Fixed Income Focus June 2026

Summary

1) All eyes on oil prices: The US and Iran have reached a peace deal, which is expected to increase risk appetite as geopolitical tensions fall. Brent crude prices are expected to gradually normalize, aligning with our 12-month target range of USD 70–80 (see chart of the month).

2) The Fed feels the heat: After the job report, the Fed faces growing a pressure to address inflation risks. The next move will depend on two key factors: the trajectory of unemployment and the stability of inflation expectations. At this stage, we expect the Fed to remain on hold this year.

3) ECB hiked as largely expected: The ECB, operating under a stricter inflation-targeting framework raised its policy rate in June 2026 to counter inflationary pressures. We expect a wait-and-see approach thereafter.

4) Opportunities in core eurozone govies as long as the 10-year Bund remains above 3%: Positive stance on core eurozone govies. We favour maturities of 7-10 years.

5) Positive opinion on UK bonds:  Yields fell back after the political pressure started to come down. We keep a positive stance on UK government bonds. We keep our target on the 10-year UK government bond yield at 4.30%.

6) Selective opportunities in corporate bonds: We prefer EUR and GBP IG corporate bonds (Positive view) over USD IG bonds (Neutral view).

7) Upgrade high yield bonds from Negative to Neutral: The outlook has improved after a deal to end the conflict was announced, significantly reducing recession concerns. However, the expected return remains limited as risk premiums stay near historical lows.

8) Too early to come back on EM Bonds: The three primary drivers—valuation, currency outlook, and monetary policy expectations— are not supportive. We need to monitor the developments in the Middle-East and the expected re-opening of the Strait of Hormuz.

Central banks

ECB hiked rates in June as expected – Fed on hold

European Central Bank (ECB)

The June ECB rate hike was largely expected. Business activity showed signs of stabilization while high inflation persisted across the euro area. In May, headline inflation climbed to 3.2%, with core at 2.5% and services at 3.5%, reinforcing the ECB’s cautious tone in April’s meeting minutes. We also heard hawkish comments ahead of the 11 June policy decision. The Governing Council did not give much guidance regarding the meetings ahead. The communication focused on the persistence and on the outlook for inflation and its key drivers. Relative to March, the June ECB staff forecast showed lower growth and higher inflation.

Outlook: The longer-than-expected Strait of Hormuz closure further heightened inflation risks, intensifying pressure on the ECB. With its strict inflation mandate, the central bank was expected to raise rates at the June meeting. We expect a wait-and-see approach going forward. 

US Federal Reserve (Fed)

The FOMC minutes from April meeting highlighted that an "overwhelming majority" of members acknowledge a delay in inflation returning to its target. This assessment aligned with the stronger-than-expected May payrolls report, which reinforced confidence in the resilience of the U.S. economy but also heightened concerns about persistent inflation pressures. Markets reacted by pricing in a higher chance of a year-end rate hike. That seems quite aggressive, but the situation will need to be closely monitored.

Outlook: The Fed faces growing pressure to address inflation risks, as financial markets anticipate possible rate hikes later in the year. The Fed’s approach will likely depend on two key factors: the trajectory of unemployment and the stability of inflation expectations. For now, the outlook suggests the Fed will maintain its current policy stance throughout 2026.

Outlook: The Fed faces growing pressure to address inflation risks, as financial markets anticipate possible rate hikes later in the year. The Fed’s approach will likely depend on two key factors: the trajectory of unemployment and the stability of inflation expectations. For now, the outlook suggests the Fed will maintain its current policy stance throughout 2026.

Topic in Focus

Why the risk for US yields is biased to the upside over the longer term 

Fed balance sheet reduction: The Federal Reserve is expected to commence a modest, orderly reduction of its balance sheet—approximately $700 billion of reserves—with the runoff pace accelerating from 2028 onward and communicated clearly to the market. The term premium on the 10‑year Treasury is projected to increase by roughly 15 bps. That also suggests some upside for 10-year yields. Past episodes illustrate the sensitivity of rates to balance‑sheet signaling. In 2013, the “taper tantrum” caused real yields to jump about 100 bps after the Fed hinted at tapering QE. With a gradual and well‑communicated runoff, market disruption should however remain limited.

Higher deficit and debt: As the chart below shows, the U.S. deficit has risen steadily over the past few years, pushing the debt to GDP ratio to elevated levels (ex-Covid period). If no additional deficit were incurred, a key rule of thumb would be that economic growth should be higher than the average cost of existing debt (average coupon). 

Nominal GDP growth should be around 4-4.5% in the coming years. Since government issued new debt at varying rates, it’s crucial to calculate the average cost of debt. The average cost of debt is estimated around 3%. That suggests a stable path if there is no new deficits. Markets could however become more worried as the public deficit is expected to increase further from the current level. 

Volatility in inflation expectations: The term premium is driven largely by the volatility of long-term inflation expectations. The chart below suggests that this volatility has been on the rise. Even though the Fed is comparatively less inflation focused than other central banks, this environment could lift the term premium over the next year.

Conclusion: Despite those medium-term risks we anticipate a de-escalation of the conflict in the coming weeks. This should alleviate some upward pressure on U.S. yields. Our 12-month target remains at 4.25 %, though we will continue to monitor upside risks throughout the year.

Government Bond yields

Positive eurozone and UK

Positive Core Eurozone Long Dated Bonds: They remain attractive as long as the German 10-year yield stays above 3 %. The underlying assumption is that core inflation will not rise structurally, and second round effects should stay limited because firms have weak pricing power. Inflation breakeven rates are expected to fall again as the conflict de-escalates. Accordingly, we prefer maturities in the 7-to-10-year range.

Positive Stance on UK Government Bonds: Political uncertainty has subsided, and 10-year UK gilt yields have retreated. Since yields are still above our target level, we continue to keep a positive view on these bonds.

Neutral Stance on US Government Bonds: The US 10-year yield is hovering in a narrow band around 4.50 % after briefly breaking 4.60% mid-May. Inflation expectations, measured by breakeven inflation, remain relatively stable despite strong employment data. We maintain a target of 4.25 %, but, as discussed earlier, medium term risks are biased to the upside.

Too early to come back on EM Bonds

Emerging Market Local Currency bonds do not offer attractive expected returns

Emerging market (EM) growth stayed resilient in early 2026, supported by China’s steady expansion and strong performance in industrialized Asian economies like South Korea and Taiwan, where AI-driven semiconductor demand boosted exports. The oil shock proved more severe than in 2022, with supply disruptions pushing energy prices sharply higher. While food inflation remained contained, rising fertilizer, petrochemical, and transport costs threaten broader price pressures. Metal prices had already been climbing before the conflict, adding to inflation concerns.

Most EM central banks left rates unchanged recently, with only Colombia, Indonesia, and the Philippines tightening, leaving real rates positive across the region. Financial conditions tightened modestly for most economies, but Turkey and Egypt faced acute stress. We expect a quite gradual fall in oil prices even if the Strait of Hormuz reopens, reflecting prolonged supply constraints and geopolitical risk premiums. The potential for rate cuts is very limited. 

Neutral Stance: The three key performance drivers are: (1) valuation, (2) the dollar’s outlook, and (3) the potential for EM central bank rate cuts.

Valuation is unsupportive: As shown in the chart below (left), risk premia—measured by yield spreads—remain compressed. This suggests limited upside for future returns.

Currencies are range-bound: A weaker dollar would benefit EM local-currency bonds, but dollar upside appears capped at present.

Monetary policy support is fading: Inflation has reversed course and is expected to rise again across many economies. This outlook may shift in coming months, however, as we anticipate a de-escalation in geopolitical tensions and a gradual reopening of the Strait of Hormuz.