(Bloomberg) — Some bets in the bond market are signaling that the inflation rate will fall near the Federal Reserve’s 2% target next year. More and more Wall Street asset managers say it’s a pipe dream.
Fund provider VanEck sees inflation remaining between 3% and 5% for years, even as the US slips into a recession. Invesco said the market is too optimistic that the economic downturn will limit price pressures. Citigroup Inc. said inflation is unlikely to fall while wages remain high.
Wealth managers are keen to avoid a repeat of 2022, when Wall Street’s top minds are blindsided by both the spike in inflation and the extent to which the Fed will have to raise rates in response. More companies are now joining BlackRock Inc., Bank of America Corp. and DoubleLine Group LP to warn that inflation will be even higher for longer.
“It will have peaks and troughs,” said David Schassler, head of quantitative investment solutions at VanEck, adding that a recession later this year could temporarily dampen inflationary.
“What happens when the economy recovers? We think inflation will bounce back to where it was before,” Schassler said. Higher energy prices will push inflation up again, he added.
Since 1960, it has taken an average of 12 years for inflation to fall to 2% or below after the US consumer price index crossed the 5% threshold, according to data compiled by VanEck. While the Fed’s target is on a price index for personal consumption spending, both metrics are closely watched by the central bank and investors. Bureau of Labor Statistics CPI-based inflation has historically run about 0.3 percentage points faster than Commerce Department PCE, with an even larger gap during the pandemic.
Schassler’s inflation range refers to both measures.
Anna Wong, chief US economist at Bloomberg Economics, said reducing inflation to 3 per cent by mid-2024 would be feasible if a recession kicks in in the second half of the year. But even at that level, much less than 2%, it won’t be easy, because there’s a cap on how much prices for goods, services and housing can continue to fall, she said.
To prepare for years of prolonged inflation, VanEck’s Schassler suggests abandoning the traditional 60/40 portfolio. Instead, he prioritizes a 50% allocation to stocks, 35% to bonds and 15% to real assets, focusing on gold and other commodities.
Invesco’s Jason Bloom also expects inflation – referring to both measures – to stay higher due to massive infrastructure spending in the US. Energy is likely to become more expensive as the United States adopts alternatives to fossil fuels, said the company’s head of alternative and fixed income ETF product strategy.
Bloom said short-term Treasuries that currently offer higher yields will serve investors well as inflation persists.
Stuart Kaiser, Citi’s head of US equity trading strategy, said investors will stay on the defensive longer through a mix of large-cap technology, industrial and healthcare stocks. healthy, as well as allocating plenty of cash, as inflation persists.
“We haven’t seen much evidence yet that inflation will get to the level the Fed wants, which clearly means they’ll need to change their forecast and potentially move higher,” Kaiser said. ” said Kaiser, pointing to the average hourly increase. earnings for April that he thinks the market has not yet priced in.
The stock market should be able to thrive even if inflation remains high, as long as it doesn’t go higher, he said. The company’s economists, he added, expect the core PCE to stabilize at a level above the Fed’s forecast.
Still, there are some investors who think inflation could eventually slow down from the Fed’s target. Liz Young, head of investment strategy at SoFi, said the recession could push inflation to 2% or lower, at least for a while. But the road to getting there can be brutal, she said.
“The chance of something else breaking is higher than inflation has just dropped and we are still alive and well,” Young said.