and we don't expect second round effects.

3:17But we're six months in, and it's anybody's guess when this might end. Airfares, for example, are up about 24 % year on year. So it's increasingly likely we're going to get second-round effects that mean inflation, affordability, the cost of living remains a concern in 2027. Now, the Fed cannot directly control oil prices and diesel prices, but it does have the ability to lean against those second-round effects. So the question is exactly what is the Fed responding to here? But it's clear higher energy prices, they're not looking through this. The standard playbook is look through it, ignore it, but they can't anymore.

3:58And Warsh made that clear. Even Powell made that clear. So the Fed's now in motion. They are responding to it. The question is, how far will they go? Other second-round effects that I'll mention that we're keeping an eye on. Obviously, the AI spending story is important, but somewhere in here in 2027, 2028, the growth rate of that spending will be slowing. So what's more important, the level of spending or the growth rate? So somewhere in here, there could be an inflection. We think it'll be coming in 2027 where some of the edge comes off of the narrative. I mean, Paul, it's like your kids spending in college.

4:40is the level of the growth rate. Exactly. So, Michael, given that inflation backdrop, how do you view kind of the yield environment out there? A lot of folks are saying it's not so much where the absolute yields are today, but maybe it's just the velocity with which yields have pushed higher here. How do you think about that? Well, I think it's clearly a perfect storm in the rates markets, fundamentals, technicals, a whole bunch of reasons have pushed rates higher. So the magnitude of the move has been quite strong. We're up about roughly 150 basis points, and almost the entirety of that move has come in real yields.

5:19So the market is clearly saying whatever's happening out there, monetary policy is going to respond to it. Markets are pricing in three to four additional hikes. and what it will do is it'll kind of we think it will perpetuate this case-shaped narrative. It's very unlikely higher yields will slow down the rate of hyperscaler spending and borrowing. The AI story we think is immune to a lot of this. So the Fed will be forced to essentially slow down the parts of the economy that are already slow in order to help bring inflation down. But the Fed has to respond with the economy it has, maybe not the one it wants.

5:58Does that sound like a gilded age? It does a little bit. Well, that kind of takes us to the next question there, Michael. I mean, despite some of the inflation headwinds, despite maybe some of the uncertainties out there, whether it's geopolitics or whatever, the consumer here for the U.S. consumer, pretty darn solid here. What do you make of the U.S. consumer? Pretty good all around. You're right. The narrative is, as I'm sure you've talked about over time, is, oh, in the next quarter, the lower and middle income household will be suffering and consumption is going to slow. I think the resiliency of that consumer has been quite amazing.

6:33Certainly, the tax cuts have helped. Drawing down on the saving rate has helped. We all wonder maybe how long that resiliency can go on. But top to bottom, I mean, the upper income household is benefiting from tremendous wealth accumulation that's being boosted by the AI story. But the consumer has held in. So the resiliency argument around U.S. growth has been strong. We all wonder how long that can continue, but the data says it's still in play. We are advantaged this morning. Michael Gapin with us, Morgan Stanley, with a global perspective. Michael, one of your joys is in London, you have Martin Ratz, your global oil strategist, who does absolutely brilliant work, synthesize in this lift in diesel.

7:16And as Torsten Slock and Apollo notes, will that fold into core inflation, unlike a gallon of gas, which is outside core inflation? Is diesel part of our core inflation future? It is. And I think maybe we underestimate, I think, the importance of diesel in the middle part of the country. You noted that I came out of Indiana. The Midwest and the Plain States, the agriculture side of the economy, uses diesel heavily. So the diesel exposure in that part of the country is high. It's built around agriculture, farming, moving goods and products. And this is, you know, inflation has come down, as we thought, but it's come down more slowly.

8:01And we have built in second round effects on a lot of transportation costs because of the diesel story. So we do think it's something maybe we won't see it like up front, but it'll be there in a way that I think continues to stretch the pocketbooks of the economy and the average American. Michael, certainly on Global Wall Street, one of the key themes over the last three, four or five years has been AI and just the immense spending associated with AI. How does that impact your view of kind of just underlying economic activity here in the U.S.? I mean, to the extent that AI spending were to slow, maybe slow materially, nobody's calling for that.

8:40But would that be a problem for the U.S. economy? It would be. I mean, history would say so if you look at the prior investment booms and going all the way back to the Industrial Revolution through the digital and Internet era, All of these narratives have a boom-bust story to it, that there's a period where you get tremendous acceleration and optimism, capital spending and borrowing, and it creates kind of a very resilient economy. At some point, that spending has to slow. The question is, how quickly does it slow? Do winners and losers get revealed? So, yes, a slowdown in that spending would be a problem for the economy.

9:21The question, of course, is why is it slowing and how fast is it slowing? And I think that a secondary story here for us is this is different spending. About 60 to 70 percent of the hyperscaler spending goes to computers and peripherals, the things that go into the data centers. And almost all of that's important. So are we are we creating, say, positive output gaps in an overheating economy domestically or are we fueling those abroad? There's a there's a super cycle in investment coming out of Asia. So I think that's really kind of a key story. It's like we kind of think, oh, the U.S. economy is off to the races, but it may be that we're fueling growth and inflation globally a little more than we're doing it here in the U.S.

10:09Michael, I would kill to get you and Martin Ratz in studio with us together here in New York. That would be a magical moment. I would love to do that. It's easier for me to do it. I'm totally on board if Martin is willing. If we can arrange that, we'll blow it out and give you 45 minutes. That'll be just great. Dr. Gapin, folks, just exquisite at Morgan Stanley with all of his heritage, you heard him say, at the Kelly School. At the University. Actually, excuse me. I misspoke. Indiana University. Indiana University, that's right. Not the University of Indiana. I still don't know what a Hoosier is.

10:42That was brilliant. Michael Gapin, thank you so much. Stay with us. More from Bloomberg Surveillance coming up after this.

11:17you a greater sense of confidence and control while you focus on living a life you love. Your Edward Jones advisor takes the time to truly get to know you and provide personalized strategies to help keep your goals on track. Whether you're passionate about charitable giving, considering business succession, or legacy planning with the next generation in mind, with more certified financial planner professionals than nearly any other firm, Edward Jones Financial Plans are custom-built around what matters most to you. because the key to being rich is knowing what counts. Edward Jones, member SIPC.

11:52With ChatGPT, you can do more than get answers. You can get things done. When you're running a business and looking to expand, you need a clear view of the landscape before making any decisions. ChatGPT can help you prepare. Connect your Google Drive, point to relevant files and reports, and ask Chat to research competitors, industry forecasts, and market signals. It can turn the findings into a strategic deck in your team's template that you can review before presenting to your leadership team. Growing a business is ambitious, and ChatGPT can help you do it with confidence. Get started at chatgpt.com.

12:33You're listening to the Bloomberg Surveillance Podcast. Catch us live weekday afternoons from 7 to 10 a.m. Eastern. Listen on Apple CarPlay and Android Auto with the Bloomberg Business app. Or watch us live on YouTube. I've been waiting for this, folks. We really haven't done the state, you know, the dinner and all that. Lindsay Newman joins us now, associate fellow at Chatham House. She's aware that the bok choy at the state dinner really doesn't matter. I love this sentence, Lindsay Newman. China is looking for long-term clarity. The president of the United States likes to work the angles. I look, Lindsay is an amateur.

13:11at the body language, and I see President Xi older, but still stoic and very like, you know, he'd be at any other state dinner over 40 years. The president just simply, you know, even his supporters would say, just looks exhausted. What's the outcome for these two parties after the Trump administration? Yeah, I mean, that's a big question, Tom, and a great one. I mean, I think what the objective here is, right, there is this buzzword, this language, the constructive relationship of strategic stability. And the hope, the ambition, seemingly from both sides, is that outlives this administration.

13:54Perhaps it is the defining dynamic of the U.S.-China relationship going forward. And we know that, at least in this context that we're seeing right now, Trump himself wanted this to go very well. And in that sense, this was mission accomplished, if we could take a sort of loaded phrase here, which is to say that the objective was to keep everybody coloring within the lines, have this top of mind framing of a strategic relationship, and to really have these optics. You know, the market, the consensus is right here. This was about pomp and circumstance, about optics, less so than moving the dial forward on any of the real substance.

14:37But in that sense, it's mission accomplished. They can check the box on this. And, you know, I would just say, I don't need to go stop talking here and just say that's the end of this interview, because really, if we take a step back and think from a 10 ,000-foot perspective or a 10-year perspective, it's quite remarkable that the two men here were able to sit in the room together, have the bok choy, as you say. When we think about Trump 1.0 and the deep antagonism around the trade war, it really is a remarkable moment that started with the red carpet that was rolled out the other day for President Xi.

15:10Lindsay, what do you think the China policy vis-a-vis the United States relationship is over the next, not just the next two years of the Trump administration, but maybe a little bit more forward here? What do we know? What we know here, Paul, is that what China would like is for this relationship to remain bounded. That's a language that she used just the other day, which is to say that they can cooperate. They need not confront each other. They could compete, but that competition should remain bounded. It was all quite jovial in the language there. But just below the surface is the desire for predictability, stability, understanding, right?

15:49She wants to understand what the U.S. administration over the next two years and going forward is going to look like. From the other perspective, that is absolutely nothing. That doesn't sound anything like Trump America, right? Trump wants to keep things unpredictable. Exactly what Tom was saying, I said at the start here, which is that Trump likes to work the angles. He likes to pursue different points of leverage. That's why the main takeaway from this week's summit thus far, besides the pandas, is the two-month trade extension for the two-month extension of the trade path, which actually works in Trump's favor, right?

16:22The market is seeing this as a failure because going into this week's summit, they were talking about the U.S. administration was talking about a three to six month extension. China apparently wanted a two year extension. But Trump's not that bothered by that because what does two months mean for him? Well, it means he'll have gotten through the midterm elections. He'll know what kind of Congress he's dealing with. And he'll say, OK, let me put all the cards on my table and think how I'm going to reevaluate and renegotiate this deal. Lindsay Newman with us, Chatham House, as we cover international relations.

16:50Major shout out to Leslie Vinge-Murray at Chatham House over to Chicago in her help here over the recent week. So Elizabeth Economy with us from Hoover, Stanford, Dr. Newman. I think it was yesterday. And she's sort of looking beyond Trump and Xi. The president is 80, newly minted. President Xi, I believe, is 73. three. So do you look at it beyond the two? Or is this a president of China that's looking for the next, next, the new in the United States? Absolutely. You know, these are very difficult questions to know. I mean, we can't possibly know who's going to be the next president in the U.S., let alone what sort of the potential sort of progression of the Chinese government could be.

17:36But we know what the issues are. And those issues, as we stand today, September 2026, are trade, how the economic relationship is going to continue to develop. And nobody's talking about decoupling anymore, right? That's not the future direction of travel here. They're talking about how enmeshed the relationships are and how they're going to rely on each other from one direction, critical minerals, and from the other direction around chips. And the other big area, of course, is artificial intelligence, or what the president would like to call super intelligence, SI. We'll see how well that catches on.

18:08But those are the two big major risk areas that we're going to have to see unfold over the next 5, 10, 20 years. And after this week, we've seen very little progress on how the two economies are going to work together on those. What we do know is at this point in time, the U.S. and China are seeing those issues, particularly the issue of artificial intelligence, very differently. Trump is saying, let's keep going in this direction. This is exactly how it should be. She is saying that there's no reason why humans can't continue to develop AI in a way that's responsible and capable. Those are very different visions.

18:41And those are the big risk areas that are going to be shaping the relationship going forward. And of course, shaping the geopolitical dynamic. Lindsay, is there any indication that the topic of Taiwan came up during these discussions at all? I mean, that's a really interesting question, Paul, that I've been sort of looking at closely, of course. Nothing major, obviously, nothing headline moving. But what I would say is there was this reporting that Xi has put in this comment that wasn't, it hasn't been making it into sort of White House statements or sort of U.S. press, but the point being that Xi said that the U.S.

19:16needs to behave correctly in its relationship and its view about Taiwanese independence. We know that a longstanding ambition here for Xi to convince Trump to change the U.S. policy and move from just not supporting Taiwanese independence to actually actively opposing it. And, you know, I find this very fascinating, which is to say that for all of Trump's unpredictability, for all of his 2 a.m. truth socialing, he has maintained, the U.S. administration has maintained discipline on this point. They have not given this point up easily. The national security strategy made it clear that they do not intend to change U.S.

19:51policy here. But it is very much something that China and Xi have very much deadlocked in their mind's eye as a priority. Lindsay, thank you so much. Lindsay Newman with us, Chatham House. Stay with us. More from Bloomberg Surveillance coming up after this.

20:14You're listening to the Bloomberg Surveillance Podcast. Catch us live weekday afternoons from 7 to 10 a.m. Eastern. Listen on Apple CarPlay and Android Auto with the Bloomberg Business app. Or watch us live on YouTube. What a joy to have Harvard football on 92.9 FM up in Boston. Coach Ulrich joined us yesterday. We have to get a different view yesterday. Yeah, we got it. Equal time. Darius Dale, equal time from New Haven. Darius Dale joins us where we will talk the markets here, 42 Macro. So what is it like as a kid and you go out there for your first Ivy League game like Yale-Cornell this weekend?

20:52It's best time of year, best part of the country, bone-chilling. It's exciting. It's very exciting. I mean, I look at the Harrods. Do you think you were cheated because you didn't go to the playoffs last year to get shellacked by Montana? Cheated, yeah, but no. I mean, I'd rather, yeah, no. No, we had a good time. It's very cool, though. I mean, you know, the whole college sport, I mean, it's different than Alabama. It's the last passion, really, of what you and I remember. Yeah. Yep, it is. And all that. What's the, for like all the crazy alums, the game, the Harvard-Yale game is just insane.

21:26What's it for like a player when you guys go on the field? Is it just another game? Do you guys as young kids have any idea what's going on? No, it's not another game. I mean, you have presidents in the crowd. Yes. Former and former presidents in the crowd is definitely not a normal game. But I will say the contrast between being a player and being an alumni is very different. When you're a player, it's very focused. It's very serious. When you're an alumni, it's the biggest party in the Northeast. Plus, you have an organic chemistry. I know. On Monday morning, you're there at Sunday night, 2 a.m.

21:54Oh, microeconomics. Exactly. Let's see. Slutsky, Hicksie, and we'll get it right. Dairy is still in the equity markets here. These are the oddest markets I've ever seen. I just quoted a zero-hedge quote. I've never seen it like this. How do you stay invested confidently, given the upset and turmoil right now? Yeah, thank you for asking that question. Excellent question, because I think you really do need to have a systematic process to make sense of all the noise, the cacophony of noise. We're in a period right now where the distribution of probable economic policy market outcomes is as wide as probably anybody trading risk has ever seen.

22:28And as a function of that, you must have a systematic process that allows you to interpret your data, challenge your Bayesian prior, and ultimately come up with a better asset allocation mix for your clients. So what are we doing in a world where yields appear to be higher for longer? That's kind of what the experts are telling us. But we've got excellent economic growth here. So maybe the rates are where yields are where they kind of should be. Are you still active in this equity market? Let's start with the equity market first. Yeah, we're very bullish. you know, we have two views. Our Bayesian prior from a research perspective is that the market has substantial upside and as a coiled spring, we can talk about that.

23:07Our view is that after that coiled spring, you know, arrives, it may persist throughout 2027 and perhaps even in 2028. But after that, we're likely to experience a secular bear market and ultimately - Secular bear market later. Yeah, well, secular bulls tend in in secular bears and AI and CapEx bubbles tend to catalyze frenzied overbuilding, debt financing structures that are complex. You tend to see disruption of legacy industry. So those are all things that are likely to be features of this market cycle. The equity markets have been driven, rightfully so, by really, really strong earnings, like exceptionally strong earnings here so far in 2026.

23:43If nothing else, the comps for 2027 are going to be more difficult. Is that a headwind, the fact that the growth rates and earnings are going to slow, or is that something you think the market can digest here? I think the market's been digesting that really since early June in terms of the increasing the expansion and volatility that we've seen across the indices. In our view, we think that's a coiled spring, however, because if you think about the drivers of this market cycle, on one hand, you have what we've been calling a productivity boom and a jobless recovery. Those should equal margin expansion.

24:11The margin expansion should equal multiple expansion. And we also have a view that liquidity is on the way, which should equal multiple re-rating. And so that's why we're so bullish when we look out into 2027. And you made a comment on bonds, and I respectfully disagree. bonds are not at their equilibrium price level. We run five sophisticated models that try to ascertain what the fair value of the 10-year nominal treasury yield is, and the mean of those models is 6.04%. Really? So we go higher. We can and likely will go higher until one of two things happens. The Federal Reserve hikes two to three more times to truncate its accommodative policy bias, or we see an expansion of buybacks via the Treasury, TGA funded, and or bank deregulation, reserve management purchases, or yield curve control out of the Fed that sort of caps yields at a certain level.

24:55So what am I doing in the bond market here? I mean, Thomson triple leverage all cash. He's not doing anything. He's not playing. I'm at the two-year treasury at 4.9%. I feel like that's a good living there. Do I take credit risk above and beyond that? In our view, whenever the sovereign is buying its own bonds, it's a signal to investors to go buy other asset classes, to go further out on the risk spectrum. In our view, a lot of investors, based on our positioning model, investors aren't appropriately allocated to risk. Darius is killing us folks with some fancy statistics talk on a lazy Friday in September.

25:27We're going to crush it here. I will be going to services for Ellen Greenspan on Monday. I'm honored to be invited by the family. We'll go down to Washington for this very emotional service of a guy who believed in nighty and uncertainty out of Chicago in 1921. You're spouting Bayesian priors, which is a certitude about where I am right now in using that prior guesstimate into the future. Are you saying Wall Street now is so damn certain they know where they're going? I think they're not necessarily certain. I think the focus has become hyper short term. I'll agree with that. The theta's come in.

26:09The theta's come in. The theta's right in the formulas, folks, here. The theta comes in. Does that make our narrative a heavier weight? Absolutely. I think so, yeah. It increases the value of gamma in terms of as a risk attribution. However, if you want to get away from that, in my opinion, where I think the bulk of the returns come from for most investors is going out, extending that data and understanding that there are certain macro forces that dictate the performance and dispersion in asset markets. Do you have some humility like a nightie and uncertainty out of the University of Chicago that, oops, we're going to get a correction, we're going to get an AI drawdown, and we're going to be uncertain about their future, translate to get some humility?

26:51Yeah, I think the best way to transition from uncertainty to risk and actually do something about that is to have a Bayesian inference process where you're challenging your assumptions on a daily basis with unconditional data. But does that lead to an overconfidence like we see now in a market that's completely stacked to tech and AI? I think what leads to overconfidence is confirmation bias. It's anchored around a legacy narrative. What we do at 42 Macro is we understand our legacy narrative. But again, every single day we refresh the same models to challenge that legacy narrative with new data.

27:23Does interest rates change your equity narrative here? Yeah, so we've been bearish on bonds since December of 2021. We called for the death of the 6040 portfolio. And as a function of that, since January of 2023, we've been very bullish on stocks, very bullish on cryptocurrencies. And since September of 2023, we've been very bullish on gold. Our bearishness on bonds and the policy intervention as a result of that is why we're so bullish. Paul, save the interview. I want to say, folks, the Bible on this is my number one book for interns, Against the Gods, Peter Bernstein. There's no other book.

27:55There's very little math in it. No theta, no gamma. Against the gods, Peter Bernstein's, the Bible. Paul Sweeney just saved the interview. Very little math. That is right up my alley there. You mentioned crypto. I mean, you know, Bitcoin,$85 ,000 per token. We haven't talked about it in a long time because it hasn't been doing much. How do you think about crypto these days? Yeah, when we think about portfolio construction, we view stocks as a productivity feature, something that allows you to capture productivity. Gold is something that allows you to protect your portfolio against financial repression.

28:28Bitcoin cryptocurrencies broadly protect your portfolio from monetary debasement. We've been in a modest period of monetary debasement up and through June. It's unlikely that we see any material monetary debasement until we see either an expansion of treasury buybacks with TJ funding or reserve management purchases or yield curve control from the Federal Reserve, which we think is coming if we're right on our fair value model in the 10-year. There still. Thanks so much. With 42 macro, can't say enough about it. on Yale Cornell this weekend. Again, we'll have Harvard football on 92.9 FM. Stay with us.

29:02More from Bloomberg surveillance coming up after this. As your wealth grows and your needs change, finding the right financial advisor can make all the difference. Edward Jones offers comprehensive wealth management to help give you a greater sense of confidence and control while you focus on living a life you love. your Edward Jones advisor takes the time to truly get to know you and provide personalized strategies to help keep your goals on track. Whether you're passionate about charitable giving, considering business succession, or legacy planning with the next generation in mind. With more certified financial planner professionals than nearly any other firm, Edward Jones Financial Plans are custom-built around what matters most to you.

29:46Because the key to being rich is knowing what counts. Edward Jones, member SIPC. With ChatGPT, you can do more than get answers. You can get things done. When you're running a business and looking to expand, you need a clear view of the landscape before making any decisions. ChatGPT can help you prepare. Connect your Google Drive, point to relevant files and reports, and ask Chat to research competitors, industry forecasts, and market signals. It can turn the findings into a strategic deck in your team's template that you can review before presenting to your leadership team. Growing a business is ambitious, and ChatGPT can help you do it with confidence.

30:26Get started at ChatGPT.com.

30:33You're listening to the Bloomberg Surveillance Podcast. Catch us live weekday afternoons from 7 to 10 a.m. Eastern. Listen on Apple CarPlay and Android Auto with the Bloomberg Business App, or watch us live on YouTube. So UN Week, all sorts of fancy people who trip through the president of this the president that yep michael gapin just in from morgan stanley and then a rock star walks in the studio karan sood folks is who you want to talk to this weekend when you're scared stiff in your 401k out of lsc in one of the top academic shops in india he defines what everyone on wall street is chasing karan i want to talk about the emotion first.

31:15We're all petrified of investing. So we invented buffered funds and target outcome funds off derivatives because we're scared stiff. Is it normal that we're this scared stiff to invest? Well, gosh, thanks for that flattering introduction first. Yeah, but it's real. I mean, you're bringing in billions of dollars. Guys at Goldman Sachs are buying ETF wings. JP Morgan's doing whatever they're doing and option writing. You're the in of the vogue. I mean, you're the most in-in. Why are we so afraid? Well, I think there's an emerging risk that people are acknowledging that they haven't for a while, which is portfolios are not as diversified.

31:59They look diversified on the surface. You got a little bit of stocks, you got a little bit of bonds, you got some commodities, you got some private assets built in. But it's the same risk, apparently, that is connecting a lot of them. And you can have times of crisis where apparently everything is non-correlated, suddenly becomes correlated. And you have negative alpha during crisis. And so one way to risk manage is to risk mitigate through diversification. People are acknowledging their flaws in that. Another way to risk manage is to actively risk transfer. So take certain parts of the left tail of the distribution and say, we don't want it.

32:44And you can use derivatives to pay somebody to take that off your hands. So quite like insurance, right? We manage that in the rest of our lives. If you're concerned about an automobile accident, we don't go buy five cars and say, I'm going to drive five of them or get five houses and think I'm going to live in five different houses. is we go buy insurance. And derivatives options are the insurance of capital markets. And by buying insurance, buying an option, you can say for every dollar loss in the S &P 500 below the strike price, the contractor is going to pay me to make up for that loss, just like an insurance.

33:25Now, unlike real life, where we have to pay a premium for the insurance, capital markets actually let you sell some of the upside to pay for that insurance you know paul the real world of this i looked at a recent pullback we were down i think 12 15 and one of the best buffer funds was down nine percent yeah that's a difference that's a delta here's the numbers folks that'll blow you away the global derivatives market stood at roughly 628 trillion in notional value about five times the world's gdp and roughly four times the global equity market that's according to hsbc and bloomberg as of December 31, 2025.

34:04Crazy numbers. I had no idea. That's where you guys play. What is a target outcome investment? Yes, so those numbers, phenomenal numbers, but chances are maybe 10 years ago, it's not people like you and me who are buying derivatives. It's just big institutions. They see large value in that. And it's this notion of risk transfer that's been available to institutions that target outcome, defined outcome funds, or derivative-based funds are bringing to the broad market. So a target outcome fund defines the target, defines very specifically what you're going to get in a certain period of time in the future.

34:47So it could be about a year from now, and you say, here's a fund that gives you access to the broad market, S &P 500, and a certain part of the downside is protected. So let's say about 20 % of the losses of the S &P 500, the first 20%, you're not going to participate in that. And so what ends up happening is if you buy the fund a year later, it gets down 12%, the fund's flat before fees and expenses. So if I have a gold portfolio, a gold mining portfolio, and I hedge my gold mine, and I'm correct six, seven times, and there's one time I'm not right, I get run over. I guess the runover for you is if we're afraid and we have a derivative structure at Vest where we're protected on a downside, we give up the upside.

35:37Quantify how much you've given up on the upside for Vest protection. So every second the market is open, that tradeoff between how much of your downside is protected and how much of the upside you have to give up changes. That's the derivative market. Right now, I would say just generally speaking, the flagship strategy in this space is 10 % downside protection over one year. You could get up to 15 % of the upside, and then you're capped out. So you're not getting any of the gains beyond 15%. If the market's up 11%, you're going to get 11 % over that time frame. So that's the tradeoff. And there are different versions of it.

36:17Like we manage$75 billion across more than 100 versions of these funds. So you can get 10 % downside protection. You can get 15 % downside protection. You can take the first 5 % and get the subsequent 30 % protected. And for each one of them, there is a corresponding upside gain up to a cap. It's a lot for investors to choose from to really customize for what they want. 75 billion assets on management. I'm still processing that because I'd never heard of you guys, but I thought I knew everybody. 75 billion. Who are your clients? Who's investing in these funds looking for those strategies? Yeah, there is a certain level of perceived complexity to these funds in terms of the use of derivatives and this very specific way to invest a different way to risk manage.

37:06So they're not as pervasively used by self-directed investors. They exist in ETF format, so anyone can plug in a ticker and buy them. But they're really being used heavily by intermediaries, by U.S. wealth management segments, which is serviced by financial advisors, financial professionals who are managing money for wealthy individuals and clients and families. That's the biggest segment. And then there is institutions who recognize, who are looking for hedged exposure and might be going to hedge funds and paying$2.20. Now, here's an alternative way to get hedged exposure at sub 1 % ETF level prices.

37:49I never had the privilege of talking to Fisher Black. We lost him so early. But what a joy to talk to Myron Schultz any number of times, including the tragedy of August of 1998. Where's the leverage shadows here? I mean, I get it. All the major banks love what you're doing, First Trust, all that. where's the leverage shadow in this build-out, this certitude that all this is going to work? Well, I think if you take a few steps back, Tom, and you ask the fundamental question, what's the point of investing? For a large number of people, it's not like a stock picking contest that they want to win.

38:26It's they want to retire comfortably. They want to put their kids to college. They want to buy that house. Give me nine or ten or eleven percent. Thank you. Well, I'd say And more specifically, it's when your bills come due, you want your investments to be there, right? Your college tuition is not going to wait for the market to recover. This style of investing gives you a higher level of certainty. That certainty has a certain utility for investors. And that is what investors are buying. Don't be a stranger. I'd love to have you in again. Karan Suda is with Vest. I can't say enough. This is the Bloomberg Surveillance Podcast, available on Apple, Spotify, and anywhere else you get your podcasts.

39:08Listen live each weekday, 7 to 10 a.m. Eastern, on Bloomberg.com, the iHeartRadio app, TuneIn, and the Bloomberg Business app. You can also watch us live every weekday on YouTube and always on the Bloomberg Terminal.

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