Morgan Stanley, Goldman Split on Where Treasuries Will End 2016

~~Two of Wall Street’s biggest banks are forecasting divergent paths for Treasuries in the last three months of 2016 as strategists weigh the effects of improving U.S. economic data and stimulative central-bank policy abroad.

Economists at Goldman Sachs Group Inc. see benchmark 10-year yields climbing to 2 percent by year-end, fueled by an improving outlook for inflation and economic growth. By contrast, Morgan Stanley is forecasting yields will fall to 1.25 percent amid accommodative global monetary policy and continued demand for haven assets.

"Central banks are going to remain broadly supportive of bond markets," Matthew Hornbach, head of global interest rate strategy at Morgan Stanley, said in an interview with Bloomberg Television Friday. "That’s the beauty of government-bond markets. Whenever there’s risk-off, that’s where investors go."

Treasuries have gained more than 5 percent in 2016, defying consensus forecasts that yields would rise, as investors have sought havens over concerns ranging from stagnant global growth to fallout from the U.K.’s Brexit vote. U.S. 10-year yields ended September little changed after being whipsawed by central banks during the month, rising after the European Central Bank didn’t expand its stimulus program only to fall after the Federal Reserve and Bank of Japan maintained accomodative policies.

Yields Rise

Benchmark 10-year yields rose three basis points, or 0.03 percentage point, to 1.59 percent as of 5 p.m in New York, according to Bloomberg Bond Trader data. The price of the 1.5 percent security due in August 2026 was 99 1/8.

Treasuries fell Friday and equities climbed as Deutsche Bank AG shares rallied after a media report that the lender is nearing a $5.4 billion settlement with the U.S. Department of Justice, less than half the amount initially requested.

Strategists see yields on the benchmark note ending the year at 1.76 percent, according to the weighted average forecast in data compiled by Bloomberg.

Jan Hatzius, chief economist at Goldman Sachs in New York, said in a Sept. 27 interview with Bloomberg Television that inflation pressures are beginning to build. Inflation is one of the main gauges the central bank tracks when deciding monetary policy, and rising inflation hurts the value of bonds’ fixed payments.

“All of the signals are suggesting that we are now pretty close to full employment, and we’re starting to exert some upward pressure on inflation,” Hatzius said. “The Fed is going to respond to that. Gradually, but I think they will respond.”

Fed Outlook

Hatzius said during the interview that he sees a 65 percent chance the Fed will raise interest rates in December.

Futures traders assign about a 59 percent chance for a hike by then, according to futures data compiled by Bloomberg. The calculation is based on the assumption the Fed’s target trades at the middle of the new band after the central bank’s next boost.

Goldman’s forecast aligns with that of Jeffrey Gundlach, chief investment officer at DoubleLine Capital LP, who earlier this month said he sees the 10-year yield rising above 2 percent in 2016.

Source: Bloomberg