Why investors can expect a dovish Fed

Investors will be watching the outcome of the Federal Open Market Committee meeting on March 19. And according to Robert Abad, product specialist at Western Asset Management in Pasadena, Calif., they can breathe a sigh of relief. He expects the Fed to continue its dovish tone and not raise rates—yet.

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Abad said in a Feb. 13 interview that the Fed “has finally come around and acknowledged that the underlying data around housing, autos and manufacturing in the U.S. warrant what they describe as ‘a need for patience.’”

The Fed’s more patient approach comes after chairman Jerome Powell’s statements last fall on U.S. economic growth caused Treasury yields to spike, Abad said.

“This was totally unwarranted and created a lot of fixed-income and equity market volatility, which obviously hurt investors’ portfolios,” said Abad, whose firm manages the Renaissance Multi-Sector Fixed Income Private Pool.

Stocks plunged in the fourth quarter, with the S&P 500 falling 11% in December and finishing the year down 6.2%.

After raising its key interest in December for the fourth time in 2018, to a range of 2.25% to 2.5%, the Fed held its rate in January.

The U.S. central bank has recognized the importance of global developments such as Brexit and the U.S.-China trade discussions, Abad said.

“This makes sense because the world is very interdependent,” he said. “If China slows down faster than expected, or we have a bad outcome with Brexit, this would clearly blow back to the U.S. in terms of weaker business and consumer confidence.”

And that’s why the Fed is “pivoting away from a predetermined course that was biased towards aggressively raising rates and finally recognizing the need for prudence,” Abad said.

As a result, he predicted the Fed would continue its dovish stance at the March meeting.

“The current string of economic data paints the picture of a U.S. economy that’s moving sideways at best, clocking around 2%, 2.25% growth,” he said.

In Q4 2018, the U.S. economy slowed to an annual growth rate of 2.6%. And at the Fed’s semi-annual monetary report to Congress in February, Powell predicted the U.S. economy would keep expanding but at a slower pace.

“In our view, that’s not strong enough for the Fed to continue hiking [in March],” Abad said. “It also doesn’t mean that we’ll see the Fed cutting rates anytime soon. If anything, we think all the noise around U.S. recession risk is a bit overdone.”

He said he expects the Fed may raise rates one more time by year end, but a single hike “wouldn’t be enough to rattle markets.”

In order for there to be ongoing hikes that would affect markets, the personal consumption expenditure (PCE) indicator would have to show signs of sustained inflation, he said.

U.S. inflation saw a 0.2% monthly rise in February, and was up 1.5% year over year, below the Fed’s 2% target for annual price increases.

“In such a scenario, markets would react negatively to the idea of even more rate hikes,” Abad said. “But faster economic growth isn’t necessarily a bad thing for global growth or corporations worldwide. So on one hand, the idea of faster growth would be a positive from a fundamental standpoint, but it’s really the idea of more rate hikes going forward that would be a risk for markets.”

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