Will There be a Second Wave of Inflation?
No, we expect Consumer Price Index (CPI) inflation will continue to moderate toward central bank target levels in 2024.
Authored by: TJ Scavone
2024 Outlook: Interest Rates
We expect that most major central banks will cut policy rates modestly due to our view that inflation rates will continue to decline. The modest cuts will shift policy rates from restrictive levels closer to neutral levels, which are neither restrictive nor accommodative. Given this view and our view that economic activity will weaken, we see opportunity in US long Treasury securities.
Should Taxable Investors Still Rely on Municipal Bonds to Boost After-Tax Returns?
Yes. Municipal (muni) bonds have recently outperformed taxable equivalents before taxes and the tax advantage of high-quality munis has grown as interest rates have gone up. We recommend a neutral allocation to high-quality munis in taxable portfolios.
Does Fitch’s Recent Ratings Downgrade of US Sovereign Debt Change Our View on Treasuries?
No, we continue to believe investors should hold US Treasuries in line with policy allocations. While the recent decision by Fitch Ratings to downgrade the sovereign credit rating of the United States added upward pressure on Treasury yields, we do not expect it will have a lasting impact.
Don’t Count Out Government Bonds Just Yet
For investors that typically rely on high-quality government bonds as a counterbalance in equity-heavy portfolios, poor recent performance, higher cash yields, and uncertainty about inflation are difficult hurdles to overcome. However, they are not a reason to underweight government bonds. The outlook for government bonds is more constructive, and we expect them to outperform cash over the next one to three years.
Should Investors Alter Portfolios in Response to Debt Ceiling Risks?
No. We think most investors should not alter portfolios based solely on debt ceiling risks. Instead, they should remain focused on the long term and rely on the diversification in their existing portfolios. But given the potential for additional stress in funding markets, investors should ensure they have ample liquidity to meet upcoming capital calls and spending needs.
The End of the Fed’s Tightening Cycle Nears
Today, the Federal Reserve raised the Fed funds target range by 25 basis points (bps), to 4.75%–5.00%, as expected, and signaled it expects at least another 25 bps of additional rate hikes will be necessary to bring down inflation. This announcement and the recent turmoil in the banking sector increase our confidence that the Fed is nearly done tightening.
Has Our Broad Investment Outlook Changed Considering the Recent Bank Collapses?
No. We continue to think investors should tightly manage risk by keeping equity allocations and bond duration in line with broad policy targets and resist the temptation to time the market.
Will Monetary Policy Become Less of a Headwind for Markets in 2023?
Yes. Markets will be less vulnerable to rising rate risk next year, as the aggressive tightening that has weighed on markets for much of 2022 has moderated more recently since inflation has slowed.
2023 Outlook: Interest Rates
We expect interest rates will increase in many developed markets, as implied by market pricing. But we think the Fed will hold rates in restrictive territory for longer than expected. We don’t believe any increases will prompt another European sovereign debt crisis.