Smart Money Risks Looking Dumb on Direction of U.S. Debt

(Bloomberg Gadfly) -- Hedge funds and other rapid-fire traders are often thought as the smart money.

They filter the highest-speed data feeds through the most sophisticated algorithms. They include the best of the best traders on Wall Street. They manage money for the richest individuals and organizations.

So it's alarming that they're now moving in the opposite direction of longer-term investors with respect to benchmark U.S. borrowing costs. Futures traders have been building an unprecedented volume of wagers against the value of 10-year Treasuries, while longer-term asset managers have been expanding their bullish bets to the highest levels in more than a year.

The divergence has expanded to the widest since 2012, as Edward Bolingbroke of Bloomberg News noted Monday, citing Commodity Futures Trading Commission data.

This indicates a growing dichotomy: One, plenty of investors still see value in Treasuries, which are paying the highest yields in years relative to benchmark rates in other developed countries. And two, there's growing fear that this time really is different, and the market is unprepared for a drastic selloff in a nearly $14 trillion debt market.

Some big investment firms may be offsetting their longer term Treasury purchases with shorter-term hedges, so the data may be overstating the divide. But anecdotal evidence supports the idea that investors are profoundly splintering over their views on U.S. rates in the year to come.

So the question is, who's right -- the bulls or the bears?

It appears that large asset managers have the upper hand in this debate, at least when looking at other recent times when these two groups have diverged meaningfully. Last year, for example, longer-term bond investors generally bet against 10-year Treasuries in the three months through Oct. 11, a period in which the debt lost about 2 percent.

Or check out the positioning at the end of 2014; big asset managers were on the whole bullish on the U.S. government debt while the more-speculative traders were bearish. The big investors were right, with the notes gaining about 3 percent in the three months ended Dec. 31, 2014.

Many respected bond investors have expressed concern that bonds are on the precipice of a massive downfall after a three-decade boom. But trading activity suggests there's a solid core of bond buyers who still see plenty of value in benchmark Treasuries, and this cohort has a tendency to be more right than wrong.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

Lisa Abramowicz is a Bloomberg Gadfly columnist covering the debt markets. She has written about debt markets for Bloomberg News since 2010.

To contact the author of this story: Lisa Abramowicz in New York at labramowicz@bloomberg.net.

To contact the editor responsible for this story: Daniel Niemi at dniemi1@bloomberg.net.