Schroders’ fixed income team has ‘no problem’ with changes to Federal Reserve forward guidance on rates under Kevin Warsh, according to James Bilson, global fixed income strategist at the firm.
The notable departure from the Jerome Powell era has prompted criticism in some quarters, but Bilson said he disagreed with that stance.
“We have no problem with reduced forward guidance,” he said. “In fact, we endorse it. The quest for transparency often gives rise to information overload and false precision about inherently uncertain outcomes.
“But we do believe that objectives must be explicit, even when reducing the level of guidance provided, as to the tactics to achieve them.”
While the principle of reduced guidance is not wrong, in Bilson’s view the most recent FOMC meeting ‘confused rather than clarified’ the Fed’s objectives.
Greater clarity over which measure of inflation is most important and the time horizon in which inflation should return to target is required, he said.
“Until then, however, we are taking a neutral view on the yield curve,” Bilson said. “A more proactive Fed with stronger inflation-fighting credibility is a necessary component for a curve-flattening view, and that has become more questionable for the time being.”
Turning to expectations for the upcoming September meeting, Bilson explained that another rate hold is likely, despite there being justification for a hike in the data.
“The Fed should hike rates. Inflation is too high, with no obvious indication it will soon return durably to its 2% target, and the labour market is stable around full employment,” he said.
“But we don’t think it is likely to at the next meeting. Although the case for a September hike remains strong, sequentially softer inflation data lessens the likelihood of it being delivered.
“For that reason, we have increased our scenario probability of ‘just right’ to 60%, which now becomes our base case, and have reduced the probability of our most hawkish ‘too hot’ scenario.”
See also: Jupiter’s Naylor-Leyland: ‘Precious metal speculators got it wrong all at once’
In terms of expressing these views through asset allocation decisions, Bilson said the firm has maintained an overweight to global duration and upgraded the US to positive, as the team sees less scope for underperformance.
Canadian bonds have also been upgraded as its labour market has stabilised. The team are now ‘less positive’ on UK gilts, but continues to believe the Bank of England is unlikely to deliver the hikes priced by the market.
Japanese bonds have been downgraded, based on the view the Bank of Japan will need to more aggressively tighten policy, given the inflation outlook and recent failure of its attempted currency intervention.
See also: Japan grapples with yen strength following US intervention
Schroders has upgraded Eastern European sovereigns, which Bilson referred to as his ‘top pick’.
He noted the excellent performance by Hungarian bonds year-to-date, and potential for further upside given the ‘totemic shift’ in political outlook since Peter Magyar’s election victory.
Western Europe is a different story, with Schroders seeing rising political risks in both France and Italy ahead of the elections in 2027.
