rates and inflation, which means they are passed the point of worrying about rate rises. Yes, they may be worried about inflation, but many schemes have good protection. Many also have a pension cap often at 3% or 5% and the Retail Price Index at around 7%. Financially, at least, schemes are well looked after in that sense. Clissold: There are some interesting dynamics about that cap. We have had fundamental inflation worries driving the front end, but the back end has seen liability-driven investing hedges unwind, which is an interesting dynamic causing a curve inversion. It is something we look to take advantage of. Evans: The recalibration of inflation hedges is cropping up on agendas for trustee discussions. As inflation expectations approach the caps on pension increases, the nature of the hedge you need changes from being a real hedge to a nominal one. That is a hot topic. Clissold: The reaction function in developed market central banks is different to those in emerging markets. That feeds into our thought process. We own significant inflation hedges outside of the UK, which makes a difference to what we are thinking about and how we manage inflation risk.
What impact will central banks ending their bond buying pro- grammes have on the market? Nash: The Fed does not want to surprise the market. In 2018, they over hiked, there was not much inflation and the world was slowing. The whole thing blew up, so they had to do more quantitative easing. The Fed is more cautious, but this is the time when they need to go quickly. Now they are behind the curve in a sense because Consumer Price Index (CPI) inflation is a problem in the US, which is why the yield curve is flat. One thing I will say about the Fed is that waiting until the pan- demic ended was a good move now that the world is in such good shape. Now they need to front load it, which is what the markets have been pricing in, and get tightening because CPI is a problem. Thomas: Will they unwind their balance sheet? Nash: They want a weak dollar and a steep curve. So, they do not want to do too much purely at the front end. They will do dou- ble the quantitative tightening they did in 2018 and hopefully get away with fewer hikes.
That is what they want in a perfect world, but it does not always go that way. Reedie: 2018 is an interesting comparison because you can feel the tension every time yields back up. We were comfortably over 3% back then and it did not end the cycle. Economically, the US is in a far better place now in terms of corporate balance sheets with personal balance sheets being supremely robust.
10 April 2022 portfolio institutional roundtable: Fixed Income
This is where they have a problem this time. They pivoted early enough to stop the cycle ending in 2018, but it was a massive mea culpa at the beginning of this year when they held their hands up and admitted that they were shockingly behind the curve. Markets are discounting mechanisms, and they savagely moved the front end. Thomas: It was interesting in January when the Fed released their principles of how they will unwind their balance sheet. It was a shot across the bows, but they are fearful of another taper tantrum so they are giving more guidance.
They do not want to shock the market as they did in 2013 when real rates moved aggressively. If that happens again, given the mountains of debt we have and the valuations in equity mar- kets, it would be a catastrophe.
The timing of unwinding their balance sheet is key and they still have 10 25 basis point rate hikes to get back to 2.5%. To 3% takes 14 hikes, so there is a lot on their plate.
The idea of assessing a country as good or bad and putting a moral judgement on
it is difficult. Celene Lee, Buck
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