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The timeline for a U.S. recession has been pushed out, but don’t get too excited.
The investing gurus at bond-fund giant Pimco say synchronized monetary policy easing by global central banks, a vital force for stabilizing international economic growth rates this year, has already made use of policymakers’ tools available for fighting the next recession.
These cautionary words are part of the fund manager’s annual macroeconomic outlook penned by its economic adviser Joachim Fels and its global fixed income chief investment officer Andrew Balls.
“Whenever the next economic downturn or major risk market drawdown hits, policymakers will have even less policy capacity to maneuver, thus limiting their ability to fight future recessionary forces,” they wrote.
The Federal Reserve, the European Central Bank and other equivalent institutions across the world lowered interest rates or engaged in asset purchases last year in a bid to limit the worst of the global economic slowdown driven by the trade war between the U.S. and China. With the imminent signing of a phase one trade deal between the two countries in view, many analysts say economic growth rates outside of the U.S. should start to steady.
See: Developed central banks expected to see biggest ‘synchronised easing’ since 2000
Yet with the U.S. economy in the eleventh year of an expansion, the longest on record, investors and economists fear many years of easy monetary policy in the form of low interest rates and bond-buying has also reduced the amount of firepower available to central banks.
Central-bank insiders, however, have vehemently disagreed that they are incapable of handling the next downturn. Over the weekend, former Fed Chairman Ben Bernanke insisted the Fed could employ forward guidance and quantitative easing to deliver the easing that was not possible with more interest rate cuts, suggesting such policies could provide the equivalent of 300 basis points of easing.
Read: Fed has the tools it needs to fight the next recession, Bernanke says
Fels and Balls don’t criticize moves by monetary policymakers to loosen financial conditions last year, but rather argue that the increased risk of a recession should “call for aggressive and preemptive action early on to nip them in the bud.”
Though, some have hoped fiscal policy could provide extra firepower, Pimco argued politicians were often constrained in the level of government spending they could deploy, and were often late to respond. That means central banks are usually the “first responders” against deteriorating economic conditions.
So what does this mean for investors?
Pimco recommends carrying a slug of long-term U.S. Treasurys, which could still rally if the Fed lowers interest rates. They also advocated holding long yen positions USDJPY, +0.21% for its safe-haven qualities.
Finally, investors should stay clear of the riskier corners in the corporate debt market. Bonds issued by highly indebted businesses were vulnerable to a sudden dip in the economic cycle and may struggle to find support from banks who may want to ration out their lending during a downturn.
“With speculative grade lending currently around 35% of GDP, stress across these sectors would be more than enough to contribute to a recession,” they said.
In markets, the 10-year Treasury note yield TMUBMUSD10Y, -0.29% was last seen at around 1.814%. The S&P 500 SPX, +0.14% and the Dow Jones Industrial Average DJIA, +0.12% were trading higher on early Wednesday despite an Iranian missile attack on Iraqi military bases housing U.S. troops.
