Rates – No Capitulation of Risk Markets yet.
Last week’s moves in rates markets were strong, but a capitulation of risk markets is yet to follow suit. Swap curves flattened, as the bellies sold off the strongest, with US 5Y swaps +12bps and EUR 5Y swaps +3bps over the week. The US 7Y Treasury auction on Thursday was the negative highlight, as investors demanded 4bps more than expected. February’s rise in US real yields was the highest since the taper tantrum in 2013, albeit also from much lower levels. We continue to watch 1.5% in US 10Y Treasuries as a barrier, beyond which we believe risk assets should give in more. This week started with a strong push back by the RBA planning to double their asset purchases, which lead to a tightening of Australian 10Y rates by 25bps. FED and ECB speeches today and later this week will provide new insights on the central bank’s stances.

Powell – Still a Long Road Ahead.
The 2-day Fed testimony last week struck a more dovish tone than usual, in our view. Powell reiterated that the economic rebound from the pandemic recession “remains far from complete” and confirmed that the central bank plans to keep up its loose policies until substantial further progress will be made. Powell played down concerns of high inflation by stating that inflation dynamics did “not change a dime”. More dovish, we think, were his remarks on the relationship between monetary aggregates and economic growth, a concept we should “unlearn”. Comments from other Fed members, including Clarida and Brainard, confirmed the Feds dovish stance. In short, the Fed will stick to its policy stance for “some time” despite rising Treasury yields and an improving tone in much of the economic data. With central banks so dovish, we believe the risk of a broader equity selloff is delayed further into the first half of the year.

Positioning – Waiting for the Spillover to Credit.
We maintain a high allocation to cash, with few high-conviction longs and upside optionality. In our view, the widening will hit spreads next, hence we added protection in IG/HY credit and look to deploy capital if bonds start falling. HY credit markets are especially vulnerable, being just down -0.3% in February and with limited ETF outflows throughout the month. We added duration shorts into the week to reduce our portfolio’s overall rate sensitivity. In our view, lagging financials, energy and travel names will be winners in 2021, with the economy reopening and we are positioned accordingly across bonds and equity indexes.

To read more on our latest views, please see our Silver Bullet | Brave New World or visit our Insights section.