Expectations for higher short-term rates are the most elevated in three years, underscoring the perception among market participants that hawkish central banks represent the biggest risk to the outlook amid soaring inflation.
That was one takeaway from the December vintage of BofA’s Global Fund Manager survey, out Tuesday.
“Short rate expectations [were] a net 86%,” the bank’s Michael Hartnett wrote, in the color accompanying the visuals from this month’s poll, which garnered responses from 371 panelists with a combined $1.1 trillion in AUM.
A corollary was another decline in expectations for curve steepening. The net percentage of investors anticipating a steeper curve is now just 5% (figure on the right, above from BofA), the lowest since February of 2019, when Jerome Powell’s famous dovish pivot was still in its infancy.
Investors have almost uniformly come to regard monetary policy as the only risk that matters. Never mind that policy is a function of the very same risks market participants are tempted to ignore.
The problem isn’t really that no one cares about the pandemic or the macro. Rather, the issue is that forecasting beyond next week (let alone next month or out six months) is impossible due to the sheer amount of ambiguity around inflation, the virus and labor market frictions. So, traders have simply given up on that, and taken to betting almost exclusively on monetary policy.
Things have been heading in that direction for quite a while. Markets have spent the last dozen years decoupling from their traditional drivers to become almost solely a function of policy expectations. As Deutsche Bank’s Aleksandar Kocic put it last month, the disconnect between 10-year US yields and inflation suggests “market variables have achieved their autonomy from the economic fundamentals and their disagreement can no longer be interpreted as a temporary dislocation that is likely to converge, but emergence of an altogether new framework.”
Hence the obsession with the Fed’s newfound hawkishness and attendant concerns about rate hikes being pulled forward by an accelerated taper. The BofA poll showed nearly half of investors expect the Fed to hike twice in 2022, up from 39% in November. Those expecting a trio of hikes more than doubled from 8% last month to 17%. Just 6% see the Fed staying on hold next year, down from 13% in November.
The punchline is that, amid the angst, an increase in cash allocations ended up triggering one of BofA’s contrarian “Buy” rules (figure below).
“FMS cash [rose] to 5.1% as investors get more fearful on hawkish central banks,” Hartnett wrote, flagging the tactical signal.
“If the December FOMC is dovish [then] crypto, unprofitable tech, banks and EM would rally,” he remarked, adding that if it’s hawkish, as expected, “cash stays cash.”
The title of this month’s survey: “FOMCash.”
