Core government bonds: 2024 outlook

We expect the 10-year US Treasury yield to fall from its 23 November level of 4.41% towards 4% in June 2024. This is because the US economy could experience a mild recession in early 2024, possibly leading to rate cuts by the US Federal Reserve (Fed) that would likely cause a steepening of the US yield curve. We expect the 10-year yield to rise slightly to 4.3% thereafter as the US economy recovers moderately in H2. Uncertainties about the budget deficit and the future supply of US Treasury securities could also put upward pressure on yields.

In the footsteps of US government bond yields, the 10-year German Bund yield is likely to decrease as the European Central Bank (ECB) is also likely to cut rates, possibly starting in June. We expect it to fall from 2.65% on 23 November towards 2% in H1 2024 before rebounding slightly to 2.3% by the end of next year.

To take advantage of the expected decline in interest rates, we remain overweight US Treasuries going into next year. For the same reason, we have moved from neutral to an overweight stance on core euro government bonds. We expect US Treasuries and German Bunds to generate positive, mid-single-digit total returns in 2024 given the decline in yields and comfortable coupons.

In an alternative scenario, we see a risk that the Fed does not cut interest rates at all in 2024 should recession be avoided and disinflation proves subdued. In fact, the Fed could even consider resuming its hiking cycle, potentially leading to a Fed funds rate of 6%. A relatively big increase in the term premium could also push up US Treasury yields if the fiscal trajectory deteriorates more than expected or if we see heightened uncertainty surrounding the US presidential election. In this case, the US 10-year government bond yield could reach 5% by the end of 2024.

While German government bond yields may also increase in this scenario (to 3%), a sharp economic slowdown is a greater risk for the 10-year Bund yield. This could force the ECB to cut rates earlier than expected, which would likely lead to the 10-year Bund yield falling below 2%. Similarly, a severe US recession could turn the term premium negative as US government bonds’ safe-haven status attracts investors again. In this scenario the US 10-year government bond yield could decrease towards 3.8% by end-2024.