Transcript

Oscar Pulido: Welcome to The Bid, where we break down what’s happening in the markets and explore the forces changing the economy and finance. I’m Oscar Pulido.

Taylor Swift has been making headlines lately, but not just about her music or her NFL boyfriend. Economists around the world have been attributing the rise in costs of services and inflation in a number of countries to her worldwide Eras tour.

However, Swift herself can’t be held fully responsible for some of the shifts in consumer spending habits that are influencing the prices of goods and services. There are many other macro and micro forces at play in driving, spending behavior and inflation trends around the world. Joining me are Tom Becker and Kate Moore.

Tom and Kate are senior investors at BlackRock with decades of global macro and thematic investing experience between them. Together we will discuss the changes in consumer spending behavior, the future path of interest rates, and what signs investors should be on the lookout for in the latter half of 2024.

Tom, and Kate, thank you so much for joining us on The Bid.

Kate Moore: Oh, Oscar, it’s great to be here with you.

Tom Becker: Super Oscar, good to see you.

Oscar Pulido: Tom, let me start with you. Every week at BlackRock there is an investor forum where an investor such as yourself asks a question to the rest of the BlackRock investment platform. And the question is meant to create some discussion and some debate about a particular topic. You recently asked a question about Taylor Swift and her impact on inflation.

So, I’m curious, explain why you used Taylor Swift as a jumping off point to discuss inflation, and what did you learn from your fellow BlackRock colleagues?

Tom Becker: Yeah, Oscar. My daughters were quite happy with the framing of the question because they thought it would help to elicit some more input from the platform. And I think that proved to be true. It was a question that I asked in terms of structural drivers of returns, at BlackRock we call those mega forces. I posed the question as Taylor Swift, maybe a mega force. And it was a really good way to engage people. If we look over the data over the last couple summers, the Eras tour has been not just a phenomenon for music lovers, but it’s actually impacted some of the economic data. This summer she went through Europe, in May three concerts in Stockholm led to one of the top three readings of services inflation ever for Sweden. Moved over to Wembley, did some concerts in London. There was an all-time high of accommodation prices, in that month’s CPI.

And so you’re seeing echoes of this Eras tour go into the macro data. The question I asked was along the lines of, what central bankers were thinking in Europe, which is, are we out of the woods with this high services inflation? In Europe they decided, yes, those policymakers looked through those high prints and started cutting rates. And I guess that’s a question are we seeing this phenomenon of high and elevated services, inflation, this catch up post pandemic reopening, which Taylor Swift with her in-person concerts embody is, are we through that phase of the post pandemic reopening?

For the last two years, US consumers have definitely shaken off the high policy rates, economy has grown beyond the wildest dreams of policymakers and forecasters over that period. And I think as we head into the fall, out of August, I think it’s just an interesting question to get a sense from the platform, how are they thinking about the reopening? How are they thinking about the state of the consumer? And I think the platform had a couple really interesting answers, or things that I really hadn’t thought about.

One, services are tricky because it’s a low productivity part of the economy, and so when you get extra demand for services, the likelihood that’s inflationary is a little bit higher.

Number two, we still haven’t caught up to the trend of services spending that the economy was on pre-pandemic, and so there might still be some catch up even though we’re in our third summer of reopening.

And then number three, a really interesting point, which is just that the Swifties and this Swiftflation maybe encapsulates this larger phenomenon of micro communities, where you’ve got people virtually connecting, showing their affinity to certain artists or to hobbies or different aspects. And when they meet in the real world, their willingness to pay is very high. And so, you’re going to see that come through in the inflation data.

Oscar Pulido: And since you mentioned the Swifties, they would definitely say that Taylor Swift is a mega force to the question that you posed, earlier. But what you’re describing as you talk about strong services spending and how that’s creating inflation, this is a continuation of what started when the world reopened from Covid.

And so, what does this mean in terms of the soft landing that policymakers are trying to achieve and that markets are hoping also is achieved?

Tom Becker: That’s the million-dollar question. and I guess you could reframe it as has everything changed? It’s always hard in, in economics and in markets that think this time is different. But there are elements of the post pandemic restart that, I think, we have to be cognizant of.

Like you said, everybody is rooting for the soft landing. Markets have embraced the soft-landing various times over the last couple years, this summer particularly. But I think from our perspective, on our investment team, there are just some mathematical challenges with nailing the soft landing that we’re not really sure have been met yet.

First is nominal GDP. So, the nominal amount that economies are growing. it’s just much higher post-pandemic, it’s not just in the US where it’s growing five to 6% a year. It’s higher in Europe, it’s higher in Japan. That makes it harder to get real GDP and inflation into the right zone. So that’s the starting point, is the economy just growing, at a faster clip.

But then when you look at the services versus goods dimension and Taylor Swift being kind of part of that services economy, services inflation is just running much higher than it was pre-pandemic. Like two times higher in a lot of developed markets, that’s got to come off. There are some headwinds to doing that. You hosted Mike Penske on this, podcast about some of the challenges related to the insurance sector. and I think that’s a big input into services, prices. But then you’ve also got this open question of if the labor market is strong, if people keep spending, what’s going to bring those services, price inflation down fast enough.

And then on the good side, you’ve also got the challenge of mathematically goods were in deflation for the last couple decades, but that was a period when China was entering global markets. You had more globalization. We’re unwinding some of those multi-decade, trade relationships. And so even if just goods inflation stays around zero, the math gets hard to get to 2%.

And so, I think this is going to be a long journey. Markets definitely think we’re there, but we’ve had some false starts before and I think that could be the case this time in terms of, really, just sticking the landing on the soft landing.

Oscar Pulido: What you’re describing is a scenario where inflation seems to be persistently higher, and there’s a number of mathematical reasons why it could remain, persistently higher.

And so, Kate, perhaps to bring you into the conversation and to hear your perspective, is there a big gap between the perceptions of inflation and the reality of, inflation?

Kate Moore: Oscar, I think it depends on who you ask what is reality in terms of inflation and what is perception? And let me just say this, like right now, as we sit here, in the third quarter of 2024, I think the gap is closing. perception is coming closer to reality, and I think a lot of media stories haven’t really helped, especially in an election year. I think we may be close to out of the woods, but maybe not quite there. And I’ll tell you two things that I’m really encouraged by.

First, a New York Fed survey that came out this summer where consumer expectations for one year forward inflation is around 3%. That kind of takes us back to levels, consumers were talking about in 2020. Similarly, there was, some data out from the conference board where the median, inflation expectations were at the lowest level since the start of the pandemic. So, there’s this enormous improvement, and I think that kind of does reflect the reality, this disinflationary trend.

But I think there’s a real tendency for consumers to anchor their expectations on items that they frequently purchase. food and gasoline, economists and economic data watchers, those of us on this podcast right now, I think in terms of one year change, like how are prices today relative to where they were one year ago? are prices up less than in August of 2023? And the answer is yes, but I think consumers often compare today’s prices to the last time they felt prices were reasonable. So, in many cases, that would be like in 2019 or before the pandemic, they remember that the cost of, certain food products or the cost of gas, and that really impacts their perception.

There is this perception in the economics community, in the market’s community things are getting better. But on the consumer side, there’s still a lot of anchoring to the last time prices were attractive. And I just want to make this other point here is that, given the fact that inflation is oftentimes listed as the number one concern for voters, and we have a very important election in November, not just for the president, but for many seats down ballot. Even if we’re making demonstrable progress, I think higher prices are still weighing heavily on how voters, are considering policy and the policy they want to support, for 2025 and onwards. I think there is a little bit of a gap. Things are improving as kind of Tom was mentioning, but some of that gap is warranted because we are all anchoring on different points.

Oscar Pulido: And Kate, in your day-to-day, you look at the equity markets and you’re looking for investment opportunities in equity. So, based on what you described, around inflation and this closing gap between perception and reality, what industries and what sectors are of interest to you?

Kate Moore: Let me just say, I, this year, 2024 has been more of a single theme market, or at least it’s felt like that way. the market has clearly been in a love story with the AI investment theme, over the last maybe 18 months, and I think for really good reason.

AI and AI related companies, particularly in the semiconductor space, have posted yet another strong quarter as we just finished, second quarter earnings. They’re beating analysts’ expectations, they’re raising guidance. And these companies that have really been driving the market forward are also the companies that have been the most fundamentally sound in this market. So there has been, a huge outperformance, and very concentrated outperformance. It has been based on real fundamental earning strength.

But I think like after these huge waves of outperformance over this last 18 months, we saw this a number of times throughout the summer, there have been members of the investment community that are asking themselves, is it over now? has all of the good news been priced in?

We continue to have this view that there is a kind of a multi-year investment theme in the AI and AI related technology disruptors. That’s not to say that we won’t have periods of exuberance and, subsequent pullbacks like we had over the course of the summer, but you do have to be a little bit of fearless, and I say have strength in your belly here, with the longer term investment thesis and understanding that these technologies are going to meaningfully change, work across all different types of. industries, productivity and efficiency.

The other thing I would say is, we’re looking at derivative themes around AI and, technology as we try and consider, what the long-term opportunities are, and I would say we look at the power grid and energy infrastructure, heightened data center demand. We look for companies that are making investments in AI right now that can improve their efficiency. I’m very optimistic about the broadening out of AI and AI related themes, that, have really dominated the market in 2024.

Oscar Pulido: And that’s consistent with something that, Carrie King, who we spoke to, a while back, talked about the opportunity for, equity market gains to broaden out beyond AI and beyond the technology sector.

Tom, maybe I could come back to you the picture that you’ve painted is one where, inflation is stubbornly high and maybe could stay there just based on some of the things that you outlined. So, we’ve talked about this environment of interest rates then needing to stay higher for longer, but how much higher and for how much longer. It feels like there’s actually now discussion about interest rates going in a different direction. How do you think about that?

Tom Becker: Sure, Oscar, I think there, there are three more Fed meetings this year. In a fortnight, the Fed looks to be set to, to cut in their September meeting, jay Powell guided there at Jackson Hole. So, I think, the first cut of the cycle is coming, the European Central Bank, the Riksbank in Sweden, the Bank of England, the economies where they’ve had this Swiftflation over the summer. They’ve looked through this, central banks are not going to wait until inflation is below target to ease and that’s the direction they’ve been headed.

But I think given the shifts in market pricing that we’ve seen in August, the question is whether kind of front-end rate markets maybe need to calm down a little bit in terms of pricing, this sustained 2024, 2025 easing cycle, which looks like a cycle you would expect if the economy is much weaker than it has been. As Kate said, we’ve got an election November that’s one of the policy meetings, or the fed’s going to have to decide if the data is strong. I think it might be back to December for the, for them to go with their second ease of the cycle.

Oscar Pulido: And Kate, you mentioned how you know, for every consumer, the perception of inflation really is dependent on, the goods that they buy, so maybe talk a little bit about your views on consumer spending for the rest of 2024.

Kate Moore: Yeah, sure. And actually, I’m just going to pivot here really quickly and talk about corporate perception of in inflation because that’s had a really big impact, I think will have a big impact, On the economy and on business activity. the people who run companies are also consumers. And actually, when you look at CFO and CEO, confidence, they reached an a significant low. People were not optimistic about the economy or their ability to really expand their sales when inflation was peaking and you saw that get the worst, in kind of the summer of 2022 when CPI peaked. But there’s been a significant improvement in terms of CFO and CEO optimism, as inflation continues to improve. And that’s really good news for the sustainability of the US economy because if companies are feeling better about prices, they may feel better about making investment decisions.

Now of course, the election will come into play and if there’s a significant change in policy or regulation, that impacts in a given industry, that will impact how corporate decision makers end up spending and their Capex plans. But I still feel pretty optimistic here. Inflation is having impact not just on consumer behaviors, but also on the corporate.

The consumer concern around inflation is fading somewhat, but we’re getting a lot of news from consumer companies that there are being more value conscious, that consumers are focused on getting, the most they can for their dollar, and making sure that they are really spending their dollars on goods and services that are the highest priority for them.

Like before anyone freaks out and takes a couple anecdotes from companies about value-oriented consumers and thinks that means that the consumer part of the economy is weak. I just want to remind everyone; we should go back to the pre-pandemic era where we applauded consumers for being smart about their decisions.

And I think we’re in another environment there where, corporates are making good decisions, but they’re feeling more confident, and consumers are being value oriented.

There’s just one more point I kind of want to make around the interest rate environment and that is, who stands to benefit the most from lower interest rates. Quite a lot of equity strategists and, people who are hopeful for small companies to outperform have talked about how punitive high interest rates have been for small companies. And so certainly as interest rates come down, that’s going to benefit small companies.

But if Tom and I are right and the economy is actually in pretty good shape and the Fed is not going to have to slash interest rates, but will be trimming at a measured pace to balance out the economy, we’re not going to see hugely lower rates over the very near term, and I would note that the companies with very strong balance sheets and high free cash generation, which are generally larger companies are still going to benefit in this environment.

Oscar Pulido: And we’ve talked a lot about sort of inflation and the economies, but let’s bring this to an investor who has a portfolio and is thinking about what to do in their portfolio. Tom, what. What does that mean for the end investor? When we think about all the developments that we’ve discussed?

Tom Becker: In terms of What we’re looking on, the go forward is really, signs from the labor market, how resilient are people’s expectations about their job security, because that’s front and center in terms of how people spend their wages is not just the wage they earn, but their expectation of kind of keeping that stream of income. So, I think we’re really looking closely at the labor market, prints in the next couple months.

the services spending is really front and center to the US economy. It’s a services-based economy. we’re pretty, we feel pretty strong on that, but, always open to, to revise our views based on the data.

And I, I think something that, we’re positioned for in portfolios, that’s a little bit contrarian and might have some impacts down the line is What might a weaker dollar do, in terms of inflation going forward? So, we’ve been in this really strong, upward, strong dollar environment for multiple years now of us exceptionalism.

There’s a bit of a blank space here, with the dollar having some trouble over the last couple months. What does that do to commodities? What does that do to goods prices? I think that’s something we’ll be looking at closely given positioning, underweight dollar, I.

Oscar Pulido: And Kate, similar question to you. What does this mean for investors? You’ve talked about a broadening out of equity markets from, maybe what has been dominated by one sector to multiple sectors. And I think you, you said maybe even smaller capitalization companies could benefit if rates start to come down a bit. But what else should investors be considering?

Kate Moore: Yeah, I think there are a couple things related to some of my thoughts around CFO And CEO confidence.

So, one of the things I focus a lot on Oscar is, what do companies tell us? What is the tone of the message that they’re giving? So, this is not just the concrete guidance, but also how they answer investor questions and what it feels like their overall sentiment is. So that’s something I’m going to be watching very closely.

Labor statistics are also really important. we’ve had a slowdown in terms of the overall, employment situation, but we haven’t had any significant layoffs. I think that’s an area I’m going to be watching very closely if we move from a slowdown in hiring to an increase, I. Layoffs. I think that’ll raise some flags for me and make me a little bit more con, concerned around the consumer.

And then the last thing I would say, and something we haven’t really mentioned as we’ve been talking very much about kind of the US at this moment is what happens, on the global stage and particularly geopolitical developments. We know that in general, geopolitical risks have very short shocks for the overall market. But it does impact corporate decision making, it does impact government policy, and it can have impacts on supply chain, something we don’t want to see return, since we are now much more happily in this disinflationary period.

So, I’d say the guidance, the economic data around the labor market and any shift in the labor market, and then what goes on, in terms of geopolitical conflict are going to be front of mind for me.

Oscar Pulido: You’ve both shared a tremendous, amount of insight and you’ve very adeptly, been able to incorporate some nice Taylor Swift song references. I’ve been paying attention.

So, I’m going to end where we started, which is we’d started this discussion with Taylor Swift and her impact on inflation. Tom, I think you have three daughters, and you mentioned them at the at the outset. So presumably you have a favorite Taylor Swift song, and I’m also curious if there’s an artist That perhaps recently or back in the day, you went to go see and you were willing to pay a high-ticket price for.

Tom Becker: Yeah. 1989 is the, the soundtrack of, our household. Has been for a number of years, and it’s somewhere between bad blood and welcome to New York, depending on kind of the mood, we’re trying to strike. In terms of, back in the day, Dave Matthews Band actually. so, a bunch of high school friends and I, paid up and went out to the Meadowlands, to see that concert. and that was a, a really great summer event.

Oscar Pulido: And Kate, I know in previous episodes that you’ve joined us on you always have musical references. I know you’re a big music fan, so you must have a favorite Taylor Swift song, and you must have a cool concert story of, a ticket you paid for.

Kate Moore: Yes, and yes, of course. Oscar, I’ve got both of those things for you. So, I will tell you, my favorite Taylor Swift song actually is Renegade with Big Red machine. I think it’s a beautiful song, really awesome duet and, maybe not to play, to hype you up to go out in the evening, but I think it’s one of my favorite Taylor songs.

in terms of concerts, what would I pay big tickets for? as you noted, I love music, and I love live music. And as I’m thinking about this, there was, an era where there were some great music festivals that I probably would’ve paid any amount of money to go to.

And I’m thinking of the Horde Festival. The Horde tour, like 1993 to 1996. I think in 1993 it was Big Head Todd, The Samples, Widespread Panic with Blues Traveler. In 94, it was the Allmans, Black Crowes played in 95. So that is really the era I would’ve paid anything because they were all day Music festivals with bands I just loved.

Oscar Pulido: That sounds like a value-oriented, consumer, when it comes to. Music purchases. I can, already tell that people are going to have a little bit of a hop in their step, when they listen to this, and they’re going to get some great perspectives on inflation, the economy, and what to do in their portfolios. Tom and Kate, thank you so much for joining us on The Bid.

Tom Becker: Thanks Oscar.

Kate Moore: Thanks so much, Oscar. I look forward to sharing my playlist on future bids.

Oscar Pulido: Thanks for listening to this episode of The Bid. Next week I speak to Tony Kim, a portfolio manager who is at the forefront of tech investing to talk about the latest trends in Silicon Valley.

Sources: 2024 Findings from the Diary of Consumer Payment Choice, Federal Reserve July 2024; Bureau of Labor Statistics CPI data 2022; “Europe has a Taylor Swift Problem: Eras Tour sparks inflation jitters” Axios July 2024; “U.K. Inflation Steady as Economists Puzzle Over ‘Taylor Swift Effects’ NYT, August 2024

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This post originally appeared on the iShares Market Insights.