Vanguard, one of the world’s biggest asset managers, is buying the dollar this week on the view that market bets on Federal Reserve interest-rate cuts are overdone.
The firm, which has $1.7 trillion in actively managed funds, closed a short position on the greenback that it opened in July because it expects the Fed’s easing cycle to be less aggressive than markets are pricing. That’s regardless of whether policymakers reduce rates by a quarter or a half point later on Wednesday, according to Ales Koutny, head of international rates at Vanguard.
“We’ve seen significant short positions built up on the dollar, but the data in the US remains robust,” Koutny said. “Unless data deteriorates significantly from here, we believe the Fed will deliver fewer cuts than what the market expects.”
The size of the Fed’s first interest-rate cut in four years has dominated bond markets for weeks. Wagers on a bigger move have gained favor after a report and commentary from William Dudley — Bloomberg Opinion columnist and former New York Fed President — suggesting policymakers could go for more aggressive action.
Koutny expects a quarter-point rate reduction on Wednesday and said the US economy doesn’t warrant cuts aimed at staving off recession. Swaps are pricing a 52% chance of a half-point cut, and a total of 114 basis points of easing toward the end of the year.
Vanguard is now slightly long on the greenback, and likes to bet on the dollar versus the Swiss Franc as it sees the pair rising to 0.90 from around 0.84 currently. It’s sticking to a long position on the pound, but against the euro instead of the dollar.
Koutny said the market is probably underpricing the extent of rate cuts by the European Central Bank. He’s put on a relative trade using short-dated securities in the US and European markets that pays out if investors trim bets on Fed easing or boost wagers on ECB cuts.
Koutny expects the spread between the two forward swaps contracts to go to minus 150 basis points from around minus 98 basis points now.
“We think in a scenario where global growth holds OK, there is too much priced for the Fed,” he said. “If growth deteriorates further, there is too little priced for the ECB.”
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