JPMorgan Says Treasury Yields to Surge in 1995 Cycle Replay

(Bloomberg) -- Treasury 10-year yields may surge while stocks grind higher over the next six months after the Federal Reserve's third interest-rate cut, according to JPMorgan Chase & Co.

The market reaction to the Fed's “insurance” rate cuts has been most akin to a similar path taken in the mid-1990s, JPMorgan strategists said.

“Assuming markets continue to follow the trajectory of the 1995 mid-cycle episode, this implies modest 5% or so upside for equities over the next six months, very big 100 basis point upside in the 10-year U.S. Treasury yield, steepening of the UST curve, and little change in the dollar or credit spreads,” strategists led by Nikolaos Panigirtzoglou wrote in a note Friday.

The prediction comes with some big caveats, though.

It assumes that the U.S. macro picture remains consistent with a mid-cycle adjustment, with resilience in employment and consumer confidence, as well as a rebound in manufacturing, JPMorgan said. It would also require a reversal of the pattern that has seen retail investors buy bond funds and sell equity funds at an unusually heavy level, and a re-steepening at the front end of the U.S. forward curve.

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Investors should monitor the gap between the one-month USD-OIS rate two-years forward minus the equivalent one-year forward. That “would need to enter positive territory on a sustained basis from here for us to be confident that the mid-cycle adjustment thesis is tracking,” the strategists wrote.

--With assistance from Stephen Spratt.

To contact the reporter on this story: Joanna Ossinger in Singapore at jossinger@bloomberg.net

To contact the editors responsible for this story: Christopher Anstey at canstey@bloomberg.net, Andreea Papuc, Tan Hwee Ann

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