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The world’s largest active bond fund manager says markets are very optimistic about central banks’ ability to avoid recession as they battle inflation in the United States and Europe.
Daniel Evaskin, chief investment officer at Pimco, which manages $1.8 trillion in assets, said he was preparing for a “harder landing” than other investors as top central bank chiefs prepare to continue their campaign to raise interest rates.
“The more tightening people feel incentivized to do, the greater the uncertainty about these delays and the greater the risk of more extreme economic forecasts,” Evaskine said in an interview with the Financial Times.
When rates have risen in the past, he noted, a five- or six-quarter lag for the effect to be felt was “the norm.”
“We can say that the market may still be very confident in the quality of the central bank’s decisions and its ability to engineer positive results,” he said. “We think the market is overly optimistic about the ability of central banks to cut interest rates as quickly as the yield curves would suggest.”
The US Federal Reserve, European Central Bank and Bank of England were rapidly raising interest rates after criticism that they were too slow to respond as inflation accelerated.
At a conference in Sintra, Portugal, this week, the heads of the three countries indicated that it is likely that more measures will be needed while inflationary pressures persist. On Friday, the Nasdaq Composite had its strongest first half of the year in 40 years, in part on expectations that US interest rates will soon peak.
But core inflation, which is used as a measure of underlying price pressure because it excludes volatile food and energy prices, has been hovering around 5 percent in the United States and the eurozone in recent months, while it has risen to 7.1 percent in the United Kingdom. for the year through May.
“Today we have a real legitimate problem of inflation,” Evasen said. “It is likely to be more difficult for central banks to reduce policy even if the economy is weakening as long as inflation is comfortably above its value. [2 per cent] Objectives “.
Pimco, owned by German insurer Allianz, is realigning funds to be “more defensive and liquid” as it lures investors after a terrible year for bond funds in 2022.
The California-based manager suffered €75 billion in outflows last year, but Evaskine said inflows have “improved materially” with investors getting higher returns now on offer. Allianz reported that Pimco attracted 14 billion euros in assets in the first quarter of this year.
While Pimco believes a “soft landing” is the most likely outcome for the US economy, Ivascyn said the group is avoiding areas of the market that would be more vulnerable in a recession.
He favors high-quality government and corporate bonds for now, and awaits a downgrade of the company’s credit rating, which he said will lead to a forced sale between vehicles such as collateralized loan obligations in the coming months and years. He said this would be a good time to snap deals.
“A great trade would be to take advantage of the aggressive repricing of the public markets and then wait for the private markets to adjust over the next few years and then move on to what should be a really attractive opportunity,” he said.
“Keep some cash because we believe the next two to three years will be a target rich in opportunity in the high-yield space.”
However, be warned that this course may be different from previous courses. Central banks may be less willing to provide support for fear of fueling higher prices, while the fact that much of the risk has been transferred to private markets should slow, but not prevent, the deterioration in credit ratings.
“This could be an old-fashioned cycle for a few years with inflation rising, but policy makers not coming to the rescue,” he said.
Pimco’s move to safer bonds is part of a broader industry shift toward higher-quality fixed-income assets. Bank of America’s most recent survey of fund managers shows that investors have been heavier in investment-grade bonds than their high-yield counterparts since 2008.
Even for investors who don’t believe central banks will be able to bring inflation down to their target level, Evaskin said fixed income provides the best value we’ve seen “in many years,” with US inflation-adjusted real returns at levels not seen since the global financial crisis.
“You can be defensive on interest rate risk, on inflation risk, on credit risk, and come out with a very attractive return,” he said.
This is different from saying ‘buy everything, everything will be fine’.
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