“The main ones banks central they are preparing for a imminent rate cut. There European Central Bank will almost certainly cut rates in June and the Bank of England will probably follow suit. However, although central banks dispute this, it is difficult to imagine that rate paths outside the United States will not be affected by the action, or inaction, of the Federal Reserve in the coming months, given its impact on financial conditions, commodity prices and currency movements. What we really need is for the growth slowdown in the United States to continue. This would pave the way for the Fed to reduce rates later in the year.” This is what Julien Houdain, head of Global Unconstrained Fixed Income at Schroders – one of the main global financial groups, listed on the London Stock Exchange since 1959 and part of the FTSE 100 index – notes, commenting on the probable divergence in the monetary policy of central banks, and on the relative impact on bonds.
Increase confidence in a soft landing
In the last month Schroders has reduced the risk of a “no landing”, increasing the probability of a “soft landing” in consideration of the first signs of moderation in the US economy and better news on the inflation front. The decline in data affected the various economic indicators across the board. Consumer confidence, job abandonment rates and initial unemployment claims – the analysis highlights – “seem to suggest that some of the concerns about the overheating of the labor market they may have been overestimated.” Non-farm payrolls were primarily driving the trend, while the slower pace of hiring in “core” areas in the private sector, excluding healthcare, was a positive sign in the latest report. With growth of nearly 100,000 core jobs and 175,000 total payroll increases, the job market remains healthy.
With regard to inflation, as geopolitical tensions eased, oil prices fell from last month's highs. Meanwhile, April data on the US consumer price index (CPI) showed further improvement compared to March, especially in core areas, such as services, excluding the residential sector. With core inflation rising nearly 0.3% month-on-month, the absolute level remains too high for both the Fed and the market, but the improvement over the first quarter is a important step in the right direction. If this weakening continues, it would pave the way for the Fed to begin a rate-cutting cycle later in the year.
A fact that is difficult to explain
However, something happened during April phenomenon difficult to explain: the latest data from the survey ISM on services – explains Houdain – it was negative. It fell below 50 for the first time in over a year, with weak data on new orders, employment and production. For reasons not immediately apparent, this has become a powerful leading indicator less reliable in the post-Covid era. “However, it is too early – continues Houdain – to raise the risk of a hard landing”.
The implications
The expectations by Schroders for i Global bond markets have improved with the reduction of the probability of a 'no landing' scenario, in which bond yields would be more penalized. Furthermore, the latest Fed meeting put to rest the growing discussion about the possibility of further hikes if the data remains strong. All this justifies – Houdain highlights – an increasingly positive position on global duration, or interest rate risk. “Our asset allocation – concludes Schroders' analysis – has remained relatively stable unchanged compared to last month. The only notable change was a slight upgrade in emerging market local currency debt. We maintain a positive view on covered bonds, mortgage-backed securities (MBS), European investment grade credit and shorter-dated quasi-sovereign issuers, while we are underweight US investment grade and high yield bonds globally, due to the unattractive valuations”.
