Analysis-Investors bet Powell's Fed will get more aggressive on
inflation
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[November 23, 2021] By
David Randall
NEW YORK (Reuters) - Investors are betting
that newly renominated Federal Reserve Chairman Jerome Powell will need
to step up the pace at which the central bank is normalizing monetary
policy to better grapple with surging consumer prices.
For months, Powell has insisted the current bout of inflation is likely
to be transitory, and said the central bank will be "patient" in
deciding when to begin raising its benchmark rate from near-zero. The
Fed kicked off the taper of its $120 billion per month bond buying
program in November, with a plan to end purchases altogether in
mid-2022.
Some investors, however, believe the Fed will need to taper faster and
raise rates sooner than expected to tame rising consumer prices, which
grew at the quickest pace in more than three decades in October. Their
view has been reinforced by recent public debate among some Fed
officials on whether to withdraw support for the economy more quickly to
help tame inflation.
One barometer of investors’ monetary policy expectations, futures on the
federal funds rate, on Monday afternoon had priced in a 100% chance that
the central bank will raise rates by July, from 92% last week. Rates
market responds to Powell staying as Fed chair, https://graphics.reuters.com/USA-FED/movanlrwbpa/chart.png
News of Powell’s nomination on Monday also sent yields on shorter-dated
Treasuries, which are more sensitive to rate views, to their highest
level since early 2020. Powell is widely seen as more hawkish than Fed
Governor Lael Brainard, who was also vying for the top job.
Investors are "challenging the Fed to some extent and becoming more
concerned about the Fed falling behind the curve on inflation," said
Mike Sewell, a portfolio manager at T. Rowe Price.
Sewell is buying shorter-dated Treasuries and the U.S. dollar, betting
that the Fed will need to raise rates three times next year to tame
inflation. The central bank’s dot-plot, released in September, showed
half of policymakers penciling in one rate increase next year.
Analysts at Jefferies wrote Monday’s rise in Treasury yields, which move
inversely to prices, “is predicated on the idea that the prospects for a
June 2022 rate hike have increased significantly on the back of Powell's
renomination,” though the bank believes a June rate increase is
unlikely.
Bets on shorter-dated Treasuries have also drawn Gary Cloud, a portfolio
manager of the Hennessy Equity and Income Fund.
"We're in an era that investors haven't seen before because you have a
significant uncertainty as to whether the Fed will act in time" to
prevent inflation from spiraling higher, he said.
[to top of second column] |
Jerome Powell is sworn in before the Senate Banking, Housing and
Urban Affairs Committee on his nomination to become chairman of the
U.S. Federal Reserve in Washington, U.S., November 28, 2017.
REUTERS/Joshua Roberts/File Photo
Diverging views on how aggressively the Fed will move have helped stir
volatility in Treasury markets. The ICE Bank of America MOVE Index, which shows
expectations of volatility in the bond market, stands near its highest levels
since April 2020.
Inflation expectations edged lower on Monday, with 5- and 10-year breakeven
inflation rates dipping to their lowest in about two weeks.
Meanwhile, calls for the Fed to normalize monetary policy more aggressively are
now coming from some of the central bank’s own policymakers, reinforcing many
investors’ views.
Vice Chair Richard Clarida said earlier this month that “a discussion about
increasing the pace at which we are reducing our balance sheet” would be
something to consider for the Fed's next meeting, while Fed Governor Christopher
Waller called for the Fed to double up on its wind-down of bond purchases,
finishing by April 2022 to make way for a possible interest-rate hike in the
second quarter.
Powell, for his part, has said inflation will likely abate as supply chain
bottlenecks that have contributed to higher prices eventually ease. There have
been some indications that the worst of those disruptions are clearing up, with
cargo shipping costs down by a third over the last month and prices for
commodities such as iron ore and lumber tumbling.
Others, however, insist inflation is headed higher. Adam Abbas, a portfolio
manager and co-head of fixed income at Harris Associates, is buying the bonds of
companies such as hotels, which may be able to better deflect the effects of
higher inflation by raising prices.
Donald Ellenberger, a senior portfolio manager at Federated Hermes, expects bond
market volatility to persist as inflation proves "stickier" than the Fed
expected. He plans to focus on shorter-duration Treasuries until the 10-year
note rises to 2.5% or higher, a level he sees as appropriate given inflation.
"For many years the Treasury market was pretty sleepy and rates didn’t move very
much,” he said. “Now the market doesn't know what to do when faced with the fact
that inflation is persisting for longer than expected.”
(Reporting by David Randall; Additional reporting by Gertrude Chavez-Dreyfuss
and Saqib Iqbal Ahmed; Editing by Ira Iosebashvili and Edward Tobin)
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