BlackRock Prefers Inflation Bonds as Treasury 10-Year Notes Drop

  • Money manager says outlook for inflation `too sanguine'
  • Fed Chair Yellen to speak Wednesday, Thursday on U.S. economy

The world’s largest money manager says expectations that U.S. inflation will stay low are “too sanguine,” and it prefers government securities that protect against gains in consumer prices over regular Treasuries.

Inflation expectations should firm up given a tightening labor market and the fading impact of a stronger dollar and lower energy prices, Russ Koesterich, global chief investment strategist at New York-based BlackRock Inc., wrote in a commentary Monday. Treasury Inflation Protected Securities have dropped 0.9 percent this year, while conventional debt returned 1 percent, according to Bank of America Merrill Lynch indexes.

“No, we do not envision a significant surge in inflation,” Koesterich wrote. “But we do think inflation expectations may be too sanguine. As such, we prefer TIPS to plain-vanilla Treasuries in our bond portfolio.”

The benchmark U.S. 10-year note yield climbed three basis points, or 0.03 percentage point, to 2.24 percent as of 6:51 a.m. New York time, according to Bloomberg Bond Trader data. The 2.25 percent note due in November 2025 fell 1/4, or $2.50 per $1,000 face amount, to 100 1/8.

Ten-year Treasuries declined for the first time since Nov. 20 as gains in stocks sapped demand for safer assets.

The difference between yields on two-year Treasuries and similar-maturity TIPS, a gauge of expectations for consumer prices over the life of the securities, climbed to 0.63 percentage point Tuesday, the highest level since Aug. 11. The gauge has risen from as low as 0.02 percentage point on Aug. 25.

BlackRock, which oversees $4.5 trillion, expects a modest increase in long-term bond yields next year as economic growth remains tepid, Koesterich wrote. The 10-year yield will probably be capped at 3 percent as a dearth of supply combines with continued demand from institutional investors in an environment where the population is aging, he wrote.

BlackRock joins companies including BNP Paribas SA, Goldman Sachs Group Inc. and Credit Agricole SA in saying U.S. inflation expectations are set to increase as the economy gains momentum.

BNP last month recommended investors bet the U.S. 10-year break-even rate would rise, while Goldman Sachs listed the trade among its top recommendations for 2016.

Not everyone agrees.

“People should be concerned about a rise in inflation,” said Kei Katayama, a bond manager in Tokyo at Daiwa SB Investments, which oversees about $47 billion. “But the current situation is not threatening, so I can’t bet on inflation going up.”

Yellen Speaks

Fed Chair Janet Yellen will deliver a speech on the economic outlook in Washington Wednesday. She will appear before the congressional Joint Economic Committee the following day.

There’s a 74 percent probability the Fed will raise its benchmark interest rate by its Dec. 15-16 meeting, futures data compiled by Bloomberg show. The calculation is based on the assumption that the effective fed funds rate will average 0.375 percent after the first increase, compared with the current range of zero to 0.25 percent.

A report due Tuesday will confirm that the manufacturing sector in the U.S. expanded at a slower pace last month than in October, according to a Bloomberg survey of economists.

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