Some hedge funds are holding onto their bets against Treasuries even after a sharp U.S. government bond rally bruised bearish investors earlier this week.
Leveraged funds were net short several longer-dated maturities of Treasuries in futures markets, the latest data from the Commodity Futures Trading Commission showed last week.
This potentially left them vulnerable to the bond rally as some market participants exited the so-called reflation trade on concerns that U.S. growth will slow in the second half of the year.
Fresh data due out on Friday may offer a more complete picture of the extent to which the surge in Treasury prices, which move inversely to yields, shook out bearish investors. Yields on the benchmark 10-year Treasury stood at around 1.29% late Wednesday, rebounding from a low of just below 1.13 hit earlier this week. They peaked at over 1.77% earlier this year.
Some hedge fund managers, however, believe more room is available for the reflation trade, which saw investors pile into bearish Treasury bets and shares of companies that would benefit from a powerful rebound in U.S. growth.
Among the factors driving the bearish view on Treasuries are forecasts of persistent inflation, skepticism that the Delta variant of COVID-19 will have a significant impact on growth, and expectations that the Federal Reserve will begin unwinding its easy money policies sooner than expected.
“The consensus is that current yield levels are just too low for the level of inflation we have ... and it doesn’t really look like hedge funds have tapped out of their positions,” said Troy Gayeski, partner and co-chief investment officer at U.S.-based SkyBridge Capital, a fund of hedge funds with $7.5 billion under management.
Hugo Rogers, who oversees $1 billion of discretionary, multi-asset portfolios and a long-short hedge fund as chief investment officer of Deltec Bank and Trust, enjoyed hefty returns on his bearish Treasury bets when yields climbed earlier this year.
More recently, however, the reflation trade “has been a bad place to be,” he said.
Still, Rogers is holding onto his bearish bets, expecting the benchmark 10-year Treasury yield to top 2% as inflation persists longer than markets appear to be pricing in.
“We don’t think the Delta variant or tapering will be enough to derail either growth or inflation,” he said.
One London-based hedge fund manager told Reuters a short position in U.S. Treasuries had cost the firm about 60 basis points, but its fundamental view remained that yields would end up higher by the end of the year.
“The reflation trade is very far from done,” the manager said, adding that an expected ramp-up of U.S. debt issuance in October could push yields higher.
“I think the narrative of regime change still holds up,” said Robert Sears, chief investment officer at Capital Generation Partners.
“Next year, we would expect rates to be going up in what looks to be a positive environment for growth, and I think that’s the rationale most managers are maintaining.”
Others are holding off from taking a view on the direction of Treasuries.
Edouard de Langlade, chief investment officer at Swiss-based macro hedge fund firm EDL Capital, has avoided fixed income markets, believing the Fed will maintain a dovish stance for longer than expected.
“At the moment, you just cannot go long the fixed income market as there is no value, and going short has been a very painful trade recently, so we remain on the sidelines.”
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