RESEARCH ROUNDUP: Limited Upside Seen for UST Yields
(Bloomberg) -- Strategists see potential for bull flattening driven by concerns around Brexit and U.S. elections, aided by Japanese demand for long end and ALM (asset-liability management) funding gaps; also for steepening based on inflation expectations and cautious Fed stance.
- BofAML (Shyam Rajan)
- Risk to nominal rates is lower in near term on risk aversion out of U.K. gilts into USTs as “Brexit vote kicks off a summer of uncertainty heading into the U.S. elections”
- Favor tactical flatteners given the trade is no longer crowded; see limited room for intermediate forwards to decline and lack of appetite for belly from Japanese investor base moving out the curve
- Recommend 3y fwd 2s10s flatteners; 6m 5s30s bull flatteners
- Barclays (strategists led by Rajiv Setia)
- Global yields have risen sharply over the past week amid “reduced worries about a slowdown in the US and reduced political uncertainty in the UK”
- Recommend selling UST 5Y based on expectation that investor pessimism will fade further
- 5s30s is too flat relative to inflation expectations and level of yields; should steepen if Fed takes cautious tone into U.S. elections; MORE
- Citi (strategists led by Jabaz Mathai)
- Stretched long positioning continues to be bearish for USTs, and 10y is almost 2 sigmas rich to stock on 1y rolling regression
- Still, any further selloff from current levels “should be fundamentally short-lived” given diminishing returns of global monetary easing which has provided support for inflation expectations
- See further 10s30s flattening amid overseas demand and rising domestic ALM account interest
- See further cheapening of 5s10s30s flies (short 10s) amid a “further relaxing of the fear compression”
- 25Y sector very attractive “on both an extension basis and a fly basis”
- Deutsche Bank (strategists led by Dominic Konstam)
- Markets showing post-Brexit normalization signs; in near term see “ironing out of post-referendum dislocations as the main driver”
- View Bond futures as rich so favor moving out this sector and into Ultras
- See no strong bias for higher yields based on analysis showing recent short-covering in UST futures
- Belly of the curve “has no reason to selloff or reprice substantially”; suggest 2s/5s bear flattening and 5s/10s steepening mode
- JPM (strategists led by Jay Barry)
- Yields should stabilize around current levels after last week’s move given the “technical picture looks cleaner, and the domestic calendar is light”
- Neutral duration stance over near term
- In cross-market, USTs have underperformed Germany in 5yr sector, outperformed in 10yr sector; UST bulls should buy vs Germany in 5yr, bears should sell vs Germany in 10yr
- Intermediate sector underperformance vs wings over last few weeks, driven by long-end flattening, has left most weighted butterfly spreads more than two standard deviations cheap vs avg of past year; they recommend in particular 38:69 weighted 4s/9s/14s belly-richening butterflies and update barbell strategy; MORE
- Nomura (George Goncalves and Stanley Sun)
- While UST 10Y “looked overvalued” as it approached 1.25% this month, rates are unlikely to return to pre- crisis levels
- UST 10Y selloff greater than 50bp is unlikely absent “meaningful changes to the policy mixes used to generate growth and inflation”
- Demand for long USTs is supported by yield pick-up and worsening funding gaps for asset/liability managers; favors long-end, 10Y unlikely to fall below 1%; MORE
- Soc Gen (Ciaran O’Hagan)
- Catalysts for lower yields in Q3 before rising into year-end include “BoE rate cuts at the August meeting, ongoing risks related to Brexit and the Fed on hold”
- Position for bearish and bullish scenarios given yields close to middle of cited 1.9%-2% support and 1.1%-1.15% resistance
- Front-end of curve pegged in near term; favor 5s10s curve to flatten expressed through 3m fwd 5s10s flatteners
- TD Securities (Priya Misra)
- Despite being “still too low compared with the level of equities,” UST yields should be contained by Brexit contagion risks, doubts about efficacy of Japan fiscal stimulus, yield advantage on global scale, MBS and pension hedging
- “Investors should shift out the credit and duration spectrum in search of additional return,” set longs in 10Y at 1.60%
- 5s30s flattener, as U.S. economic data may accelerate Fed rate hike; target 100bp; MORE
Alert:
HALISTER1Source: BFW (Bloomberg First Word)
People Ciaran Ohagan (Societe Generale SA)
Dominic Konstam (Deutsche Bank AG)
George Goncalves (Nomura Holdings Inc)
Jabaz Mathai (Citigroup Inc)
Jay Barry (JPMorgan Chase & Co)
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