RESEARCH ROUNDUP: JPMorgan, TD Set Short Positions in UST 5Y
(Bloomberg) -- Positioning views on USTs take into account potential for Fed balance sheet policy shift to alter the expected pace of rate increases in 2018 and 2019.
- JPMorgan and TD recommend short positions in 5Y based on economic outlook, while Deutsche Bank lowers expectation for 10Y yield to account for impaired outlook for fiscal policy implementation
- Morgan Stanley (strategists led by Matthew Hornbach)
- Based on Dudley’s April 7 clarification, EDZ7/EDZ8 flatteners should be abandoned in favor of EDZ7/EDZ9 flatteners
- In previous hiking cycles, market “never fully priced the pace at which the Fed ended up delivering hikes”
- Pricing of outlook for next 12 months “is fair,” though potential for balance sheet reduction in 2018 means that market isn’t likely to price in more than 3 hikes through 2019
- Citi (strategists led by Jabaz Mathai)
- Complacency in options, “the most egregious mispricing in rates markets over the last few weeks,” has faded, with implied vols (e.g. 1m into 10y) at levels “more consistent with the fiscal, monetary and political risk”
- Eurodollar curve remains too flat (2019-2020 area), as “the effectiveness of fiscal stimulus looks to have been virtually priced out by the market”
- “We have to question whether the move has been too dramatic and risks may weigh more to the upside in rates”
- Deutsche Bank (strategists led by Dominic Konstam)
- Yield forecasts revised lower with bear market on hold, “mainly due to the lack of progress on structural tax reform”
- Having previously forecast 10Y yields would top 3% this year on fiscal policy implementation, DB now expects move toward 2.75% by year-end
- Market has been pricing in a slower pace for Fed, second-order effect of less term premium, and lower inflation expectations
- All three factors “encourage a view that yields are likely to stay closer to 2.25 percent,” current fair value, “ than break to new highs”
- Barclays (strategists led by Rajiv Setia)
- Fed balance sheet reduction is expected to be “passive and gradual and not to put undue upward pressure on term premia”
- Any reduction starting around end-2017 should be “in line with consensus expectations,” with additional duration supply “not very large in the context of aggregate annual supply”
- Unlike during 2013 taper tantrum, “there are not material signaling implications for the timing/pace of the hiking cycle to be drawn this time around”
- JPMorgan (strategists led by Jay Barry)
- Domestic growth “is poised to move higher” to 3% in 3Q from 1% in 1Q, which, combined with “renewed strength ” in other developed markets, “points to higher Treasury yields over the coming months”
- Bank recommends outright duration shorts, specifically in 5Y, and continues to recommend 2s5s steepener
- Risks to view “are largely geopolitical”
- TD (strategists led by Priya Misra)
- Forward rate hike expectations are “overly pessimistic on the economy’s ability to handle higher rates”
- TD recommends short UST 5Y position at 1.86%, targeting 2%, with stop at 1.78%
- Because increase in UST issuance as Fed curbs reinvestment of balance sheet assets is likely to be in 0yr-5yr sector, “we look to fade any significant steepening” in 5s30s
Alert:
HALISTER1Source: BFW (Bloomberg First Word)
Tickers JPM US (JPMorgan Chase & Co)
People Dominic Konstam (Deutsche Bank AG)
Jabaz Mathai (Citigroup Inc)
Jay Barry (JPMorgan Chase & Co)
Matthew Hornbach (Morgan Stanley)
Priya Misra (TD Securities USA LLC)
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