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By Karen Pierog and David Randall
NEW YORK / CHICAGO (Reuters) – Investors are asking a key question after the US Federal Reserve accelerated a downturn in bond purchases and introduced more aggressive rate hikes: when could the central bank start reducing its massive balance sheet?
Bond investors largely took the Fed’s pivotal inflation-hawkish stance. The step to reduce new bonds from $ 120 billion a month to zero was well telegraphed, and the new forecasts of political leaders who have now convinced the market that the first interest rate hike will arrive no later than May, with more. to continue until the end of the year.
But the question that remains is whether the Fed will move from reducing bond purchases to reducing the central bank’s balance sheet.
After the 2014 downturn, the Fed kept its balance sheet fundamentally stable for three years and eventually began to reduce its holdings starting in 2018, leaving some bonds “out of the portfolio” without reinvesting the principal at maturity, a process. this was known as “quantitative tightening” or “QT”.
“As quantitative easing is now being phased out more quickly, and with the first policy rate hikes on the horizon, it will become a potential leak on the balance sheet of the‘ issue of the biggest upset ’,” said BlackRock Investment Manager Rick Rieder. Global Fixed Income in a research note.
However, Rieder believes that there would be “low chances of starting an escape in 2022” if the agreement of market participants did not happen before 2024.
Collin Martin, a fixed-income strategist at the Schwab Center for Financial Research, said he is paying attention to when the Fed’s balance sheet spill can begin, whether risk rate hikes could flatten more yield curves, or even if they are not long-term rates. go up. An inverted performance curve can be a harbinger of a recession.
“If the bonds start to mature and then don’t pick up the pace of the purchases, that means someone else needs it,” he said. This can lead to less demand and higher long-term returns so that the performance curve does not flatten too quickly.
TD analysts wrote in a research note that QT is expected to begin in March 2023.
HE EXPECTS HIS ORGANIZATION
At a Fed press conference, Powell said politicians “have not made any decisions about when the silence will begin,” but “these are the decisions we will make at future meetings.”
The reaction to the Fed’s pivot was mixed, with stocks reversing earlier losses and ending significantly higher, while U.S. Treasury yields rose in slow trades, and eventually the U.S. dollar fell. [.N] [US/] [USD/]
Fund managers generally welcomed the Fed’s message that it would reject an ultra-comfortable monetary policy.
“The Fed is acknowledging that the economy is very hot right now and that they need to abandon the current setting,” said Steve Bartolini, T Rowe Price (NASDAQ 🙂 US Core Bond Strategy portfolio manager. yours. in assets such as bank loans that will benefit from the tightening cycle.
However, investors saw the volatility. The ICE (NYSE 🙂 Bank of America (NYSE 🙂 MOVE Index, a measure of the volatility expectations of the bond market, has remained close to its highest levels since April 2020.
“The only piece I’m sure will be the high volatility we try to get out of that huge amount of stimulus,” said Lon Erickson, Thornburg Investment Management’s portfolio manager. “We’re going to be … conservatives, keep that dust and be prepared for the opportunities that volatility presents to us.”
Jason England, Janus Henderson’s global bond portfolio manager, agreed that starting this hardening could lead to “friction in fixed income markets”.
However, investors said the Fed was managing to avoid panic in 2013, when bond yields rose to a so-called “taper tantrum”.
“No one talks about making things terribly stressful,” said Brian Nick, Nuveen’s chief investment strategist. “And so that should still be a good environment for investors to take risks.”
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