MW:Goldman Sachs on rising Treasury yields: ‘It’s for real’
Strategists at Goldman Sachs GS +0.46% haven’t taken the May bond selloff lightly. After all, they were the ones suggesting back in April that investors short the 10-year Treasury note 10_YEAR +1.75% when it was trading at 1.79% (seems like so long ago, doesn’t it?). Now it’s trading at 2.14%.
That projection of rising Treasury yields, though not their first call to short the Treasury note, proved to be largely accurate. Now they are back at it, hammering in that the selloff is “for real”. Here’s what they say, per a Wednesday note:
“Our bond strategists’ model estimates (and consistently, their forecasts) show 10-year Treasurys reading 2.5% in the second half of this year, with German bunds trading at 1.75% … They attribute the recent selloff in yields to a shift in expectations that had turned too pessimistic.”
Speculation of asset-purchase tapering by the Federal Reserve has been a key reason for the selloff over the last month. And when the Fed does taper, moving up the time frame could have a larger impact on bonds than current expectations show, Goldman says. Here’s why:
“1. One cannot be completely sure about what the market is really expecting: should the tapering/termination date currently discounted in be more distant than we assume, the yield effect could be commensurately bigger.
“2. The Fed has been conducting bond purchases since the end of 2008. The prospect of QE termination could have larger effects on expectations not captured by the model.
“3. Empirical evidence would suggest that the announcement of a ‘stock’ of prospective purchases matters more for asset pricing than the subsequent ‘flow’ of these purchases. Whether this holds completely true on the path towards the ‘exit’ from QE remains to be seen (an important mitigating factor is the projections for government bond issuance have fallen substantially from 2008 to today).”
There is positive news for equities investors, particularly in Europe, though. Goldman writes:
“The correlation between European equity market performance and moves in the bond yield has been positive since 1999. Higher yields have been synonymous with stronger growth (good for equities) while lower yields have been associated with both weakening growth and rising chances of deflation — both poor outcomes for equities.”
But that correlation doesn’t necessarily mesh with what others are saying about global stocks. Pimco’s Bill Gross said Wednesday that he sees stocks falling as bond yields rise, largely because higher yields would produce instability that would push stocks down.
If we are indeed entering a brave new bond market, its reigning forecasters have some time to figure out their correlations.
