Treasuries Rally, Emboldening Bond Bulls Who See an Inflation Peak By Bloomberg

(Bloomberg) — Treasuries rallied along with European peers as strategists spy buying opportunities in bonds, betting the market’s attention will turn from inflation to recession risks.

Ten-year Treasuries are poised for their largest rally in a month after yields climbed to levels not seen since 2018 earlier on Wednesday. Yields on U.K. gilts and German bunds fell after they hit multi-year highs on Tuesday. 

Today’s 10-year U.S. rate “offers an attractive level to buy,” Bank of America strategists including Ralph Axel wrote in a note to clients on Wednesday. “Our forecasts point to inflation peaking this quarter and falling steadily into 2023,” according to the strategists, who are targeting a fall in the yield to 2.25%.  

Investors have seen their playbooks for timing inflation ripped up this year, with Russia’s invasion of Ukraine exacerbating pre-existing price pressures via elevated commodity prices. The International Monetary Fund’s Chief Economist Pierre-Olivier Gourinchas said Tuesday that the war would make the rate-hiking cycle from the Federal Reserve “even more urgent and necessary.” 

Still, Bank of America strategists are noting signs that the trend of yields lurching ever higher may be on the verge of a reversal, with their forecasts suggesting the U.S. has passed the peak in inflation with the March CPI report. Markets are “reasonably well-priced” for the Federal Reserve hiking cycle, they added, with money markets pricing in 225 basis points of hikes this year. 

The double whammy of quantitative tightening and front-loaded rate hikes will “exacerbate the economic slowdown that lies ahead,” said George Goncalves, head of U.S. macro strategy at MUFG. “This will eventually result in the bond market rallying back 75 basis points or more in the second half, initially via a bull flattener from the peak in rates and result in Fed cuts in 2023.”

Inflation Trades

Retail investors who snapped up products to hedge against inflation are learning the hard way that it’s not an easy strategy to profit from even if price pressures have persisted. The price of the iShares TIPS Bond ETF, the largest exchange-traded fund featuring Treasury Inflation Protected Securities, had tumbled as of Tuesday to its least since June 2020. The ETF has lost about 4.6% on a total return basis over the past year, according to Bloomberg data.

U.S. short-end bonds could also become a “magnet for cash” according to Mizuho International Plc strategists including Peter Chatwell, given how much is already priced in for the Fed hiking cycle. 

Meanwhile, Nomura Asset Management portfolio manager Dickie Hodges is laying trades on short-maturity German bonds that should profit if markets price in less policy tightening by the European Central Bank. 

Fed officials due to speak on Wednesday will be in focus. They include Minneapolis Fed President Neel Kashkari, San Francisco Fed President Mary Daly and Chicago Fed President Charles Evans.

Treasury 10-year yields fell as much as eight basis points to 2.86% and yields dipped back below the big-figure level of 3%, trading at 2.95% as of 8:41 a.m. in New York. German yields slid as much as seven basis points to 0.84%. 

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