Momentum Traders Positioned to Give Added Boost to Bond Selloff

Momentum traders have jumped on board the bond selloff and may help push yields even higher, according to Bank of America Merrill Lynch.

So-called “non-reportable” Treasury futures positions is a good indicator of momentum bets positioning, and the persistent weakness in bonds may give confidence to these strategies to add to net shorts, strategist Carol Zhang wrote in a recent note.

“In short, if momentum traders were a headwind to a rates selloff in 2017, now they are a tailwind,” she wrote. “And the balance of risks skewed to flows supports a continued move higher in yields.”

Wagers from managed futures funds, traders seeking to hedge convexity and foreign private investors could all exacerbate the recent move higher in yields, according to Zhang.

Bond yields have been rising on the prospects of more rate hikes from the Federal Reserve and increased issuance of government debt to finance America’s widening budget gap. U.S. Treasury yields rose to the highest in more than three and a half years this week, extending the selloff that’s opened 2018 in the world’s largest debt market.

While momentum strategies in the equity market have been benefiting from the surge in stocks to records, there have been record trends even in the rates market, according to Merrill Lynch. For example, the length of time the U.S. 2-year yield traded above its one-month moving average is the longest since February 1991, said Zhang.

“Our argument is simple: with the strengthening in momentum, the balance of risks supports a further buildup in net short positioning that could sustain a further selloff in rates”.

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