Macro

Wells Fargo Sees 4.4%-4.5% Yield in Bonds, Eyes Fed Cuts

Wells Fargo recommends intermediate-term bonds with up to 5% yield amid Fed's cautious inflation fight and rate cut forecasts.

By Max Weldon

5/16, 14:20 EDT
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Key Takeaway

  • Wells Fargo recommends intermediate-term fixed income, noting similar yields (~4.4%-4.5%) across 5 to 30-year maturities without added long-term risk.
  • Anticipates two Fed rate cuts this year and one in 2025, adjusting the target rate to 4.5%-4.75% by end of next year.
  • Highlights investment-grade bonds and specific ETFs as optimal for capturing attractive yields amidst expected rate cuts.

Fed's Rate Policy and Inflation Dynamics

The Federal Reserve's stance on maintaining higher interest rates for an extended period, as reiterated by Fed Chair Jerome Powell, underscores the central bank's cautious approach towards combating inflation, which has been falling more slowly than anticipated. Despite this, the consumer price index (CPI) for April showed a slight easing in inflation, providing a glimmer of hope for future rate cuts. Wells Fargo predicts two rate cuts this year and one in 2025, aiming for a target rate range of 4.5% to 4.75% by the end of next year. This forecast suggests a strategic shift towards intermediate-term fixed income investments, as yields on longer-dated securities do not significantly compensate for the risk.

Investment Strategies Amidst Uncertainty

Scott Wren, senior global market strategist at Wells Fargo Investment Institute, advises investors to focus on intermediate-term fixed income, highlighting the negligible yield difference between 5-year and 30-year Treasuries. With the five-year Treasury yielding around 4.4% and the 30-year at approximately 4.5%, Wren recommends other investment-grade fixed income such as corporate and municipal bonds. This strategy is aimed at capturing most of the yield without the added risk of longer maturities. Examples of intermediate-term bond funds include the Baird Aggregate Bond Fund, Fidelity Total Bond ETF, and Vanguard Total Bond Market ETF, among others.

Market Reaction to Economic Indicators

The April CPI report, indicating a 3.4% year-over-year increase, slightly below expectations, spurred a positive market reaction with futures tied to major stock indexes rallying and Treasury yields tumbling. This response was fueled by the anticipation of the Federal Reserve starting to cut interest rates as early as September. However, retail sales for April were flat, suggesting that consumers are feeling the pinch of higher prices, which could signal a cooling in consumer spending. This mixed economic data presents a dilemma for the Fed, which has been on hold since July 2023, as it seeks more evidence of inflation returning to its 2% target before considering rate cuts.

Street Views

  • Scott Wren, Wells Fargo Investment Institute (Neutral on fixed-income portfolio positioning):

    "Looking at 5-year out to 30-year maturities, the yields are nearly the same. We do not believe investors are getting paid for taking on the risk of longer maturities."