Betting against U.S. government debt this year is turning out to be a fool's errand. Just ask Wall Street's biggest bond dealers.
While the losses that their economists predicted have yet to materialize, JPMorgan Chase & Co., Citigroup Inc. and the 20 other firms that trade with the Federal Reserve began wagering on a Treasuries selloff last month for the first time since 2011. The strategy was upended as Fed Chair Janet Yellen signaled she wasn't in a rush to lift interest rates, two weeks after suggesting the opposite at the bank's March 19 meeting.
The surprising resilience of Treasuries has investors recalibrating forecasts for higher borrowing costs as lackluster job growth and emerging-market turmoil push yields toward 2014 lows. That's also made the business of trading bonds, once more predictable for dealers when the Fed was buying trillions of dollars of debt to spur the economy, less profitable as new rules limit the risks they can take with their own money.
"You have an uncertain Fed, an uncertain direction of the economy and you've got rates moving," Mark MacQueen, a partner at Sage Advisory Services Ltd., which oversees $10 billion, said by telephone from Austin, Texas. In the past, "calling the direction of the market and what you should be doing in it was a lot easier than it is today, particularly for the dealers."
Treasuries have confounded economists who predicted 10-year yields would approach 3.4 percent by year-end as a strengthening economy prompts the Fed to pare its unprecedented bond buying.
Caught Short
After surging to a 29-month high of 3.05 percent at the start of the year, yields on the 10-year note have declined and were at 2.72 percent at 7:42 a.m. in New York.
One reason yields have fallen is the U.S. labor market, which has yet to show consistent improvement.
The world's largest economy added fewer jobs on average in the first three months of the year than in the same period in the prior two years, data compiled by Bloomberg show. At the same time, a slowdown in China and tensions between Russia and Ukraine boosted demand for the safest assets.
Wall Street firms known as primary dealers are getting caught short betting against Treasuries.
They collectively amassed $5.2 billion of wagers in March that would profit if Treasuries fell, the first time they had net short positions on government debt since September 2011, data compiled by the Fed show.
'Some Time'
The practice is allowed under the Volcker Rule that limits the types of trades that banks can make with their own money. The wagers may include market-making, which is the business of using the firm's capital to buy and sell securities with customers while profiting on the spread and movement in prices.
While the bets initially paid off after Yellen said on March 19 that the Fed may lift its benchmark rate six months after it stops buying bonds, Treasuries have since rallied as her subsequent comments strengthened the view that policy makers will keep borrowing costs low to support growth.
On March 31, Yellen highlighted inconsistencies in job data and said "considerable slack" in labor markets showed the Fed's accommodative policies will be needed for "some time."
Then, in her first major speech on her policy framework as Fed chair on April 16, Yellen said it will take at least two years for the U.S. economy to meet the Fed's goals, which determine how quickly the central bank raises rates.
After declining as much as 0.6 percent following Yellen's March 19 comments, Treasuries have recouped all their losses, index data compiled by Bank of America Merrill Lynch show. Yield Forecasts
"We had that big selloff and the dealers got short then, and then we turned around and the Fed says, 'Whoa, whoa, whoa: it's lower for longer again,'" MacQueen said in an April 15 telephone interview. "The dealers are really worried here. You get really punished if you take a lot of risk."
Economists and strategists around Wall Street are still anticipating that Treasuries will underperform as yields increase, data compiled by Bloomberg show.
While they've ratcheted down their forecasts this year, they predict 10-year yields will increase to 3.36 percent by the end of December. That's more than 0.6 percentage point higher than where yields are today.
