We are also taking advantage of higher rates to gradually add a little interest rate exposure to the fund. The recent sell-off opened an opportunity to add back credit risk in the front end of the yield curve, though we remain a bit defensive relative to our historical norm. We are targeting higher-quality assets with spreads that have widened in sympathy with more credit-sensitive assets. Ivascyn: We have fine-tuned the portfolio with an emphasis on resilience. Q: Amid heightened uncertainty and increased volatility, how are we positioning the Income portfolio? In our view, the Fed will likely achieve its goals with a fed funds rate somewhere in the low- to mid-3% range, but the environment is very uncertain and we are not taking big risks on interest rate or Fed policy. Ivascyn: The markets are pricing in a federal funds rate close to 3.5% by the end of the year and peaking by the first quarter of next year. Q: What are our views on Fed policy rates? This trade-off makes a minor-to-moderate recession increasingly likely and impacts our views on interest rate and credit exposure.Īcross the income strategies, we run a defensive position in interest rate risk and own direct forms of inflation protection such as Treasury inflation-Protected Securities. There is also an increasing trade-off between central bank tightening to contain inflation and resulting weakness in economic growth, employment, and credit fundamentals. Although prices of some key commodities are declining and other price pressures have begun to dissipate, we believe inflation will remain a significant risk factor for investors, driven by uncertainty around the war in Ukraine, other geopolitical risks, and the evolution of COVID-19.
Ivascyn: Our base case view is that U.S inflation likely peaked in June but will remain elevated well into 2023, perhaps even 2024, before it trends down toward central bank targets. How are you thinking about inflation risk today and for the cyclical horizon? Q: Inflation risk is one of the key elements driving this repricing.
Yields have risen meaningfully, spreads have widened, and carry has increased, providing a potentially powerful source of return. The market’s dramatic repricing, however, in our view presents better long-term opportunities for active investors than we have seen in years. As the quarter progressed, though, their concerns migrated to the impact of policy tightening and geopolitics on economic growth and credit sector performance – concerns that persist today. Early in the year and into the second quarter, investors focused on inflation and U.S. Ivascyn: Volatility and uncertainty drove the second quarter sell-off. What drove the sell-off and has it changed your outlook? Q: In the second quarter, the Bloomberg US Aggregate Bond Index slid 4.7% and the Bloomberg US High Yield Index dropped 9.8%. Ivascyn discusses where he sees relative value for active managers in the current environment, and how the portfolio is currently positioned. Here, Dan Ivascyn, who manages the PIMCO Income Fund with Alfred Murata and Josh Anderson, talks with Esteban Burbano, fixed income strategist. The market sell-off presents attractive opportunities for active fixed income investors despite elevated volatility and recession risks. Many banks have historically high levels of capital and over the last several months spreads have widened more than we think fundamentals suggest they should.
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