With the US labour market at full employment, annual wage gains at 5% to 6%, and inflation at levels that are incompatible with the Federal Reserve’s target, we expect US policy rates to be raised to 3.25% to 3.50% by year-end 2022. Our view is that the Fed needs to engineer a significant economic slowdown, and most likely a recession, to bring wage pressures down.
We expect the ECB to enter on a less aggressive path for monetary policy tightening as it weighs up high inflation and labour market shortages against the downside risks to wages and economic growth.
In the near term, we see a risk that ‘peripheral’ eurozone spreads will underperform.
Investment-grade corporate bond valuations are now closer to their long-run averages and we expect credit to outperform government bonds from here. This will come primarily from the higher coupon, however, as opposed to a narrowing of spreads, so we are neutral within credit.
In emerging markets, 2022 should be the year of the ‘great normalisation’ of Asian spreads. We believe that outsized returns are likely to be driven by Asian high-yield bonds.
These are highlights from our quarterly fixed income outlook. Download the pdf.
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