PIMCO Says “No Time For Extreme Optimism” In 2021

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By Kate Duguid

NEW YORK (Reuters) – Bond giant PIMCO expects the U.S. economy to return to pre-pandemic levels later this year, but warned of political and economic risks that could affect the recovery, including an earlier than expected retreat of fiscal incentives.

In its outlook for 2021 released on Tuesday, the California-based fixed income investor, who manages over $ 2 trillion in assets, predicts that US economic activity will peak in the second half of the year, before the recession. According to PIMCO, global gross domestic product will grow the fastest in a decade, aided by the global adoption of COVID-19 vaccines.

A decline in fiscal stimulus in the US, deleveraging in China and continued caution on spending, investment and attitudes in the US could disrupt the expected recovery and potentially hurt investors who have already priced in a recovery, PIMCO said in the report.

“Investors may have become too complacent, which is reflected in the bullish consensus positioning. As these risk factors underscore, we see this as a time for careful portfolio positioning rather than excessive optimism or risk taking,” the report said.

PIMCO’s commentary takes place amid a broad market rally. The promise of the coronavirus vaccine and hopes that Democratic Congress will boost spending have pushed U.S. stocks to all-time highs and corporate credit spreads to pre-pandemic levels.

The spread between two- and ten-year Treasury yields, the most common measure of the yield curve, rose to its largest level since 2017 on Monday, indicating expectations of economic growth.

Since the Senate is divided in the middle, the scope for passing economic stimulus programs remains very thin. Democrats in traditionally conservative areas could object to large budget spending plans, the report said.

The problem may not be confined to the United States, as governments around the world are at risk of “fiscal fatigue”.

Chinese companies, meanwhile, could seek to reduce their debt levels in 2021, scaling back their activities and potentially slowing credit growth and affecting industries that are heavily dependent on China, PIMCO said, such as telecommunications, automobiles and chipmakers.

The recovery also depends on the assumption that consumer spending, business investment and recruitment will boom once the economy emerges from the deadlock. Persistent cautious spending would hinder this, the report said.

PIMCO argues that despite interest rates close to zero and expected fiscal stimulus, inflation is unlikely to rise in 2021. Betting on rising consumer prices has pushed the 10-year TIPS breakeven inflation rate – which reflects expected inflation expectations – to its highest level since 2018.

Unemployment is expected to fall in 2021, although it will remain above pre-recession levels and keep prices low, PIMCO said. Low mortgage rates and falling rents will lower housing costs – which is 40% of the consumer price index, a key inflation metric.

Still, inflation is likely to be further away in the future, PIMCO said. The company sees other areas of investment in non-agency-backed residential mortgage-backed securities (RMBS), agency-backed RMBS, other structured products, some loans, and some emerging market government bonds.

(This story corrects the penultimate paragraph to say that unemployment is likely to fall, although it remains above pre-recession levels.)

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