Citywire + rated Balls, who manages several US bond strategies, said the key risk in the US, as well as for the global outlook, is undershooting inflation. He said core inflation forecasts in the US in the last couple of years haven't been good but he still expects mild growth.
‘We have a view of mild inflation in the US getting back to 2% over the next four quarters,' said Balls.
Meanwhile, UK bond expert, Amey said the core rate in Europe is around 1%, which is close to the US performance. He said the region's disinflation risk has abated, which is positive, but said it will be difficult to get the inflation rate back up again.
‘The inflation rate forecast of 1.7% by 2017 in Europe looks pretty tough to us.’ Amey said. ‘The main challenge is to get inflation expectations up again towards the 2% level.
Lower policy rates for the US
In the meantime, Balls said policy rates are going to be lower in the coming cycle than they have been in the past. He said a year ago the market was pricing the Fed getting to 4%. However, Balls said the Fed is now not being priced to get to 2%, given how front-end macro futures were being priced recently.
'The average Fed rate before 2008 was more like 4.5%. If you have 4.5%-5% policy rate then 2.7% five year forward would look wrong. Last time around the Fed got to 5.5%, so if that was going to happen again the markets would be very significantly mispriced.'
'But in our view if it is likely that they say the rate will be much lower, then this helps to explain the market valuations,' Balls added. He said forward curves are fairly normalised in terms of shape, although lower than they were a decade ago.
‘My favourite example is New Zealand, where, in the past, the yield used to be far higher, but they tightened the cycle and started easing,’ Balls said. ‘Around the world you can see the same phenomenon anchoring for credit and in broad terms anchoring for equities and equity valuations.’
Balls said the US economy is pretty robust and will continue to grow at 2.5% despite multiple challenges, such as emerging markets and China-related risks abroad and weaker inflation outcomes domestically.
Betting on European growth
Amey said, for the first time in a while, the outlook for Europe is good and its growth remains above trend. He said with the implementation of QE and stabilisation of some fiscal positions, Europe's economy is on the way towards a classic cyclical recovery with the private sector being a positive contributor.
He said the European banking sector looks less distressed than it was before and said that is why loan growth can be observed.
‘Our cyclical view of European growth was running 1.5% annualised and we think it can stay at that level,’ said Amey. ‘As a result this will be enough to keep the unemployment rate down even on the backdrop of the weak global growth.’