Fixed Income Highlights
- Prepare for Liftoff... The March FOMC meeting provides the Fed its likely opportunity to prepare financial markets for the long-awaited—and debated—liftoff from zero interest rates. As we argued in our lead theme for 2015 — "All About That Pace" — what happens next will dominate the outlook for fixed income performance this year. For after liftoff the question becomes, what's next?
- ...by changing forward guidance. Fed Chair Yellen, in her semi-annual monetary policy report to Congress last month, provided much of the likely formulation for the evolution in the Fed’s communications, indicating that "the Committee will at some point begin considering an increase in the target range for the federal funds rate on a meeting-by-meeting basis. Before then, the Committee will change its forward guidance." Expect "patient" to be dropped and replaced with the key phrase “reasonably confident" from this line in her February testimony: “The Committee anticipates that it will be appropriate to raise the target rate for the federal funds rate when, on the basis of incoming data, the committee is reasonably confident that inflation will move back over the medium term toward our 2% objective." That ushers in inflation as the key to the outlook for "that pace" of normalization.
- Green Shoots in Europe. The ECB's staff forecast upgrades highlight the improvement in the European economic outlook. Though the initial market reaction to the announcement of QE has been to further compress bond yields, improving economic performance in Europe may eventually undermine these QE expectations already firmly anchored in prices. That suggests some rate vulnerability in and around Europe, including the back end of the U.S. rate curve.