For BlackRock’s Rick Rieder, there is a story that defines the markets in 2018 – the front-end of the Treasury yield curve.
“Full stop, if you said to me, ‘What’s the story of the year? »To invest, what is the story of 2018? It’s the front end of the rising yield curve, ”Rieder told Yahoo Finance in an interview.
Rieder, the cSenior Head of Global Fixed Income Investments at BlackRock said that after the crisis one of the dominant themes in the markets was TINA – There is no alternative.
This idea pushed many investors to riskier assets after the financial crisis like the stock market or the high yield bond market in order to generate returns as interest rates traded at historically low levels and billions. government bonds traded at effective yields below 0%.
“Now there is a great alternative,” said Rieder. “And by the way, it’s really attractive.
At the start of 2018, six-month T-bills were yielding 1.53% while two-year T-bills were trading at a yield of 1.92%. At Friday’s close, the six-month bills were trading at a yield of 2.19% while the two-year bills were at 2.69%.
And this increase in the nominal return that investors can get by buying assets considered to be the safest in the world alters a huge set of assumptions investors made in the post-crisis years, when easy monetary policies were prevalent. applied almost uniformly around the world.
“So if you think about it,” Rieder said, “I could buy two-year Treasuries at a yield of 2.62% today and I don’t have to take any credit risk, I don’t don’t have to take yield curve risk, I don’t need to take long term interest rate risk, and I can do that… and I can go over a 3% spread and I can sleep well. night? I feel pretty good [about that]. “
“One of the most interesting economic growths we have ever seen”
Yahoo Finance spoke to Rieder on July 27, just hours after the BEA reported that the U.S. economy grew at an annualized rate of 4.1% during the second quarter of 2018.
“This is one of the most exciting economic growths we’ve ever seen as you get this amazing growth spurt today,” said Rieder. “Think about it, over 4% of real GDP and over 6% of nominal GDP. That’s a pretty impressive number.
But that growth spurt is unlikely to continue beyond this year, according to Rieder, forcing the Fed to slow its pace of interest rate hikes from 2019.
“We think [the U.S. economy is] will end the year with growth well above 3% for the year, ”said Rieder. ” It is really impressive. But part of what happens is you get increased capital spending based on the tax bill encouraging businesses to do it … But it creates something really interesting. This means that you are going to grow taller very quickly and then you are going to start to slow down.
“This is where the Fed is in a bit of a sticky situation,” Rieder added. “So they’re going to move. We believe they will raise rates in September and again in December. But then they’re going to have to think about an economy that might slow down from these pretty impressive levels today. “
Markets currently expect the Fed to hike interest rates two more times this year and the Fed’s dot chart suggests three more rate hikes are coming in 2019. That would place the effective rate of Fed Funds north of 3%, above the level the Fed is currently forecasting. prevail over the long term.
And the Fed placing its benchmark interest rate target above where it thinks long-term rates are likely to settle would officially make the Fed’s stance a policy it tries to restrain growth. economic and avoid inflationary pressures.
An economy that slows down on its own following the growth induced by the tax cuts we are benefiting from in 2018, could however encourage the Fed to stop before a frankly restrictive policy position.
This scenario described by Rieder sets up an economic quagmire for President Donald Trump to potentially navigate the second half of his presidential term.
On Friday, Trump said his administration had “achieved an economic turnaround of historic proportions.” Trump added that “the most important thing is that these [GDP numbers] are durable. It is not a one-off shot. I happen to think we’re going to do extraordinarily well in our next report… I think the numbers are going to be exceptional.
Earlier this month, however, Trump criticized the Fed’s policies, claiming the Twitter that, “Tightening up now hurts everything we’ve done.” The United States should be allowed to recover what has been lost due to illegal currency manipulation and ADB Trade Deals. Debt Matures and We Raise Rates – Really? ”
This tweet follows comments Trump made in an interview with CNBC when he said, “I’m not thrilled” with the Fed’s recent moves to raise interest rates. Since Trump’s election in November 2016, the Fed has raised rates six times. Last year Trump said in an interview with the Wall Street Journal that it favors a low interest rate policy.
While Trump told CNBC that his comments about the Fed were what he would feel as a private citizen and that he wasn’t trying to influence Fed policy, the conflicting realities of a U.S. economy where growth slows after the impetus for tax cuts wears off could see Trump get his wish.
“I think the long-term interest rate that’s close to equilibrium, in this economy, with these demographics… is closer to 2%,” Rieder said.
“So once you start to hit 2.5% -2.75%, I don’t think the Fed – especially in an economy that may start to slow down – is going to be pushed into thinking, ‘My God, we have to go faster, we have to go further. They will look at the data and determine; should they go further? But I think one wonders if they feel like they need to be restrictive.
“You just have to strike a balance and leave it there.”
Myles Udland is a writer at Yahoo Finance. Follow him on twitter @MylesUdland