FRANKFURT (Reuters) – U.S. government debt is heading toward bubble territory and investors should prepare to exit, or risk seeing those assets lose up to a fifth in value, French bank Societe Generale (SOGN.PA) said on Tuesday.
U.S. Treasuries — a $5-trillion-plus asset class of which foreign investors, notably major international players such as sovereign wealth funds, own half — could rally further in the near term as headline inflation rates look set to dip into negative territory by March-April.
“That will be good for bonds in the very short term,” Alain Bokobza, head of pan-European equity and cross-asset research at Societe Generale, told a briefing for investors in Frankfurt, Germany’s banking capital.
But Treasuries would suffer down the road from the issuance of bonds required to finance U.S. government spending programs intended to revive the economy, notably President-elect Barack Obama’s approximately $800 billion stimulus package.
“If we look ahead, fiscal policy will once again become a very big driver of government bond markets,” said Michala Marcussen, head of strategy and economic research at Societe Generale Asset Management (SGAM).
“If there’s one place where there is a bubble, it is U.S. Treasuries … At some point I think it will blow,” she said.
In such a scenario, yields, which move in the opposite direction to prices, would rise.
If U.S. 10-year Treasury yields returned to “normal” levels around 4 percent to 4.5 percent, from below 2.5 percent today, investors stand to lose 15 to 20 percent of the value of those bonds, Bokobza said.
U.S. 10-year bonds are the global fixed-income benchmark.
The planned massive injection of funds into the world’s largest economy would also lead to price pressures, and inflation — a negative for fixed-income investors — would accelerate once the crisis subsides and growth recovers.
“Obviously today we are in a deflationary environment but as we come out of the crisis I think we will have a more inflationary environment,” Marcussen said.
“As investors, it is very dangerous to believe that inflation will be low,” she added.
SGAM’s multi-asset portfolio currently has 32 percent in fixed income, 55 percent in equities, 7 percent in cash and 6 percent in alternative assets.
“For the moment, cash is king … paper with a government signature is king,” Bokobza said, referring to the elevated risk aversion that has characterized financial markets since the collapse of U.S. investment bank Lehman Brothers in mid-September.
“The question is about the timing, when the market will turn out of papers with government signatures,” he said.
Treasuries would probably peak around March-April, as headline inflation turns negative, and that could be the right time to prepare an exit from that asset class, he said.
“We are not in any hurry today … (but) I believe by summer would be the time to gradually change asset allocation and to put in a little more risk and decrease the allocation to bonds. I would not wait until 2010,” Bokobza added.
(Editing by Andy Bruce)
Tue Jan 13, 2009 4:14pm GMT
By Peter Starck