It is not difficult these days to find investorsheralding the end of the decades-long bull run in Treasuries.
But after the worst quarter since 1980, the Bulls are poised to regain some of the limelight. The result is that the debate on the next step in the world’s largest bond market – one withprofound implications for all asset classes – is only intensifying.
On one side are Bill Gross and Ray Dalio, who wereamong those declaring abear marketin 2018, when 10-year yields exceeded 3%, and which are down again. For the other side, including the fund managers of Mitsubishi UFJ Kokusai Asset Management Co. and Northern Trust Asset Management, it’s simplynoise. They say treasury bills are attractive given the prospect that inflation will remain subdued and that growth fueled by fiscal stimulus will subside.
It’s possiblebears have finally nailed it, with the Federal Reserve saying it will allow inflation to heat up a bit, while unprecedented fiscal stimulus appears to reignite the pandemic’s rebound. Still, the bulls believe there is a long road to recovery, and they see paltry rates overseas fueling demand for Treasuries.
There’s even another take, in which neither side is quite right – Ben Carlson of Ritholtz Wealth Management says increased volatility is the new reality, with the era of megatrends essentially over.
Below is a collection of investors whose views capture the scope of the debate. They spoke as 10-year yields retreated from pre-pandemic highs near 1.8%, and with inflation expectations close to multi-year highs. Meanwhile, traders are evaluating thetax proposals in the next US stimulus package, a likely key to the trajectory of Treasuries, and potentially all markets, for the remainder of 2021.
Akio Kato, portfolio manager at Mitsubishi UFJ Kokusai, which manages more than 17 trillion yen ($ 155 billion), says Treasuries are attractive in part due to the Fed’s commitment to a easy politics. The central bank buys around $ 120 billion worth of treasury bills and mortgages each month. It also indicates that it will not hike its policy rate until at least the end of 2023, although the market is forecasting a more aggressive timetable.
- “About 1.7% could be a peak after assessing the potential US economic recovery,” Kato said. “Fed policymakers have repeatedly stated that they will stick to their current monetary policy. If the market’s perception of the economic outlook approaches that of the Fed, 10-year yields could fall to around 1.5%. “
Peter Yi, director of short-term fixed income and head of credit research at Northern Trust Asset Management, which oversees about $ 1 trillion, says he bought treasury bills “opportunistically” when yields rise . While millions of people are still unemployed, he sees the widespread recovery the Fed is looking for years to come, even afterrobust employment figures in March.
- “US Treasuries at around 1.7% is a pretty good relative value compared to the estimated S&P 500 futures dividend yield at just under 1.5%,” Yi said. “If rates get too high, there will be a bite on risky assets and the economy, and the Fed will do something to prevent that.”
Steven Oh, Global Head of Credit and Fixed Income at PineBridge Investments, whomanages roughly $ 126 billion, says the rise in 10-year yields led to increases he expected over several years. When 30-year bonds hit around 2.5% last month, they became “tactically attractive,” he said.
- “We believe that we will continue to be in a less inflationary environment in the United States and around the world,” Oh said. “Growth will resume after Covid, but it will not accelerate enough to cause a significant increase in yields.”
Jim Leaviss, director of public fixed income investments at M&G Investments, which manages £ 339 billion ($ 465 billion), said the company bought 30-year Treasury bills in its multi-asset portfolios. One of the keys for him has been raising expected long-term interest rates to levels that exceed FOMC members’ most belligerent projections for the long-term federal funds rate.
- “It’s time to start cutting US Treasury bonds,” he said. “There have been fears of inflation throughout my career, but they never materialized. And as such, I’ve always learned to hold onto my nerves, to look through them, and to expect these things to be transient.
Susan Buckley, managing director of global liquidity strategies at QIC Ltd. in Brisbane, which manages A $ 85 billion ($ 65 billion), sees US 10-year yields rise above 2% this year, a level last observed in August 2019.
- “We have seen a rapid increase in yields, even bigger and faster than we expected from the end of last year,” she said. “As the markets have gained confidence in the vaccine deployment, particularly the success in the United States, economic activity continues to surprise on the upside. Yields will increase from here. “
Ed Yardeni, founder of Yardeni Research Inc., says the 10-year return will potentially reach 2% in the next few months and then 3% or more by the end of next year. He is basing this on the deployment of vaccines in the United States and any stimulus to the economy, which he hopes growth measures will reach pre-pandemic levels. He also watches the jump in theratio of the price of copper to gold – an indicator of risk sentiment that has historically correlated well with returns.
- “Higher yields make a lot of sense given the extraordinary strength of the economy and growing inflationary pressures,” he said. “Over the next few months, economic indicators, especially real gross domestic product, are likely to return to where they were before the pandemic.”
Luca Paolini, chief strategist at Pictet Asset Management, which oversees 242 billion Swiss francs ($ 262 billion), believes that the risk that inflation readings – and not just inflation expectations – will start to rise is a concern.
- “This is a problem for the markets because it can force the Fed to tighten,” Paolini said during a webinar hosted by the company on March 31. There is a real risk of surprising inflation on the upside. “
Elaine Stokes, portfolio manager at Loomis Sayles & Co., which manages around $ 348 billion, says the unknowns ahead are hard to cripple – including how a further stimulus works in the economy. She sees 10-year yields rise from around 20 basis points to 50 basis points over the next two years.
- “I don’t expect anything dazzling,” Stokes said, referring to inflation, growth and returns. “Much of the pain is already done and felt. And we have to remember that we also go back to all the issues we faced before Covid, ”such as huge debts, demographic trends, and technological change, and try to understand how those forces may have changed.
Carlson, director of institutional asset management at Ritholtz, puts aside the notion of the major trends that have characterized the past decades in Treasuries. Its outlook is marked by episodes of volatility. Further fluctuations may be forthcoming in part becausethe duration in the debt market is close to a record level. This means that changes in yield will cause larger price fluctuations and potentially fuel faster flows in and out of the market.
“We’ve all been conditioned to believe that there are always these huge, long cycles,” he said. “But maybe we’re just going to have shorter cycles where there are peaks, and people come back and returns move all around. It’s a bit like the new regime.
– With the help of Chikafumi Hodo and Kenneth Hughes