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Welcome to Thoughts on the Market. I'm Michael Zesas, Morgan Stanley's global head of fixed income research and public policy strategy. Today, takeaways from our Japan Investor Summit It's Wednesday, May 28th at 10:30am in New York. Last week I attended our Japan Investor Summit in Tokyo. Two full days of panels on key investment themes and one on one meetings with clients from all parts of the Morgan Stanley franchise. During the meeting, Morgan Stanley Research launched its mid year economics and market strategy outlooks. So needless to say, there was a healthy dialogue on investment strategy over those 48 hours and I want to share what were the most frequently asked questions I received and of course, our answers to those questions. As you could guess, US Tariff policy was a key focus. Could tariffs re escalate or was the worst behind us? And if so, could investors set aside their concerns about the US Economy? It's a complicated issue, so accordingly our answer is nuanced. On the one hand, the current state of the play is mostly aligned with where we thought tariff policy would be by the end of the year. It's just arrived much earlier Higher overall US tariffs with a skew toward higher tariffs on China relative to the rest of the world, as the US has less common ground with them and thus greater challenges in reaching a trade agreement with China in a timely manner. So that might imply we've arrived at the end point, but we think that's too simple of a way for investors to think about it. First, there's plenty of potential for escalation from current levels as part of ongoing negotiations, and even if it's only temporary, it could affect markets. Second, and perhaps more importantly, even though the US Cutting tariffs on China from very high levels recently brought down the effective tariff rate, it's still considerably higher than where we started the year. So one's market outlook will still have to account for the pressures of tariffs, which our economists translate into slower growth and higher recession risk this year. Another key concern U.S. fiscal policy and whether the U.S. would be embarking on a path to smaller deficits in line with campaign promises, or if the tax and spending bill making its way through Congress would keep that from happening for investors. We think it's most important to focus on the next year because what happens beyond that is highly speculative and we do not expect deficits to come down in the next year. Extending expiring tax cuts and extending some new ones, albeit with some spending offsets, should modestly expand the deficit next year in our estimates, and some further deficit expansion should come from other factors baked into the budget like higher interest payments. It's understandable these two questions came up because we do think the answers are key to the outlook for markets. In particular, they inform some of the stronger views in our market's outlook. For example, slower relative US Growth and the related potential for foreign investors to increasingly prefer their portfolios reflect their local currency should keep the US Dollar weakening, a key call our team started this year with, and now continues another example, the shape of the US treasury yield curve. Higher deficits and the uncertainty about inflation caused by tariffs should make for a steeper yield curve. So while we expect US treasury yields to fall, making for good returns for high grade bonds including corporate credit, the better returns might be in shorter maturities thanks for listening. If you enjoy thoughts on the market, please leave us a review wherever you listen and if you like what you hear, tell a friend or colleague about us today.
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