Traders are getting ahead of themselves pricing in negative U.S. ratesnext year, according to JPMorgan Asset Management.
“Three, four years down the line if the economy is still in a very weak state, then perhaps the Federal Reserve could consider negative rates,” said Seamus Mac Gorain, head of global rates in London at the$1.7 trillion investment manager. “For now, they’re much more focused on the balance sheet, on their tools rather than on negative rates.”
Investors are betting on the possibility of sub-zero rates from the U.S. toNew Zealand as the coronavirus forces policy makers to take unprecedented measures to shore up growth. President Donald Trump has repeatedlycalled for negative rates — something traders see byearly 2021 — even as Fed Chair Jerome Powell pushes back at the idea.
While it “makes sense” for some investors to price the tail risk of negative rates, most central bank signals suggest the opposite may be true for now, according to Mac Gorain. The European Central Bank had “several opportunities to cut rates again and they haven’t done it,” and the same could be said of the Bank of Japan, he added.
“I think they’ve seen the cost of negative rates now at these levels, in terms of the impact on the banking sector,” the fund manager said. “On the whole, the shift is a little bit away from negative rates.”
Bond Bets
JPMorgan Asset favors 10-year Treasuries as the looming global recession pumps up demand for the safest sovereign debt, according to Mac Gorain. Benchmark Treasury yields are likely to fluctuate between 0.5% and 1% this year, with any movements toward the top end of the range a signal to buy, he said.
The asset manager is also buying government bonds from Australia, which sold a record A$19 billion ($12.3 billion) in 10-year notes last week.
“The long-end in Australia is another market that stands out” for its high quality and yield, he said.
Here are some more edited comments from Mac Gorain:
Dollar Weakness
The medium-term outlook for the dollar is a decline against its major peers. Its yield advantage has been eroded and while there was a big squeeze in the dollar funding market in March, the Fed has addressed that through its domestic bond operations and commercial paper programs.
Global Economy
Asia, the U.S. then Europe may lead a post-virus recovery. It does seem that the virus hasn’t affected Asia quite as much, but at the same time, the global economy is very integrated. It is difficult to see very strong growth in any region when the rest of the world is so weak.
Debt Monetization
At this point there’s no conflict whatsoever between central bank mandates and theirgovernment bond purchases. Inflation was already quite limited before the crisis, and is likely to be very weak for a while. The fall in oil prices also helps.
Bond Supply
The biggest driver in bond markets this year is the unprecedented supply and demand for debt. It’s true in the U.S., it’s true in the rest of the world. To a greater-or-lesser extent, most of the central banks are absorbing the unprecedented supply.
— With assistance by Stephen Spratt
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