BlackRock Inc. strategists are betting that a recent surge in yields on longer-dated Treasuries may have gone too far, too fast, even as they expect rates to remain high.
(Bloomberg) — BlackRock Inc. strategists are betting that a recent surge in yields on longer-dated Treasuries may have gone too far, too fast, even as they expect rates to remain high.
“We turn tactically neutral long-term Treasuries as markets price high-for-longer policy rates but stay underweight strategically,” the asset manager said in its weekly research note published Monday. “US 10-year yields at 16-year highs show they have adjusted a lot — but we don’t think the process is over.”
BlackRock had been underweight longer-dated US Treasuries since late 2020, due to concerns that yields provided little protection against stickier inflation and rising debt levels. With the Federal Reserve interest rate increase regime nearing its peak, “the next step is not overweight,” and the strategists expect investors will demand “more compensation for bond risk and stay underweight on a long-run, strategic horizon.”
The repricing of Treasury yields significantly higher in recent months has been spurred by the market expecting the Fed will keep rates elevated well into 2024. The likelihood of rising supply to fund government deficits helped drive the 10-year yield towards 4.90% and pushed the 30-year above 5% last week, in the wake of lackluster demand for auctions.
“We now see about equal odds that Treasury yields swing in either direction,” BlackRock said. “In other words, we see two-way volatility ahead.”
‘Rate Repricing’
Earlier this month, BlackRock was still underweight long-dated Treasuries on a six- to 12-month horizon and the latest surge in yields “is why we recently closed our long-standing underweight on US duration,” Wei Li, global chief investment strategist at BlackRock told Bloomberg Television on Monday. “A lot of the rate repricing has already taken place, even though there is more room for term premium to come back,” she added.
BlackRock expects ‘rising term premium will likely be the next driver of higher yields,” and “10-year yields could reach 5% or higher on a longer-term horizon.”
Haven demand has stabilized the market at the margin and Treasuries are on course for an unprecedented third year of annual losses.
Read More: Time Is Running Out for the ‘Year of the Bond’ as Losses Mount
The rationale for a more two-way and volatile market at current yield levels reflects “policy makers shifting to assessing financial conditions,” and “further damage from rate hikes will likely become clearer over time,” for the economy, noted BlackRock.
A downturn in activity is seen opening the door to “when the ‘politics of inflation,’ or pressure on the Fed to curb inflation, will turn into pressure to stop hurting economic activity with tight monetary policy,” said Blackrock. For now they “still see the Fed holding policy tight to lean against inflationary pressures.”
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