If the seven-week stock rally put Wall Street’s more bearish top-down equity strategists behind the proverbial eight ball headed into 2024, the concurrent bond rally did the same to some rates strategists.
The S&P 500 is currently above half a dozen Wall Street 2024 year-end targets, and some strategists have already marked their forecasts for next year to market. Just weeks after setting them.
On the rates side, the never-ending bond rally (fueled in part by what, on one bank’s estimate, was more than $195 billion in CTA buy-to-cover flows) pushed benchmark US yields meaningfully below some year-end 2024 targets. The Fed’s dovish pivot only exacerbated the situation.
As the figure below shows, targets from at least five big name banks imply higher yields this time next year versus current levels.
That, at a time when many still believe the US economy is unlikely to escape from the most aggressive rate-hiking cycle in a generation without a downturn and against a policy backdrop that’s virtually guaranteed to feature multiple Fed cuts.
Of course, every bank (including all those represented in the chart) has Fed cuts in their forecast. And there are plenty of decent arguments for why longer-end yields could actually end next year higher than where they sit today, the simplest of which just says the US long-end rallied some 100bps in the space of just six weeks, which means a lot of the bull case is priced in already.
Another argument says supply-demand concerns will persist in an environment where the buyer base for Treasurys has shifted towards price-sensitive investors, which should bias yields higher all else equal. Relatedly, it’s rational to expect structurally higher term premia.
Still another argument says r-star is higher, and that both the Fed and markets will come around to that eventually.
And then there’s the specter of US government dysfunction and a possible Moody’s downgrade. In the past, such events paradoxically engendered a bid for the US long-end (i.e., safe haven flows into debt issued by the very government whose credibility is ostensibly in question), but given the existential nature of the partisan rancor in D.C., investors may no longer afford the US that luxury.
All of that’s to say nothing of the possibility that the US economy doesn’t enter a recession, and that inflation remains stubbornly high, to the chagrin of overzealous bond bulls (and Fed doves).
Ultimately, though, I’d be nervous if I held a year-end 2024 10-year US yield forecast north of 4% right now. You’re already ~15bps in the hole, and while 15bps is just another day at the office in today’s roller coaster rates regime, there’s a ton of event risk in 2024, the balance of which, I’d argue, is still bond bullish, even if bonds are overbought in the near-term.
The latest installment of BofA’s Global Fund Manager survey showed a net 62% of panelists expect bond yields to be lower in 12 months’ time.
As the figure above from the survey shows, that’s a record. And it’s not close.
Part of that’s just expectations for lower inflation (eight out of 10 respondents in the same fund manager poll expect lower CPI) and part of it’s the end of the Fed’s hiking cycle, but I think it’s fair to say growth concerns are in play as well. Although participants’ growth outlook improved from November, it was far from rosy. A net 50% expect a weaker economy, and the top tail risk was a global recession (or a hard landing).
Note that fund managers are still very bullish on bonds. Their allocation moved up to a net 20% overweight in December, the largest overweight since March of 2009, when the S&P bottomed after the financial crisis.
“When asked ‘which asset class do you expect to perform best in 2024?’, 45% said ‘bonds,'” BofA’s Michael Hartnett remarked, in the color accompanying the December poll.
Fund managers were also asked to pick the best-performing asset if the Fed were to cut rates in Q1 of 2024. More than a quarter said the US long bond.
Suffice to say there’s some disagreement around the prospects for bonds in 2024. When you think about sell-side yield forecasts, it’s always worth recalling my favorite assessment from Morgan Stanley’s Matthew Hornbach who once said, “history has shown consensus estimates for Treasury yields are usually wrong.” “Everyone,” he wrote, in a 2018 note, “understands that accurate point forecasts rarely occur.”
