Rising bond yields have created a compelling buying opportunity, according to UBS, which believes investors are overpricing the extent of future ECB rate hikes despite growing concerns about energy-driven inflation.
The bank noted that ECB officials have become more concerned about inflation risks linked to higher energy prices, prompting UBS to raise its expectations for ECB rate hikes and German bund yields. However, it believes policymakers will ultimately need to balance inflation concerns against a weakening economic backdrop.
UBS pointed to signs of slowing growth across the eurozone, including a decline in the composite Purchasing Managers’ Index to 47.5 in May from 48.8 in April, the sharpest contraction in private-sector activity since October 2023. Weaker demand, softer employment trends, and deteriorating business confidence should limit the scope for prolonged monetary tightening.
The wealth manager also highlighted comments from ECB policymaker Olli Rehn indicating that medium- and long-term inflation expectations remain largely anchored. According to UBS, this reduces the need for a sustained tightening cycle and supports the view that current market pricing for future rate increases is excessive.
Looking ahead, UBS expects any eventual diplomatic resolution in the Middle East to ease energy supply pressures and help moderate inflation. Such a development would allow central banks to adopt a less restrictive stance and refocus investor attention on economic fundamentals.
As a result, UBS remains constructive on high-quality fixed income, particularly short- and medium-duration bonds, saying current yield levels offer attractive income opportunities and potential capital gains as growth slows and markets reassess the extent of future rate hikes.
