As Bond Traders Struggle to Bust 3%, Morgan Stanley Sees a RallyBy
Psychological level matters as momentum hangs in the balance
Hornbach sees test of 2.7% if 3% holds, but 3.25% if breached
It turns out there were plenty of buyers of 10-year Treasuries at a 3 percent yield. Well, 2.996 percent, to be exact.
The inability to break through that key psychological level makes all the difference to Morgan Stanley on calling the next move in the world’s biggest bond market.
The latest failure to breach 3 percent, should it last, portends a rally back to 2.7 percent, according to strategists led by Matthew Hornbach. Of course, it’s not too late for the selloff to intensify, and the yield could reach 3.25 percent once past the 3 percent hurdle, they said. Ten-year Treasuries traded at a 2.97 percent yield at about 3 p.m. in New York.
“A lot of investors that we speak with, when I ask them ‘Where would you want to enter the market and start to buy Treasuries?’ you’re typically hearing numbers like 3 percent on the 10-year, 3.25 percent on the 30-year,” Hornbach, global head of interest-rate strategy at Morgan Stanley, said in an interview at Bloomberg’s New York headquarters. Because those are such “common numbers,” they can drive momentum up or down, he said.
Fixed-income fund managers have been focused on the 3 percent level to gauge whether the three-decade bull market in bonds is at an end, and to assess how much a glut of supply from the U.S. Treasury will weigh on investors.
Jeffrey Gundlach, chief investment officer of DoubleLine Capital, said Monday on CNBC that the 10-year note closing above 3 percent could accelerate a move higher in yields. He also cited 3.22 percent as critical for 30-year bonds, which aligns with the maturity’s highest closing yield this year.
A lot of investors are positioned against Treasuries, in part because the U.S. is borrowing so much at its auctions each month at the same time the Federal Reserve is tapering its holdings, he said.
For the chartwatchers wondering what might come next for the 10-year note, 3.05 percent is on strategists’ minds. It’s the highest intraday level since 2011, set on Jan. 2, 2014. Once past that mark, there’s no obvious support, if you’re looking to seven years ago for guidance. That year, the yield fell from as high as 3.766 percent to as low as 1.67 percent as the U.S. credit downgrade rocked markets.
For now, just as investors like Pacific Investment Management Co. anticipated, enough buyers showed up around 3 percent to keep yields in check. Barclays Plc strategists said they’re sticking with their recommendation to buy at 2.9 percent (or higher, as the case may be) with a target of 2.7 percent.
The next few sessions will be critical for gauging the momentum in Treasuries. Relative-strength index analysis signals 10-year notes are the most oversold in two months, a sharp departure from earlier in April, when they appeared the most overbought since September.
The key indicator to watch will be the 10-year breakeven inflation rate, Hornbach said. It exceeded 2.19 percentage points Monday, up from 2.05 percentage points earlier this month. That suggests investors are starting to expect price growth that outpaces the Fed’s 2 percent target. To be sure, some of the inflationary pressure may subside, with the Bloomberg Commodity Index falling three straight sessions, after reaching the highest since 2015 last week.
If the breakeven rate continues to climb without the 10-year Treasury yield breaking 3 percent, that would likely signal a rally ahead, Hornbach said. Already, fed funds futures are pricing in more than two additional Fed rate hikes by year-end as inflation expectations firm.
“Momentum in Fed policy has a lot to do with people’s forward-looking rate expectations,” Hornbach said. “It’s one of these psychological phenomena where we look at what happened to us yesterday, and we think the next three years of our lives are going to be dictated by that.”
“Pushing above 3 percent would be a great opportunity for investors to put money to work,” he said on Bloomberg TV.
— With assistance by Ivan Levingston