Treasury rates are at levels they have not been seen for more than 15-years, leading to a sell-off in some of the largest bond funds on the market. Wall Street strategists predict further declines. FactSet reports that the iShares Treasury Bond ETF (20+ Years) (TLT), closed Monday at $89.18, its lowest close since February 10, 2011. The fund has fallen more than 10% on an annual basis on a price basis and 8.5% if you look at the total return. TLT mountain 2010-01-01 On Monday, the TLT closed its lowest level since 2011. The TLT does not stand out among other major bond funds. The iShares Core U.S. Bond ETF closed at its lowest level ever on Monday. Since 2008, the Aggregate Bond ETF has been AGG. Vanguard Intermediate-Term Corporate Bond ETFs (VCIT) have performed relatively well in this year with a return total of around 1%. However, they are still trading at their lowest levels since 2010. Inverse bond funds, on the other hand have done well despite investors’ reluctance to accept them. ProShares’ UltraShort 20+ Years Treasury ETF (TBT), has seen its share prices rise 19% in this year. The move of the fund coincides with the 10-year Treasury rate rising above 4.5 percent and reaching its highest levels since 2007. Bond prices and long bond funds like TLT move in the opposite direction of yields. US10Y YTD Mountain The 10-year Treasury rate has reached new heights for the year. The Fed’s impact The Federal Reserve’s September meeting was the catalyst for this latest leg up in yields. The Fed held rates at the same level but lowered its projections of rate cuts for 2024. These projections, coupled with an amazingly resilient U.S. economic growth that has fuelled fears of sticky inflation have opened the door for longer-term yields following their short-term counterparts over 5%. In a Tuesday note, Bank of America rates analyst Bruno Braizinha stated that “reaching 5% levels in 10yT will likely require not only an upgrade in fundamentals (i.e. a shift of odds to the right-side of the distribution of outcome — beyond a soft landing which remains our baseline), but also a greater degree of confidence around the outlook.” Some economists believe that the “neutral interest rate” has risen, meaning the Fed will need to keep rates high even if the inflation target of 2% is achieved. We have seen signs of a recent repricing by c.50bp of the neutral rate on a variety of metrics. Braizinha said that a repricing above levels of c.3-3.5% could lead to further pricing out the ’24-’25 cuts and push 10yT closer to 5%. Both the Fed’s interest rate target and short-term Treasury yields are already above 5%. Goldman Sachs strategist Cecilia Mariotti wrote in a Monday note to clients that investors should expect long-term interest rates to rise in relation to short-term ones, flattening the yield curve. “Front-end rate volatility has reset relative to the rear-end… but the ratio is still elevated compared to history.” Mariotti stated that our strategists prefer to trade for a further reset of rates in the US, where the monetary policy is more certain. This is not a point that all professional strategists are in agreement on. Ajayrajadhyaksha, Barclays’ research chief, said Monday in a client note that bond prices appear fair now and there are still “downside surprises,” in the Fed’s economic growth outlook. Jonathan Krinsky, BTIG’s chief market technician, said in a note on Tuesday that bonds were “working through a strategic bottom” and the latest drop could be a false one if TLT is able to rebound to around $92 per share. A new era? Recent milestones in bond yields date back to the period before the financial crises, when the Federal Reserve cut interest rates to zero for many years. The long-term fall in bond yields started roughly 20 years before the financial crisis. Jim Grant, founder Grant’s Interest Rate Observer and CNBC’s Squawk box host, said that the trend could finally be at a turning point. “Interest rates tend to move in cycles or phases that last a generation. This has been the case in America since after the Civil War. Grant added, “I say that we have just ended 40 years of consistently declining rates.” In recent months, high interest rates have been affecting stocks. This has changed the equation for portfolio construction. Investors who hope that equities can be balanced by fixed income are now rethinking their strategy. BTIG’s Krinsky stated that the correlation was changing. “While subtle, we still think it is changing and we will continue to see rates drop, stocks fall as we move towards Q4.”
