US Treasuries could gain in price when the Federal Reserve removes itself as one of the biggest buyers of government debt, scheduled for the middle of this year, said Jason Brady, a managing director for Thornburg Investment Management. While it might seem counterintuitive that removing a large buyer would boost prices, Brady said Fed purchases of government debt have bolstered investor appetite for risk.
Once the US central bank stops buying, investors may become more risk-averse and turn to the safe-haven of Treasuries. "Every single strategist, with a few exceptions, thinks stocks are going to go up and Treasuries are going to go down, and I don't think it is that simple," Brady told Reuters in an interview. "If QE2 marginally added a lot of liquidity and had a risk-on trade, then the end of QE2 marginally does the opposite, which is positive for Treasuries rather than negative." Santa Fe, New Mexico-based Thornburg had about $73 billion of investments under management as of the end of 2010.
Treasuries have fallen in price, with benchmark 10-year note yields rising from near 2.59 percent when the latest Fed purchase program, dubbed QE2, was announced in early November, to the current level near 3.45 percent. Stocks have made dramatic gains during the same period, with the Standard & Poor's 500 Index up about 11 percent since early November.
Under QE2, the Fed said it would buy about $600 billion of Treasuries through the middle of 2011. "QE2 will end and it will be very interesting to see how the market takes that. The Treasuries market ran up in anticipation of QE2 and ultimately it turned out to be more of a risk-on trade, which was negative for Treasuries. The ending of QE2, if not reverses that trade, it will probably make that trade less clear," Brady said.
Over the near term, Brady is not looking for any dramatic changes in Treasuries prices, forecasting 10-year yields to finish 2011 in the 3.50 percent to 3.75 percent area. Rising price inflation could put upward pressure on rates next year, with benchmark yields nearing the 4.50 percent mark by the end of 2011, he said. However, Brady expects the US economic recovery to be tepid, and says the risk could be higher Treasuries prices and lower yields.
"The central path would be that we bump along and do OK, and the Fed starts to normalise policy with the hand-off from public spending to private spending happening - but I actually feel that the risk on one side or the other of that is more toward it not working, and there is not necessarily a double-dip but sort of a tougher time than we currently expect and maybe more demand for Treasuries rather than less."