Macro Strategy

2026: Navigating the Rate and Yield Transition

 

  • The Fed is likely to lean toward an easing bias as labor conditions weaken, though divisions among members remain.
  • Stable inflation, ample liquidity, and BI’s intervention framework support Bank Indonesia’s gradual 2026 rate cuts.
  • We expect 2026 INDOGB yields at 5.62%–6.14% (5.9% yr-end baseline), supported by expected rate cuts, stable IDR and foreign ownership.

 

The Fed in Focus. The Fed remains at center stage, driven by two key developments. First is the imminent December FOMC meeting, where a 25 bps rate cut is widely expected. Second is the rising probability of Kevin Hassett becoming the next Fed Chair, which signals a potentially more dovish policy stance in 2026. Together, these factors present both opportunities and risks for the market. Markets are now almost fully pricing in a December Fed rate cut, with implied probability exceeding 85%. This is broadly consistent with economist expectations, as 54 of 79 surveyed also anticipate an upcoming easing move. Confidence has strengthened after a series of dovish signals from key Fed voting members, most notably Governor Miran, who has advocated for a 50-bps cut in the past two meetings, and NY Fed President Williams, who noted that there is still room for further policy adjustment in the near term.  Several indicators also continue to support the case for easing.

  • The NY Fed Survey shows median inflation expectations at 3.2% for the one-year horizon and 3.0% for both the three-year and five-year horizons—stable and contained. Meanwhile, the 5-Year, 5-Year Forward Inflation Expectation Rate, which briefly rose after Liberation Day and peaked at 2.4% in late July, has now eased to 2.1%, near Fed’s target of 2%.
  • At the same time, the labor market outlook has weakened further. The recent ADP report showed that US private payrolls unexpectedly fell in November, down 32k, well below consensus expectation of 10k addition. Labor demand continues to soften, with job openings per unemployed person returning to 2017 levels and only slightly more than half of industries adding jobs. Wage growth has also slowed back to its pre-pandemic annualized pace.

 

The Fed in 2026: What to Expect? Beyond next week’s FOMC meeting, additional FFR cuts appear likely, and we expect the Fed to deliver at least two more reductions in 2026. The US mid-term election cycle will likely encourage stronger fiscal support to lift growth. At the same time, the prospect of a new Trump-aligned Fed Chair introduces potential risks to the institution’s independence, raising concerns that monetary policy and political influence boundary could become increasingly strained. Against this backdrop, in our view four factors stand out in 2026: the influence of the US political cycle, the shifting tone within the Federal Reserve, the dovish new Fed chairman and the narrowing gap between market pricing and Fed guidance. Together, these factors would influence global risk especially toward growth, liquidity, and cross-asset volatility including emerging market like Indonesia.

 

Political Cycle Effects. The US 2026 midterm elections in Nov are likely to influence the growth outlook through fiscal flexibility, policy clarity, and confidence effects rather than major new stimulus. Historically, midterms shape both the likelihood and timing of growth-supportive measures, such as limited tax relief, selective spending, or simply avoiding fiscal tightening. Even in periods of political gridlock, clearer policy boundaries tend to reduce uncertainty and improve business sentiment, indirectly supporting investment and risk-taking. As a result, any growth impact from the political cycle will likely come more from expectations and confidence than from large fiscal expansion.

A Cautious Tilt. The 2026 FOMC composition points to a more measured policy environment, shaped by lingering inflation concerns and gradual openness to easing. Several regional Fed presidents maintain a guarded stance, noting that inflation has not cooled enough to justify aggressive rate cuts. This suggests the committee will be wary of moving too quickly for fear of reversing recent disinflation gains. At the same time, dovish tone is also emerging. More Fed voting members appear willing to support gradual easing should growth soften or financial conditions tighten.

 

More Dovish New Fed Chair. The potential appointment of Kevin Hassett as Chair could further nudge the leadership toward a more accommodative bias, given his perceived preference for lower rates. However, his close alignment with former President Trump has raised concerns that such political proximity could weaken perceptions of Fed independence, heightening the risk that monetary decisions may appear influenced by political priorities rather than purely economic considerations.

 

Market–Fed Gap vs Market Volatility. As the Fed turns more dovish, rising market expectations for rate cuts can amplify volatility. Historically, spikes in the VIX have occurred when market-implied rates fell well below the Fed’s guidance, creating a wide expectation gap. That disconnect often triggered sharp repricing. Today, however, market pricing is broadly aligned with the Fed’s latest signals. The gap between market-implied rates and the Dot Plot has largely narrowed, pointing to a more stable policy backdrop and a reduced risk of rate-driven volatility in the near term

 

 

Domestic Tailwinds for Policy Easing. We expect Bank Indonesia to cut rates by another 50 bps in 2026, maintaining its pro-growth stance while keeping Rupiah stability as a priority. Any easing will likely be gradual, supported by BI’s triple-intervention framework: spot and NDF/DNDF interventions, selective SBN purchases, and combine with more market-friendly liquidity operations. BI also plans to expand Local Currency Transactions under the 2026 national task force, helping reduce USD reliance and strengthen monetary transmission. The pace of easing will remain data-dependent, especially on Fed-BI rate differentials and capital flow trends.

 

Domestic conditions increasingly support this view. Inflation is projected to stay within BI’s 2.5% ±1% target, helped by low imported inflation, normalized weather, and strong coordination through national and regional inflation task forces. While global risks remain, especially as softer external demand and weaker coal prices, these should be partly offset by downstream nickel projects, stronger manufacturing value-add, and export diversification. Ample banking liquidity and solid capital buffers provide additional support for credit growth, reinforcing the domestic backdrop for measured easing in 2026.

 

Tracking Yield Key Drivers. Indonesia’s bond market in 2025 navigated a series of external shocks, each shaping yield movements, capital flows, and curve dynamics throughout the year.

  • Early-year turbulence. In 1H25, the US tariff conundrum pushed both US Treasury and INDOGB yields sharply higher, triggering broad capital outflows. Yields climbed again during periods of Middle East geopolitical tension, though improving global sentiment and Indonesia’s steady macro fundamentals eventually helped stabilise the market.
  • Curve Trend. The risk-off environment in the first half produced a mild bear-flattening, reflected in tighter spreads across the 10–2 and 10–5year segments. As global easing gained traction, curves re-steepened, mirroring the rebound seen in US Treasuries.
  • Late-year anchoring. By late 2025, synchronised policy easing worldwide helped anchor yields, driving the 10-year INDOGB to its lowest level since 2023. Strong domestic liquidity boosted by fiscal operations also supported demand, with corporate bond yields declining considerably.
  • Foreign positioning. Heavy outflows from September pulled foreign holdings down to roughly IDR880tn (vs end Aug’s of IDR954tn), with foreign ownership slipping from a mid-year peak of 14.8% to 13.3%.
  • SRBI trends. SRBI instruments moved in the same direction: yields compressed from 6.5% to 5% level, outstanding balances fell by nearly IDR200tn, and foreign participation dropped sharply from 25% to a mere 10% amid rapid yield compression.

 

For 2026, we expect year end INDOGB yields to move within 5.62%–6.14%, with a baseline of 5.88%, well below the government’s 6.9% assumption. This reflects expectations of further Fed and BI rate cuts, a Rupiah in the 16,250–16,850 range, and modest improvement in foreign ownership. Yield-curve spreads are likely to widen modestly next year, but with far greater stability than in 2025, given the limited remaining room for policy easing.

 

Stability toward year end. US Treasury yields moved higher, with the 10-year rising 12 bps to 4.14% and the 2-year up 9 bps to 3.56%. In contrast, Indonesia’s 10-year INDOGB yield eased by 12 bps to 6.20%. The US Dollar Index weakened 0.48% WoW to 98.99, while the Rupiah inched up 0.10% to IDR 16,644 per USD. Indonesia’s 5-year CDS narrowed slightly to 72 bps, indicating a mild improvement in sovereign credit sentiment.

  • Fixed Income Flows. Foreign investors recorded a modest weekly inflow of IDR0.51tn into SBN, lifting total holdings to IDR874tn, with MTD flows turned positive. Domestic participation was mixed: banks saw a strong weekly inflow of IDR11.49tn, while Bank Indonesia (ex-repo) posted significant outflows of IDR8.67tn. Mutual funds added IDR4.18tn, and insurance and pension funds registered sizeable inflows of IDR15.16tn.
  • SRBI Flows. SRBI outstanding increased by IDR32.33tn to IDR747tn. Foreign investors returned as net buyers with weekly inflows of IDR 23.12tn, though year-to-date flows remain negative at IDR122.1tn. Foreign ownership now stands at IDR93tn, or about 12% of the total.
  • Equity Flows. Foreign inflows in the first week of Dec25 totaled Rp561bn, bringing MTD (1 Nov–5 Dec25) inflows to Rp5.3tr, while YTD outflows remain at Rp39.9tr. The JCI rose 1.5% w-w, extending its YTD gain to 21.9%, one of the strongest performances in the region. Consistent foreign buying continued to concentrate in BMRI, BREN, TLKM, ASII, and PTRO.

 

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