The world's most liquid government-securities market has recently witnessed a widening disparity between asset managers and hedge funds. According to BofA Securities rates strategists Meghan Swiber and Anna Zhang, hedge funds have been expanding their short positions in the Treasury market. On the other hand, asset managers have been embracing long positions, as continued inflows pour into U.S. fixed-income funds.
This divergence in views between the fast-money (hedge funds) and real-money (asset managers) communities sheds light on the fluctuating nature of the 10-year Treasury yield (BX:TMUBMUSD10Y) throughout August. Initially, the yield reached its highest closing level since November 2007, only to drop to a three-week low on Tuesday.
Real-money players, or asset managers, are capitalizing on current U.S. yields that range between 4.1% and 5.5% by opting for Treasury purchases. Hedge funds, also known as the fast-money community, are adopting a more bearish stance on government debt. This shift in sentiment reflects their confidence in the U.S. economic outlook. As a result, technical adjustments have been made along the way, impacting the 10-year yield.
While hedge funds remain adamant in their record short positions in Treasury futures due to their belief that an economic recession is unlikely, retail investors are flocking to Treasuries with the expectation of higher rates.
In this ongoing battle of perspectives, both asset managers and hedge funds are making strategic moves that reflect their confidence in their respective outlooks on the market.
Hedge Funds and Market Volatility
Hedge funds are employing basis trades to take short positions, leveraging the price discrepancies between Treasury futures and cash Treasurys. However, as the U.S. economy slows down, these short positions may face challenges and need to be closed out, potentially adding further volatility to the market. This insight comes from Emons, an expert in the field.
Interestingly, the impact of these Treasury basis positions extends beyond their immediate sphere and affects other areas such as Treasury options and a concept called "skew." The "skew" represents the difference in volatility between call and put options, and it currently shows a negative value.
Mace McCain, the Chief Investment Officer at Frost Investment Advisors in San Antonio, Tex., manages over $5 billion in assets. McCain highlights how data from the Commodity Futures Trading Commission reveals that asset managers' net positioning in long-term Treasury derivatives has reached an all-time high. Correspondingly, JP Morgan Chase & Co. (JPM), Goldman Sachs (GS), and Morgan Stanley (MS) have all signaled buy recommendations for various U.S. Treasurys.
However, hedge funds present a contrasting picture as they increasingly accumulate short positions on these same assets. McCain emphasizes that many hedge funds pursue this strategy using substantial leverage, often through the "basis trade."
The evolving landscape of hedge fund activities in the market raises concerns about potential volatility and market dynamics. It remains to be seen how the interplay between hedge funds' short positions and asset managers' bullish outlooks will impact the broader financial ecosystem.