Despite persistent strength in the U.S. labour market with wages rising alongside robust job creation, US 10-Year Treasury yields are currently pricing in numerous cuts to interest rates as inflation tapers.
Various major U.S. banks also subscribe to this view with Goldman Sachs expecting 3 25bp cuts to the Fed funds rate in March, May, and June.
Bank of America also expects the Fed to start its easing cycle in March although Morgan Stanley doesn’t expect cuts to commence until June, a view also held by BlackRock.
While expectations of cuts in Australia are more subdued, largely due to the slower pace of rate hikes, many economists are expecting the RBA to begin unwinding in September 2024.
Yields to Trend Lower
We wrote previously that in Australia, rate relief could be coming in September 2024. Still, this unwinding will likely be slower than in other markets, especially given the RBA’s cash rate sits below the current inflation rate.
For this reason (and others), some economists are even predicting that the RBA will hike rates in February or March.
Governor Bullock has warned previously that the Bank may raise rates again depending on the progress of inflation.
Given projections expect the annual inflation rate to only reach the upper end of its target (2.9%) range by December 2025, rate hikes remain a possibility, especially if there is an upside surprise in inflation data.
“Whether the RBA will have the confidence to raise rates in February, or will be swayed by expectations that other central banks are going to be easing, is a critical question,”
Jonathan Kearns, Chief Economist, Challenger
2023 was undeniably a turbulent year for financial markets and this is expected to continue well into the first half of 2024.
However, with rate cuts currently expected in Australia in the latter half of this year (and earlier in the U.S. and elsewhere), now is a good time to review how investment portfolios are positioned.
An emerging risk for investors who have and continue to take shelter in cash is that they may start to see returns dwindle. As such, investors may want to consider extending duration in this environment to gain exposure to longer-dated securities.
Corporate fixed-income securities can provide investors with an enhanced income stream relative to cash while also offering greater portfolio stability compared with equities. These characteristics position the asset class uniquely within investment portfolios.
Additionally, with interest rates the highest they have been in over a decade, the returns currently on offer are undoubtedly attractive.
If you are interested in learning more about how corporate fixed-income securities work and how they can be generally used within investment portfolios to complement other asset classes, contact an adviser at the Australian Bond Exchange today.
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