We need to have a big national campaign to get people to stop spending money and to put their money into AI bonds. War bonds. Right? Yeah. I mean, yeah, with people already putting some weight on doom with not liking the noise from data centers in their environment. I think what America needs right now is to be told to spend less so that the AI boom can more fully run its course. I'm not running as a third party candidate, and I'm also probably not allowed, but you know, that would be definitely my platform.
I would classify that under financial repression.
Hello, and welcome to another episode of the Odd Lots podcast. I'm Joe Weisenthal.
Tracy, it dawned on me the other day, the market's kind of crazy right now. No, no, it's like seriously, it's like we're sort of used to all this stuff and everything. And then one day, one moment I realized, oh, markets are really crazy these days.
I would say weird. I find them very weird at the moment with like the biggest tension being what's happening in the bond market and the stock market. By the way, I have a huge caveat for this episode, which is we are recording this on September 9th. I've been away for the past week on vacation. I probably should have put up my like normal going on vacation warning, so something is about to blow up. Turns out it was the bond market. Yeah.
You know, actually, it's funny you say that because the way I think about the market right now is so much is happening and nothing is happening in the specific sense that it's like, okay, we're in the middle of a war with Iran. And so we're just like, oh, it's just this headline. Trump says negotiations are going good. And then it's like people move on. There's some crazy model leap etc. by one of the AI companies, huge news, but also so regularly cadenced now that even that almost becomes noise. Obviously the movements in the bond market, I guess, like that is probably the one thing that does feel novel about maybe just the last few weeks. But even there a lot of that angst has been going around a long time. So it's like there's so much of everything. There's no one thing that just, you know. Yeah. Like yesterday, September 28, it was announced that David Zervos was going from Jeffrey. I saw that. Time Warner in Connecticut with no electricity. And even I saw that ten years ago, if that is announced, that would be like a really big thing. People talk about people. It is who all this stuff. And it barely broke through. But there would have been a time where that would have been the biggest sort of market related or Wall Street related story of the day. It feels like stock markets are sort of overwhelmed and or inured to everything happening, except trying to make money. Know like that is the one impulse that remains that never gets old. No. And that's arguably the point of the whole thing. Anyway. I really think we need like a sort of big rambling state of the markets episode. And we really do have the perfect guest, someone who used to be our colleague here at Bloomberg. We are, of course, speaking to Luke Kawa, head of markets at Sherwood News. So, Luke, thank you for coming back on Odd Lots.
Oh, great to be here. Thanks for having me.
Oh, you know, I will get me started on something new, actually, because there's so much going on suddenly lately. Market's having a great year. S&P up over 12% or about that as the time I'm talking. What's up with I see a lot of talk about breadth. This is sudden everyone. So about market breadth these days. What's that all about.
Yeah, I think why they're talking about breadth is because it's absolutely god awful. You know, there's been a lot of different stats to show you can say, you know, the average stat is X, Y, Z below its high. Well, the S&P 500 is, you know, as of writing about, you know, 1.5% off of its high. The one I came up with that bothered a lot of people the other day was, coming into this week, the S&P 500 was, you know, 0.5% off a record high. And just 51.2% of stocks were above their 200-day. Last time we had, you know, that proximity to a high with that few stocks above the 200-day was literally the day after the dot-com bubble peak. So, you know, that gets a lot of people mad. But then you have to point out, okay, wait. Breadth was also that bad in 1998. Market ripped for another two years after that. So it really is a case of, and I think to unify a lot of what you were talking about in the intro, is the market inured to higher rates? Know a lot of the market isn't. The S&P 500 equal weight certainly isn't. The Russell 2000 certainly isn't. However, basically to me, there seems to be just this big bet that the AI impulse will continue to eat and swallow the world. Until who knows what puts a stop to it, whether that's kind of the credit conditions, the capacity to land, whether that's regulation. But right now, the pricing to me just looks like more and more betting on a singular factor to be able to drive growth. Like, think about it. When's the last time that there seemed to be more confidence in European industrials than the U.S. consumer during a period of strong growth? I like I cannot ever remember that happening outside of maybe like Euro boom. What was it, 2017 for a couple months?
I mean, it is true that in higher rates. So rates are a blunt tool for the Fed. Right. And they're going to hurt something like a home builder a lot more than an AI company that is issuing like mega deals into the bond market, I would imagine. Is it the case that, you know, maybe the bet on AI makes sense in that environment? Maybe the AI companies are the ones that are less rate sensitive than a lot of other businesses out there.
I think right now that's like a perfect encapsulation of conventional wisdom. To me, it's also, you know, very interesting that as we've had this latest explosion higher in yields and we've talked about like, oh, it's the AI impulse this, that, it's also come at a time where hyperscaler credit spreads. None of them are at their wides of the year at the long end. Yeah. It comes after a September of you can tell me how much U.S. IG and USD issuance there was by hyperscalers. I believe that's a zero for September. So it's yeah. So very very interesting. You know, they got their business done to help because they got a little bit spooked with the CapEx response from the market. So so that to me is something that like, hey, a lot of this in the bond market, both a response to stronger growth and, you know, the potential for issuance. A lot of this is like the classic Mark Dow belated overreaction to something we've been thinking and talking about for a long while. And then I think the, you know, the question is how long can the cyclicals that are doing well at, you know, operationally at least, how long can they be plumbing 52-week lows a lot of these. And is it just because AI is doing so well? And I think that's the kind of important part to be making the important point, to be making that so much of this market has been dispersion. Helene Meiser calls it the either-or market. I've called it, you know, the Elaine George market. Jerry's friends. Only one can do well at the right time. But that's been a really, really defining trademark of 2026. At first it was, you know, semi software. I think more recently it's been like this idea of inertia stocks versus the year of the general AI beneficiaries. And I think that to me is a bit of an important twist. It's this idea that like it's not just one layer of AI that benefits. It's, you know, multiple layers through software, through the hardware providers that get to benefit from an impulse like muse, like tic Commerce, and then others that get hit. So that, to me, is at least a bit of a nuance in how the market treats AI and the impulse. But for me, it's just really a sign of the mechanics that have continued to dominate and just continuing to play out.
It's interesting. I looked up a chart of McDonald's and that was doing really well up until and then it peaked on March 3rd, and then it's been straight down. So it's like basically when the around war started, that was wait, was that when the CEO ate, oh, reluctantly I forgot about it. What it just like any consumer name you can think of right now, the stock is awful. Nike is the classic example that was a has. Crazy. There was a $180 stock in 2021. It's 35 now. I mean there's just like I mean granted in any huge run up in 2021 too but like any like just sort of like regular business that is they're just doing terrible.
It's it's crazy like and when you look at Nike, one of the things that stands out and I think you could apply this more recently to a Walmart, possibly to a Costco. And I'll tie this back to software, oddly enough. But these were relatively expensive stocks that didn't have exceptional top line growth in a world where nominal growth has been accelerating. That's been the that's been what the bond market moves about. That's what stock market resilience is about. Like why do you well, why do you want to own the stocks? Why do you want to own the stocks that aren't growing that fast, that are expensive when everything else is growing very fast? So I think for what happened for a while is that a lot of these consumer names and, you know, Walmart and Costco in particular, they were stand ins for the the software stocks that were, you know, bound to be disrupted by AI. Because if you think about it, you know, if if you're going to spend a certain amount at Walmart every month, that looks to me like an IRR kind of revenue profile that you've got there. A Costco is literally a subscription kind of membership. Yeah. In a lot of ways. So I think that was a stand in for disruption fears. And as software has come back you've seen kind of multiples there deflate. So I think it is, you know, we gotta find someone to punish. Maybe it's just because everyone's very invested. But when AI is doing well you gotta find someone to punish.
What about just in terms of pure earnings expectations, what we're seeing here. Because this is the other thing that that in theory should be happening, which is you hear about productivity gains from AI, you should be seeing people get excited about the possibility of cutting labor costs. I don't know, coming up with new products with AI or whatever. And in theory, you should be seeing that go into the earnings estimates for future, for future years. Are we seeing any of that?
I mean, I would say in theory and in practice, what we continue to see more of is the AI hardware impulse as just the straight fuel for earnings. Goldman had a good note released a couple of days ago where they said, you know, about half of earnings growth this year is expected to be just driven by hyperscaler CapEx. So pretty pretty big impossible. We're talking about how strong growth has been. Earnings growth has been this year. And you can just link it and distill it just down to that one factor. And then also if you look at okay, they also ran in a separate note. What do we think explains multiples across Russell 1000 stocks. And the answer they came up with was more so than usual. It's three years forward sales estimates right now. The one year forward sales estimates. And those revisions have almost no explanatory power. So you know sales growth right now in for the near future. It's priced in. We all know it. We see the backlogs all this all that. The real bet on what you're willing to pay for is the kind of three years out thing. And when I did a scan of stocks that, you know, were just both expensive and had, you know, so market's willing to reward them and fairly high sales estimates. You know your Bloom Energy's out of the optics stocks. Those are the ones that pop out there. So that's been kind of the way to earn a higher valuation right now in this market. It's betting on the continuation of the hardware trade.
Yeah this is something interesting. Both Tracy and I love the hair charts, the Medusa charts of all the storage lawnmowers, where you see historical expectations of a trajectory. And one of the ones you're starting to see more is just the CapEx one. And so you look at like what, you know, what sell side had estimated hyperscaler CapEx should be in 2023 and over the next three years, and then that keeps getting revised higher. And it seems like it's continuous. And so I'm curious like there is some number exists. Right. So maybe I don't know what it is. They'll say like okay, they're expected to spend 1.2 trillion over X period of time and that's up. But like how much of the trade is essentially a trade that that the estimates will keep getting revised higher for spending?
I gotta think a solid chunk right now. And there's at some point I think there has to be this handoff from that to a kind of more broader set. And when Nvidia and it's either a quarter ago or one before that, they actually kind of rejiggered how they're organizing their earnings to account for the fact that, you know, we expect sovereign AI and robotics and physical AI on prem stuff. We expect that to be contributing more and more to our sales going forward. It's going to be real small now to start, but we expect that to be a bigger driver than hyperscalers. And you know, you know, potentially NIO clouds. But you know they're doing all they can to support that going forward. So I think right now that is a huge, huge chunk of the trade. The bulk of the trade. But the promise of AI is that it has to be more applicable than that. Right. To your point, it has to have the productivity booms. It has to have the labor saving. If it doesn't, then, you know, what are we here for is kind of I think the question at some point.
Yeah. Did you see the chart? I think it was in Adam Tooze's newsletter this morning. I mentioned that the CapEx expenditure on AI is now like the biggest. Oh yeah. Yeah. The great pay for all time. Yeah. I saw the economist Hannah Lustig. I'm not sure if I'm pronouncing his name right. He's saying that this is a I mean, this is like that to to justify all the spending. Yeah. They estimate like a handful of companies will have to get revenue. That's like 9% of GDP. Yeah. In order to justify it, which is just like unbelievable.
It's ambitious, ambitious, I'll put it that way.
So I promised myself I wasn't going to talk exclusively fixed income in this conversation. But we can't have Luke without, you know, more about fixed income, bond yields rising. So these are the headlines that I saw when I was on vacation last week. You know, the ten year going to above 5%, 30 year rising as well. What's your story for? I guess I should divide it up. Global bond yields rising and then U.S. Treasury yields rising specifically.
Predominantly I think it's the same story for both are the same. Like if you had to do a principal component analysis or something, I think what would stick out across the board is it's the global growth impulse, it's activity. It's both in the U.S. and globally. I think we see, you know, the industrial side of every economy is doing incredibly well and expected to do so. And I think something you wrote a while ago kind of fits into this about, you know, that which can be repurposed for AI will be with reference to forward. Yeah, I believe that. You know, it seems as though the impulse is just getting more widely shared. If it's, you know, you have an impulse this big, it's bound to lift a lot of boats. And I would say that's kind of what's happening throughout the global economy. That is far and away, I would say the one thing to think of if you had to if you just had an elevator pitch with someone, why our bond yields are high because growth is really strong. That's putting inflation up. And central banks are expected to respond to that. You know, zooming out. But we haven't had a huge move in like break evens in the U.S, for instance. Yeah. But I think that somewhat speaks to the idea that central banks are going to be, you know, quote unquote credible in keeping a lid on inflation over time. You can believe that or not, because like, if you've been a hold the maturity buyer of five year U.S. treasuries from at any point in 2011 to 2021, outside of like a little before the shale bust, if you got in there, you have negative real returns through that entire period.
I'm actually very curious. I find this the stability of break evens to be very surprising, because usually what people say is like, well, yeah, naturally, people think the Fed is going to take its dual mandate seriously. And okay, we're going to they're going to have to raise rates to roughly and think and therefore inflation will be a little over 2%. Are you surprised that after years and years of the Fed missing its inflation target, there hasn't been more like no, we do not think that the Fed will be able to we do not have the confidence that the Fed will be able to maintain stable inflation in the years ahead, or why isn't it manifesting on their chart?
I would say in a word, yes, I'm genuinely surprised that I find this show surprising. I think it is an odd dynamic. The best explanation I have for it is just thinking back to, you know, when I be in meetings, we were discussing asset allocation, especially during 2022 at UBS in 2023, high inflation, high inflation environment. Basically bonds become the residual at a certain point. Like you buy bonds when you're worried about growth and you don't think there's going to be that much inflation. If you think growth is fine and it's inflationary, well, you know, it's, you know, cash or short term and a lot of stocks and or you know, stocks, commodities a little bit of cash. So it's like bonds are kind of the thing you make the final decision on. So I would say the fact that a lot of this is driven by real yields might come back to a I think of like, how do we get bonds to be more attractive relative to stocks. And a lot of people will do the, you know, your earnings yield less the plain vanilla yield on bonds. You should probably be doing it versus the real yield stocks are, you know, stock earnings more of a real stream of assets. So I think in order to get bonds to be a more competitive asset with stocks, you do need to see reals rising. And that a lot of the move is effectively saying like, hey, I can't I can't justify buying a, you know, 2%, you know, 2%, even real return, 3% real return. When this is what I think is on offer. And I so I think you're having it come through realsies is part of that story and part of why, you know, part of the decision making process in terms of how a cross asset investor would be looking at bonds.
