UBS says markets are pricing in more Federal Reserve tightening than is likely, after the 10-year Treasury yield broke above 5.1% for the first time since 2007. The bank expects one more hike in December, then a hold, while staying constructive on stocks and bonds. Higher yields have already lifted the dollar and pressured the Australian dollar.
The sell-off in US Treasuries has pushed the 10-year yield above 5.1% for the first time since 2007. UBS argues the investment backdrop remains constructive all the same, saying markets are overpricing further Fed tightening. Yields jumped by circa 15 basis points on Wednesday and extended their climb on Thursday. The S&P 500 fell a little under 1% in Wednesday's session.
Hot data and a weak auction drove the move
Three forces pushed yields higher. Oil prices climbed on renewed Middle East supply fears, economic data ran hot, and demand was weak at a $70 billion five-year note sale, which cleared at its highest yield since 2006. The S&P Global flash composite PMI rose above 58 in September, its fourth straight month of acceleration and the strongest private-sector expansion since July 2021. Input costs rose at the fastest pace in nearly four years as fuel and transport costs climbed.
Traders responded by leaning into a near-term hike. Fed funds futures now put the odds of an October increase at around 70%, compared with just under 50% a week ago, when the Fed lifted its policy range to 3.75% to 4%.
UBS sees the pricing as too aggressive
UBS's base case is one more hike, in December, followed by a hold. It notes that the median projection from policymakers points to steady rates through 2027, despite a hawkish tone from some officials. The bank expects inflation to ease steadily over the next six months. It points to an expected downward revision of around 0.2 percentage points to core PCE inflation in the Bureau of Economic Analysis's annual revisions later this month, and favourable base effects in the first half of next year.
Higher yields lift the dollar, pressure the Aussie
Higher yields support the US dollar, which tends to weigh on the Australian dollar. The RBA's widely expected hike on Tuesday gives the Australian currency some offset by keeping its policy rate higher relative to the US. On bonds, UBS rates fixed income as attractive, seeing higher starting yields as a source of solid portfolio income, and sees tactical value in medium to long-dated high-quality bonds. The bank also forecasts S&P 500 earnings growth of 25% this year and 14% in 2027, citing solid economic footing and an AI investment tailwind.
Source: Investinglive
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