Anmol Sinha, Fixed Income Strategist: Hello and welcome, my name is Anmol Sinha and I’m joined today by two of my colleagues, Tiffany Wilding, our U.S. Economist and Scott Mather, CIO for U.S. Core Strategies. Let’s get into it today. We’re going to discuss the Fed meeting. So Tiffany we saw after three years and nine rate hikes, the Fed cut rates for the first time in over a decade. What were the key takeaways for you between the statement and the subsequent press conference?
Tiffany Wilding, U.S. Economist: I thought the statement was pretty on expectation. I think this rate cut was relatively well telegraphed as Chair Powell even said in the press conference. So in the statement I thought left the door open for potentially more rate cuts by saying even though we’re cutting rates, the risk to the outlook still remains.
You know so that was our expectation going into this meeting.
Photograph of Federal Reserve Chairman Jerome Powell and shot of the Federal Reserve Building.
I think where we saw more surprises was actually in the press conference itself.
We thought Powell would sort of emphasize this possibility that additional rate cuts, could come in the future.
You know, we didn’t really see him emphasize that and I think kind of more broadly it just reflected the fact that the under -- that the committee, the FOMC is pretty divided and I thought his press conference kind of underscored that. And it is very difficult to communicate on behalf of a committee that’s divided.
Chart: A dot plot chart shows division among the FOMC for 2019, 2020, 2021 and over the long run.
So we knew or we saw from June the projections that you know about half of the committee actually thought that no cuts at all this year were needed. You know whereas a pretty large majority thought that 50 basis points of cuts were needed. So clearly today’s statement and press conference was a bit of a compromise between those two camps.
You know but I guess overall, we were a bit surprised that Powell didn’t a little bit more forcefully kind of emphasize that we could see more cuts later on this year.
Anmol: Which makes sense but maybe some of those challenges in the press conference really led to some unusual market reactions so maybe we can turn to markets for a second Scott. Of course the Fed actually cut rates as expected, they announced that the balance sheet unwind would end earlier than expected. And yet you saw the yield curve flatten, the dollar rally and equities fall. So how would you describe the market reaction?
Scott A. Mather, CIO U.S. Core Strategies: Well I think one good way to interpret that market reaction is maybe the markets were a little bit ahead of themselves. Or maybe that wasn’t the case but really that there was greater uncertainty.
You saw the initial reaction certainly being a deeper equity selloff, there was a rebound towards the end of the press conference, same thing. We went from sort of a rally in the bond market to then a selloff in the bond market and actually finished with a little bit of a rally in the bond market.
So sort of a reversal as we moved through the press conference. But I would chalk that up to no big misses but merely a -- the uncertainties became clear for many investors as that press conference wore on.
Anmol Sinha: And Tiffany, there’s been a lot of debate about the factors that are driving the Fed’s reaction function. You know there’s, to some extent, is this really, are these insurance cuts or is this a start of a protracted cutting cycle?
Tiffany Wilding: Our outlook right now doesn’t call for recession in our best case. So based on that, you know we would argue these are insurance rate cuts or you know, the potential for additional insurance rate cuts.
You know that on the one hand we are seeing slowing and slowing is happening in certain pockets of the U.S. economy that are big enough to cause concern.
Shots of automobile manufacturing, technology manufacturing, and cargo ships.
So Chair Powell talked today about the manufacturing sector. But we’re seeing a more broad-based slowing in investment as well as exports and ultimately the Fed, what they don’t want to happen is they don’t want markets to completely lose confidence.
You know you start to see financial conditions tighten. You know we call this sort of the financial accelerator channel. So you know you get banks that are pulling back on lending, much more quickly and that accelerates the downturn.
I think what they’re trying to do with these insurance cuts is really manage the extent to which that happens.
Anmol Sinha: So Scott, investors are naturally trying to wrap their heads around this interest rate environment. On the one hand growth is softer but still solid and we don’t think a recession is imminent at least in the near term. And yet you see 10-year yields at two percent.
So how is PIMCO thinking about interest rate exposure in portfolios today? Does it still make sense?
Scott Mather: Well we think it still does make sense. I mean we could view it sort of in the traditional context. It’s important to keep in mind too, that the U.S. is actually the global high-yielder. So rates are low everywhere. They’re still exceptionally high from a global perspective in the U.S.
So there’s room for rates to fall further. And we think that it’s certainly much more likely that they fall rather than they rise from here. Not only because we’re likely to get additional --at least one other cut or maybe more
Shots from a PIMCO forum.
but also because when we look at the range of scenarios and outcomes around that it seems much more likely that at some point in the not too distant future, we’ll revisit the zero lower bound again when we get the next true downturn or real growth shock to the U.S. economy.
And in that context, 10-year yields probably could go down to new all-time lows down in the neighborhood of one percent or so. And so there still is the room for high-quality U.S. bonds to provide that income while you wait but then the potential for another strong capital appreciation episode when we get that shift.
Anmol Sinha: Great so even if growth normalizes a little bit 10-year rates maybe drift a little higher but not much more room to go but there, the risks can look very different and so maybe I’ll ask you a different version of the question. If you think about the risk to our interest rate outlook, do you think we see one and a half percent on the 10-year first or three percent on the 10-year?
Scott Mather: We think it’s much more likely we see one and a half percent first then, then three percent.
Anmol Sinha: Great, thank you Tiffany, thank you Scott for joining us today and thank you all for joining us.
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Recorded July 31 2019
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