Barclays_United_States_Interest_Rates_Nothing_to_fear

This document is intended for institutional investors and is not subject to all of theindependence and disclosure standards applicable to debt research reports prepared for retailinvestors under U.S. FINRA Rule 2242. Barclays trades the securities covered in this report for itsown account and on a discretionary basis on behalf of certain clients. Such trading interestsmay be contrary to the recommendations offered in this report.Please see analyst certifications and important disclosures beginning on page 9.United States: Interest RatesNothing to fearIncoming data suggest that the Fed faces little hurdles inmoving the policy rate towards neutral. Labor market risksremain squarely to the downside and underlying inflation iscontained. Meanwhile, consensus forecasts for budgetdeficits and term premium are still high. We remain longduration.The long end of the US Treasury market has again outperformed this week, with the curve bullflattening . Figure 1 shows that 2y yields were unchanged since Friday's close amid soft inflationdata and 30y have fallen almost 10bp. Figure 2 shows that over the past three months, US 30yhas rallied about 25bp, while the core European long end has sold off about 30bp, led byFrance, where an increase in political uncertainty has led to questions about its ability to fiscallyconsolidate (see here). The long end has sold off in the UK and Japan as well, where similarquestions prevail, with elections in Japan potentially creating a range of outcomes (see here). Incontrast, in the US, investors are coming around to the fiscal improvement that is underway.Risk assets were up over the week, as the markets see the Fed having room to cut to stabilizethe economy if needed.We have been recommending being long duration (via 5y5y USTs, entry 4.91%, current4.52%), given our views that markets are too optimistic about growth expectations and at thesame time have not fully reflected the fiscal improvement. We maintain the long duration view,as the market pricing of the path of the policy rate should still move lower, along with the termpremium.We believe the modal terminal rate expectations should move down as the market reassessesthe neutral rate, as well as the balance of risk, with higher likelihood of a more aggressivecutting cycle, as opposed to a shallower one. Contained forward inflation and ongoingweakening of the labor market argue for a further repricing. The Fed is likely to revise its dotsmaterially lower at the next week's FOMC meeting.Separately, markets have not yet fully internalized the fiscal improvement. Even if the SupremeCourt rules against the administration and the Treasury has to refund tariffs collected so far, therevenue stream is unlikely to be affected, as the administration can rely on other legalauthorities. If needed, it is also likely to rely on expanding the T-bill universe for one-timerefunds; long-end coupon size increases are not on the table, in our view, for at least thenext couple of years. Separat