Scott Mather, Pimco’s CIO Core Strategies, was interviewed last week about the Fed’s tightening cycle and how investors should position their portfolios. The interview focuses on the US rate environment but is pertinent for Australia given how powerful the movements in US bonds are for our market.
Mather’s first observation was that global markets had been extremely volatile and that investors should expect this to continue. Diverging monetary policies of the major economies needed to be assessed but investors also needed to ensure that “they’re taking risk only when they are being compensated for it.” And with risk premiums on all financial assets relatively compressed at the moment, compared to recent years, perhaps it was time to think about “taking less risk.”
The view that the Fed would tighten in the second half of 2015 hadn’t changed and Mather said it was likely that the Fed would take a “small step away from zero”. The focus was on the Fed meeting on 17 September however, with the world as “unsettled and volatile as it’s been lately, Fed officials don’t want to be seen as contributing to the uncertainty.” As a result Mather sees it as likely that December is the date when the Fed will move.
What is important is not the timing of the first rate hike but “how quickly the Fed will raise rates, how much it will raise them each time and where and when it will stop,” said Mather. “We continue to see a multi-speed world of economies converging to modest trend growth rates in the context of inflation rates that, while perhaps somewhat higher than current levels, remain relatively contained. So while the members of the FOMC may be eager to move the policy rate away from zero, they are likely to keep it much lower over time than it has been in the past. We also think the Fed may allow more time between hikes than it did in previous cycles.” In short, rates will stay lower for longer.