Janus Henderson: The Fed’s decision - Steady rates today – but lower down the road?

On 1 May 2019, the US Federal Reserve (Fed) reiterated its ‘patient’ approach toward monetary policy, announcing that it will maintain its benchmark overnight lending rate in the range of 2.25% to 2.50%. In its statement, the central bank cited inflation running below its 2.0% target in recent months, which, in our view, gives them the latitude to keep rates steady. Officials balanced this opinion with comments on the strong labour market and solid domestic economic growth, despite slowing personal consumption and business investment in the first quarter. The central bank also referenced global economic developments, which remain muted, as a factor in its decision.

Our view remains that the Fed will keep interest rates on hold for the balance of 2019, and it is our expectation that the central bank’s next move will be to cut rates. Since the Fed’s policy pivot, we have seen a flood of dovishness from many other central banks as they follow the lead of the US in creating a more accommodative environment. These newly dovish central banks include Sweden’s Riksbank, the Bank of Canada, the Reserve Bank of Australia and the Reserve Bank of New Zealand.

Implicit in this shift toward looser monetary policy are concerns about slowing economic growth. We, however, do not foresee a global recession as we believe the global economy will do relatively well now that central banks have eased off the gas pedal; however, we do expect a slow-growth environment, which should benefit both bonds and riskier assets, including corporate credit and equities.

We expect the US Treasuries curve to steepen, led by decreasing yields on shorter-dated maturities, as the market prices in Fed rate cuts. However, we do not expect those rate cuts to come to fruition until 2020.

The Fed’s dovish messaging has caught on like wildfire, and markets are pricing in rate cuts globally much sooner than is likely. In this regard, we think the market is getting ahead of itself.

One should not attempt to be a hero in this environment. Potentially sizeable, Fed-induced capital appreciation may be enticing, but bond investors would be better served by focussing on income generation and capital preservation.