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View From the Investment Committee

What Higher-for-Longer Rates Mean for Investors

PIMCO Group CIO Dan Ivascyn discusses the key implications for bonds, stocks, and cash as central banks hold rates at elevated levels.

Text on screen: PIMCO

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Text on screen: Kimberley Stafford, Global Head of Product Strategy

Kim Stafford: Hello, I'm Kim Stafford, and I'm here again with PIMCO Group CIO Dan Ivascyn to give you an inside look at some of the recent discussions taking place within PIMCO's Investment Committee or IC. Thank you for joining us, Dan.

Dan Ivascyn: Thanks Kim.

Kim Stafford: The Fed has signaled that it's likely done raising interest rates, but it may take some time to cut rates until it has more confidence in the future path of inflation. What are the key implications for investors as they're weighing the outlooks for bonds, stocks and cash?

Text on screen: Daniel J. Ivascyn, Group Chief Investment Officer

Dan Ivascyn: Well, over the long run, we do believe that the fixed income value propositions still holds. After the selloff that we witnessed in 2022, during a portion of last year, we're at valuations that are nearly as attractive as we've seen in well over a decade. So from that perspective, bonds look quite attractive versus equities.

Text on screen: Potential for higher risk-adjusted returns in bonds versus cash

Images on screen: PIMCO trade floor

They also look to be at levels where investors will be rewarded for shifting from cash into high quality fixed income.

But in terms of Fed cuts, after the significant rally we saw last year across markets, we do believe that markets got a little bit ahead of themselves anticipating early cuts and significant cuts. The data has been mixed. Inflation data more constructive around the globe. But particularly in the United States, we've seen a lot of growth momentum, strength in just broad growth, strength in labor markets, even continued strength in housing markets.

So we do think although the inflation picture is improving, the Fed's going to be patient, They're going to want to see more progress on the inflation front or signs of economic weakening or they're going to stay on hold. And they very well could stay on hold for quite some time.

Kim Stafford: So the Fed is keeping rates elevated for now. What do elevated short rates imply for the investment opportunity set?

Dan Ivascyn: In terms of sectors, again, similar dynamic, consumer sectors, key segments of the corporate sector, investment grade and high yield borrowers in many cases were able to lock in very, very low rates. They don't have significant maturities coming for the next few years.

Text on screen: TITLE – Sectors experiencing rate sensitivity today: BULLETS – Commercial real estate, Senior secured loans, Private credit

But there are areas where we're seeing already a lot more rate sensitivity. Segments of the commercial real estate markets, the senior secured loan space. The private credit markets are almost entirely floating rate. In those segments of the market, particularly lending tied to weaker corporate entities, weaker property types, we do expect to see more strain and stress if rates stay here for longer and we don't get more immediate a rate relief that markets were at least romancing late last year. That's going to create some challenges, but also significant opportunity for investors as well.

Kim Stafford: In our 2024 outlook, we said that opportunities in global bond markets have been the most attractive we've seen in decades and could even outperform U.S. markets given greater economic risk. What are some of our favorite global opportunities we're seeing today?

Dan Ivascyn: Global bonds are back. We've seen with the selloff in rates around the globe and more economic fragility in some key areas of the opportunity set, not only attractive yields but prospects for positive price performance as well.

Economies like the United Kingdom, Canada, Australia, even sectors of continental Europe. So we do think that at least on a relative basis,

Text on screen: Higher-for-longer interest rates can create opportunities for high quality bond investments

Images on screen: The Federal Reserve

the longer rates stay elevated, the more potential risks to those economies that I just mentioned, that could create attractive opportunities for high quality bond investments.

So we do think investors should think about global investing. Higher quality emerging markets look quite attractive as well. And then because we're not out of the woods yet in terms of central banks being able to engineer a soft landing, we do think that investors should stay a bit up in quality, focusing on some of the higher quality types, a bit more complex segments of the bond market.

We really like agency mortgages. We really like asset backed securities. And then within the corporate areas, the fixed rate markets, up in quality tilts and investment grade on a global basis. Even high yield corporate bonds, up in the higher rating categories look attractive to us as well. And then there's going to be some great opportunities across private markets.

This repricing is occurring very slowly in response to higher rates. If we do get some economic weakening later in the year and elevated policy rates remain, we're going to see very attractive opportunities in deploying new capital across key segments of the private credit markets, including real estate. So, here today and now, take advantage of the higher yielding, higher quality segments of the market. Expand outside the United States if you have the flexibility to do so in some of those higher quality markets.

Text on screen: A diversified bond portfolio may lead to higher risk-adjusted returns

Images on screen: PIMCO trade floor

Diversification is back in bond markets and should be beneficial to returns. And then in the private segments of your opportunity set, be patient, but get ready for what we think will be some of the best vintages or vintage returns that we've seen in a very, very long time.

Kim Stafford: Well, thank you very much, Dan, and thanks to all of you for joining us. We'll see you next time.

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DISCLOSURE


All investments contain risk and may lose value. Investing in the bond market is subject to risks, including market, interest rate, issuer, credit, inflation risk, and liquidity risk. The value of most bonds and bond strategies are impacted by changes in interest rates. Bonds and bond strategies with longer durations tend to be more sensitive and volatile than those with shorter durations; bond prices generally fall as interest rates rise, and low interest rate environments increase this risk. Reductions in bond counterparty capacity may contribute to decreased market liquidity and increased price volatility. Bond investments may be worth more or less than the original cost when redeemed. Investing in foreign-denominated and/or -domiciled securities may involve heightened risk due to currency fluctuations, and economic and political risks, which may be enhanced in emerging markets. Mortgage- and asset-backed securities may be sensitive to changes in interest rates, subject to early repayment risk, and while generally supported by a government, government-agency or private guarantor, there is no assurance that the guarantor will meet its obligations. High yield, lower-rated securities involve greater risk than higher-rated securities; portfolios that invest in them may be subject to greater levels of credit and liquidity risk than portfolios that do not. The value of real estate and portfolios that invest in real estate may fluctuate due to: losses from casualty or condemnation, changes in local and general economic conditions, supply and demand, interest rates, property tax rates, regulatory limitations on rents, zoning laws, and operating expenses. Private credit involves an investment in non-publically traded securities which may be subject to illiquidity risk. Portfolios that invest in private credit may be leveraged and may engage in speculative investment practices that increase the risk of investment loss. The credit quality of a particular security or group of securities does not ensure the stability or safety of the overall portfolio. Diversification does not ensure against loss.

Statements concerning financial market trends or portfolio strategies are based on current market conditions, which will fluctuate. There is no guarantee that these investment strategies will work under all market conditions or are appropriate for all investors and each investor should evaluate their ability to invest for the long term, especially during periods of downturn in the market. Investors should consult their investment professional prior to making an investment decision. Outlook and strategies are subject to change without notice.

This material contains the opinions of the manager and such opinions are subject to change without notice. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.

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