Janus: Recession risks persist, and the Federal Reserve may cut interest rates earlier
With inflation declining, the continuously rising real yield seems to be on track to surpass the pace of economic growth in the United States. The Federal Reserve is likely to pivot and cut interest rates earlier than indicated by the "dot plot." It is recommended to increase holdings of low-risk, longer-term 7-10 year bonds.
Invesco's Chief Fixed Income Strategist and Head of Macro Research, Rob Waldner, stated that the Federal Reserve's rate hikes are slowing economic growth and suppressing inflation, but they are also increasing the threat of an economic recession.
Waldner said, "We are increasingly concerned about the environment of economic recession," despite Federal Reserve officials earlier in the day stating that they expect a soft landing for the economy.
One key idea from Invesco is that as inflation declines, the rising real interest rates seem likely to surpass the pace of economic growth in the United States.
The Federal Reserve stated that they expect the pace of US economic growth to slow from 2.1% in 2023 to 1.5% in 2024, but then accelerate again.
Traders also seem to have growing confidence in a soft landing for the US economy. However, Waldner still believes that rate hikes could push the economy into a recession, although not an extreme one.
Waldner said, "Those who wondered why rate hikes didn't work last year will now be puzzled as to why they are working." "But as nominal GDP is about to fall below nominal interest rates, monetary policy will start to take effect."
After keeping rates unchanged at a 22-year high of 5.25%-5.5%, Federal Reserve Chairman Powell stated in a press conference that he "has always thought a soft landing is a possible outcome," but also hinted that rates may stay at higher levels for longer than expected.
It is worth noting that Powell stated that he is monitoring the rise in real interest rates and ultimately, "factors beyond our control" may determine the fate of the economy. "That's why we can proceed cautiously."
Therefore, Waldner believes that the Federal Reserve will shift and cut rates earlier than what the "dot plot" indicates.
For investors, the 10-year Treasury yield was around 4.346% on Wednesday, close to the highest level in 16 years. Waldner suggests increasing holdings of low-risk, longer-term 7-10 year bonds, especially in the event that the Federal Reserve is forced to cut rates.
"Now is a very good time," he said.