CIO of Fixed Income Robert Ostrowski, CFA at Federated Hermes Federated Hermes Limited shares latest insights on the fixed income markets, rates, inflation, and thoughts as it pertains to the FHI "Alpha-Pod" process, and the election.
“Historically, the last leg toward a given inflation target has often been the most difficult. Market participants, in anticipation of Fed action, tend to create an environment in both rates and spreads that make financial conditions easier than the target rate implies. A circular argument occurs, in which the market and policymakers try to anticipate each other’s moves. As the second quarter begins, the fed funds level, in place since July 2023, has not pushed inflation to complete the last mile from 3% to 2%. This is what keeps us from a long duration positioning. At the same time, real rates—at 2% as measured by the 10-year TIPS yield—appear to be fairly valued or even cheap relative to historical averages, discouraging us from a defensive duration position.”
“To offset, or diversify against, the corporate underweight, we have been overweight the mortgage-backed securities (MBS) sector as well as emerging market (EM) bonds. Neither of these has spreads as historically tight as U.S. investment grade and high yield. Due to a large percentage of discount coupons, the MBS sector is not nearly as negatively convex (i.e., not as much pre-payment risk) as is typically the case prior to past sell-offs. Rising oil prices are supporting EM, as is the sector’s reduced reliance on lower U.S. interest rates.”
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