Thank you. Thank you very much.
Do I like that we started here on the legal disclaimer page? Yeah, I do have a fan from last time I went to Beijing. Awesome. But thanks so much for coming. This is becoming an annual recurrence, and we'll see if I'm invited back next time this year when we do this again. So let me walk through how we think about the outlook at the moment. So the plan is to walk through this agenda. I'll talk about this in a second, and then once we've done that, we should have some time for discussion and debate about what's going on.
So when we think about the economic outlook and when we think about the question of asset allocation, we think about what are the headwinds to the outlook and what are the tailwinds to the outlook. Why is that important? Because this gives some idea about what are the things that are going well, what are the things that might be risks to a slowdown. In particular, what might be a risk to a slowdown in earnings and what might imply that earnings are going to grow faster.
And then at the top of the list is, of course, the number one thing that a lot of people, including us, still have worried about for a long time now, is of course tariffs. I'll talk a bit about what has happened so far with tariffs. I'll talk about what has been the implication on employment, what's been the implications for consumption. And the conclusion is the same as Walmart has been saying: tariffs mean higher prices and lower sales. We also got a little bit more of that from Nike here two days ago when they reported earnings. Same story. Tariffs are having significant implications. They did perform better than expected, but it is still the case that tariffs are resulting in higher prices and a hit to earnings.
So we'll be looking at different dimensions of tariffs and how it's impacting the economy. We'll then turn to another headwind, namely immigration restrictions. This is focusing on what is going on with immigration, what's going on with deportations, what are the implications for employment, what are the implications for labor supply and for wages.
And finally, we will also turn to what is going on with student loan payments. Remember during the pandemic, we didn't have to pay back our student loans. That stopped here in May of this year. And now, if I'm not paying my student loan, it will be reported to Experian or Equifax or TransUnion, and the credit bureaus will report that I'm not paying my student loan on time. And the consequence, of course, of that is that my credit score is at risk of going down. So we'll be looking at a number of charts that focus on how big is this problem, what is the magnitude of the hit to the credit score, and what might this mean for overall consumption.
And when we take those headwinds and we weigh them against the tailwinds, the tailwinds are really much simpler. Namely, that trade war uncertainty is coming down, stock prices have been going up, we have had tight credit spreads, the Fed has been cutting rates, and we've had that the dollar has been going down. All those things are certainly things that are helpful, but these things are just not helpful enough to generate more boost to the economy relative to the headwinds that the economy is facing.
So the conclusion number one is we view this current outlook as importantly one where the headwinds are stronger than the tailwinds. One way to illustrate that is to look at the chart here to the right. This is the Nike swoosh that we have as the outlook name, that growth is going to be weaker and then growth will eventually get better as we get into later in 2026 and into 2027.
Why is growth expected to be weak? Because we have the trade war, we have immigration restrictions, and we have student loan payments restarting as headwinds to growth overall. So one very, very important conclusion is that this is not like COVID, obviously, this is not like Lehman when we got a recession. So at the moment we are not anticipating that this will result in a recession, but we are anticipating that this will result in a slowdown.
And that's not only what we say at Apollo. This is also what the Fed is saying. And in this chart here, this is what the consensus is saying. This chart is the screen in Bloomberg that is ECFC GO. ECFC GO is the consensus view of the economic outlook. Why is that important? Because this tells you something about what's priced into markets, what's priced into the S&P 500, what's priced into rates, what is the expectation in terms of where the economy will go over the next 18 months.
There's about 60 people who submit their forecast to the consensus. The orange numbers is the historical data. The white numbers is the forecast from the 60 people who submit their numbers to the Bloomberg folks. And what you see in this chart here are three things that are interesting. And those are the things that I've highlighted in the squared boxes here. See for example up in the upper right hand corner. This tells you that the probability of a recession over the next 12 months is 30%.
So we use this at Apollo. So remember Apollo, we have 850 billion AUM. I speak first on the IC meeting for private equity, for private credit, for real assets, and the conversation always starts with this slide because it is very, very important to have a view on if there's a third or 30% chance of a recession, that means that in your portfolio you need to think about your 60/40 portfolio or however you design your portfolio and the implications if we do have a recession.
If you tell me that the probability of recession is a lot higher, take for example UBS at the moment has the view that the likelihood of recession in the next 12 months is 93%. I like the scientific precision here, 93, but the conclusion is their strong view is that we're getting a recession. If that's the case, I should immediately begin to turn my pie chart around and prepare myself for the risk that a recession is coming.
If you disagree with that and say, 'No, I think it's 10%,' of course, then you should be taking more risk. So the conclusion is it is very important to have a view on what is the consensus saying about a recession risk. And at the moment the consensus is telling me, yes, it's not 50, but this is still high enough for me to worry about that this is going to have some serious consequences.
What is it that the consensus is worried about? It's probably some combination of these three things: either tariffs, immigration restrictions, or student loan payments restarting. Some people worry more about tariffs, other people worry more about student loans, but the conclusion is the same, namely that there's something going on that makes people still worried about that we are likely to potentially have a sharper slowdown.
And let's look at the numbers that the consensus has at the moment. GDP, as you know, in the second quarter was 3.8. So let's look at what the consensus is now telling us about GDP for the next 18 months. The consensus is saying that GDP would exactly have this Nike swoosh characteristic where GDP will be 1.7, then 1.25, 1.25, 1.9, 1.9, 2027.
In other words, the consensus is saying there's something that is weighing on the economy over the next several quarters, and then maybe when we get into 2027 things are going to normalize more. And that is of course the job for us in markets as investors to think about what is it that people are worried about. What is it that has created this elevated risk of a recession at as high as 30%?
But it's clear that one very important answer to that is that people are still worried about tariffs. And as I mentioned, people also worry about other things, but those things continue to weigh on the outlook and therefore what we should be expecting for earnings for the S&P 500, what we should be expecting for growth over the next 18 months.
And here comes the interesting thing. If you had told me growth is slowing down, as you can see here, what do you think will happen to inflation? I would say, well, then inflation is also slowing down. But have a look at what the outlook is for inflation. The consensus is saying that inflation, which today is 2.5, is going to go up to 2.9, 3.1, 2.9, 3.1, 2.9, and only as we get to 2027 begin to come down.
So this opens up a very, very important question about bonds and fixed income and the 40 part of your 60/40 portfolio. Namely, what is the consequence of inflation still being elevated? Well, the number one consequence, of course, is that rates are going to be higher for longer. The consequence is that cutting coupons in fixed income continues to be a good strategy because inflation is still not down at the Fed's 2% target.
So that's why the consensus is clearly telling you that bonds, and in particular, of course, fixed income, and especially high-quality fixed income that protects you against the downside risk if you do in the extreme case have a recession, or even if you do have a slowdown in growth. So that's why on its own this is the definition of stagflation, namely slower growth and higher inflation.
So let's now take a look at this forecast. I'll come back to this slide at the end again. But let's now take a look at this forecast and look at what has been the headwinds to why growth is expected to slow down. This chart here shows you employment growth in different sectors of the US economy. The green line is employment growth in the sectors that are impacted by tariffs. What are those sectors impacted by tariffs?
Manufacturing is by far the biggest one. Mining and logging, construction, wholesale trade, retail trade, transportation, and warehousing. Think about this from a car production perspective. If you produce cars, let's take the F-150 pickup truck. The F-150 pickup truck, half of the components going into producing that is components that are imported. And that's about 30,000 components in total. Roughly half of them come from other countries.
So that's why it's not surprising that you're beginning to see some headwinds as a result of the trade war to what's going on in the manufacturing sector. And as a result, job growth in the manufacturing sector is now negative. This is why the sectors that are impacted by tariffs have seen a sharp slowdown in job growth.
So as you all know, of course, unfortunately, we will now not get the employment report tomorrow, but the bottom line still is the trend of what we've seen since Liberation Day has been a slowdown in job growth. Likewise, the sectors that are not impacted by tariffs, they have also been slowing down. So the first conclusion is we are already seeing the negative consequences of the trade war in the form of a slowdown in employment.
And we are also seeing the negative consequences of the trade war in consumer spending. This chart here shows you there is daily data from Bloomberg for how much money is spent on debit cards and credit cards on different types of consumption. Here you see the types of consumption that are directly impacted by tariffs. What's that? That's for example motor vehicles, that's clothing, that is electronics, furniture, sporting goods, bookstores, all things that are imported and therefore things that are impacted by tariffs.
Let's now look at over the last week, and this is data as of last week. What was the growth rate? Let's take for example furniture. Furniture sales last week relative to the same week a year ago declined by 5.33. Let's now compare that to the sales of furniture over the 90-day period that we have had up until last Friday and compare that to the same 90-day period last year. There you see growth rate in furniture sales was minus 3.45.
That means, this number of course means that momentum in furniture sales is declining. That is why we color this red and said there is falling momentum in sales of furniture. So you can see a number of sectors here are seeing falling momentum because tariffs are having an impact, because inflation is higher, prices are higher, and there's therefore lower sales.
And what of course stands out on this chart here is that indirectly and not impacted sectors are seeing less of an impact from tariffs, whereas those that are directly impacted, as you can see, is more red and therefore more directly impacted from tariffs. So the conclusion is already you can see here that the slowdown that is impacting the economy is partly because job growth has been slowing down, but it is also because consumer spending has been slowing down, especially again in the sectors that are impacted by tariffs.
So the conclusion is we are already beginning to see the negative consequences of tariffs show up, and the consensus expectation in this chart here is that we should continue to expect to see those things play out over the coming quarters. Or put very differently, companies might have thought initially that tariffs was just something that was a bargaining tool, but now they're beginning to realize that this is actually a permanent feature.
And as they realize this is a permanent feature, they will either have to raise prices to pass it on to consumers or they will have to eat the tariffs through their earnings. And this is exactly why the risk is that earnings are going to slow and growth is going to slow. And at the same time, you will have prices going higher. So this is the first reason why there's a headwind in the outlook, namely that tariffs and the trade war are having important implications for growth and having important implications for inflation.
So let's now turn to the second headwind. And the second headwind is of course what I talked about, namely deportations and immigration restrictions. So this chart here shows you that Trump at the moment has the goal of deporting around 3,000 people every single day. If you multiply that by 365, you get that he wants to deport about a million people in total this year. There's about 12 million unauthorized immigrants in the US.
If you subtract a million this year, a million the following year, and a million the following years, you will get the following, namely lower job growth. Remember in the last few years under Biden, again, whether you and I voted for Trump or Biden, we could talk about that over a beer afterwards, but here the whole issue is under Biden, we just had much more immigration. And the consequence of that was that job growth on average was around 200,000.
So people have now at Brookings and other places tried to calculate, well, what is the new level of job growth now that we have basically no illegal immigration, and that means that job growth is going to decline from 200,000 to around 50,000. So that means that lower job growth is also importantly driven by the fact that there are important restrictions on immigration at the moment. So that means we'll have lower job growth as a result of this.
We will also have lower labor supply, and very importantly, we will also see wages go up in the sectors where unauthorized immigrants are working, which is construction, agriculture, hotels, and restaurants. So this is another way of saying that immigration restrictions is also a stagflationary shock where we have fewer people working and at the same time more upward pressure on wage inflation and therefore ultimately more upward pressure on prices.
And the last thing in the outlook that's important is the student loan payments restarting. And there's a lot of details in this, and I know this is a bit of a special issue, so forgive me for spending a few minutes on this, but I happen to believe that this is very, very important. And I'll show you in a minute exactly why that is.
Remember during the pandemic, if you had a student loan and you suddenly out of the blue, the pandemic came along, the government decided that you no longer had to pay back your student loan. It was on pause. In other words, it was on pause paying back your principal. It was on pause paying back interest. Fast forward, a lot of different things happened. But now in May, everything forgiveness, everything on-ramp, off-ramp is over.
And if I'm not paying my student loan today, my credit score will go down. Why is that important? Because if my credit score goes down, I cannot go out and buy a car. I cannot go out and buy a house. I cannot buy an iPhone 17 on credit because now my credit score will be lower as a result of student loan payments restarting. You could say, well, why is this important? Well, this is really, really important because there are 45 million people in the US who have a student loan. That is about 20% of the adult population.
And what is the balance on student loans? Well, 11 million people have a balance between 10,000 and $25,000. 9 million people have a balance between 25 and 50,000. And you can see here 4 million, 2 million, 1 million. There's a few people over here who have a balance, of course, of more than $200,000. So that means that this on its own is not like your mortgage. Remember in 2008, of course, everyone's balance on mortgages was much higher into the hundreds of thousands.
So this is just a smaller balance, but it is nevertheless important because what you're seeing at the moment is that more and more people are beginning to fall behind on paying their bills. And that's what you see in the red line here. This is the delinquency rates on different types of consumer credit. And you can see the delinquency rates for a long time were basically zero because it was not reported to the rating bureaus that I was not paying my student loan.
But today it's being reported to the credit bureaus that I'm not paying my student loan. So that means that more people are now beginning to fall behind on paying their bills. And this comes at a time when you already have challenges for consumers. The blue line is the delinquency rates on credit cards. On credit cards, you've seen the delinquency rates go up. Why have they gone up? Because the Fed began to raise interest rates, and anyone who has debt, anyone who has high debt relative to their income, of course, they started falling behind on paying their bills.
So look at the level of delinquencies for credit cards. Today we are basically at levels that are similar to what we had after the 2008 financial crisis. So that means that the level of delinquencies today, even before I talk about the red line, you already have that the level of delinquencies is very, very elevated. And likewise, if you look at auto loans in the orange line, same thing, also same level as we had in 2008, 2009.
So it's very clear in this chart here, even before we begin to discuss student loans, you already have more and more consumers who are in trouble because they're falling behind on paying their credit cards. More consumers that are in trouble because they're falling behind on paying their auto loans. And you can now say, okay, that's very interesting, but how serious is this if I don't pay my student loan? How bad can it be?
Well, this chart here shows you your FICO score. So, let's say that you and I have a FICO score that is more than 760. That, of course, as you all know very well, this is a credit score where you pay all your bills on time. You've not had any defaults for the last 10 years. Everything is humming. You're paying your bills. Everything is automatically done.
Well, next check out what is the average credit score change associated with a new student loan delinquency. So, if I had a student loan and I stopped paying my student loan, my credit score would go down by 171 points. That's pretty dramatic. That tells you that I'm going straight into subprime. Remember, subprime is 640. And that is the case across the whole spectrum for your credit score. So, the credit score impact is going to be very dramatic if you're not paying your student loans.
And how many people are we talking about? Well, again, there's 45 million people that have a student loan. 5.3 million are in default. Default means that you're more than six months behind on paying your bills. And you have that 6 million people are three to six months behind on paying their bills. So that means that if you add these two together, you get that about 11 million households are potentially seeing their credit scores decline.
Remember in the US that's about 130 million households altogether. So if you divide 11 by 130 in very round numbers, that means that 10% of the population is at risk of seeing a fairly dramatic decline in their credit scores if they do not pay their student loans. That's exactly why in consumer finance and securitized pools of credit cards, securitized pools of auto loans, you're beginning to see dramatic underperformance for consumers, of course, that are at the lower end of the income spectrum because they are especially hard hit because they are, of course, the ones that are already experiencing trouble because of credit card delinquencies going up and auto delinquencies going up.
And the last point of this is just that you could then say, okay, so some people are facing some headwinds and it may be a significant amount, but what does this then mean for overall consumption? Well, this chart here shows you savings across income distribution. These are households that make less than $25,000 a year. What were their savings in 2019 and what are their savings today?
And you can see here, measured in billions of dollars cumulatively as a group, the light blue bar is actually lower than the green bar. That means that savings for low-income households are unfortunately not very high. That's in sharp contrast to the top 20% of incomes over here. Remember, the top 20% of incomes, they account for 40% of consumer spending. And look at their savings today. Their savings literally are trillions of dollars higher than what you saw in 2019.
That means that there is absolutely still a strong tailwind to consumer spending for companies that are catering to households over here. Whereas there are some headwinds to companies that are catering to households over here. So we have a very bifurcated outlook where high-income consumers continue to do well and low-income consumers continue to face more and more headwinds.
And now on top of that, why is that relevant here? Because now you suddenly have out of the blue that the red line here starts to go up. And the more that the red line starts to go up, the higher is the risk that these households here will also begin to be impacted. So these are households that make between $25,000 and $45,000 a year. And these are households that make between $45,000 and $80,000 a year.
So that means that there's just more headwind coming now because interest rates are high and people are now forced to pay back their student loans. And if it's not done, it will have consequences for the credit score. So that's just another way of saying if we go back and think about what might the consensus have in their mind when they write down this forecast, we'll have a look at the outlook for the consumer.
And this is very important in the stock market. When you think about consumer discretionary relative to staples, that you can see that the outlook for the consumption here is that normally consumption grows between, if you go back in history, between 3 and 4%, but you can see here consumer spending expected to be relatively weak over the next six quarters simply because there is an expectation that tariffs will have a negative impact.
There's an expectation that student loan payments will have a negative impact, and there is likely also an expectation, in my view, that immigration restrictions simply mean fewer new consumers. And if there are fewer new consumers, this will of course also have some consequences for the outlook for consumption. So the bottom line in all this is just to say that it makes sense, in my view, to have the expectation that growth is going to weaken over the next 12 to 18 months.
So let's now turn finally to some of the tailwinds and one important part of the tailwinds, namely what's going on with the dollar. The good news when it comes to tailwinds is of course that the trade war, I know Trump is now talking about furniture tariffs and other things, but the trade war at least is looking better than it did in April.
This chart measures economic policy uncertainty, specifically what Baker, Bloom, and Davis, who have created this measure, they calculated basically based on newspaper articles asking the question: what are the stories that are in the news at the moment? Are there more stories about trade policy or are there less stories about trade policy? And as you can see, not surprisingly, their measure skyrocketed, of course, during Liberation Day. And since then, there have just been fewer policies about, fewer stories in the newspapers about trade policy.
So this literally reads the New York Times, the Washington Post, the Wall Street Journal, Financial Times, and a lot of other media, and basically ends up coming to the conclusion we are talking less about trade war today than what we did in April. Similarly, you can do another calculation which also comes from the same Baker, Bloom, and Davis as well. Namely, what about not only trade policy, but what about economic policy generally? So, not only trade policy, also tax policy, healthcare policy, and you can see the answer is the same. It was bad a few months ago, but has now gotten a lot better.
So this is the strong argument why the stock market has been going up because we have, quote unquote, the worst behind us. Of course, when you think about then the argument for the dollar and the worst behind us, it becomes therefore very important to think about, well, does that mean the dollar will no longer fall?
Well, one way of answering this question is to look at euro-dollar, which is the green line, and compare that with the interest rate differences between the ECB and the Federal Reserve. So, being an FX strategist, I should be careful what I say here. It's not particularly difficult. You just need to know what's going on between Fed and ECB interest rates. And this will give you a very strong view on what's going on with euro-dollar because you can see the correlation has been very strong historically.
But that broke down dramatically when Trump started his trade war. The dollar depreciated much more than what interest rate differences would have predicted. In fact, you could build a little econometric model where you put the blue line on the left-hand side and the green line on the right-hand side and try to figure out what is the correlation historically, and then try to ask the question: why is euro-dollar so weak now that interest rate differences would have said that more money should have been flowing into the US?
And one important reason for that, when we did that exercise of figuring out what is the source of this gap, is that this is likely driven by the Mar-a-Lago Accord and Section 899, which, as you remember, was the discussion around that foreigners who were buying US assets, they were being threatened that suddenly Trump and Scott Bessent out of the blue could raise taxes on cash flows that were going outside the US.
So that meant, of course, that many people say, well, then I'm not buying US assets to the same degree. But you have seen, thankfully, now when that was taken out of the One Big Beautiful Bill, for the last two months or so, euro-dollar has been moving more sideways, basically suggesting that maybe the downside risks to the dollar are getting smaller.
Another way of looking at this is to look at the question: what are foreigners actually doing in US financial markets? This chart here shows you net foreign purchases of US assets. So this asks the question: what did foreigners do in January, February, March, April, May, June, and July in US financial markets? And it's obvious in April it was complete chaos with Liberation Day. And the answer was foreigners were selling US assets. Foreigners were selling Treasuries. Foreigners were selling equities. They were buying credit, but they were also selling agencies.
So this is what happened in April. It makes some sense. It was very chaotic. And foreigners basically said, 'I'm not buying US assets anymore.' But check out what they did in May. It is incredible. Foreigners came back big time to buy US assets. They were buying Treasuries. They were buying equities. They were buying credit. And they were also buying agencies.
In June, same thing. Still a high bar. Now, they didn't like so much buying rates, but they still believed in the AI story. So there was still strong purchases by foreigners of stocks, and there were also foreign purchases of credit, and very little action on the agency front. And finally, the July data, which just came out last week in the red bar here, shows you that foreigners are still shopping in the US.
What are foreigners buying now? Well, now they buy rates. It looks like foreigners are getting a little bit worried about the AI story, and we'll talk more about that also in a minute. But we can discuss if that's a temporary or permanent thing, but at least it looks, at least it was a little bit weaker than what we had before. Still buying credit and still buying agencies.
So the conclusion in this chart here is I meet a lot of people who say, oh, sell America, the rest of the world doesn't like Trump or whatever, or the US policymaker. And whether foreigners or anyone likes Trump is a different discussion, but the conclusion really here is, well, it looks like foreigners came back big, big, big, big, big time because they thought there were a lot of interesting things to invest in.
So that makes complete sense, of course, from the perspective of things are not going particularly well in France at the moment, things are not going particularly well in a lot of other areas, in Australia, in Canada, and likewise the rest of Europe. So that's why, likely the reason why foreigners are still buying US assets, it is still the cleanest shirt in this competition where the rest of the world is just not offering the same, especially not in, for example, private credit, private equity, and in the markets, of course, that are much, much bigger in the US than what they are abroad.
And because of that, I still think that we should expect to see the dollar go up because there just continues to be solid demand for US assets across the board. And this reveals that it is simply not correct to say that the rest of the world doesn't like to buy US assets at the moment.
So the first conclusion here is it is still, in my view, the best scenario to have in mind is that we should expect to see the foreigners will continue to buy US assets exactly as this chart is suggesting. And the last point in this is let's now just look at what is it that foreigners like in US financial markets.
So this shows since Liberation Day what has happened to 10-year rates during New York trading hours at the green line. And you can see the answer to that is that during New York trading hours, 10-year rates have been going up. And what has happened to 10-year rates outside of New York trading hours? Well, the answer to that is that outside of New York trading hours, 10-year rates have been going down.
So this tells you foreigners like higher yields. Foreigners are willing to come in and buy the higher yield you get in the US, which is likely a reason, of course, why foreigners continue to find US assets attractive because yield levels in the US, including, of course, in private credit and asset-backed finance and direct lending, continue to be so much more juicy than what I get on anything in fixed income in Europe, in Canada, and in Australia.
So the conclusion is here there is already a sign that foreigners are coming because the yield levels we have in the US and therefore the returns that we can generate is generally higher than what it is in other countries.
And the last point I just want to highlight, and we can talk about the fiscal situation if anyone's interested, but the last thing I just want to highlight is the issue around Fed independence and what's going on with inflation. And this chart here shows you what's been happening with inflation more recently. And this is very important when we think about what we should do with bonds in our portfolios because inflation is, of course, a number one driver of what will happen to the level of yields.
So this splits inflation into two different types of inflation, namely goods inflation and service inflation. And why is that important? Because of the CPI basket, how we measure inflation, goods makes up a third of the basket and services makes up two-thirds of the basket. And look at this going back in time before the pandemic, the blue line was basically zero. Why was that zero? Because there was globalization. We...
Basically had a situation where we imported stuff from China. Goods inflation was basically nothing because there was no pricing power to raise the price of goods in the US when we could continue to get cheaper and cheaper goods from abroad. So now during the pandemic, of course, we were all sitting at home buying stuff on Amazon. Amazon could not deliver. They had to get it from China. China couldn't produce enough. So as a result, goods inflation went up to a totally unprecedented high level of 13% at the peak. Then the supply chains were straightened out and goods inflation came down again. Now look at what's happened to goods inflation in the last four months. Well, now goods inflation is going up again. Now it's going up because of tariffs and it's going up because of the dollar going down. So people often say, and FOMC members have been talking about it the following way. They often say, "Yeah, the blue line may go up, but that's okay because goods is only a third of the basket. So let's not worry too much about that. The good news is that the green line is coming down and that is correct. The green line has been moving down but in the last few months it's actually stopped moving down. And this is the challenge Austin, Goolsbee have been having speeches about where they're speculating, well, we got to get the green line to come down. And the real challenge with the green line coming down is that look at some of the leading indicators of the green line. There are really worrying signs in the pipeline. The blue line here is US inflation in the normal way we measure with CPI. And the green line is ISM services prices paid. Remember ISM services prices paid measures what are service sector companies saying that they are paying for inputs into their production. And I do know the usual joke here that you don't get the Nobel Prize in economics for this chart here. But the conclusion is the same, namely that well, if you tell me what the risks are to inflation, it looks like the risks are to the upside and it is not only for services, it is also for manufacturing. This chart here shows you the regional Fed surveys that with a six-month lead are at unfortunately a fairly decent indicator for what inflation will do. So the green line is PCE inflation. I could also use CPI. And these other indicators are the regional Fed surveys where companies in the Fed districts are responding to the question, what are the prices of the things that you have as input into your production? And the answer here is inputs into our production. Not surprisingly, with the trade war has started to go up. Okay, if that's the case, you should of course also expect inflation to go up. So the conclusion here is there is a significant risk on its own that we could see upside pressure to inflation. Not only is goods inflation going higher because of tariffs, but you also have service inflation going higher simply because you're now beginning to see the leading indicators point more to the upside. And the last slide I just want to highlight is this issue of AI and we can have more discussions and debate around the concentration in the S&P 500 which is playing such a significant role in all investment conversations at the moment. This chart here shows you a survey that is carried out every two weeks by the Census. The Census goes out and asks 1.2 million US companies, what did you do with AI in the last two weeks? What did you do in four different areas? Have you implemented AI when it comes to large language models and agents? What have you done when it comes to voice recognition? What have you done when it comes to reading documents? And what has it come to other types of AI? These four different categories, companies are asked, have you done something? And for a long time, the answer was yes. Are you kidding me? We are implementing AI everywhere. The trend was going up. All companies were saying yes, we are using AI agents. I'm sure you all are also in your companies using AI agents and large language models more and more. We have our own Apollo agent that Sabrina and I are using and all that means of course that yes it was the case that we did implement AI more and more. But check out what has happened in the last two, three months. Suddenly this is now, there's no hocus pocus. This is the Census government survey and check it out. Now large companies are saying, you know what, we haven't actually implemented any new AI for the last several weeks. That's not to say that there should be a constant upgrade operation but this is making me begin to wonder, okay, but why are large companies beginning to hold back a little bit? What are the reasons why companies are thinking about what can we do with AI? Maybe it is the case that it really is mainly large language models and as we all know the discussion around is it really just an extended advanced version of Google or are there other applications where this could be helpful? There are a ton of applications in healthcare, a ton of applications in tech. I'm not saying that this will not change our lives in all dramatic ways but all I'm saying is I'm slightly worried about this fact that there's just simply more and more companies that are saying, you know what, we haven't really done anything new with AI here more recently. So the conclusion in my view is that there are some issues to think about when we think about what the consequences are of AI and that becomes particularly important when Tesla is trading at a PE ratio of 200 and you have Nvidia, Apple, Amazon trading with PE ratios of 30, 40, 50 which of course are very very high levels but remember as usual the S&P PE ratio over the last 50 years has been 16. So all these companies are trading at incredible multiples where the valuation really begins to ask some question, well that does assume some very very dramatic cash flows in the future where you begin to ask are these cash flows justified especially when you already have companies saying, you know what, we're just stepping on the brakes a little bit here to try to figure out how we can use it. So let me end with the last point and the last two slides that then just summarize and repeat what I mentioned earlier namely that our outlook is that growth is going to slow down and inflation is going to go up and that ultimately is the same as stagflation. So let's think about asset allocation if you have stagflation. What should I do with my money if I have a stagflationary scenario? So this chart here shows you inflation on the y-axis. Inflation according to the Fed should normally be 2%. Sometimes inflation is high as where we are today and sometimes inflation is low. Likewise, the Fed has the goal that GDP growth should roughly speaking be 2%. Sometimes earnings growth in the corporate sector is high. Sometimes earnings growth in the corporate sector is low. So let's look at the different quadrants. A recession, in a recession we have low inflation, low GDP. What should I do with my money? In that case of course I should be buying rates. I should buy duration. I should stay away from the S&P 500. I should buy high quality assets. I should buy high quality credit, high quality equity to protect myself against the risk that the economy is slowing down. This is obviously where we were in 2008 and 2020. Goldilocks, that's a situation where earnings in companies is great and inflation is very low. This is the perfect world where you of course have high earnings growth, high GDP growth, and rates are not doing anything. The Fed is letting the punch bowl stay at the table because there's no reason to raise rates if inflation is low. This is where we were from 2010 to 2021. Overheating is suddenly a whole new environment. This is where we were in 2022, 23 and 24. Now things change dramatically because now the Fed is fighting inflation. That means that fixed income becomes much more interesting because now you can clip coupons and get a higher level of yields. Likewise, where we are today, the level of yields being high of course gives you unique opportunities to get cash flows that we were not able to get over here. Here we had to take a lot more risk because there was no high interest rate that could pay me cash flows in credit, in mortgages, in consumer ABS, in rates because interest rates were lower. But now we suddenly have the Fed eager to keep interest rates higher. Yes, I do know the Fed will be cutting a few times but they're only cutting to three, three and a half which means that the base rate is going to be dramatically still higher relative to what you have in environments where rates are low. And what's absolutely critical here is that in this environment when rates are higher it becomes very very important to invest in assets that actually have earnings. That means what is unattractive in this environment is venture capital. Venture capital is characterized by having no earnings. So of course venture capital has been struggling for the last few years because venture capital is not delivering because they have to pay much higher debt servicing cost when they have coverage ratios that are low when they have leverage that's high. Other things that are unattractive is life sciences because life sciences is also characterized by having three, four, five years before you start to see some earnings. So that also means that companies with no earnings are going to be much more at risk when you have rates higher for longer. Therefore, tech growth, fintech, VC, life sciences, sectors that are basically characterized by having no earnings become very unattractive. What's attractive instead is exactly assets that actually have cash flows, assets that actually have earnings. So that's why in this environment you can get higher rates and if you for example take the data centers, is very popular but also other types of asset-backed finance where you have guaranteed cash flows where you are having the right protection against the downside of a slowdown but at the same time protect you and make sure that you get the higher yield that you can get. This is a way with high quality credit, investment grade credit, ideally to get the high cash flows and at the same time protect yourself against the slowdown that comes when growth is slowing. So just to repeat and reiterate why is it that we have this view or this expectation that growth is going to slow and inflation is going to go up because this is what the consensus is saying. Consensus is saying that earnings growth will slow down and that inflation will be higher. So that's why what makes the current environment so unusual is that we are squarely in this stagflation quadrant which makes investing just very different from when we are in the other quadrants. So with that we have plenty of time left here. Let me stop and see if there are any questions. Do we want the microphones also for that or we can speak up?
