Updated: 06-24-2019

Treasury market is a crowded house
Updated: 20-Jun-19  12:53PM ET
Analyst: Pat O'Hare

If two is company and three's a crowd, what do thousands of people make? The simple answer is that they make a much larger crowd.

Alas, the Treasury market knows a thing or two about large crowds. Investor have gathered there en masse to buy US Treasuries, sending yields sharply lower across the curve.

The pressing question is why? Several popular answers include the following:

  • Inflation rates are subdued, and inflation expectations are slipping.
  • Treasuries provide relative value versus negative-yielding sovereign securities in Japan and Europe.
  • Late-cycle worries have fueled an increase in capital preservation investment strategies.
  • Worries about the economic impact of protectionist trade actions have fostered a rotation into safe-haven instruments.
  • The Federal Reserve is presumably on the cusp of a rate-cut cycle.

We suppose you could add "momentum" to the list, as the Treasury trade has been full of momentum since late last year when recession concerns escalated in front of the December 2018 rate hike.

Might that momentum be ready to turn?

According to the latest Bank of America/Merrill Lynch Global Fund Manager Survey, being long US Treasuries has been identified as the most "crowded trade," overtaking long US tech stocks. In fact, it is the first time ever that long US Treasuries has earned the distinction of being the most crowded trade.

Cue the contrarian trumpets now.

Presumably, this revelation will serve to take some steam out of a hot trade. To wit, the yield on the 10-yr note has dropped 71 basis points in 2019 to 1.98%! It has been an even steeper drop for the 2-yr, 3-yr, and 5-yr note yields, which have fallen 80, 81, and 80 basis points, respectively.

At 1.98%, the yield on the 10-yr note sits 15 basis points below the yield on the 3-month bill -- an inversion that is a hot topic of economic debate.

That is not today's topic, however. The topic is positioning.

The "crowded trade" idea isn't new, even if the revelation is that long US Treasuries is the most crowded trade. Why, then, do Treasuries keep rallying? We suspect it has a lot to do with the fact that bond yields in other developed countries keep sinking.

The 10-yr yield in the UK is 0.81%; the 10-yr yield in Japan is -0.17%; and the 10-yr yield in Germany is -0.32%. Stunningly, there are $12.5 trillion of negative-yielding bonds, according to Bloomberg data cited by FT. For many bond investors, then, even 1.98% on a 10-yr Treasury note looks like a gift.

Anyhow, when things get crowded in a crowded room, you often need to open the windows, or a door, to let some air in. That could soon happen in the Treasury market, particularly if the Trump-Xi meeting at the G-20 Summit at the end of June goes well.

If that meeting doesn't go well, then the crowd probably won't be inclined to dissipate since it will invite an assumption that global growth is set to slow further, prompting central banks to act more quickly -- and maybe more aggressively -- to keep disinflationary forces in check.

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