US front-end crash

Developed central banks face a daunting growth-inflation trade-off this year. This is the first time since the 70s that they have to tighten to push inflation firmly down, rather than merely keeping it under control. The market is now pricing almost 10 Fed hikes this year, vs. less than 3 priced when the year started. This massive repricing has caused a 10%+ drawdown in the US Treasury bond index (chart).

Such terrible bond performance may explain that global equity funds have seen inflows this year, despite the deterioration of the economic outlook (surging commodity prices, higher rates including mortgages (chart), weaker confidence etc). The market is now pricing the Fed funds peak above 3.25% in summer 2023.

We question whether the Fed can do that much without causing financial instability and a recession, instead of the desiredsoft landing. Expect economic reports to deteriorate, particularly so but not just in Europe. As such we suspect that the rise in long yields will moderate from here, and have turned cautious on risk assets (small UW equities, OW Credit but favouring defensive strategies). More in our quarterly 'Investment Views', due this week.