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Monetising macro volatility in Trump 2.0
As a macro strategy risk taker, Russel Matthews is skilled in understanding policies and their impact on price action. With an interesting year getting underway, we asked him about likely monetary policy developments, trade tariffs, and positioning in bond markets.
What developments do you expect for interest rates and inflation in 2025, particularly with regard to the monetary policy of the ECB and the Fed?
We think that money market forward curves pricing expectations for the Fed and the ECB are close to fair value at the moment. However, the balance of risks in Europe lie to more cuts from the ECB, and the potential for the terminal repo rate to below 2%, whilst in the US we think the risks are to less cuts and even the possibility that the Fed does not cut rates again in 2025.
In the US, inflation will be sticky, especially if Trump’s tariff agenda is aggressive, and we see material increases in tariffs on Europe and China. The US economy is carrying good momentum into 2025, and the Trump economic agenda has improved sentiment in the US. There is more risk of growth upside than downside.
In Europe, the outlook is much more challenging and uncertain. Much depends on the election outcome in Germany, and how long the French government can stay in place. How the situation pans out in Ukraine is a big factor for oil prices and for sentiment in Europe. The range of outcomes here is much wider than in the US. Because of the lack of momentum in the European economy, and the high level of uncertainty, we think the risk is to more cuts rather than less.
What impact do you expect the planned US tariffs to have on the global economy? To what extent could Trump actually influence the Fed?
At this early stage, the range of outcomes from US tariff policy is extremely wide. In the early days of his Presidency, Trump has used the threat of tariffs as a tool to extract concessions on security, drug related issues, and immigration from his neighbours.
On one hand, the transactional nature of Trump’s actions, and his willingness to immediately back off from actually implementing tariffs can be taken as a positive. However, the fact that he has been prepared to threaten very high, punitive levels of tariffs on countries that are supposed to be US friends and allies is concerning.
Ultimately, the more damaging tariffs threat will come if, as we expect, Trump looks to use tariffs to generate revenue through the budget process as an offset to tax cuts. The executive order to investigate the establishment of an External Revenue Service (ERS) is instructive. If this occurs, the tariffs will be permanent and much more damaging in the long term.
Which fixed income segments do you think will be particularly attractive in 2025?
At the moment, we are fairly neutral on the overall, top-down outlook for duration in global fixed income markets. However, on a relative value basis, we have more conviction. We recently established a short duration position in US 10-year Treasuries versus a corresponding long duration position in 10-year German bunds. On a standalone basis, we continue to see upside pressure on Japanese government bonds as broadening wage increases and greater awareness of more persistent inflationary pressures cause the Bank of Japan to normalise monetary policy at a faster rate. We expect 10-year JGBs to continue rising towards 1.50%.
How do you rate the attractiveness of corporate bonds compared to government bonds?
In the near term, the technical in corporate bonds remains strong, with demand for new issues high. However, much will depend on Trump’s economic agenda and there are a wide range of outcomes here, so we are relatively neutral on corporate credit at this juncture.
You use a disciplined risk management framework that emphasises liquidity and downside risk mitigation. Which risk management strategies should institutional investors implement in the bumpy year ahead?
Markets will be more erratic, random, and chaotic now that Trump is in the White House. This needs to be considered in the context of risk management. At the individual position level, we need to be more cautious on entry levels, less greedy when considering profit taking levels, and take smaller position sizes. Risk positioning is likely to be more tactical in the short term than structural.
And finally, where are other market participants wrong at present? Which developments are not on their radar?
We think the Bank of Japan will hike more times than currently priced by the market. The strengthening of the yen is our number one macro pick.
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