Payden & Rygel: Economic commentary
From Growth Scare To Inflation Scare...And Back Again? Last summer, the bond market reacted to softer payroll prints, a rising unemployment rate, and downward payroll revisions by pushing 10-year Treasury yields to intra-year lows of 3.61% in September.
At the time, we were fielding questions about “emergency intra-meeting rate cuts” to stave off a recession. Today, we see the same conviction, but it's the other way around! All the talk is about economic “reacceleration,” upside inflation risks, etc. Our gut tells us that the market swung too far last summer and now has gone too far in the opposite direction. We continue to see moderate GDP growth (~2%), a cooling labor market, and inflation moderating toward the Fed’s 2% target as the year progresses, not a re-acceleration.
Rate Risks Still Skew Toward More Rate Cuts Than Priced In. With just 41 bps of cuts implied by the overnight index swaps in 2025, the market is underpricingthe risk of more easing ahead. On inflation, we expect core PCE to trend back near 2% on a trailing 12-month change basis by Q3.
The housing component of core PCE has been a lingering issue, but we expect normalization in 2025. On growth, the gentle uptrend in continuing claims for unemployment insurance, punctuated by this week’s cycle-high at 1.9 million claimants, suggests the risks for growth are titled towards the downside rather than a re-acceleration. After pausing in January, the Fed may cut again in March or May, ultimately cutting closer to 3.25-3.50% by year-end 2025.
Trump Tails Or Trump Tales? So far, Trump has delivered much talk and a flurry of executive orders. As of this writing, he has signed 26 Executive Orders (EOs). While the pace of his signings is rapid, all Presidents have used the pen to push policy. Trump’s average EO signed per year was 55 in his first term, slightly higher than the post-war presidents’ average of 52 per year.
Further, the EO route is a less durable and more limited form of policymaking. Executive orders can be thwarted by legal action, altered by legislative action, and ultimately reversed by the stroke of the next President’s pen.
Further, under the U.S. Constitution, presidents can only sign EOs that make policies within the executive branch's powers. Major policy shifts, like tax cuts, require more work, as Republicans have only a one-seat advantage in the House. Overall, what we’ve seen in Week 1 bolsters our view that significant policy changes--big enough to alter the economic trajectory outlined above--will take longer to play out and even longer to be implemented.
If The Fed Delivers Dovishly Absent A Recession, Risk Will Continue To Rip. We have been bullish on risk assets for a while, but we see scope for rates to rally AND credit spreads to tighten further. We know high yield bond spreads are at 17-year tights, but inflation moderation will set the stage for further rate cuts. The Fed does not seek to slow the economy or derail the labor market, so it remains biased to cut contingent upon moderating inflation (see Waller’s remarks last week). In addition, if the Fed surprises in the dovish direction, USD may finally find a top.