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This viewpoint suggests a prevailing expectation that the Fed will continue its easing cycle, even if the pace is slower than what some might desire.
The Fed’s signal and a shifting yield curve
The Fed’s signal of fewer rate cuts at its recent meeting introduces a layer of complexity to this outlook.The median view among Fed officials now suggests just a half-point of rate cuts in 2025, which aligns with Wall Street’s forecast for two-year yields, but also highlights the risk of a pause in the central bank’s easing cycle.Following Chair Jerome Powell’s emphasis on inflation as the primary driver for further rate reductions, the yield curve steepened on Thursday to its sharpest level since June 2022, as investors reassessed their positions in longer-dated debt.Tracey Manzi, a senior investment strategist at Raymond James, noted that “With the outlook for a shallower easing cycle, the front-end of the curve will track that. Any steepening that we get will be led by the long-end of the curve.”
Strategists’ forecasts
The median forecast among 12 strategists indicates that the yield on two-year notes will fall by approximately 50 basis points to 3.75% a year from now, after climbing nearly 10 basis points since the Fed’s updated economic projections on Wednesday.For longer-term, 10-year Treasuries, strategists expect the yield, which is currently around 4.52% as of Friday, to end 2025 at 4.25%—some 25 basis points lower than current levels.However, according to Noel Dixon, a macro strategist at State Street, “However you slice it, whether it’s real growth, inflation expectations or term premia, the long-end is going to be pressured,”, and he has also predicted that 10-year yields could rise above 5% in 2025.These projections factor in a combination of fiscal policy uncertainties and the Fed’s management of its Treasury holdings.A halt to the central bank’s balance sheet unwind, or quantitative tightening, could reduce the bond supply, increasing demand, and as Barclays team led by Anshul Pradhan wrote in a note “Even as the Fed is likely to continue lowering the policy rate, pulling front-end yields lower, many of the forces that argue for longer-term yields to remain elevated are still in place: a high neutral rate, elevated rate volatility, the inflation risk premium, and large net issuance amid price-sensitive demand.”Despite the looming uncertainty of President-elect Donald Trump’s trade and tax policies, Wall Street is largely aligning with the Federal Reserve’s outlook, anticipating a decline in short-term US Treasury yields in 2025.This consensus view suggests that investors are primarily focused on the Fed’s interest-rate policy, expecting a decrease in yields even as the future economic landscape remains somewhat clouded.
Short-term yields expected to drop
Strategists are largely united in their forecast for a reduction in the two-year Treasury note’s yield, which is notably sensitive to the Fed’s interest-rate decisions.They predict a decline of at least half a percentage point from current levels within the next 12 months.According to a JPMorgan Asset Management team led by David Kelly, “While investors are likely to be myopically focused on the pace and magnitude of rate cuts next year, investors should take a step back and recognize that the Fed is still in cutting mode in 2025.”This viewpoint suggests a prevailing expectation that the Fed will continue its easing cycle, even if the pace is slower than what some might desire.
The Fed’s signal and a shifting yield curve
The Fed’s signal of fewer rate cuts at its recent meeting introduces a layer of complexity to this outlook.The median view among Fed officials now suggests just a half-point of rate cuts in 2025, which aligns with Wall Street’s forecast for two-year yields, but also highlights the risk of a pause in the central bank’s easing cycle.Following Chair Jerome Powell’s emphasis on inflation as the primary driver for further rate reductions, the yield curve steepened on Thursday to its sharpest level since June 2022, as investors reassessed their positions in longer-dated debt.Tracey Manzi, a senior investment strategist at Raymond James, noted that “With the outlook for a shallower easing cycle, the front-end of the curve will track that. Any steepening that we get will be led by the long-end of the curve.”
Strategists’ forecasts
The median forecast among 12 strategists indicates that the yield on two-year notes will fall by approximately 50 basis points to 3.75% a year from now, after climbing nearly 10 basis points since the Fed’s updated economic projections on Wednesday.For longer-term, 10-year Treasuries, strategists expect the yield, which is currently around 4.52% as of Friday, to end 2025 at 4.25%—some 25 basis points lower than current levels.However, according to Noel Dixon, a macro strategist at State Street, “However you slice it, whether it’s real growth, inflation expectations or term premia, the long-end is going to be pressured,”, and he has also predicted that 10-year yields could rise above 5% in 2025.These projections factor in a combination of fiscal policy uncertainties and the Fed’s management of its Treasury holdings.A halt to the central bank’s balance sheet unwind, or quantitative tightening, could reduce the bond supply, increasing demand, and as Barclays team led by Anshul Pradhan wrote in a note “Even as the Fed is likely to continue lowering the policy rate, pulling front-end yields lower, many of the forces that argue for longer-term yields to remain elevated are still in place: a high neutral rate, elevated rate volatility, the inflation risk premium, and large net issuance amid price-sensitive demand.”
Trump’s policies and divergent outlooks
The looming uncertainty surrounding Trump’s tariff and tax policies could very well impact these market forecasts.According to Pradhan, “Higher tariffs and tighter immigration controls argue for slower growth but higher inflation,” which could further complicate the market outlook.Bloomberg Intelligence strategists Ira F. Jersey and Will Hoffman, stated that “A steady-state economy early in 2025 may cause the Federal Reserve to cut interest rates slowly, and potentially to only 4% on the upper bound. A major shift in the economy may be needed for the 10-year Treasury yield not to hover between 3.8% and 4.7%.”Morgan Stanley and Deutsche Bank currently represent the most divergent perspectives on the bond market.Morgan Stanley anticipates an “unexpected bull market” and foresees a quicker pace of Fed rate cuts, predicting that the 10-year yield will fall to 3.55% next December.Conversely, Deutsche Bank, which forecasts no Fed cuts in 2025, expects the 10-year yield to climb to 4.65%, citing strong growth, low unemployment, and sticky inflation.As a team at Deutsche Bank led by Matthew Raskin noted “We expect the main catalyst for our view to be a realization that inflation and labor market conditions warrant a more restrictive Fed path than currently priced.”More By This Author:Coursera Stock Price Analysis: Will This Edtech Giant Rebound?
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