September 24, 2022

  • All eyes are on the Federal Reserve to see how high Jerome Powell raises interest rates.
  • BlackRock’s Gargi Chaudhuri expects a 75 basis point hike and thinks rates won’t be cut until 2024.
  • She says investors should buy high-quality stocks in defensive sectors, plus inflation-linked bonds.

From persistent supply chain bottlenecks to collapsing technology stocks to boom European energy crisisthe market faces some pretty big disruptions in 2022. But so far, none of these headwinds have quite matched the trail of destruction left in the wake of rampant inflation.

That’s according to Gargi Chaudhuri, head of investment strategy at BlackRock’s iShares Americas unit, which currently manages about $2.13 trillion in assets. “Inflation will continue to be front and center of what drives markets,” she told Insider in a recent interview.

With Federal Reserve Chairman Jerome Powell doubling on his decision to tame inflation at last month’s meeting in Jackson Hole, Chaudhuri believes that A rate hike of 75 basis points looks likely at the September FOMC meeting. Although some investors have bid up 100 basis points, a rate hike of more than 75 basis points could unsettle the market before conveying the intended signal of safety.

“They want to sound firm, but not panicky,” she explained, noting that the Federal Reserve wants to allow the time lag generally required for its policy actions to filter through the economy. This means that the full extent of the central bank’s monetary tightening actions — including current ones reducing the balance sheet — and their effects on potentially slowing consumer demand or triggering a recession won’t be felt for at least several more months.

Don’t expect a rate cut until at least 2024

Given the central bank’s hard-line hawkish stance, Chaudhuri believes it practically exists there is no way the rates will be reduced anytime in 2023

“In the past, easing policy too quickly after raising it was not the right course of action,” she explained.

“Then, when and if the economy slows — and obviously we’re going to start seeing signs of that in the data — then they’re going to start lowering rates, and I would imagine the dot shows that happening in 2024,” Chaudhuri continued, adding that expects a rate cut of at least 50 basis points by 2025.

Buy high-quality defensive stocks and front-end bonds

As higher rates persist for at least the next year, Chaudhuri believes investors will continue to see certain “pockets of weakness” in the real economy.

“I think it’s becoming more difficult for certain parts of the market — particularly certain sectors of the equity market — but it’s also creating pockets of value for the fixed income market,” she said. In the coming months, she urged investors to prioritize protecting their portfolios from increased volatility.

Within fixed income, Chaudhuri highlighted that attractive opportunities for investors lie in shorter-dated bonds, which are currently highly leveraged, meaning investors will earn attractive returns just for buying and holding these front-end assets. Because of the yield curve remains inverted at this point, investors can actually earn higher yields on short-term bonds than those with longer maturities, while taking on less exposure to interest rate risk.

Specifically, Chaudhuri recommended investors consider short-term bonds such as 1-, 2- and 3-year US Treasuries, 1- to 5-year investment-grade corporate bonds and front-end inflation-linked bonds.

In terms of capital allocation, Chaudhuri advised investors to position themselves defensively by buying high-quality assets that are more recession-proof. “Low or minimal volatility stocks give you more downside protection, which reduces portfolio risk,” she explained.

By sector, the highest quality property belongs to health care and pharmaceutical industry, as both are traditionally more resilient to economic downturns and have strong cash flow generating power. Chaudhuri recommended these two industries over consumer staples, a sector that traditionally does well during recessions but may not necessarily fare better in this particular environment of high inflation, which she said could squeeze the company’s profit margins.

“Healthcare is more attractively priced and will still give you that quality, which means those companies are likely to do a little bit better even if inflation continues to be persistent over the next year,” Chaudhuri said.

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