1-year Treasury rate forecast: Mixed data clouds outlook for Fed’s rate-raising appetite

Treasury bills have risen to historic highs through the year as the US economy fights decades-high inflation with hawkish monetary policy.

Will a 1-year treasury rate forecast see yields go higher, or will an impending economic slowdown see them hit their peak before the end of the year? 

What are Treasury bills (T-bills)?

Treasury bills, also known as T-bills, are issued by the US government to fund public projects like roads and schools. They vary in length up to the 52-week limit. There are also longer-term debts like the 10-year Treasury bill. Treasury bills can be purchased on the US government’s website.

As they are backed by the government, T-bills are regarded as low-risk investments. Accordingly, their returns are typically low.

T-bills see their interest rate, or yield, rise in response to several factors, usually on the basis of supply and demand. Their safety suggests they are popular investments in times of economic risk.

While they are a relatively safe investment, T-bills carry an interest rate risk, meaning that rising interest rates devalue the worth of T-bills currently held by investors. The 1-year Treasry rate forecasts can be affected when policy rates are increased by the US Federal Reserve (Fed), or as more demand floods in for the bills based on market risk.

In the current environment of interest rate rises by central banks, falling confidence in riskier assets like stocks, and an upward trajectory of T-bills in the past year, there is growing reason to fear interest rate risk in their investment. T-bills are also unable to keep up with current rates of inflation.

T-bills are priced based on their length of maturity, with longer-term bills priced higher to reflect the inherent risk that interest rates could rise in that time. 

But in that context, the 1-year Treasury rate’s current yield of 4.66%, which is higher than the much longer-term obligation of the 10-year Treasury bill, at 4.033%, makes it look like remarkable value.

Treasuries prices and yields history over the years

One-year T-bills fell at the start of 2022 alongside the Covid-19 pandemic. While investors initially fled equities as lockdowns began, widespread government fiscal stimulus and a slashing of interest rates by central banks soon saw investors return to riskier assets, setting off a historic bull run in the market that would last around 18 months.

As a result, T-bills were stuck around 0.1, falling as low as 0.04%, through most of 2020 and all of 2021.

But the value of T-Bills began to rise at the start of 2021, as inflation began to tick up and earnings seasons carried cloudy signs for investors. Russia’s invasion of Ukraine in February, which saw energy prices rise dramatically, cast further gloom on the market and forced investors to come to terms with the idea of endemic inflation. 

That has given way in the second half of the year to a campaign by the US Fed to tame price rises that hit 8.2% in September, according to the US Bureau of Labor Statistics.

The Federal Open Market Committee raised the federal funds rate by 0.75% to a target range of 3.25% in September, stoking fears of a recession as higher rates hurt confidence and spending. 

All in all, T-bills have risen by 4.2 percentage points since the beginning of January 2022, reflecting bearishness sweeping the financial market. They are up 0.6 percentage points in the last month as troubling signs of a future recession have increased.

Recent 1Y T-bill price action and key news

Investors appear to believe that rising T-bill rates will become increasingly attractive to investors.

The bearish environment has left fund managers, including Vanguard, encouraged by the continued viability of treasury yields, emboldening the 1-year Treasury rate forecast.

"The more aggressive the Fed goes, the closer it brings us to a hard-landing scenario. And we know what happens in a hard landing: there's going to be a quick pivot ... and at that point clearly bonds start performing again," John Madziyire, senior portfolio manager and head of U.S. Treasuries and TIPS at Vanguard Fixed Income Group, told Reuters in September.

Madziyire told Reuters he expected the Fed to continue its hawkish streak with further increases to the base rate.

"If you're positioning for that, you obviously want to be tilted more defensively ... And that by definition means you're leaning more towards Treasuries," he said.

There is a feeling though that, as a recession becomes increasingly likely, with Bloomberg economists predicting one with 100% likelihood, the Fed will be forced to ease off on its regimen of rate hikes, regardless of stubborn inflation rates. 

An easing off on hikes, or even cuts, to the policy rate as the economy potentially declines would begin to allow T-bills to decline from their peak.  

In a tweet on 20 October, DoubleLine Capital chief executive Jeffrey Gundlach noted that there were signs of “yield increase exhaustion” in treasury rates. He suggested that “Treasury yields may well be peaking between now and year-end”.

The Bank of America (BofA) Global Research survey for October suggested fund managers were increasingly of the mind that treasury rates would decline, with 38% expecting lower long-term rates in the next 12 months, as reported by Reuters.

Strategists at the bank were however wary of the macroeconomic context that would make it tougher than usual to predict a decline in Treasury rates. BofA’s fund managers wrote:

Indeed, Fed chairman Jerome Powell noted that it is still some way from its “terminal rate” of 4.5%-4.75%, as reported by CNBC. Meanwhile BNP Paribas has skewed even higher in its expectation of the Fed’s terminal rate of 4.97% in May 2023, as reported by Reuters.

Another potential 175 basis points added to the federal funds rate could mean more to come from 1-year Treasury rate yields.

1-year Treasury rate forecasts

Forecasts, like analysts and economists, are split on the outlook for 1-year T-bills, with some predicting a continued strong performance 

An algorithm-based 1-year Treasury rate forecast for 2022 by the Financial Forecast Centre suggested could be at 4.5% by the end of the year, and will rise to 4.93% by May 2023.

EconForecasting, another algorithm-based forecasting service, predicted traits to rise as high as 6.14% by April 2022, before its 1-year Treasury rate forecast for 2025 could settle to 5.41% by the end of the year. 

While there isn't a 1-year Treasury rate forecast for 2030, the service expected yields to be 5.57% in 2027.

World Government Bonds’ algorithm carried the highest 1-year Treasury rate forecast, with an expected rate of 7.05% in March 2023, rising to 9.8% in December next year.

Remember that analysts and algorithm-based forecast platforms can be wrong in their predictions.

Always do your own research before making an investment decision. And never invest more than you can afford to lose.

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