Mounting Fed Wagers Turn $21 Billion Treasury ETF Into Hotspot

(Bloomberg) -- The appetite for short-dated Treasuries has been so strong that a $21 billion ETF is now on pace for its biggest weekly inflows since 2014.

BlackRock Inc.’s iShares 1-3 Year Treasury Bond exchange-traded fund, or SHY, has taken in $2.2 billion since Friday, according to data compiled by Bloomberg. Investors also poured $677 million into the $11 billion SPDR Bloomberg Barclays 1-3 Month T-Bill fund on Tuesday -- the most since 2011.

Traders are rushing into those funds on speculation the Federal Reserve will lower rates by at least another half point next week to cushion the economic impact of the coronavirus. The World Health Organization declared the outbreak a pandemic on Wednesday. Money markets are pricing in about 80 basis points of easing by the end of March.

That will bolster demand for shorter-dated bonds, which are more sensitive to policy shifts than the longer-maturity ones, according to BMO Capital Markets.

“We went from pricing the chance of a cut or two to pricing in a full cycle in relatively short order,” said Ian Lyngen, head of U.S. rates strategy at BMO, who expects the Fed to cut by a half-percentage point next week. “The front-end still has room to rally.”

Intensifying fears over the outbreak’s fallout pushed 10- and 30-year yields to record lows this week. Rates on 2-year notes have fallen as well, but not to similarly extreme levels -- the yields fell as low as 0.25% on Monday, versus their all-time low of 0.14%.

Race to Bottom for U.S. Yields May Portend More Fed Cuts: Chart

Short-dated bonds are also attractive in light of unprecedented interest-rate risk, according to Societe Generale’s Subadra Rajappa. Plunging yields has pushed duration -- a measure of sensitivity to rate changes -- to a record high.

Should the Fed re-start quantitative easing with massive bond purchases, that would further pin down long-term yields and boost the appeal of shorter-dated securities, she said.

“In such a circumstance, investors will likely stay in front-end assets as there is not much yield pickup on a duration-adjusted basis,” said Rajappa, SocGen’s head of U.S. rates strategy. “Especially if you are not a fixed-income investor and don’t know how to manage duration risk.”

To contact the reporter on this story: Katherine Greifeld in New York at kgreifeld@bloomberg.net

To contact the editors responsible for this story: Jeremy Herron at jherron8@bloomberg.net, Rita Nazareth, Brendan Walsh

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