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UBS Warns of Potential Fed Rate Hikes to 6.5%, Eyes Inflation Risks

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Ticker Tea
April 16, 2024

đź“ť SUMMARY: UBS Group AG ($UBS) strategists, including Jonathan Pingle and Bhanu Baweja, are reassessing the potential for further Federal Reserve rate hikes, which could see rates reach 6.5% by mid-next year. This adjustment comes as recent US economic indicators show unexpected robustness, challenging previous expectations of rate cuts. Initially anticipating a substantial 275 basis point cut this year, UBS has revised this forecast down to just 50 basis points, citing the persistent strength of the US economy and higher-than-expected inflation levels.

The bank’s revised outlook, termed the "no landing scenario," suggests that inflation may not ease towards the Fed’s target quickly enough, warranting a return to rate hikes rather than the expected reductions. This shift could dramatically impact the financial markets, potentially leading to a significant flattening of the Treasury yield curve as yields rise sharply. Equities could also suffer, with projections of a 10%-15% decline, as the market adjusts to the heightened borrowing costs.

These projections follow a series of robust economic reports, including unexpectedly high US inflation figures and strong retail sales data, which have collectively cooled the initial enthusiasm for imminent rate cuts. Market sentiment has rapidly shifted, with traders now pricing in only 41 basis points of cuts by the end of the year, a steep decline from the 150 basis points expected at the year’s start.

UBS's analysis indicates that if the economy continues to overperform without a corresponding decrease in inflation, the financial markets could see substantial volatility. Investors might face increased risks in both government bonds and credit markets, leading to wider credit spreads and significant valuation adjustments across asset classes. This scenario underscores the delicate balance central banks must maintain in managing inflation expectations against the backdrop of economic growth.

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