A scrapped bullish wager on five-year Treasury inflation-protected securities offers a poignant example of how pain thresholds are being tested in government bond markets globally.
(Bloomberg) — A scrapped bullish wager on five-year Treasury inflation-protected securities offers a poignant example of how pain thresholds are being tested in government bond markets globally.
TD Securities strategists Gennadiy Goldberg and Molly McGown bowed to reality Thursday, pulling the plug on a late-July recommendation to buy the securities at a yield of 1.86%. They targeted an improvement to 1.25%, expecting no further Federal Reserve interest-rate hikes and deceleration in US growth and inflation. Three weeks later, the stop-loss threshold of 2.20% was reached as those assumptions came under assault.
Longer-dated TIPS broke down even further, with 10-year and 30-year yields climbing to multiyear highs.
The market, in the TD strategists’ view, is wrong. Five-year TIPS yields “are still attractive and may ultimately be self-limiting,” as they tighten financial conditions. But they “will wait for momentum to stabilize before entering longs again,” Goldberg and McGown wrote.
The trade fell victim, they note, to fading expectations for cuts next year rather than any notable increase in the likelihood of another hike. Bigger-than-anticipated increases to Treasury auction sizes announced Aug. 2 — including a planned $1 billion bump to the next five-year TIPS auction in October that only about half of the 24 primary dealers predicted — was also a factor, along with depreciation of the yuan stoking fears that China could sell Treasuries to finance intervention, they wrote. And “thin summer liquidity” hasn’t helped matters.
Still, there’s scope for losses to deepen before support emerges, Dominic Konstam, head of macro strategy at Mizuho Securities, said in a Thursday interview on Bloomberg Television.
“There’s a limit to how far you can sell off,” he said. “Five-year real rates are pretty chunky at the moment, and if they go up another 20, 30 basis points that’s going to be quite attractive I imagine for a lot of investors.”
–With assistance from Lisa Abramowicz and Jonathan Ferro.
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