(Bloomberg) -- The surge in U.S. inflation is sending some of the biggest names on Wall Street into rethink mode, forcing them to recalibrate strategies that depended on bonds as a shock absorber against equity downturns.

Pacific Investment Management Co., the bond-investor giant that dismissed inflation as a “head fake” earlier this year, now expects price pressures to endure. Both BlackRock Inc. and DoubleLine Capital LP have brought forward their forecasts for the next Federal Reserve rate increase to next year from 2023.

Data this month showed the U.S. consumer price index increased a greater-than-expected 6.2% from October 2020, the fastest pace in 30 years. The report confirmed inflation as one of the most underpriced risks of 2021 and hardened concern that five years of steady growth and low interest rates is finally over.

“The short story is that Goldilocks is ending,” said Alberto Gallo, head of credit at Algebris UK Limited in London.

Bloomberg asked top money managers for their views on how to adapt to a period of resurgent inflation. Their comments have been edited for clarity.

Nicola Mai, sovereign credit analyst, Pimco

• Sees inflation uncertainty; expects it to drop toward central bank targets next year

“Inflation has turned out to be higher and more persistent than we and most other market participants and analysts expected at the start of the year. Still, we continue to expect a significant deceleration in coming quarters. This is in response to manufacturing supply bottlenecks easing. We also see scope for labor participation to increase, as government benefits are phased out. 

While recognizing that inflation uncertainty has increased, we continue to see the risk of a wage-price spiral as contained. Long-term inflation expectations remain well-anchored by the credibility that central banks have earned over the past few decades. After a meaningful boost during the crisis, fiscal policy in developed markets should turn towards consolidation from next year, which should limit the degree of government-led demand impetus.”

Elga Bartsch, head of macro research, BlackRock

• Sees a shallower Fed rate-hike path; favors developed-market stocks, TIPS

“Much of the recent rise in inflation is driven by highly unusual supply shocks tied to the post-pandemic restart of economic activity. These imbalances should gradually resolve over the next year. But inflation will settle at a higher rates than pre-Covid levels and above the Fed’s 2% target. We see a structural shift due to the Fed’s monetary policy reacting less to rising inflation than in the past under its new policy framework.

“We expect the Fed to start raising rates next year but the overall tightening cycle will be more muted than in the past and shallower than the market pricing indicates. We prefer developed-market equities over fixed income. A shift toward a higher inflation regime over the medium term keeps us underweight nominal government bonds on both tactical and strategic horizons, while we are overweight inflation-linked bonds.”

Greg Whiteley, head of Treasury trading, DoubleLine 

• Shifts Fed rate call to 2022 from 2023; short duration relative to their benchmark

“We are really concerned about inflation. Inflation forecasts on Bloomberg are rising but there will be a drop next year. If that proves out, the Fed will be reassured that they can continue with their policy stance. But it’s not certain we will see that drop next year. We are a bit short duration. Rates have room to move higher than where they are right now. It’s hard for me to say TIPS look like a great buy at this juncture because they seem pretty reasonably priced now for reasonable expectations for inflation.”

Alberto Gallo, partner and portfolio manager, Algebris UK Limited

• Expects inflation to settle “structurally above” Fed target; short emerging-market and U.K. credit

“The short story is that Goldilocks is ending. This is a great time to layer short positions. Credit overall remains nearly priced for perfection, on the assumption that central banks will always be there to support the market. But this assumption is centered upon the idea that inflation will be transitory.  

“While credit risk is a major driver of returns for junk bonds, rising rates will actually hurt them as this pushes up refinancing costs. With an increase in labor and commodity prices, that’s a double punch. We have a number of short positions in emerging-market and U.K. credits. U.S. high yields are vulnerable as the Fed might have to accelerate its tightening pace. However, consumer demand remains strong.”

Victoria Fernandez, chief market strategist, Crossmark Global Investments

• Wages and rents to remain sticky; short duration; cuts large techs; increases value stocks

“Wages and rents are two areas we think are going to be sticky in inflation and continue to push it higher. We are still in a labor shortage. We anticipate we are going to see rents move higher following the rise in housing.

“In our fixed-income portfolios, we’ve been short duration relative to our benchmark. If inflation expectations continue to grow we should see the longer end of the curve move higher. On the equity side, we’ve trimmed some of the large tech growth names and we’ve had and tried to build out a more balance portfolio with some more cyclical/value names.”

Stephen Jen, chief executive officer, Eurizon SLJ Capital

• Inflation driven by one-off factors; sees property as good hedges

“Gold has stopped moving higher, despite inflation. This may suggest gold is telling us inflation is not real or sustainable. Other assets, especially like crypto currencies, are still buoyant. That suggests some investors are treating them, instead of gold, as hedges against the indiscretions of central banks. Properties may also be good hedges, given the low rate environment and the prospect of investors shifting their exposures from stocks and bonds.

“This inflation surge is transitory in nature but not too transitory in terms of duration. The causes are not indefinite. To the extent that inflation is transitory in nature, what the central banks are doing -- not aggressively tightening into this phase of the recovery -- is correct. But in the event that the process becomes self-fulfilling as wages become de facto indexed to overall inflation, then the central banks will have made a policy error by tolerating this spike. At this point, I have a more innocuous read on inflation in the long-run.”

John Bilton, head of global multi-asset strategy, J.P. Morgan Asset Management

• Expects above-trend growth and transitory inflation; overweight equities

“We expect some of the recent supply-chain issues to ease over the next couple of quarters. Separately, as labor force participation picks up, we expect some limit to wage pressures. Certainly there are some risks; inflation in shelter and some other services categories is likely to be more enduring. 

“Our base-case expectation is that inflation drops a little more quickly in 2022 than the market currently expects, allowing the Fed to stay on hold in pursuit of its maximum employment goal. The big-picture story globally is that monetary policy is past its point of maximum stimulus. Rate hikes are approaching in many places but will likely remain accommodative for quite some time to come. We remain pro-risk, preferring to be overweight equities rather than underweight bonds.”

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