Morgan Stanley IM: Are We There Yet? No! But Not All the News Is Bad

Jim Caron, Portfolio Manager and Chief Fixed Income Strategist, shares his macro thematic views on key market drivers.

20.10.2022 | 08:24 Uhr

Jim Caron-20-10-22

The market is collectively trying to assess when the Fed will stop hiking rates i.e. Are We There Yet?
The timing of when the Fed may stop hiking is not only tethered to inflation falling, but to their prescriptive precondition to end the tightening cycle. But the recent CPI inflation report complicates things, where historically the Fed doesn’t stop tightening until policy rates exceed the inflation rate.
The problem is that inflation pressures are broadening into the service sector, particularly problematic for the Fed because service sector inflation is more structural than cyclical inflation - e.g. goods - and ultimately harder to control.
With inflation still rising, this muddies the view of where the terminal rate might end, adding a risk that the Fed may once again need to adjust higher than 4.75%, their forecast as of mid-September.
So when does the cycle end? It was thought the peak would be 4.75% in early Q1 of 2023, but this might go higher and be pushed out further, a risk that will weigh on asset valuations, as it is incorporated into earnings and discounted future cashflows.
Despite the risk, the investment implication is that although we may not have bottomed, we are getting close and finding well-valued assets to hold through the likely upcoming volatility.
The silver lining is that a strong jobs market keeps the economy from falling into a deep protracted recession i.e. Not All the News Is Bad.

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^{Risk Considerations}

^{Diversification does not eliminate risk
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creditworthiness of the issuer and general market liquidity (market
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