HYMAN & KIM: EXCLUSIVE NEW YEAR OUTLOOK, PART TWO TRANSCRIPT

January 16, 2015

This week – Part II of our exclusive annual outlook with Wall Street’s legendary number one economist, Evercore ISI’s Ed Hyman. This year he is joined by another WEALTHTRACK exclusive, New York Life’s Vice Chairman and Chief Investment Officer, John Kim. They will discuss the striking differences between the U.S. economy since the financial crisis and the slow, uneven rebound in the rest of the world and what they mean for global economies and markets.

CONSUELO MACK: This week on WEALTHTRACK, in Part 2 of charting your course for the New Year our exclusive guests, Wall Street’s number one economist, Evercore ISI’s Ed Hyman and New York Life’s global Chief Investment Officer John Kim scan for safe harbors and opportunities in turbulent foreign markets. Financial thought leaders Ed Hyman and John Kim are next on Consuelo Mack WEALTHTRACK.

Hello and welcome to this edition of WEALTHTRACK, I’m Consuelo Mack. One of the most striking global economic divergences since the financial crisis has been the difference in the recovery of the United States versus much of the rest of the world.

The U.S. has come back earlier and faster than Europe and Japan for instance. And while the U.S. economy is picking up steam, theirs are struggling. Even China’s economy is slowing.

The differences were quite pronounced last year and are reflected in a couple of key indicators.

As a recent chart of market performance in The Wall Street Journal illustrated, the U.S. is ahead of the pack. Last year the S&P 500 led the Nikkei and far outdistanced the MSCI Emerging Markets and Europe’s indexes.

Another area of U.S. dominance is the dollar. The buck is back big time. The rally started mid-year. As other nations announced various plans to ease monetary policy to stimulate their economies, the Fed signaled it was considering tightening.

Interest rates on U.S. Treasuries might be trading near record lows here, but compared to other government bonds Treasury yields are very attractive.

And they should remain so. According to the top economic team at Evercore ISI there have been 40 easing moves around the world in the last three months alone, ranging from Switzerland to Japan to China.

This week we are continuing our exclusive annual outlook interview with legendary economist, Ed Hyman who has been ranked Wall Street’s Number One economist for an unprecedented 35 consecutive years. Ed recently became the Chairman of Evercore ISI, having sold his firm ISI to Evercore, a leading investment banking advisory firm.

This year he is joined by another exclusive WEALTHTRACK guest, financial thought leader John Kim. Kim is the Vice Chairman and Chief Investment Officer of New York Life Insurance Company where he oversees more than $500 billion in global assets.

New York Life is a sponsor of WEALTHTRACK but Kim is here because of his distinguished professional track record.

I began the interview by asking them about the possibility that the U.S. economy has decoupled from the rest of the world and can continue to recover on its own.

ED HYMAN: It seems inconceivable to me that the U.S. could decouple or that the foreign economies could decouple. We are one together. We have become a global economy, and so we’re intertwined with financial flows, with investment flows and with economic activity. So my view is that the U.S. economy is now pulling the foreign economies, and then I look to see how strong are we and how much am I pulling, and in the case of Europe they’re moving a little bit forward which is a lot better than moving a little bit backwards if you’re trying to pull something, and China is slowing but it’s still moving forward. And so the general picture I get in my mind is that we are able to keep pulling ahead, but whenever I think the economy is going to take off here I remember I have a big load to pull, and so I think I’ll just keep pulling in a steady pace. If you get that picture in your head, it creates a sort of secure feeling that we’re moving ahead but not going to go too fast, and this drop in oil is a part of that epic where the oil’s in part down because the global economy is still slow.

CONSUELO MACK: John, you are a global investor at New York Life, and for the last I’d say 20 years there’s been a common theme. Common wisdom has been that China is actually the driver of world economic growth. Now there’s a sense that the U.S. is the driver of world economic growth, just what Ed was saying. Where do you come out, and who’s going to win? Is the U.S. going to win in this recovery, or are we going to be pulled backwards as opposed to pulling everyone else forward?

JOHN KIM: Well, as it relates to China let’s remember that China is slowing down and is trying to stimulate its economy coming into 2015, but their GDP is still growing likely at seven percent versus at best we will achieve three and a half percent in my mind, and so I think that it’s not so much U.S. versus China. It’s actually those two economies are likely to be the two economies that helps the entire world, to Ed’s point, be pulled up. So that would be my answer in that regard. I happen to agree with Ed that the U.S. is in a pulling fashion. I do concern myself with the downdraft in Europe a great deal, and let’s not forget that it is still as a eurozone here one economic unit larger than the U.S. so if they for whatever reason … I’m not forecasting this … but fall into a recession, that pull factor that we’re trying to achieve to propel the world economies could slow us down a bit here. So we could go back to say a two or a two and a half percent GDP growth rate if Europe declines too much. So I’m concerned about that. I don’t think it’s going to happen, but that’s something that we all need to be mindful of.

CONSUELO MACK: So you’re watching the eurozone. Are you watching Germany in particular or France or … ?

JOHN KIM: Well, I think we need to start with Greece.

CONSUELO MACK: Greece. All right. The peripheral but that’s an important.

JOHN KIM: Exactly. Yes, and not so much Greece and the substance of what it represents in the eurozone because it’s still so titular. It’s about two percent of the eurozone economy, but is it possible for example that Greece may exit the eurozone voluntarily or be forced to exit? And it’s not so much Greece exiting. What does that suggest in terms of collateral effects of that sort of an exit?

CONSUELO MACK: Your view of the eurozone.

ED HYMAN: Very sympathetic to what John talked about. It seems as though it’s intrinsically unstable, and we’re trying…

CONSUELO MACK: As a union. The European Union.

ED HYMAN: As a union. It’s not the like the United States, and so when you have problems with a two percent factor like Greece, it creates more uncertainty than it normally would, and so that’s just something that we’re going to have to live with and see if it heals over time. You’re not to a self- sustaining expansion in Europe by any means, but the policymakers are in total alert, and I view Russia as being part of that problem. The Russia situation is quite dangerous and maybe one of the biggest flashpoints in the world economy right now, and that relates to the eurozone like if Canada was Russia. We would feel a lot less secure about our situation. So that is a weak spot for sure, and I think China is a great uncertainty, but I would add to what John said and make the simple point that the economy in China has for sure literally doubled in the past seven years. And so growth of six or seven percent today is the equivalent in terms of pulling power for the world economy to what 12 or 14 was back seven years ago. So you have to create the entire picture of the way the situation is. There’s some dangers, but I think in general it’s pushing forward.

CONSUELO MACK: A flashpoint. Ed just mentioned Russia, what’s another flashpoint that you’re watching?

JOHN KIM: Well, another flashpoint would be that we’ve been obviously concerned about turmoil in the Middle East for the past decade and certainly focused in the past five years. Obviously as oil- producing economies as that region is, you have to concern yourself with continued turmoil, maybe increased turmoil as a result of oil prices now at 50 versus 110 from last summer, and it’s not so much the UAE or Saudi Arabia. It would be the peripheral oil-producing countries like Libya and Iraq and the like.

CONSUELO MACK: Japan. Ed.

ED HYMAN: So on Japan … I agree with your points completely, John, on the Middle East and the ties into Russia and Europe. I think Japan looks pretty good. Whenever you say pretty good in investing sense, it’s only relative to what people have already anticipated, and Japan is in deep trouble. Horrible demographic, debt problems out there. This is sort of their last chance, but I think they have a good chance of getting to the next point in their future and then seeing how they can perform from there, but the central bank is going all out and Abe has gotten a little bit ahead here. Wages are starting to go up. It’s a very creative population that’s there, so I think the yen will go down. Currently it’s 120 which is beginning to factor into my vacation plans.

CONSUELO MACK: So Japan’s looking like a good place to go on a vacation.

ED HYMAN: One thirty and I’m telling you.

CONSUELO MACK: You’re there. You’re in a plane.

ED HYMAN: And as it goes down, the Nikkei tends to go up, and we look at the positive and negatives around. Japan in our view looks more positive right now.

CONSUELO MACK: Japan from your point of view, John.

JOHN KIM: Well, I might give the viewers a historical perspective. Last month was a very important month for the Japanese investor in that the Nikkei actually peaked 25 years ago in 1989, December of 1989.

CONSUELO MACK: What was it? 28,000 or something like that?

JOHN KIM: No, it was close to 39,000 on the Nikkei.

CONSUELO MACK: Oh, that was it.

JOHN KIM: Which is to suggest that when we talk about Japan in terms of the lost decade of the ‘90s, it’s actually been a lost generation too. If you were a Japanese investor invested at the peak, you have basically lost 50 percent of the subsequent 25-year period here. So it’s quite remarkable. I agree with Ed that it’s hard for me to see the Japanese market not improving this year only because Prime Minister Abe has gone all in, doubled down if you will even past the significant stimulus that he engaged in in 2014, and so he’s going to double down coming into 2015. The key though, and to Ed’s point, is that as a U.S. investor you need to be mindful that while the markets might go up here, the currency depreciation of the yen could cause you to lose much of those gains that you enjoy in the Japanese markets. So if at all possible you should look for hedged opportunities. You should hedge out that currency risk and try to enjoy what’s likely to be appreciation in the Japanese equity market.

ED HYMAN: My view is that you’d short the yen and go long the Nikkei. So I’m trying to win twice on it.

CONSUELO MACK: Central bank easing. You both mentioned it before. It’s widespread overseas. How long is central bank easing going to have to occur to keep the momentum going in these very fragile economies?

ED HYMAN: The best answer I can muster up is as long as necessary. It’s not a very palatable answer but I think there’s real meaning in it. So first you find out what’ the past of least resistance? ECB is easing. China’s easing. Japan is easing and even here we haven’t raised rates yet, and I think we’ll find that we’ll look back and say when they tighten 25 basis points to 0.5 or something, that was hardly tightening, and minimum wages just went up in 21 states on January 1. Now we have the three percent down payment on mortgages again which is an easing move here in the U.S. so I just see easing all around, and we know bond yields have plunged, 0.3 in Japan, 0.5 in Germany, two percent here.

CONSUELO MACK: There’s the equivalent of our 10-year. There’s the sovereign debt.

ED HYMAN: They’re mind-numbing.

CONSUELO MACK: They’re mind-numbing.

ED HYMAN: And they’re also scary, but I’m pretty sure that mortgage rates are going to come down here if rates stay down like you’re suggesting, John. Mortgage rates will come down, and that’s another stimulus for the U.S. economy.

CONSUELO MACK: Positive.

ED HYMAN: So the world economy is definitely connected or interconnected.

CONSUELO MACK: And John, I’m listening to this again, these historically low rates around the world and as a bond investor, are you seeing opportunities or how do you navigate these very historically low interest rates that we’re seeing?

JOHN KIM: Well, I would say that if you are an individual investor and you have the ability to asset allocate between stocks and bonds and real estate and cash, I would definitely not be long bonds. I don’t think bonds are the asset class of choice for 2015.

CONSUELO MACK: Anywhere. You would not be long bonds.

JOHN KIM: Yes, exactly. We also need to appreciate the important linkages as Ed mentioned between the world markets and the fact that the German 10-year is at 0.5 percent. That actually makes our 10-year at 1.9 or two percent relatively inexpensive. In fact that spread is at a 15-year wide, so if you’re not only a U.S. investor but if you’re a German investor, you have to say, “Well, U.S. 10-year looks awfully attractive compared to my 10-year at 0.5 percent,” and you also get to enjoy the potential for the dollar strengthening vis-à-vis the euro. So you have a double benefit if you will.

CONSUELO MACK: Let me ask you one other question about the dynamics in the bond market, John, and I know that this is something that you are concerned about is that the bond market has had some fundamental changes in that since Dodd-Frank, the financial crisis, that a lot of the middle men have pulled out of the bond market. They don’t have bond inventories. We had a liquidity crisis during the financial crisis where the bond markets froze up. The dynamics. There’s another danger here for bond investors?

JOHN KIM: Absolutely. There is a potential for, not that I’m forecasting it, but a potential for a liquidity crisis in the bond market, and here are the statistics. Before the financial crisis here, Wall Street in aggregate had approximately 250 billion of bond inventories that they were making available to buyers and sellers of bonds.

CONSUELO MACK: Making a market.

JOHN KIM: Exactly. As a result of basically tightening regulatory standards led by Dodd-Frank, Volcker rule in particular, that inventory has declined from 250 to 50 billion. So it’s a significant decrease in what dealer inventory positions look like. At the same time, though, retail investments in bond mutual funds have doubled from 1.7 trillion to three and a half trillion dollars. At the point that a significant number of retail investors want to move out of their bond funds and into cash or real estate or stock funds, I don’t think the Street has the ability to clear all that trading, and that’s a concern of ours here, and so that is something that we need to be very mindful of; that it could be a liquidity event here not too dissimilar from ’08 but I can’t imagine it would be of the ’08 magnitude, but directionally we would be concerned about that.

CONSUELO MACK: How do you protect yourself?

JOHN KIM: Well, clearly as a buyer of bonds, you need to be very mindful that you have to be in more liquid bonds to the extent possible and if you are in illiquid bonds you should have a perspective of just holding those to maturity. Do not expect that the bond market’s going to provide all the liquidity, the facility to sell and buy your bonds here at your beck and call.

CONSUELO MACK: Ed, looking at the laggard economies and some of the lagging markets, not China obviously, overseas, are you seeing opportunities that are presenting themselves? I mean, you just mentioned go long the Nikkei and go short the yen. Are there some other opportunities that you and your group are seeing at Evercore ISI?

ED HYMAN: So the first thing I would like to say is your viewers should go back and listen to what John just covered. It’s a little complicated story but I think there’s real merit in that. One of the things that comes out that is that I think that there is a little higher need now for people to have cash. It’s just such a generally dangerous environment that you need to have some cash. I agree completely with John that I personally don’t want to own bonds, but I do own some cash in case things don’t go right, but in terms of the foreign economies I don’t have a great dislike for any of the foreign markets. Say in the case of Europe where I don’t like the economies but the markets are cheaper, in a sense you’re not buying countries. You’re buying companies, and wherever they are situated makes less difference in today’s truly global economy.

CONSUELO MACK: What do you own personally as far as assets are concerned? You said cash, but is there another asset class that … ?

ED HYMAN: So I’m long equities.

CONSUELO MACK: U.S. equities.

ED HYMAN: Mostly U.S. equities but Japan, but I’m really long equities. I have a fair amount in alternative investments as they’re called, you know, hedge funds or private equity. I own no bonds, and you always wonder. Do I wake up thinking maybe I should own bonds? Never, but I also own a fair amount of cash or hold a fair amount of cash in case some of these things we talked about like your hiccup in the bond market come to pass.

CONSUELO MACK: And John, personally you’re just going to hate questions like this, but personally what’s your view as far as your own portfolio? What is it that you’re overweight?

JOHN KIM: Actually in addition to what Ed said which is generally my asset allocation, the only bond allocation that I still like and especially if you’re in the appropriate tax bracket would be municipal bonds. If you can choose a very good muni bond manager who can ascertain whether Detroit or Puerto Rico will do well or do poorly, I think in addition to having the tax benefit of owning muni bonds, you could have some total return gains in that area.

CONSUELO MACK: And for the One Investment for a long-term diversified portfolio? I know you had a recommendation or two for us, John.

JOHN KIM: Well, I would say that where oil is today, I don’t think either Ed nor I would hold ourselves as an expert on oil prices, but when you have such a discontinuous drop as we have experienced here from 110 to 50 and perhaps even going lower, I mean, we may touch $32 per barrel which was the cyclical low from December of 2008, but I think if you have a longer-term horizon that the prospects of oil being higher say five years from now versus today are better than a 50 percent chance. So that might be a contrarian view.

CONSUELO MACK: Very contrarian.

JOHN KIM: I like an ETF called fill, FILL.

CONSUELO MACK: It’s iShares MSCI Global Energy Producers, and that’s an ETF, FILL.

JOHN KIM: Correct. That’s right. So that would be my …

CONSUELO MACK: Fill up your tank with FILL. And Ed, do you want to give a one investment or cash?

ED HYMAN: Well, no. Cash isn’t an investment. It’s an insurance policy, but when you try and connect the dots, you know, oil is down again today, and gasoline could easily go below two dollars. Well, what’s the investment play on that? And it seems to me as though buying retail companies would be a way to get in front of that. They benefit from consumers having more money in their pockets, and they’ve been acting pretty well, so that would be a good short-term.

CONSUELO MACK: You like the retailers. All right. So Ed Hyman, Chairman of Evercore ISI group, thank you so much for joining us.

ED HYMAN: You’re welcome.

CONSUELO MACK: John Kim from New York Life, Vice Chairman and the Chief Investment Officer for this New Year’s exclusive on WEALTHTRACK. We really appreciate you being here.

JOHN KIM: Thank you.

CONSUELO MACK: At the close of every WEALTHTRACK we try to give you one suggestion to help you build and protect your wealth over the long term.

This week’s action point follows the contrarian idea mentioned by John Kim which takes advantage of the big sell off in energy prices and companies.

So this week’s action point is consider adding a little energy to your portfolio.

Energy prices were clobbered last year, and with its 10% slide, energy was the worst performing sector by far among the ten industry groups in the S&P 500.

Awful figures like these have contrarian investors dabbling. If you are tempted to nibble,

Morningstar’s top energy ETF recommendation is the five star rated Vanguard Energy ETF, symbol VDE. As Morningstar says “with an expense ratio of just .14%”, it “represents a cheap and effective way to invest in a diversified basket of energy companies”,… including “some of the highest quality firms in the oil patch.”

Next week we are going to talk to the heads of two top philanthropies. Lincoln Center’s Jed Bernstein and the YMCA’s Jack Lund will discuss the big changes occurring in charitable giving.

Before we leave you we want to pay tribute to one of our earliest, favorite and regular WEALTHTRACK guests. Bill Paul unexpectedly left this world recently. Bill was a former Wall Street journal colleague, a brilliant energy and environmental journalist and a primary inspiration for our WEALTHTRACK Women series because of his desire to educate women financially, including his wife and daughters. Our deep condolences to them. We are going to miss him terribly.

Thank you so much for joining us and make the week ahead a profitable and a productive one.


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