David Roberts

Did they jump or were they pushed?

David Roberts

It is rare indeed for the Federal Reserve to change interest rate policy between meetings and unheard of to cut rates the day after the Dow Jones posted its biggest points rise in a decade.

Pressure from President Trump and concerns that equities had retraced all the way back to October levels seemed too much for Fed chair Jerome Powell to put up with.

Our view is that the impact of the Coronavirus could be a major economic shock. However, it is nigh on impossible to see how monetary policy can change the course of that impact; perhaps it could lessen it slightly, but change course, no chance.

We need aggressive fiscal policy; we need to create demand now. If monetary responses reduce the propensity for political/fiscal action, as they have done since 2009, then we may find a recession looming.

That is all in the future of course and for now, we need to ask:

  1. Is the situation already so bad that we should panic, is that what the Fed is telling us?
  2. Is this truly the first of a possibly co-ordinated series of moves that will at least dampen and at best avoid a recession?

While those are the big questions for most holders of risk assets, it is a little easier for investors in core bonds. Unless we see new, aggressive quantitative easing, we are likely to see the following:

  • Curves steepen: if it works, the Fed cut will boost economic activity eventually, so long-dated bonds might be an accident waiting to happen, especially if inflation kicks in.
  • Inflation-protected bonds (UK linkers, US TIPs) should have a day in the sun. The UK looks expensive, but in the US, 10-year inflation is being priced at just 1.4% and even before this cut, CPI was well above 2%.

So, for most assets it is difficult to say: is this a reason to panic, or a reason to believe the Fed has your back? For bond investors, the direction is uncertain but we believe short-dated and inflation-linked bonds should do better than the rest.

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Tuesday, March 3, 2020, 4:47 PM