Nerve-wracking week leaves bond investors calling for quick rate hikes


Reuters

June 20, 2022, 11:35 a.m.

Last modification: June 20, 2022, 11:36 a.m.

Passersby are seen in front of a screen displaying the Japanese yen to U.S. dollar exchange rate and the Nikkei stock average in Tokyo, Japan, June 14, 2022. REUTERS/Issei Kato

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Passersby are seen in front of a screen displaying the Japanese yen to U.S. dollar exchange rate and the Nikkei stock average in Tokyo, Japan, June 14, 2022. REUTERS/Issei Kato

A series of surprise actions from some of the world’s biggest central banks worrying about runaway inflation left bond investors uneasy. Now, a growing chorus of investors is calling on policymakers to act quickly to end the uncertainty.

Until central banks are able to bring inflation down, some investors said, markets will have no certainty about rates. Their best way forward may be to reach neutral interest rates — the level at which monetary policy neither stimulates nor constrains the economy — as quickly as possible, investors said.

“We’re seeing these kinds of rate hikes in an economy that’s clearly slowing down, and it’s creating this extraordinary uncertainty about how far inflation will go down and how big the Fed will be,” said Rick Rieder, Director of Global Fixed Income Investments at BlackRock, the world’s largest asset manager.

“Sometimes markets can take a while to adjust, but in the long run it’s a better way to go,” Rieder told Reuters in an interview.

DoubleLine Capital chief executive Jeffrey Gundlach and billionaire investor Bill Ackman have also called in recent days for higher rates from the Federal Reserve.

Central banks, particularly the Federal Reserve, have been criticized for moving too slowly to bring inflation under control. Investors said that led to unpleasant surprises, such as the Fed’s bigger-than-expected rate hike on Wednesday following the highest US inflation in more than four decades.

“Catching up is more difficult now that the central bank let … the first best policy response slip away from it” last year, said Mohamed El Erian, chief economic adviser at Allianz and chairman of Gramercy Fund Management.

Fed Chairman Jerome Powell said last week that the US central bank’s goal was to bring inflation down without a sharp slowdown in economic growth or a sharp rise in unemployment, acknowledging that the path was getting tougher. .

The Federal Reserve raised rates on Wednesday by 75 basis points — its biggest increase in nearly three decades — and pledged to make other big moves. Central banks across Europe also hiked rates, in some cases by amounts that shocked markets.

The moves wreaked havoc on bond markets, already in the grip of their worst start to the year in history.

Before the Fed hike, two-year Treasury bills US2YT=RR hit their highest yield since the 2008 global financial crisis and benchmark 10-year yields US10YT=RR – an important barometer for mortgage rates and other financial instruments – reached their highest level in more than a decade.

In Europe, the 10-year German Bund yield DE10YT=RR hit an eight-year high of 1.93% last week. In Switzerland, 10-year yields were expected to end the week up nearly 50 basis points and see their biggest weekly rise since March 2020.

Higher prices hurt consumers by eroding savings while higher rates increase borrowing costs. US housing finance giant Freddie Mac said last week that the average contract rate on a 30-year fixed-rate mortgage had risen more than half a percentage point to 5.78%, the biggest one-week jump in 35 years.

Bond prices also swung violently in the opposite direction following the Fed’s rate hike, with two-year and 10-year Treasury yields reversing their selloff on a scale not seen since 2008 and early 2020, respectively.

“For markets to stabilize and prices to recover…we need some degree of evidence that inflation has peaked and is coming back down,” said Mark Dowding, chief investment officer at BlueBay. Asset Management in London. “It’s almost a precondition for the end of the bear market, and it’s only going to happen for bonds first, then stocks.”

It’s easier said than done. Inflation is a poorly understood phenomenon. The market has not faced a rising price regime for decades.

“There was a view that a lot of this inflation was one-time in nature, was going to go away quickly, and that turned out to be incorrect,” said Pramod Atluri, fixed income portfolio manager at Capital Group.

Central banks attempt to control price pressures with monetary policies that dampen demand, but they have little control over supply-side factors.

“They now recognize that fighting inflation – when it is partly supply-driven and the only tools the Fed has is to cool demand – is going to come at the cost of somewhat more growth. slow,” said Allison Boxer, economist at PIMCO.

For bond investors, the race for central banks to catch up has been devastating.

The Fed told investors it expected to raise rates by 50 basis points at its June meeting. But just before the meeting, inflation data came in higher than expected.

Ryan O’Malley, portfolio manager at Sage Advisory, said policymakers were caught off guard by the latest inflation reading. For Steve Bartolini, portfolio manager at T. Rowe Price, the data seemed to confirm that the Fed’s rate hike cycle of increasing in 50 basis point increments – in line with previous forecasts – would continue through November.

A Wall Street Journal story that appeared to disclose the Fed’s intentions to hike 75 basis points the day before its two-day policy meeting began was not enough to sway his belief in the measured path Powell seemed to be charting. at the pre-meeting.

“I didn’t think they were ready to make the jump to 75 because they told us they weren’t going to make that jump,” Bartolini said, adding that the Fed’s decision has now increased significantly. recession risks and reduces risk taking. attractive.

“Because you’re raising rates at a time when growth is slowing, that means you’re prone to crashes” and the likelihood of the Fed over-tightening, he said.

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