HomeBusinessFed rate hike to 6.5% is 'real risk' for UBS strategists

Fed rate hike to 6.5% is ‘real risk’ for UBS strategists

(Bloomberg) — The combination of strong U.S. growth and persistent inflation increases the likelihood that the Federal Reserve will raise rather than cut interest rates, pushing borrowing costs up to 6.5% next year, according to strategists at UBS Group AG.

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While the bank anticipates two rate cuts this year, UBS now sees a growing possibility that inflation will fail to fall back to the Fed’s target, triggering a return to rate hikes and a deep sell-off in bonds and shares will result. Markets have already scaled back their bets on policy easing as recent US data has shown surprising strength in the world’s largest economy.

“If the expansion remains resilient and inflation remains stuck at 2.5% or higher, there is a real risk that the FOMC will raise rates again early next year, reaching 6.5% Fed Funds by the middle of next year,” said UBS strategists including Jonathan Pingle. and Bhanu Baweja in a note.

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The call shows how major banks are coming to terms with the possibility that the most aggressive rate hike since the 1980s – with the Fed raising rates to 5.5% – may not be over yet. UBS has already tempered its aggressive view of a US cut of 275 basis points this year and now expects only 50 basis points.

The so-called ‘no landing scenario’ of more rate hikes would lead to a sharp flattening of the US Treasury curve as benchmark yields move ‘meaningfully higher’, and a 10%-15% drop in stock prices, it said. the strategists predicted.

The call followed stronger-than-expected U.S. inflation data last week, and came ahead of U.S. retail sales Monday, which also came above estimates. That has led to a series of hot data points, fueling concerns that inflation is taking hold. Traders drastically cut their bets on Fed easing to 41 basis points in December, down from 150 basis points at the start of the year.

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“Investors are in the early stages of worrying about an economy that may be running too hot,” the UBS strategists said. “In a high-inflation scenario, we expect both government bonds and credit spreads to sell off, resulting in a large drop in multiples.”

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