Nomura Quant Warns Trend Followers May Ditch All Treasury Longs

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Quant investors who typically ride the momentum of markets around the world are ditching Treasuries, raising the risk of another spike in yields on the world’s benchmark bond.

After liquidating 65% of long Treasury bets since August, systematic players known as Commodity Trading Advisors will dump bullish exposures “en masse” if the 10-year yield climbs above 1.02%, according to Nomura Holdings.

The benchmark rate held steady at around 0.93% in Thursday trading.

Nomura Quant Warns Trend Followers May Ditch All Treasury Longs

“CTAs are looking increasingly likely to have to exit the entirety of their aggregate net long,” Masanari Takada, a quantitative strategist at the bank wrote in a note Thursday. “The 10yr UST yield could jump up to around 1.20% if CTAs were to sell their way down to a flat position.”

It’s another wildcard for investors as interest-rate markets prove broadly resilient despite reflationary signals across assets of all stripes. Monetary stimulus and pandemic fears have helped contain yields, but vaccine and stimulus hopes are fueling more bets on an economic upswing next year.

CTAs trade futures to ride trends across asset classes, using rules-based inputs to decide when to buy or sell. Alongside ditching Treasuries, Takada says they’ve been adding equities -- including small caps -- and chasing commodity prices higher.

Nomura Quant Warns Trend Followers May Ditch All Treasury Longs

As well as diving into the most cyclically sensitive shares and credit, investors have been boosting bets inflation will return. The $25 billion iShares TIPS exchange-traded fund, which buys inflation-protected Treasuries, lured almost $380 million in new cash on Wednesday, its biggest inflow since early March.

“Whatever the underlying mechanisms, it does look as though some risk-hungry U.S. individual investors and trend-following CTAs (among others) are increasingly engaging in what looks like a reflation trade,” Takada said.

Not every quant is ready to join this rush. While CTAs have been selling U.S. bond positions, several other types of hedge fund have been standing pat.

Global macro fund and risk-parity firms -- who invest across assets according to how volatile they are -- are preserving Treasury longs for now, according to Nomura. Yet as the reflation trade goes gangbusters around the world, these investors face a gutcheck, with their selling potentially adding fuel to the bond sell-off.

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