For the first time since Paul Volcker’s Fed of the early 1980s, inflation has accelerated so fast it’s become a political issue. Powell, speaking to reporters after the Fed’s meeting on Wednesday, acknowledged the central bank may have to jack up borrowing costs faster than the market anticipated to stop prices from spiraling higher.
Jensen doesn’t think the Fed wants the market to crash, just reset to a level where it’s more reflective of cash flows in the “real economy” and no longer a channel for inflationary pressures to build. He expects policy makers will be watching closely to see if lower asset prices have any effect on job creation.
One question Jensen raised is who’ll buy all the bonds that the Fed has been soaking up with quantitative easing. In addition to raising rates in March, policy makers are set to end the asset-purchase program that has inflated the central bank balance sheet by trillions of dollars.
Jensen said he figures the 10-year Treasury yield has to reach 3.5% or even 4%—up from less than 1.9% today—before private investors are ready to absorb all the government debt that the Fed has been monetizing.
In that scenario, with Treasury prices set to decline further, bonds fail as a hedge against stocks and the traditional 60/40 balanced portfolio is useless as a diversification tool. Jensen said a 1970s-style “stagflation” playbook is more appropriate, and investors need to increase their commodity holdings, trade out of U.S. stocks in favor of international equities and use breakevens to combat inflation.
“Expecting the environment to feel like it did over the past couple of decades is a big mistake,” he said.
This article was provided by Bloomberg News.