March 14, 2019 / 7:44 PM / 10 days ago

Fed could soon announce plan to stop shrinking balance sheet: Pimco

(Reuters) - The U.S. Federal Reserve could announce plans to stop shrinking its bond stockpile as early as next week and as late as June, Pacific Investment Management Co (Pimco), which oversees more than $1.66 trillion in assets, said on Thursday.

The corner stone on the Federal Reserve Bank of New York in the financial district in New York City, U.S., March 4, 2019. REUTERS/Brendan McDermid

The U.S. central bank meets on March 19-20 and is expected to again signal its intention to be patient before deciding whether to hike interest rates again. The Fed has been reducing the size of a bond portfolio it built up to stimulate the economy in the aftermath of the financial crisis.

The Fed’s assets surged to more than $4.5 trillion, but holdings now stand just under $4 trillion because the central bank stopped reinvesting some proceeds.

Pimco suspects Fed officials will announce that they are beginning to reinvest all the proceeds of their Treasury and mortgage-backed securities back into Treasuries and let reserves very slowly decline as currency in circulation grows, said Dan Ivascyn, group chief investment officer, and Tiffany Wilding, U.S. economist, at Newport Beach, California-based Pimco.

“This will give them roughly a year before reserves shrink to levels that will contribute to higher volatility in the effective fed funds rate,” Ivascyn said.

This year, Fed officials will be considering whether to move to a balance sheet composed exclusively of Treasuries and whether to actively cut the length of those investments.

“This also gives them time to set up and test a new repo facility, which they plan to use to act as a stronger ceiling on money market rates, and smooth out unintended money market volatility,” Ivascyn said, referring to how the Fed controls short-term borrowing costs.

Pimco expects the facility to be operational in the 2019 fourth quarter or following quarter.

Pimco also is forecasting the U.S. central bank’s balance sheet will decline to around $3.8 trillion, and for reserves to fall to $1.5 trillion, Ivascyn said.

Asked how Pimco is investing against this Fed backdrop, Ivascyn called fundamentals in the housing market “very strong,” which makes related investments attractive.

Ivascyn said housing-related investments will be far more resilient than their corporate-debt counterparts during next recession. “Post-crisis regulations have resulted in a very high quality mortgage market,” he said. “The supply-demand fundamentals are balanced.”

The $115 billion Pimco Income Fund, which Ivascyn oversees with Alfred Murata, posted inflows in January and February totaling roughly $5 billion, according to Morningstar data.

Reporting By Jennifer Ablan and Trevor Hunnicutt; Editing by Cynthia Osterman and Richard Chang

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