Every so often, the market likes to believe in feel-good stories. The latest one went something like this: Kevin Warsh joins the Federal Reserve (Fed), backed by Donald Trump, who wants lower interest rates; then rates fall, the bond market celebrates, and everyone’s happy. The problem is that the market may be many things, but long-term naivety is not one of them.  

The idea that a new Fed chair would simply press a button and cut rates began to fade quickly. Because it’s one thing to change the pilot, but quite another to change the runway, the weather, and the control tower. The Fed isn’t a small business where the boss calls the shots and everyone else obeys: rates are decided by a committee, with votes, dissenting opinions, and well-trained technical experts. Warsh can set the tone, steer the conversation, and try to persuade, but he can’t impose a rate cut by decree. Above all, the environment isn’t helping: resilient inflation, oil prices on edge due to the Middle East, and a bond market that’s already holding its ground. The flattening of the 5- to 30-year yield curve shows just that: investors are betting on a Federal Reserve with less room to ease policy. Specifically, the “Warsh trade” on low rates has begun to deflate. 

The dilemma is stark: if Warsh cuts rates too quickly, it may look as though the Fed has caved in to Trump. And if the market buys into that interpretation, long-term rates could rise, not fall. In other words, the political cure could end up being worse than the disease. 

And what about Chile? Here, the situation is doubly challenging. If interest rates abroad remain high and the dollar strengthens, financing for emerging markets becomes even tougher. This comes at a time when the country is grappling with an uncomfortable debate: the Treasury would have to ask Congress for more borrowing amid the uproar over errors—or inconsistencies, depending on who you ask—in the fiscal accounts. That combination is no small matter: more domestic debt, tight external rates, and markets scrutinizing fiscal credibility.  

In situations like these, taking a long-term approach can be extremely costly. To manage these fluctuations, short-term fixed income emerges as a fairly sensible alternative: less exposure to rate spikes, greater liquidity, and better protection while the market decides whether Warsh is a firefighter, an arsonist, or simply another pilot caught in the same storm. 

Gabriel Haensgen

Portfolio Manager, Fynsa AGF Financial Funds