(Bloomberg) - Mark Nash is shorting two-year Treasuries — what he calls the most dangerous US bonds — in a bet markets are wrong in predicting the Federal Reserve will cut interest rates this year.
“The Fed’s number one job now is to whack inflation expectations in the front end,” and that makes the rates-sensitive securities “the most dangerous part of the curve,” said London-based Nash, who oversees the Jupiter Strategic Absolute Return Bond Fund that has beaten 91% of its peers over the past five years.
“It’s very clear that we need higher real rates in order to get inflation down and the Fed will not stop until that happens,” he said in an interview. “Policy is still not tight enough.”
Two-year notes were among the most volatile US Treasuries during the regional banking turmoil that roiled financial markets earlier this year.
Whether or not the Fed will pivot to cutting rates by year-end has become one of the most hotly contested topics in global markets as traders wait to see if the central bank’s battle against inflation will curtail economic growth. Investment titans such as JPMorgan Asset Management and Pictet Asset Management SA have opposing views on the outcome, setting the stage for a potential surge in volatility as the year unfolds.
June Hike
Nash is confident he can predict what the Fed will do: policymakers will have to hike in June and keep rates elevated for the foreseeable future to ensure heated prices are sufficiently quashed. Swaps traders meanwhile are pricing in rate cuts from around November, and that view has meant two-year Treasury yields are currently about 80 basis points below their March high.
Nash’s fund has ramped up investments in cash-like securities, such as one—to-two-month US bills, to a record of around 40% of its assets as markets transition to a slower growth, lower-inflation environment. He also favors some short positions in high-yield credit, and is betting the dollar will strengthen against the growth-sensitive Swedish krona.
“We’re keeping risk light, and we’re keeping a lot in cash earning that carry,” Nash said. “We’re creating a portfolio with some positions that are ready for that end game.”
Here are edited comments from a Q&A with Nash:
Fed Action
The Fed has to cause some damage to the economy. If they don’t cause some damage, and inflation comes down a bit, real incomes will just go back up and consumers will feel better as the cost-of-living crisis ends. We’ll spend more money and inflation will just go up again. So they have to create pain.
Debt Ceiling
The US will get a deal, and it’s going to be the usual to and fro. It’s not just bad for Biden if they go into a default situation, it’s bad for anyone that causes that. Both sides tend to obviously come around the table and get something done in the end.
Japan Short
We have got small shorts in Japanese government bonds via futures. We are long inflation in Japan. The shorts aren’t a huge position because if the rest of the world doesn’t hike, the Bank of Japan will sort of back away. They’re always cognizant of the global macro picture.
We do think eventually the BOJ will have to tighten, but there’s no way they tighten if everyone else goes into a downturn.
Credit Bets
The market’s obviously pretty pleased about the growth data holding up. The market thinks it’s going to get a Goldilocks’ environment. It’s just not going to happen. We have some short credit within the portfolio because that should work anyway when we get a recession. High yield markets don’t react terribly well to higher real rates as they come through.
(Updates to add extra quote in Japan section)
By Ruth Carson
May 24, 2023
