Bond traders want to know: Is this really what a bear market looks like?
[ibd-display-video id=3037819 width=50 float=left autostart=true] Ten-year U.S. yields flirted with the highest levels since 2014 Wednesday as longtime pillars of support for the world's biggest bond market showed signs of eroding, raising the specter of even deeper losses.
Global central banks are gradually pulling back stimulus and senior government officials in China have recommended that America's biggest foreign creditor slow or halt purchases of Treasuries. What's more, the Federal Reserve plans to keep hiking rates with a growing economy near full employment.
And yet, even Bill Gross, the Janus Henderson Group fund manager who called the start of a bear market this week, is skeptical of how much damage can be done. He said Wednesday that he doesn't foresee dramatic losses. In fact, he expects the 10-year yield may only rise 10 to 20 basis points more by year-end, from just shy of 2.6% now.
"The bear market that I'm talking about is a mild one," Gross said in a Bloomberg Radio interview. "I don't think we're headed for investment Armageddon."
Trading after the China news shows investors didn't exactly storm the exits. From 6 a.m. in New York on Wednesday until the Treasury's 1 p.m. auction of 10-year debt, the maturity's yield kept to a 2.2 basis point range. And there was plenty of appetite for the offering, with a measure of demand coming in at the highest since 2016.
The 10-year note yielded 2.56% at about 2 p.m. in New York, little changed on the session and down from as high as 2.595% earlier. Traders were watching whether it would break above its 2017 high of 2.63%, spurring a steeper selloff.
Therein lies the rub about calling for doomsday in this market: History has proven time and again that yields rise and fall in fits and starts. It takes a dramatic change in the fundamental outlook for U.S. fiscal and monetary policy (think Donald Trump's election victory most recently) or turmoil in riskier assets to really jolt bonds one way or the other.
And while 2018 has brought some telegraphed risks into sharper focus, nothing has rocked the foundation of the $14.5 trillion Treasuries market, said Aaron Kohli, an interest-rate strategist at BMO Capital Markets in New York.
To Kohli and John Briggs at NatWest Markets, the latest runup in yields was magnified because the market was caught offside, going all-in on the flattening yield-curve trade that dominated the end of 2017. With the smallest spread between short- and long-term debt in a decade, it was "vulnerable to a correction," Briggs said.
Late Entries
Positioning data suggest that speculators who were late getting into the flattening wager got burned. Hedge funds and other large speculators had built up their largest net-long position in Treasury bond futures in 13 years as of mid-December, and mostly held their ground in the ensuing weeks.
"A lot of the speculative accounts started to pile into the flattening trade; there was this bandwagon effect," Kohli said. On the other hand, "if you were sitting in the flattener for a year, you've done really well. Why not take a little profit?"
And for all the angst about the latest selloff, buyers may still be waiting to pounce, even if China is taking a breather.
BMO suggests buying 10-year Treasuries if yields climb to 2.6%. And Dan Ivascyn, group chief investment officer at Pimco, said the firm would consider adding Treasuries on further bond-market weakness, according to a tweet from Reuters.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
