- Sticky inflation suggests Fed has little room to ease below 4%
- Persistent deficits warrant more yield to own Treasuries: BII
Investors should favor global bonds over longer-dated US Treasuries, with sticky inflation forcing the Federal Reserve to the sidelines next year, according to Jean Boivin, head of BlackRock Investment Institute.
“We see inflation not getting out of control, but not cooperating in a way that allows rates to be cut,” he told Bloomberg in an interview at BlackRock’s offices in New York on Wednesday. “This is not the beginning of an easing cycle. It is going to be an adjustment, a recalibration.”
Since the US central bank began easing rates in mid-September, two-, five- and 10-year Treasury yields have risen from around 3.5% to above 4%. The selloff has been accompanied by traders reducing the chances of sweeping cuts amid resilient economic data, with a little more than three quarter-percentage point cuts over the coming 12 months to around 3.7%.
Boivin sees “the Fed not having much room to cut below 4%.”
A number of Fed officials indicated this week that they are taking a measured approach to lowering rates next year toward a neutral zone of around 3%, with President-elect Donald Trump’s proposed tax cuts, de-regulation and tariffs that could spur better growth and inflation during his second term.
BlackRock’s research arm, which released its global outlook for 2025 on Wednesday, is underweight long-dated Treasuries “on both a tactical and strategic horizon” and Boivin said BII prefers owning US corporate debt, UK gilts and other bonds in regions outside of the US that have more scope for central banks to ease in 2025.
US Treasury 10-year yields have been very sensitive to surprises, revealing that the market is “reassessing long-term trends on the basis of short-term data,” and that helps “reinforce volatility.”
After testing a post-election peak of 4.5% last month, the 10-year yield found buyers and has been trading this week around 4.2%, with the market rallying Wednesday after a softer-than-expected read on service sector activity.
Boivin reiterated concerns about the rapid growth of US debt and persistent deficits and warned that the cost of servicing that pile will become an issue for markets, even as Scott Bessent, the nominated Treasury secretary has spoken about reducing the budget deficit to 3% of GDP over the next few years.
“The deficit story is on the sideline and there’s no constituency for austerity,” he said.
Boivin said he sees risks “from any spike in long-term bond yields.” He does not rule out a 10-year yield “more sustainably closer to 5% or perceived to be staying there more durably,” an outcome that would change the “budgetary arithmetic,” for the US and prompt investors to demand extra yield from owning Treasury bonds.
“There’s been also a hope that we are going back to a low-rate environment and so questions about debt servicing costs could trigger a term premium adjustment,” he said.
Other points of consideration for investors over the next year include:
- Bitcoin emerges as a diversifier amid the “erratic” correlation between stocks and bonds, says BII, which included the asset class in its outlook for the first time. Under a Trump presidency, a pro-crypto leader, the research arm expects Bitcoin’s distinct return drivers — including its finite supply amid growing demand — to make it less correlated with traditional risk assets.
- BlackRock this year launched its first spot Bitcoin ETF, which has amassed nearly $50 billion in assets. It’s one of the most successful ETF launches in history.
- BII says the “mega forces” of artificial intelligence, deepening geopolitical fragmentation, aging populations and the green energy transition suggest long-term trends keep shifting and lead to an array of different outcomes. That is different from the pre-pandemic era when there was a central trend for growth and inflation.
- The lack of a stable long-term trend “and an ever evolving outlook” requires “more weight on tactical views.”
- Investors should rethink their portfolios such as the traditional 60/40 strategy and include private credit and infrastructure.
- Private market assets are expected to double by the end of the decade to nearly $25 trillion.
- AI and a broadening of earnings growth is seen benefiting US equities. BII is overweight the US versus global peers such as European stocks. Japan stands out for corporate reforms and inflation driving pricing power for earnings.
Written by: Michael Mackenzie — With assistance from Isabelle Lee @Bloomberg
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