Since Trump's victory, the 10-year U.S. Treasury yield has fallen below 4% for the first time, with rate cut bets brought forward to June

On Thursday, the yield on the U.S. 10-year Treasury bond briefly fell below 4%, reaching its lowest level since October last year (when Trump was elected).

The trigger was undoubtedly the heavy tariff plan announced by Trump on Wednesday, which imposes a minimum 10% tariff on all products exported to the U.S. and additional rates on countries with trade deficits. This unprecedented aggressive action quickly ignited market concerns about escalating global trade conflicts.

Additionally, the U.S. March ISM Services PMI index was 50.8, significantly below expectations, unexpectedly hitting a nine-month low, with employment severely impacted and the price index remaining high. Market worries about the U.S. economic outlook intensified, further accelerating the influx of funds into safe havens.

In this context, investors began to reassess the U.S. economic outlook and policy path.

Current market pricing shows that the probability of the Federal Reserve cutting interest rates four times this year, each by 25 basis points, has surged to 50%, whereas just a day earlier, this scenario was hardly considered. The timing for the first rate cut has also been moved up to June, whereas the market previously expected the Fed to act in July.

Brandywine portfolio manager Jack McIntyre stated:

"Currently, neither fiscal nor monetary policy supports growth; the stock market is declining, tariffs are taking effect, and tax policies remain unchanged, all of which combine to increase the risk of the economy falling into recession."

Stagflation Risks Emerge, Fed in a Dilemma

Not only in the U.S., but the European Central Bank has also joined the rate cut preparation team. Yields on European and UK government bonds have also fallen sharply, with the market betting that the European Central Bank and the Bank of England each have three more rate cuts this year. The global bond market is singing the same tune: slowing growth and a policy shift.

Although increased tariffs theoretically push up the prices of imported goods and exacerbate inflationary pressures, the market is clearly more concerned about the worst-case stagflation scenario of "prices rising while the economy collapses."

The inflation risks in the U.S. triggered by tariffs have led economists at Morgan Stanley to no longer believe that the Fed will initiate rate cuts this year. They have pushed back the expectation for the first rate cut to early 2026 and expect the terminal rate to drop to a range of 2.50% to 2.75%, well below the current 4.5%.

Analysts point out that the reason for delaying rate cuts is that the imported inflation risks brought about by Trump's new tariff policy will once again trouble the Fed's decision-makers. This judgment also reflects a key logical shift: although inflation has not completely dissipated, the risks to economic growth are becoming more complicated.

Not only has Morgan Stanley turned conservative, but Citigroup has also upgraded the rating of U.S. Treasuries to overweight. They believe that Trump's more aggressive trade policies than the market expected will significantly suppress U.S. economic growth and force investors to reallocate to safe-haven assets Bob Michele, Global Head of Fixed Income at JP Morgan Asset Management, stated:

"If nothing changes, we can almost say we are heading towards an economic recession. The current inflation is completely different from the post-pandemic period; this is not a sustainable inflation rebound, and the Federal Reserve can significantly lower interest rates. The Fed's terminal rate could even drop from the current 4.5% all the way down to 2.5%."

Bloomberg strategist Sebastian Boyd pointed out that investors are betting on future rate declines, despite high inflation expectations. This is not good news. Stagflation is the most challenging environment for central bank governors to navigate, but the message conveyed by the interest rate market on Thursday is that the employment aspect of the Fed's dual mandate will outweigh the inflation aspect.

Goldman Sachs, Barclays, Royal Bank of Canada, and Société Générale have all lowered their year-end forecasts for the 10-year U.S. Treasury yield. The reasoning behind this is very consistent: the economic outlook is uncertain.

Andrzej Skiba, Head of U.S. Fixed Income at BlueBay, a subsidiary of Royal Bank of Canada, reminded that in the coming weeks, negative headlines surrounding trade will continue to refresh market sentiment, while investors will keep a close eye on hard data to verify whether the economy is indeed cooling rapidly.

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