March Outlook
March 17, 2022  |  By Hank Cunningham

The Federal Reserve and the Bank of Canada have begun to remove monetary accommodation and there is more tightening to come. To date, there has been little impact on economic data nor has the geopolitical conflict fed into the mix. Indeed, the Fed has maintained a positive economic outlook and is forecasting the inflation rate to average out at 4.3% for 2022. Many central banks, including the Bank of Canada, the Bank of England and the ECB, will join the Fed in tightening.

It is reasonable, however, to acknowledge that growth, both domestic and global, will suffer somewhat. Consumer sentiment has ebbed but retail sales have held up. A major concern is whether capital spending is reduced or delayed. At the same time, the geopolitical landscape has produced wide-spread uncertainty, and even more inflationary pressure.

Real yields are improving but remain deeply negative. A combination of further increases in bond yields, plus some easing in inflation will result in less negative real yields. But, this has not happened yet.

Thus, we expect yields at all maturities to gain further with a 2.5% target for the bellwether ten-year U.S. note. Corporate bond yields will move up in at least a similar fashion and possibly widen further from Treasury yields.

Wage pressures are escalating and may prevent the inflation rate from falling back to the 2% level. Commodity prices have soared of late too. Long-term deflationary pressures, such as demographics and technology, will re-emerge eventually and help ease inflation. Overall, inflation will be slow to subside, with most forecasts estimating it to land between 4-5% this year.

It is likely that the Fed will be flexible in its monetary policy, owing to the uncertainty surrounding growth and the geopolitical conflict. Already, the market has discounted several rate hikes and thus markets are not likely to react in a knee-jerk fashion.

The significant flattening of the yield curve has given rise to recession fears. Bond market returns will thus continue to be disappointing.