(Citywire) - Bill Gross has called on Jerome Powell to get the Federal Reserve rate to 3.5% as quickly as he can, but then do nothing else that could potentially throw markets into panic.
In his latest market commentary, concisely titled ‘3.5% ASAP’, the bond market stalwart said his years away from the trading floor have offered him a ‘little more honest’ about the current situation.
‘First of all, it’s important to acknowledge that our domestic and global supernova represents a highly levered system, as investors have found out in the last six months. Raising interest rates to a “neutral” level must consider this much like a drug addict would consider the steps for a healthy withdrawal.
‘“Cold turkey” in this case is definitely out, no matter what Powell says about inflation being his “top” and nearly only policy consideration. This is not a time for Volcker-like policies. Raising rates too high, too soon, would not only threaten the long-term US economic outlook but that of the rest of the world via a too-strong dollar. So how high should rates go?
‘To answer this, I have analyzed prior tightening cycles via what is known as Bollinger Bands, a model which uses standard deviations from historical levels of Fed funds to determine how much and how fast the Fed can go to safely create a mild recession that in turn will gradually lower inflation. The brief answer in today’s economy? Stop at 3.5% but get there ASAP.’
So, what does this mean for investors? Well, Gross said there isn’t much they can do. He said buying bonds did not make sense in this environment, nor did equities, as earnings are likely to disappoint while not being very cheap in the first place.
‘Alternatives? Well Jim Cramer famously says there’s always a bull market somewhere but I’m straining to find one now. Be patient. 12-month Treasuries at 2.7% are better than your money market fund and almost all other alternatives.’
This thinking was set against the backdrop of the idea that a functioning credit-based system would need clarity on rate rises, fiscal spending plans and investor confidence. He said the rate rise aspect is the most pressing, as well as the most challenging for the majority of central banks.
‘The Fed and other central banks have struggled with this for decades employing and then discarding what is known as the Taylor Rule and a multitude of other historical aids to guide them. But rarely have they had to contend with such an uncertain outlook on future inflation which of course is critical in determining the future level of real and then numerical short-term yields.’
By Chris Sloley
July 13, 2022
