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Monthly Investment Outlook: Long-term bond yields close to cycle peaks

Wells Fargo Investment Institute - November 2022

Presenter: Luis Alvarado, Investment Strategy Analyst, Wells Fargo Investment Institute


In the past five Federal Reserve (Fed) tightening cycles since 1990, U.S. Treasury yields have peaked a few months before the end of the tightening cycle but did not begin a clear declining trend until the tightening cycle was over. Although we acknowledge that the Fed’s tightening cycle is still not over (given the Fed’s intention to continue to increase policy rates higher than previously expected), we do believe that long-term bond yields are close to reaching their cycle peaks. While it is always difficult to call a top or bottom in markets, especially given the anticipated volatility in the last weeks of the year, we are seeing signs that the economy could begin to weaken, while at the same time inflation starts to trend lower. This has also served as a precursor for lower yields historically.

On October 26, we updated our fixed income guidance and shifted allocations within the fixed-income maturity spectrum. We upgraded long-term fixed income to most favorable and recommended investors to increase duration exposure in their portfolios. Short-term bond yields (those with maturities below 2-years) are also attractive in our view. Investors may want to consider locking in a portion of their fixed-income portfolios at current yield levels, effectively implementing a barbell strategy by investing new money or redeploying maturing bonds or CDs into the long and short-end of the curve.

We understand the frustration from many fixed income investors that have dealt with negative total returns in the last 2 years back-to-back, in 2021 and so far in 2022. For 2023, we envision a period of recovery for bonds driven primarily by a decline in interest rates and supported by current higher yields available which provide a cushion. We believe this is a great time for investors to review their fixed-income holdings with an investment professional.