From the studio

Video: Top of Mind in APAC | The current bull market and risks to watch (5 mins)
Video: Market Playbook | Why investors should revisit Europe (4 mins)
Video: The Deep Dive | Upgrading India (6 mins)

Thought of the day

US Treasury yields are approaching their recent highs in May as escalating hostilities in the Middle East and rising energy prices have rekindled inflation fears and concerns that the Federal Reserve may need to raise policy rates in the near term. The 10-year Treasury yield stood at 4.66% at the time of writing, just shy of the May peak of 4.68%.

The Iran-aligned Houthis attacked two Saudi oil tankers in the Red Sea as part of a naval blockade on Saudi Arabia, disrupting another vital waterway for global energy supplies. The US continues its strikes to “further degrade” Iran’s ability to threaten ship traffic, while Iran’s Revolutionary Guards warned that no tanker would be allowed to enter or leave the Strait of Hormuz without coordination with the Islamic Republic. Brent crude oil was trading above USD 97/bbl at the time of writing, having risen by over 33% since the start of this month.

But we continue to see scope for yields to drift lower over the coming quarters, and believe quality fixed income offers an attractive combination of income, diversification, and medium-term return potential.

Energy disruptions from the Middle East should ease over time. Investors should be prepared for further hostilities, with regional mediators’ ongoing attempts to bring the US and Iran back to the negotiating table so far proving unsuccessful. But US Secretary of State Marco Rubio has said the US remains open to a diplomatic solution, and Trump this week claimed that oil prices will go down, saying “just give me a little time.” Our view remains that the US and Iran will eventually seek a path toward a diplomatic framework as economic pressures mount, and that oil prices could return to levels that would keep inflation under control.

Price pressure should continue to moderate. Despite the flare-up in geopolitical tensions, inflation expectations remain lower than their recent peaks. The 10-year breakeven inflation rate stood at around 2.25%, compared with 2.5% in May. The consumer survey by the University of Michigan in July also showed a decline in year-ahead inflation expectations, with five-year expectations holding steady at the lowest level since March. Separately, the June consumer price index showed that monthly underlying inflation, which excludes volatile items like energy and food, fell for the first time since 2020. This supports our view that Fed policy is already sufficiently restrictive and that inflation should continue to trend lower without the need for a meaningful further increase in rates.

The next Fed move remains more likely to be a cut. Elevated AI infrastructure investment and the associated rise in asset prices have dominated US economic activity, with households on aggregate experiencing flat or negative real wage growth. With the personal savings rate nearing a historical low, and the labor market showing little evidence of tightening, we expect softer growth conditions to emerge in the coming months as fiscal support moderates. In our view, a more modest inflation environment, combined with potentially softer labor demand over time due to increasing AI adoption, should push the Fed to a less hawkish stance and a resumption of gradually easing policy rates to around the 3% neutral estimate.

So, we anticipate Treasury yields will fall over the remainder of the year, generating potential capital gains alongside attractive carry for bondholders. We think the two- to five-year segment offers the most favorable risk-reward profile. For a holistic and well-diversified fixed income allocation, we favor select exposure to higher-yielding bond market segments such as emerging markets or high yield, equity income strategies, and yield-generating structured strategies.