ISA Briefing: Situational wariness? Interpreting the interest rates signal

The recent rise in long rates reflects both a higher near-term policy path and a higher long-run neutral rate, making higher-for-longer the baseline while favoring real estate with rental growth potential over bond-like income.

• The US 10-year Treasury has risen well above 5%; the Fed delivered its first hike since 2023, while the Bank of Japan tightened for the sixth time since normalization began in 2024. The market’s estimate of the neutral rate is about 35 basis points higher than 18 months ago.
• Japan’s 10-year JGB moved above 3% for the first time since 1996, with a potential financing gap approaching ¥50 trillion and weak auction demand adding supply pressure. The Bank of England has also moved away from active long-end balance-sheet selling.
• The authors see no current loss of central-bank credibility: ten-year inflation expectations remain near targets and term premiums are not at alarming levels. The repricing instead reflects fiscal supply, oil and geopolitical risks, more hawkish policy, AI-related investment and a more price-sensitive marginal buyer of government bonds.
• Their US rate anchor combines population growth of about 0.5%, productivity growth of 1.5% to 2%, inflation of 2% to 2.25% and a normal term premium, implying roughly 4% nominal growth, close to 5% for long government bonds and a Baa yield in the mid-6% range.
• Real estate appears reasonably priced as a bond substitute, but higher rates affect sectors differently: self-storage faces additional pressure from mortgage-rate lock-in, while supply constraints support US shallow-bay industrial, selected apartment markets, European retail and Tokyo offices.

Takeaway: Investors should underwrite a higher-for-longer baseline and favor real estate markets where rents can rise relative to replacement cost, while recognizing that a failed AI capex boom could still bring lower rates through a growth scare, albeit via a narrower path than markets assumed two years ago.