UBS predicts that the 10-year Treasury yield could fall to 3.5% the end of 2024, down from 4.3% at present. The firm believes that the Federal Reserve will implement two to three interest rate cuts next year, leading to a continued bond rally.
The forecast is based on Federal Reserve monetary policy, with the central bank expected to adopt a dovish stance. Already, market expectations of a potential central bank pivot have bolstered Treasury prices, reversing a significant sell-off that started in 2020 and ran until October. In fact, November was the best performing month for US fixed-income since 1985, with global bonds experiencing their best month since 2008.
UBS remains optimistic about further bond market gains next year. The firm believes the Fed has reached the end of its hiking cycle, with inflation cooling and the labor market easing. This, combined with a drop in excess savings, is expected to push inflation down further, allowing the Fed to lower rates.
Although markets are currently pricing in the odds of Fed rate cuts starting as early as March, UBS predicts that they are more likely to begin in July. Additionally, the decline in yields may not occur in a steady manner, as Fed officials have sent mixed signals about the future of monetary policy.
Concerns about the issuance of new Treasurys and potential weak bond auctions have also been raised. However, UBS believes that the risk of a failed bond auction is low, as future debt supply concerns are expected to be manageable. The firm also expects the Fed to intervene in the bond market to restore stability if needed.
In conclusion, UBS recommends high-quality bonds with a 1–10-year duration, particularly in the five-year segment. This includes high grade/government and investment grade bonds, as UBS expects bonds to continue to rally in the coming year.