Hedge funds and other large speculators are gobbling up the dollar and Treasuries in the hunt for yield.
Investors held a net 375,137 contracts that would profit from dollar gains, the most in four months, based on the latest available data from the Commodity Futures Trading Commission in Washington. Their position in Treasury 10-year futures climbed to 27,400 contracts, the most in two years, the data show.
With the Federal Reserve poised to raise its benchmark federal funds rate, investors trying to capture yield have pushed the dollar up against all 16 major currencies in the past 12 months. The U.S. is the only nation among the Group of Seven where 10-year notes yield more than 2 percent. At the same time, an inflation rate that’s close to zero will help protect bondholders.
“If the Fed starts to raise the fed funds rate, that means a higher dollar,” said Hiroki Shimazu, senior market economist in Tokyo at SMBC Nikko Securities Inc., a unit of Japan’s second-largest bank. Investors can expect “a much lower inflation rate,” he said.
Benchmark U.S. 10-year notes yielded 2.26 percent as of 6:07 a.m. in London. Equivalent yields were 0.69 percent in Germany and 0.41 percent in Japan.
In the rest of the G-7, yields were 1.93 percent in the U.K., 1.87 percent in Italy, 1.49 percent in Canada, and 0.97 percent in France. The dollar was little changed at $1.1008 per euro on Monday.
The Fed has kept the federal funds rate, the rate banks charge each other on overnight loans, in a range between zero and 0.25 percent since 2008 to support the economy. The odds of an increase this year are about 71 percent, according to data compiled by Bloomberg based on futures.
Since at least 1999, inflation has rarely been as bad as the $12.7 trillion Treasury market has suggested, data compiled by Bloomberg show.
The market’s five-year estimate for inflation beginning five years from now, a model the Fed uses in setting rates, has consistently been off the mark, regardless of whether rates were high or low, according to the data.
“People in the marketplace are totally overestimating inflation,” said Thomas di Galoma, the head of fixed-income rates and credit at ED&F Man Capital Markets in New York. “They believe as the Fed keeps rates at zero you’re going to get inflation, and that’s been proven to be false.”
While consumer prices have barely budged this year as oil tumbled, traders expect inflation in the next five years to average 1.42 percent a year and then top 2 percent in the half-decade after that, based on bond metrics.