BOC Prudential: The shift in monetary policy is favorable for the bond market, and bond yields may exhibit a relatively volatile trend

According to the Zhitong Finance APP, BOC Prudential Asset Management stated that signs of economic growth cooling and easing inflationary pressures provide a backdrop for central banks in various countries, particularly in Europe and the United States, to gradually exit tight monetary policies. This will create a favorable environment for the bond markets in the relevant regions. Meanwhile, under the further normalization of the Bank of Japan's policies, Japanese bond yields may face upward pressure more easily. Historically, policy shifts have often been beneficial for bonds, but the process is not always smooth. The bank believes that the market will continue to fluctuate, and investors should carefully examine the development of economic data and the ongoing geopolitical tensions.

Recent economic data shows that although there are some signs of a slowdown in the U.S. economy, it remains solid. Supported by strong consumption, the annualized quarterly GDP growth rates for the second and third quarters in the U.S. were 3% and 2.8%, respectively. Additionally, despite weak local manufacturing performance, data from the Institute for Supply Management (ISM) and the Purchasing Managers' Index (PMI) indicate a good trend in the local services sector. Meanwhile, although the unemployment rate rose slightly to 4.2% in November, non-farm payrolls and average hourly wage growth were both above expectations, reflecting the resilience of the labor market.

On another front, the easing of local inflationary pressures also provides the Federal Reserve with a backdrop to gradually exit tight monetary policies; after cutting rates by 50 basis points in September 2024, the Federal Reserve cut rates again by 25 basis points in November. However, earlier market expectations for the Federal Reserve to continue cutting rates in the future have receded, mainly due to Donald Trump potentially becoming president again (Trump 2.0). Trump 2.0, combined with the Republican Party controlling both houses of Congress, increases the uncertainty of the U.S. policy outlook: while under a unified government, new tax cuts and possible deregulation policies may have a certain offsetting effect, Trump's proposed stricter immigration policies and increased tariffs during his campaign could lead to a slowdown in growth. Meanwhile, if new tariff policies are implemented, inflation may rise, potentially causing the Federal Reserve to delay returning to a neutral policy stance, but the overall impact on the neutral policy rate remains unclear for now.

At the press conference following the November Federal Open Market Committee (FOMC) meeting, Federal Reserve Chairman Jerome Powell emphasized that the current federal funds rate is still well above the neutral rate. Additionally, some economic models, such as the Holston-Laubach-Williams and Laubach-Williams models, estimate that the actual neutral rate is around 3% under the assumption of a 2% inflation rate. Furthermore, the dot plot released by the Federal Reserve in September indicated that officials estimate the median long-term policy rate will reach 2.875%. Based on this data, barring any significant unexpected events, the view that the Federal Reserve will further cut rates in the future has been strengthened. In fact, by late November, the CME FedWatch tool indicated that market participants believed there was over a 40% chance that the Federal Reserve would maintain rates in December, with expectations for a 25 basis point cut exceeding 90%, suggesting that rate cuts have almost become a consensus in the market Since the Federal Reserve first cut interest rates in September, U.S. Treasury yields have rebounded from low levels, showing a significant divergence from past trends following rate cuts. Considering the Fed is expected to further implement easing policies in the future, the bank estimates that there is limited room for further increases in short- to medium-term Treasury yields. However, in light of the continuously expanding budget deficit in the U.S., the Treasury Department has announced plans to increase the scale of Treasury auctions. Since mid-2023, the issuance scale of U.S. Treasuries has exceeded $300 billion each quarter. Therefore, long-term bond yields are likely to exhibit more volatility in the future.

Regarding the credit market, the bank maintains a cautious stance, as current valuations seem to underestimate the risks of potential economic downturns and geopolitical uncertainties. Prudent credit selection and flexible management of duration will be key to strictly controlling the risks of bond investment portfolios