Hani Redha

Welcome to this PineBridge podcast. I'm Hani Redha, Head of Strategy and Research for Global Multi-asset. And with me is Anders Faergemann, Head of Global Sovereign and Economics. And we'll be discussing the global rates and FX update. We've just concluded our strategy meetings for the month, and it's a month to be remembered. We've affirmed our soft-landing scenario. We've reduced the number of Fed cuts that we expect over the next 12 months, and we expect the US dollar to continue to be decoupled from rate differentials, but overall, I would summarize it as saying that there's a lot of talk about the death of US exceptionalism. We think those reports of this death are greatly exaggerated, and we think that perhaps the US may be less exceptional going forward relative to its recent past but will continue to outperform most economies. Now that's how I would summarize things. But Anders, please give us a sense of the key themes that we discussed and how we arrived at those conclusions and recommendations.

Anders Faergemann

Yeah, Hello Hani, and what we talked about is that we are past peak uncertainty, but we've had a lot to contend with the last six weeks, and some of these trends are still working themselves through the system. For example, the US tariff ceasefire has reduced the risk of a US recession, as you mentioned, but we still expect the hard data to show evidence of the slowdown that has already built in. However, we expect investors to look through that weakness, helped by an expected reversal in the survey and sentiment indicators. As you said, we affirmed our base case for a soft-landing, which can best be described as a US slow down with delayed Fed cuts due to short term inflationary pressures. But in many ways, it's still Goldilocks for risk assets, as you alluded to and we're no longer so optimistic on the US dollar.

The way I'd summarize the discussions in our investment meetings was a focus on three major themes, the size of the US term premium, the sequencing of policy announcements, particularly in relation to tax cuts and deregulation. And I'd certainly like to hear your thoughts on that Hani, and then, as you alluded to, the risk of increased FX hedging in US assets, which could lead to a weaker dollar.

So we're taking all those factors into account in terms of looking at the Fed and the dollar, and there's certainly a lot of divergence of opinion, but after recent events, we think, yeah, we're going to get fewer Fed cuts, especially in 2025 and maybe controversially, a weaker US dollar from current levels, but clearly not in a straight line.

Hani, turning to you, I know you're a big fan of dividing current trends and future conditions into cyclical and structural forces. I'd say in the current environment it can be difficult to distinguish between the two, but I’d like to hear your take on that. But first, maybe, can I get your takeaway from your recent business trip and how that plays into your risk assessment?

Hani Redha

I think the cyclical versus structural is a very good way to frame your thinking around both rates and effects and sequencing is really the key word to me, and as you mentioned yourself, we've started off with a lot of negative and very destabilizing policies out of the US, but from here while we wait for the aftermath of the uncertainty and the shock effect, what comes next, policy-wise, looks potentially quite positive, actually, when you think about the potential for further tax cuts and more fiscal stimulus.

And also, the deregulatory agenda is something that I don't really hear discussed in detail out there, and I think we should stay focused on it, because we think it's going to be quite a meaningful contributor to positive growth outcomes looking into next year. So the sequencing should actually be improving growth wise and that as you know, affects both the cyclical picture and then transitions us to thinking about the structural.

And on the structural front, you know I was in Australia over the last week or so, and I was taken aback by the extent to which there's a lot of concern around political developments in the US and the policy direction, which seem to set up a structural effect of capital flows looking to diversify away from the US.

I wouldn't sensationalize it as an exodus, but I would say that you could see some persistent hedging of the dollar and seeking to make portfolios more balanced by looking for opportunities elsewhere which I think is going to remain a structural theme, and obviously over the weekend, at the tail end of last week, we’ve had the news of the downgrade of the US credit rating. They all contribute to the sense that we need to embed some degree of risk premium into some risk US assets, which seems like quite a shocking thing for us, who've been around for a long time, but yes, I would say that those are some structural factors that we will need to contend with as well. But how do you see that affecting our 12-month forecasts from here?

Anders Faergemann

Yeah, so it doesn't really affect our immediate assessment of the risks and our forecast horizon. So, we've kept our rates forecast unchanged. So, the 10-year treasury yield forecast we now have at 4% so that's a bit off the current four and a half percent. And what we've seen really is a higher term premium, which, personally, I have a bit of conflicted thought around and I've sort of got a contrarian view on that. It's not really working out.

But why have we seen this rise in the term premium? I think there's a confluence of factors, such as fiscal sustainability concerns over inflation expectations becoming unanchored, and some in part, diminishing institutional strength in the US, with that resurfacing over Fed independence, this growing “sell America” concern, and as you mentioned, Friday's downgrade and all of these factors are playing a role.

I think a lot of these risks are either in the rear-view mirror or they are part of a much bigger structural regime shift, which may play out over a few years. I just don't see how a yield adjustment would be allowed by Scott Bessent at the moment, and indeed, the Fed could step in. So clearly, the market is very fearful of a non-linear event and may want to reevaluate its US Treasury hedge value.

But for the short term, as I say, I keep having this contrarian view. I think a lot has been built into the curve. So with that, Hani, I know your contrarian view on the equity market has been more successful than mine has been on the bond market, but maybe just round up on your sort of current assessment of risk, and where you see the dollar going,

Hani Redha

Sure Anders, and there's the contrary view that I've held is that this abandonment of US exceptionalism is exaggerated and understandable, but I doubt it will have any persistence to it, and we've seen a very rapid recovery of US equities outperforming the rest of the world, off the April lows, and it has completely reversed the losses that we saw in April, and I think that as we go through the rest of the year and the positive news that I was alluding to, the policy direction is going to improve.

It will raise the growth prospects for the US and a lot of these structural concerns I think can be alleviated when investors see that the US is back on its feet, outgrowing most economies, which will lead to a stabilization of these trends. So I think that's our assessment at this point, a lot of volatility in between, but any overreaction with yields backing up will present opportunities to be adding duration and seeing those term premia stabilize, and that's the overall direction that we're leading at this point.

Great. Thanks. Anders, that's all pretty clear and actionable. We'll be back next month for more information. Please visit pinebridge.com and until next time, thanks for listening

ENDS