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“Fed will be a little slower to react when cutting rates”: Elaine Stokes of Loomis Sayles


The Federal Reserve is likely to halt rate hikes in June, but a strong easing cycle is unlikely as inflation remains above the central bank’s target, said Elaine Stokes of Loomis Sayles.

“We think the Fed will be a little slower to react when cutting rates,” Stokes, a senior portfolio manager at the nearly 100-year-old investment firm, said on the What Goes Up podcast. “The market is a bit ahead of itself here.”

Here are some highlights from the conversation, condensed and edited for clarity. Click here to listen to the full podcast or subscribe below to Apple Podcasts, Spotify or wherever you listen.

Q: You keep a close eye on the credit markets and there has been a lot of talk lately about a possible credit crunch. I’m curious what you think about macroeconomic conditions for credit right now.

A: That’s the big question of the day, and it seems to us that what’s happened and what we’re really seeing out of this banking turmoil is that we’ve seen proof that all of these moves from the Fed are finally working. But they are working to reduce people’s risk appetite for things like new technology, crypto, even some private equity. But we don’t see it in our daily life. We don’t see it to the extent that you would expect to see it in normal day-to-day borrowing. If stock markets keep telling us that regional banks are not safe, then regional banks and banks in general will continue to tighten their standards. And that’s going to start to hit those small and medium businesses.

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And that’s a space that we haven’t come to see the pain of yet. And when that happens, I think we all have a different view of what the recession will look like. We do not have a weak banking market. We have strong banks, and it’s a game of confidence, and we have to do something to crush that confidence — or it will start to affect the economy.

Q: It all comes back to interest rates and the path for the Fed this year. What is your overall picture of where the Fed and interest rate markets are going?

A: Because of what’s happening with the regional banks and the debt ceiling talks, I think the Fed will definitely pause at the next meeting. But longer term, we think there are some general secular trends that will keep inflation high — not necessarily at 5% levels, but I think it’s going to be very, very difficult to hit the target. We think that the Fed will be a little slower in cutting interest rates. We think the market is getting ahead of things a little bit here. I think the market is pricing one of those first two short-term items that are going horribly wrong, and the Fed needs to step in and really cut.

There’s what we call the four D’s — we have demographics working against us, we have de-globalization working against us, we have decarbonization working against us, and growing deficits. We have those four things that we’re all familiar with that are all potentially inflationary. And it’s going to be hard for the Fed to completely take its foot off the pedal. It just doesn’t feel like a strong cutting cycle is in our future.

Q: Where do you see value in fixed income?

A: What I love about fixed income is that you have to triangulate. We’re up over 5% on the short side, up less than 2%. And in recent years, any of us would see 5% as wow, that’s a nice healthy return. Let’s not forget that inflation is still around 5%. Then if you take on more risk, get involved in high yield, we’re talking 8.5% to 9% type returns. So that’s very attractive. So the yield level has become really interesting. Spreads have also widened much more than a year ago. We’ve almost doubled the spread levels we get from our tights. So that means we get a higher premium for taking on some risk.

Is it enough that we are paid to appear as if we are in a downturn or a recession? Not quite. But the difference right now is that the dollar price is lower. We live in a market where dollar prices for bonds have been way above average for a very, very long time. And now we look at dollar prices that index averages are close to 90 cents on the dollar. So not only can you buy that bond at 5% or 8.5%, but you also have the potential to increase those 10 price points if there is any positive economic news or specific news.

So when I look at all three together and really think about the technicals of the market — and when I talk about the technicals of the market, I really mean the lack of issuance — we’ve had very, very low issuances over the last years. Borrowers have gone private and that has made a big difference in the markets in the number of buyers looking for a product. So when I consider all of that together, I think there’s value in this market and it’s on the short end, yes. But we can also go down the risk spectrum a bit and pick up some nice low dollar priced bonds that have the potential to deliver a lot of additional returns.

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Joanna Swanson

Joanna Swanson is Europe correspondent at the Thomson Reuters Foundation based in Brussels covering politics, culture, business, climate change, society, economies and inclusive tech. With specific focus in breaking news, she has covered some of the world's most significant stories.