Fed: Normalization of balance sheet will be smooth - Natixis

Now that the Fed Funds rate is almost halfway through its long term level (after another 25bps hike in June), the Fed is about to initiate the normalization of its $4.5 trillion portfolio, notes the research team at Natixis.   

Key Quotes

“We expect the beginning of the balance sheet normalization to be announced in September with the Fed pushing back the last hike of the year in December.”

“In short, the Fed will keep this process as simple and smooth as possible. The normalization of the size of the balance sheet (towards $3Tr) is going to take a long time and the normalization of the composition even longer. Barring any adverse development, we would have to wait until 2021-22 at best.”

“The normalization of Fed’s balance sheet will be smooth. It will be associated with further but prudent interest rate hikes. These monetary measures will undoubtedly have an impact on US LT interest rates and the slope of the curve: interest rates will rise along the curve, and the slope of this curve will head north, at least momentarily. Every other things remaining equal, the yield of the 10y Tnote could be back close to its beginning-of-the-decade level towards 3.50% in the near term. This monetary policy normalization will also increase real interest rates after 3 decades of  negativity.”