What Bond Yields Do After a Hiking Cycle Starts

The Federal Reserve is expected to raise interest rates by 0.25 percentage points, marking the first hike since July 2023.

Higher bond yields could make government debt more attractive than stocks and increase borrowing costs for homebuyers.

Historically, bond yields tend to rise during rate hike cycles, with only one exception since 2004.

Markets are bracing for a widely expected rate hike on Wednesday.

Traders are positioned for the Federal Reserve to raise interest rates by a quarter of a percentage point to a range of 3.75% to 4%, which would be the first rate hike since July 2023. Many Fed watchers expect the move to start a hiking cycle that could weigh on stocks in the near term and, according to one major bank, push bond yields higher over the coming 12 months.

Surging bond yields can make government debt more attractive than stocks and other risk assets, which can weigh on U.S. equities. And because mortgage rates tend to closely track the 10-year, higher yields can make homebuying a more expensive proposition.

History shows that most hiking cycles tend to move 10-year U.S. Treasury yields by an average of about 1.14 percentage points one year after the start of a cycle, according to a Deutsche Bank report published on Monday.

The good news: If this hiking cycle ends up being a "baby cycle"—the bank's economists expect this one will be less aggressive than in past years—bond yields could rise less dramatically, per Jim Reid, Deutsche Bank's global head of macro research.

That the starting point is already high, with bond traders driving 10-year yields to as high as 5% early Monday, could contribute a more modest impact on yields, according to Deutsche Bank—or a rise of seven-tenths of a percentage point, Reid said.

But history says not to expect yields to drop. The only time yields fell over the course of the first year after the start of a rate hike cycle was in 2004, according to the Deutsche report.

"So it's not usually a positive for rates when the Fed hikes but there are some reasons why this cycle might be better than many other for yields," Reid said.

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