Reuters: Money: Bond bears growl again as U.S. yields surge

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Bond bears growl again as U.S. yields surge Mar 19th 2012, 14:23 A man is reflected on an electronic board displaying exchange rates in a business district in Tokyo March 15, 2012. The dollar hit a fresh 11-month high against the yen and a one-month peak against the euro in Asia on Thursday, supported by growing optimism on the U.S. economic recovery and subsequent rises in U.S. bond yields. Credit: Reuters/Toru Hanai By Richard Leong and Jennifer Ablan NEW YORK | Mon Mar 19, 2012 10:23am EDT NEW YORK (Reuters) - The U.S. bond market has repeatedly resisted threats to its three-decade rally, but a recent big selloff may be an early sign that the bull market in Treasuries is truly coming to a end. The biggest weekly decline in prices since last summer, which pushed yields to their highest level in more than four months, has caught banks, bond dealers, pension funds and other investors flat-footed. The rout prompted investment bank UBS to declare the start of a long bear market and even prominent investor, and one-time bond bull, Jeffrey Gundlach says yields will rise further. What has investors questioning the bond market's ability to sustain super-low bond yields is the steady improvement in U.S. economic data that has buoyed the stock market to four-year highs. It means the flight to safety that has underpinned capital flows to U.S. debt in recent months may be eroding. "There appears to be an asset allocation shift out of Treasuries and into risk assets that includes equities," Tom Sowanick, chief investment officer at OmniVest Group LLC in Princeton, New Jersey, said on Friday. News that a majority of banks passed the Federal Reserve's stress test is another reason for investors to gain confidence to take more risks. "Banks now have been given a green light from the Federal Reserve to return capital to shareholders. This is positive," Sowanick said. Treasuries are the worst performing U.S. bonds so far this year. Barclays Capital's Treasury total return index was down 1.68 percent after a stellar 9.81 percent gain in 2011. As Treasuries prices drop, yields go up. "We are seeing some shifts in the market's expectations and in the past three days they have happened very quickly. My expectation is that interest rates will modestly increase during the course of the year," said Jeffrey Rosenberg, chief fixed-income strategist at BlackRock in New York, which oversees $1.3 trillion in fixed income assets. The Fed's modest upgrade of its view of the U.S. economy and a temporary reprieve of Greece's debt woe unleashed a stampede from the Treasuries market, sending benchmark yields to their highest levels since late October. Volume in popular exchange-traded funds that track long-dated bond market indexes shot up earlier this week as investors pulled back from long positions in those instruments and instead bought ETFs that go short - or bet against - long Treasury debt. On Wednesday, the biggest day of the rout, 24.5 million shares in iShares Barclays 20+ Year Treasury Bond Fund traded, the heaviest day of trading since mid-September. "We believe a long-term bear market has commenced," UBS's asset allocation team said on Friday. The steady drumbeat of solid economic figures has surpassed expectations and improvement in the long-suffering labor market has been particularly encouraging to investors. U.S. equity funds had $9.05 billion in inflows, up from redemptions of $5.73 billion the previous week, and outpacing this week's U.S. bond inflows of $5.29 billion, according to data from EPFR Global released on Friday. In contrast to the bond market, the S&P 500 closed out its best week in three months on Friday. ANOTHER HEAD FAKE But reports of bonds' demise have frequently been exaggerated and could be wrong for a third straight year. Veteran bond investor Jeffrey Gundlach, who runs $30 billion at DoubleLine Capital in Los Angeles, said yields could rise further but the 10-year yield would have trouble holding much above 3 percent because that level would hurt the economy. "Now that Treasuries have broken out to higher yields after six months of mind-numbingly low volatility, it is logical to expect the move to higher rates to last more than one week," Gundlach said. "The way things look today I think a move toward 3.25 percent would weaken the economy noticeably." Greece's debt restructuring has reduced risks of a wider euro zone bank crisis, but European leaders are still far apart in coming up with long-term solutions to the region's festering fiscal problems. Potential for problems in Spain, Ireland or Portugal, could still dash investor optimism. At 8.3 percent, the U.S. unemployment rate remains high, which will limit economic growth. This means another round of massive Fed stimulus cannot be ruled out, which would support bonds since its previous efforts have focused on buying debt. A good portion of investors seem to be taking a wait-and-see approach rather than jumping on the bond bears' bandwagon. "Right now in terms of flows we don't seem to be seeing much reaction to the recent move in Treasuries, though that could come later," said Kenneth Volpert, head of the taxable bond group at Vanguard in Valley Forge, Pennsylvania, which oversees about $560 billion in bond assets. "But there's definitely a good deal of volatility that investors will realize, and there could be potentially negative returns associated with rising rates," Volpert said. Indeed, the Fed has bought $2.3 trillion in bonds in the aftermath of the 2007-2009 global financial crisis to get the economy going. It might be reluctant to see its efforts undone by bond market disturbances. This doesn't mean yields won't rise, but it should be viewed in the context of historically low yields. BlackRock's Rosenberg said he expects the 10-year yield to test the 3 percent threshold this year, but a massive rise on the order of 3 to 5 percentage points is unlikely because economic conditions are still fragile. "It is a bear market because we are talking about rising interest rates," Rosenberg said. "But let's scale it so we know the size of the bear market we are talking about." (Additional reporting by Ryan Vlastelica; editing by David Gaffen and Diane Craft) Link this Share this Digg this Email Reprints

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