Image: NYSE logo, The ETF Exchange with Douglas Yones, HomeofETFs.com
Text on screen: Douglas Yones, Head of Exchange Traded Products, NYSE
Yones: Hello, and welcome to today's edition of The Exchange, brought to you by the NYSE. I'm Douglas Yones, your host. I'm joined today by David Braun. He is the U.S. Bond Portfolio Manager for PIMCO, and Rob Trumbull, a wealth advisor at J.P. Morgan Wealth Management. Gentleman, thank you for being here.
As a reminder, today's interview is for informational purposes only. The NYSE does not recommend investments or investment strategies.
David, I want to get right into this with you about inflation. The outlook is top-of-mind. We're hearing about it, we're reading about it. For all investors, what is PIMCO's growth forecast for 2021? And if you wouldn't mind maybe sharing a little bit of some of the key drivers that you're thinking about as we look towards a recovery ahead.
Text on screen: David Braun, US Financial Institutions Portfolio Management and ETF Portfolio Manager, PIMCO
Braun: Thanks for having me, Doug. At PIMCO we're actually very constructive on growth in 2021. We're calling for U.S. growth to be north of GDP this year, which, yes, is off of a very low base rate from last year where we shrunk by about 3.5%, but when you think about a 7% number on real GDP growth, that hasn't happened since the mid-eighties.
So this is a profound growth year. It doesn't really happen that often in developed economies, such a robust growth rate, and we're really seeing three main engines that drive that growth rate.
Image: TITLE – Strong recovery driven by fiscal, monetary and public health policies. Three graphs are shown: 1. TITLE – accelerating vaccinations. A line graph shows the cumulative vaccinations per 1m population increasing in the Euro area, UK and US. 2. TITLE – Significant fiscal support. A bar graph shows fiscal deficit forecasts (% GDP) for US, Euro area and UK in 2020, 2021 and 2022. 3. TITLE – Central banks stay the course. A line graph shows central bank policy rates (%) for DM and EM.
First is accelerated vaccine rollout and what appears to be a pretty successful vaccine rollout here in the U.S.
So the math there goes as we get more and more people vaccinated and the economy starts to more broadly reopen, both consumers and corporations feel a lot more confident spending their money. So that fuels up the release of the pent-up demand we've been hearing about for over a year now.
Second is very active fiscal policy. You see the deficits being run out of Washington. That is very powerful in propelling the economy forward with all that fiscal spending. And second is accommodative monetary policy.
We've got the Federal Reserve pegging the Fed funds rate at zero and growing its balance sheet to above $8 trillion with quantitative easing. That provides an economic backdrop where financial conditions are very accommodative. Those three factors, in our mind, lead to a very strong growth year in 2021.
Yones: So let's get back a little bit into the inflation. When you start to look at all those methods of growth, are there factors that drive inflation combined? Are those growth factors? Will they accelerate? How should we be broadly thinking about the idea of inflation?
Braun: So, look. We think we're in the midst of a multi-month period where inflation data is going to come in very robust and, quite frankly, higher than central banks targets. However, that said, we think it's largely going to be fueled by many one-offs or transitory, as the Fed calls them, drivers of that growth.
So we'll give you four drivers that are going to cause the next few months to really have elevated inflation [princ]. We saw this last month, and get ready to see it for the next coming months.
Image: TITLE – Inflation: Bumpy near-term path likely, rising longer-term uncertainty. Two charts show factors and impacts. 1. TITLE – Short term inflation head fake… BULLETS – Base effects, rebounds in COVID-sensitive sectors, supply chain disruptions and low inventories, commodity price recovery; but most of these are one-offs. 2. TITLE – but two-way longer term risks. BULLETS – Active fiscal policy, expansive monetary policy, deglobalization, still far from maximum employment, flat Phillips Curve/weak bargaining power, accelerating automation and digitalization.
First is the base effects.
That's economic jargon meaning that as you look at a 12-month window of inflation, if you've got the disinflationary months from second quarter of 2020 immediately after the coronavirus pandemic hit, that's going to be dragging up any 12-month [princ] because you've got such depressed numbers at the start of the 12-month window.
Second is as the economy reopens, the sectors hit hardest by COVID—so think about hospitality, travel and leisure, gaming—are experiencing significant inflation and fueling the near-term inflationary impulse higher.
Third is the supply chain disruptions and low factory inventories, as we've heard about, whether it's factories having been shuttered during the coronavirus, whether it's companies running their inventories incredibly low because they were worried about the pickup in demand. That's led to a shortage in a lot of key supplies, in a lot of key goods that we need. That's causing inflationary pressure.
And then finally we're in the midst of a big commodity price recovery the last 12 months where energy and agricultural commodities, as well as raw materials like lumber, have seen significant price rise. So that's causing the next several months of inflation high.
Now why do we think that's transitory? It's because if you look beyond the next few months we think the risks are more balanced to inflation. I'll give you three things that are [going to] cause inflation to kind of have a propensity to be higher and three that are going to cause it to kind of be lower.
First, on the higher side, active fiscal policy, as I already mentioned, and accommodative monetary policy are the first two. We get the math and the reason why people want to connect those dots. You print a lot of money and you run fiscal deficits. That could sow the seeds for higher inflation in years to come.
The third thing that could cause inflation to be higher longer term is this trend towards deglobalization. We saw this even before coronavirus happened, whether it was trade wars, tariffs, the desire to move supply chains and manufacturing more back home. That's inflationary.
But counterbalancing that are three powerful forces. One, we're still far from maximum employment in the U.S. We at about 6% unemployment right now. Before coronavirus we were sustainably, for a few ears, below 4, bottoming out at 3.5. So there's a lot of slack in the labor market.
Second, even when we were at maximum employment before coronavirus at that 3.5% unemployment, labor had a tough time bargaining for higher wages. So even if we get back there, which is not our forecast for another couple of years, it's not a guaranteed proposition that inflation is going to go higher because wages are going to go up.
And then third, the automation and digitalization of our economy is well under way. This was going on before coronavirus. Whether it's the Amazonification of how we consume as a retail society or the use of digital technology to make businesses and companies more efficient, that's disinflationary.
So when we add the longer-term ledger we think the risks are more balanced, and that leads to an environment where, after the next few months of high inflation princ, we'll probably trend back down towards inflation numbers more consistent with Federal Reserve and central banks targets.
We do acknowledge that, given everything going on here, there is uncertainty, and the [wings] of inflation have certainly been exacerbated where you could see a breakout higher or breakout lower, but our base case is for high inflation near term trending back towards Fed targets over the longer term.
Yones: So, Rob, I want to come back to you. In your role of making these portfolio allocation decisions for your clients, how conscious are they of this inflation conversation we're having, and are they making any demands from you as a result?
Text on screen: Robert C. Trumbell, Vice President, Wealth Advisor, J.P. Morgan Wealth Management
Trumbull: Yeah, Doug, thanks for having me. It's great to be with you, David. Look, at the end of the day a lot of our clients are corporate executives or business owners, and they're seeing increases in the input costs for their businesses. That's really how a lot of the conversations start for us with our clients.
I would say from an investment standpoint we're big believers in communication and keeping our clients informed. We send out a weekly note to all of our clients that is really digestible and helps them distill the latest key market drivers. And obviously there's been a lot of press about inflation lately. So it is something that's been on people's minds.
I would just share David's sentiment. We have a similar view here at J.P. Morgan. At the end of the day economic growth numbers, we expect them to dazzle over the next six months as the expansionary policy continues to play out.
But we do believe that some of the high inflation numbers that we're going to be seeing are somewhat transitory, as the Fed has outlined. We believe that the current spike should subside as the economy normalizes, for a lot of the same reasons that David just mentioned: the labor market slack and things of that nature.
We believe that we'll be looking at closer to the 2% average in the medium term that the Fed has outlined, but clearly it's something that is not unique in terms of view in the marketplace today. You look at the recent Bank of America fund manager survey. Sixty-nine percent of all asset managers predict higher-than-average inflation. So there's an expectation that the economy is going to run hot, but we believe a lot of that's already in the price.
Yones: As a reminder, you can find this episode alongside a lot of other episodes of educational content on our website home of etfs.com. David, Rob, thank you very much for joining us. That's a wrap on the latest episode of The Exchange, brought to you by the New York Stock Exchange, the home of ETFs.
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