Get ready for a disastrous year for U.S. government bonds. That’s the message forecasters on Wall Street are sending.
With Federal Reserve Chair Janet Yellen poised to raise interest rates in 2015 for the first time in almost a decade, prognosticators are convinced Treasury yields have nowhere to go except up. Their calls for higher yields next year are the most aggressive since 2009, when U.S. debt securities suffered record losses, according to data compiled by Bloomberg.
Getting it right hasn’t been easy. Almost everyone who foresaw a selloff this year as the Fed ended its bond buying was caught off-guard as lackluster U.S. wage growth and turmoil in emerging markets propelled Treasuries to the biggest returns since 2011. Now, even as the bond market’s inflation outlook tumbles, forecasters are sticking to the view that Treasuries are a losing proposition as the economy strengthens.
“Next year should be the break-out year finally,” Chris Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi UFJ Ltd., said by phone from New York on Dec. 23. “The market is ignoring the rhetoric that Yellen and the FOMC is getting closer and closer to tightening. The market has it wrong.”
Bearish Forecast
Rupkey, who is among the 74 economists and strategists surveyed by Bloomberg this month, has one of the highest projections. He said he expects 10-year yields to rise to 3.4 percent by the end of 2015 from 2.25 percent at 12:55 p.m. in Tokyo. Back in January, Rupkey said yields would be 3.6 percent by now.
The median forecast calls for yields to reach 3.01 percent during the same span. The roughly 0.75 percentage point increase would be almost twice as much as forecasters anticipated for 2014.
Combined with projections for yields on the two-year note to more than double to 1.53 percent and those on the 30-year bond to rise 0.89 percentage point to 3.70 percent, the prognosticators are more bearish than any time since heading into 2009.
That’s when they predicted yields on every debt maturity would rise more than a percentage point as the U.S., helped by the Fed’s easy-money policies, started to recover from its worst economic crisis since the Great Depression. Treasuries lost 3.7 percent that year in the biggest slide dating back to 1978.
Market Read
After misreading the direction of the U.S. bond market this year as yields fell and Treasuries rallied 5.7 percent, a growing number of financial professionals are showing renewed confidence Treasuries are due for a selloff.
Given the chance to speculate on declines in only one asset, 20 percent of investors, traders and analysts in a Bloomberg Global Poll conducted last month picked government bonds as their top choice — the most of any category.
One of the biggest reasons is the strength of the world’s largest economy. U.S. gross domestic product expanded at a 5 percent annual rate in the third quarter, the most since the same period in 2003, revised government data released last week showed. Unemployment is at a more-than-six-year low of 5.8 percent.
“Things are picking up and pointing to a pretty healthy recovery,” Boris Rjavinski, a New York-based U.S. interest-rate derivatives strategist at UBS Group AG, said in a Dec. 17 telephone interview. The bank is one of the 22 primary dealers that trade with the Fed.
Yellen Stance
After the Fed’s policy meeting on Dec. 17, Yellen said the central bank was on course to raise its overnight target rate from close to zero and suggested a “patient” approach may translate into an increase by the middle of 2015.
“Rates will be rising in the U.S. in 2015,” Peter Fisher, the former Fed official and undersecretary for domestic finance at the U.S. Treasury, said in a Dec. 22 interview. “Globally, there will be divergence in monetary policy and growth across a number of countries,” said Fisher, senior director at the BlackRock Investment Institute and the former head of fixed income at New York-based BlackRock Inc.
A recession in Japan and the specter of deflation in Europe is prompting their respective central banks to boost stimulus measures, which may keep a lid on their own yields while increasing demand for Treasuries. U.S. 10-year notes already yield about 1 percentage point more than the average of their Group-of-Seven peers, the most since 2006.
Futures Outlook
Futures traders are skeptical the Fed will be able to raise rates as much as policy makers anticipate. While the median estimate in the central bank’s quarterly forecasts released last month show the Fed will boost the target federal funds rate to 1.125 percent by the end of 2015, futures indicate an 88 percent chance the rate will be at 1 percent or less.
For Guy LeBas, the chief fixed-income strategist at Janney Montgomery Scott LLC, any increase will be tempered as a growing number of older Americans leads to less spending and slower inflation while boosting demand for low-risk, fixed-income assets. The percentage of Americans 65 years old or older reached 14.2 percent of the U.S. population this year, up from 12.4 percent a decade ago, according to Census Bureau data compiled by Bloomberg.
“Long-term Treasuries are going to look through the ups and downs of the short-term economic cycle and focus on constraints to long-term growth,” LeBas said by telephone from Philadelphia on Dec. 23. He anticipates that yields on the 10-year note will end 2015 at 2.47 percent, the lowest estimate among forecasters surveyed this month by Bloomberg.
With signs of wage growth finally picking up, stronger employment and the lowest gasoline prices in five years are poised to boost household spending, according to Ira Jersey, an interest-rate strategist at Credit Suisse Group AG.
“If people become more optimistic, demand for Treasuries can dry up very quickly and you could see a pretty significant back-up in yields,” Jersey said by telephone from New York on Dec. 23. Credit Suisse, a primary dealer, predicted 10-year yields will rise to 3.35 percent by the end of 2015.