Commentary: On Rates It's Morgan Vs. StanleyPeter Coy
Which way are interest rates headed? Most Wall Street firms try to give clients a single answer. Not Morgan Stanley, Dean Witter, Discover & Co. The company's chief global strategist, Barton M. Biggs, says rates will fall. "To me, Treasury bonds are by far the best value of any asset class in the world," he wrote in late September. No way, says the firm's chief economist, Stephen S. Roach: Inflation will rise and so will rates. "I just don't buy the gospel of global price stability that is widely presumed to keep pushing financial markets to ever-higher highs," he writes.
In other words, on perhaps the most critical economic question of the day, Morgan Stanley's biggest forecasting brains are about as far apart as Yassir Arafat and Benjamin Netanyahu. Their debate became so animated during a recent weekly Monday-morning conference call with brokers that news reports described a veritable "shouting match"--though both analysts insist that they remain on good terms after 12 years of working together.
TWO-HANDED? You could argue that this jousting is tough on the firm's clients, who may want a clear signal indicating where to stash their hundreds of billions of dollars in assets. By promulgating two opposite views, Morgan Stanley comes across like the two-handed economists that Harry S. Truman used to despise--wanting to have it both ways. Jokes Edward C. Ettin, the Federal Reserve's deputy research director: "Whatever happens, Morgan Stanley will be right."
Nonetheless, the intramural debate between Biggs and Roach is healthy--perhaps even necessary. Instead of forcing its forecasters into a compromise, Morgan Stanley lets them argue their cases as forcefully as possible. Clients who tolerate the ambiguity may end up understanding the issues better than if they heard just one point of view.
Economists at other Wall Street firms, where the rainbow of opinion is more monochromatic, say they understand what Morgan Stanley is going through. Achieving consensus is harder than it used to be, explains Bruce Steinberg, chief economist at Merrill Lynch & Co. "We're having the weakest pricing cycle since World War II and also the strongest earnings cycle of all time....Since we draw upon history to guide us, this kind of thing makes for a bigger debate about what happens next."
Borrowing from the poet Robert Frost, Biggs divides forecasters into those who see the bull market being killed off by "fire," or inflation, vs. those who are more concerned about "ice," or disinflation. It's ice that worries Biggs. He predicts an economic slowdown in which the stock market will suffer, but the bond market should thrive. He's predicting that 30-year Treasury bond yields will fall to 5.5% to 6% within six months from their current level of about 6.4%.
"BLOWN AWAY." Roach sees fire--inflation--beginning to accelerate. His forecast for the U.S. consumer price index is actually not too high: an average rate of 3.1% next year, vs. 2.5% this year. But he says the financial markets are betting on a much lower rate. So he figures 30-year Treasuries will hit 7% to 7.5% within six months, though they may actually drop below 6% between now and then.
Biggs and Roach have each had their fair share of both smart calls and embarrassing mistakes: A year ago, Roach was forced to retract a bearish forecast on interest rates and the stock market when reality ran over him, and on Oct. 8, he confessed that he was "blown away by the power of the bond rally over the past three weeks." Biggs also missed much of the stock market's gains by being overly bearish. While they disagree on rates, they do agree that the stock market is near a top--so if it continues heading upward, they'll both look bad.
Then again, very few forecasters have been consistently right about the stupendous performance of the stock market and the U.S. economy. Say this for the Morgan Stanley team: In their offices high above Times Square, Biggs and Roach are providing some of the best theater on Broadway.