Reading between the lines: are rate fears overdone for bonds?
July 2026 update: The Middle East ceasefire remains fragile, but oil prices have retreated towards pre-conflict levels, easing some inflation pressure. With markets now fixated on central banks, investors face a tougher task in interpreting what comes next for rates.
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July has not delivered the calmer backdrop investors hoped for. The Middle East ceasefire remains fragile, but oil prices are back near pre-conflict levels, easing some inflation pressure. Markets are now focused on central banks, but limited guidance is making signals harder to interpret.
Our Scenarios – recognising that the range of possible outcomes has become tilted towards higher interest rates.
Source: Schroders Global Fixed Income team 13 July 2026 – Scenarios are framed around US Fed funds rates: Too Hot: +3 hikes, Warming up: +1-2 hikes, Just right: unchanged, Too cold: +1 cut
While at first glance this makes our scenario probabilities look very different from last month, in reality our view of the world hasn’t altered too much. What has changed is how we define our scenario ranges, which reflect a more hawkish expected path for interest rates than they did at the beginning of the year. Our revised ranges better capture that reality: “Too cold” now implies the Fed delivers one or more cuts, making it more relevant than the three to four cuts assumed before. “Just right” implies policy rates are kept on hold rather than delivering two to three cuts previously, and “Too hot” defines a clearer definition of a hiking cycle of around three hikes.
What continues to be important is how our view compares with market consensus as that mismatch drives the investment opportunity. In that respect, we continue to assign a higher probability to the US Federal Reserve (Fed) staying on hold (“Just right”) than the market implies. We agree that inflation risk has not disappeared, but we are not convinced every central bank needs to move straight back into hiking territory or move as aggressively as the market pricing suggests.
Noisy summer, quiet Fed
Our view of the US economy has changed little since our last update. The consumer remains resilient, but not especially strong and with AI and the manufacturing cycle still central to the growth outlook, we are watching closely for any signs that these supports might be fading.
Inflation is not yet fully under control. Goods prices have helped but could still be vulnerable to the lagged effects from higher costs for memory chips, technology inputs or supply-chain distribution, while services inflation continues to prove harder to bring down. Lower oil prices should help bring inflation down, while some upcoming technical changes to how US inflation is measured could also make it look mechanically lower later this year. While payrolls data is noisy, our assessment of the labour market is that it’s on a broadly improving trend, with few signs of overheating (such as rapid wage growth or widespread labour shortages).
Kevin Warsh becoming Fed chair adds another layer of uncertainty. He is less supportive of giving markets firm guidance about future interest-rate moves and appears to prefer letting markets respond more freely to the economic data. For investors, that means there may be less certainty about what the Fed will do next.
The eurozone – a middling growth story
The eurozone outlook is best described as “not that bad, not that good”, with growth stagnating rather than collapsing. German government spending should provide some support but is partly offset by tightening elsewhere across the region.
Inflation remains the main concern, particularly services inflation. For the European Central Bank, after delivering a 25 basis point rate hike in June, the key message is rarely just ‘one and done’; across its published scenarios, inflation remains above target. However, the market repricing has already been substantial and with no cuts now priced in over the next two years, despite the uninspiring growth outlook, this leaves us more constructive on eurozone duration.
A week is a long time in politics
In the UK, Andy Burnham is set to become the next prime minister on 20 July, and while he’s pledged to adhere to the government's current fiscal rules, any deviation from this stance would be difficult for the gilt market to ignore.
Meanwhile, the UK remains highly sensitive to global energy price moves. However, it also offers one of the clearest domestic disinflationary stories, helped by a softer labour market, wage disinflation and muted activity where growth is soft rather than disastrous.
Putting it all together – selective optimism
In rates, we are moderately constructive on duration. A lot of negativity is already reflected in market pricing, with hikes priced across the US, Europe and the UK while oil has fallen back toward pre-conflict levels. This does not argue for an aggressive long duration stance, but it does suggest that the risk-reward has improved.
Our conviction in Canada and Australia has eased, as the recent strong performance makes valuations less compelling. In Australia, the weaker housing story has largely played out, though we still see some remaining value. Meanwhile in Japan, signs of government intervention and pressure on domestic institutions to buy local assets have changed the risk balance, making it harder to justify a negative score at this point. We move to neutral.
In corporate bonds, the main attraction is still the income they provide rather than the potential for large relative price gains. Credit spreads are tight, meaning investors are not being paid a large extra return for taking on corporate risk. Even so, there is no clear trigger for a major sell-off at the moment and lower summer issuance should provide some support.
Government bond opportunities look more interesting in selected areas, particularly in parts of the eurozone periphery, where Greece stands out because its debt position is improving. Some emerging market government bonds also remain attractive, including Hungary, where investors appear willing to look beyond near-term political uncertainty because the longer-term credit story remains supportive.
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