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Dimon Sees Treasury Yields at 5%; ETF Investors Aren't Buying It

Sarah Ponczek, Carolina Wilson
 

JPMorgan Chase & Co.’s Jamie Dimon may think that benchmark Treasury yields could hit 5 percent or more. But try telling that to ETF buyers.

Investors are piling into exchange-traded funds tracking areas that traditionally do well when interest rates stay low, like real estate investment trusts, utilities stocks and long-dated Treasury bonds . It’s a risky bet that yields will stay low, according to Chris Zaccarelli, the chief investment officer at Independence Advisor Alliance. The logic is that as warnings of trade wars increase, some investors are speculating the disputes could cause the Federal Reserve to scale back its plans for future rate hikes.

“It’s very much focused on what you believe, if you really believe this trade war is going to happen, there’s going to be a problem,” Zaccarelli said, describing this version of a flight to quality. “Potentially they think the trade war is going to be what pushes the economy into a recession. There’s this fear that the U.S. expansion is going to stop.”

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Yields on benchmark 10-year Treasury notes briefly rose above 3 percent Friday and equity markets acted in line, with financials outperforming. Conversely, real estate and utilities were the biggest laggards.

In aggregate, U.S.-listed ETFs tracking real estate stocks have taken in over $258 million so far this month. The inflows add to three consecutive months of asset gathering, a stark reversal from the previous five straight months of outflows.

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Treasuries Yield-Bound

Demand this week has been notable. The $2.6 billion SPDR Dow Jones REIT ETF, known by its ticker RWR, took in $82 million on Tuesday, the most in one day since January 2016. The $3 billion Real Estate Select Sector SPDR Fund, or XLRE, saw $122.8 million of inflows on Wednesday, the most since February.

Also at play is a 10-year Treasury yield that’s been range-bound the majority of 2018, lulling investors into a sense of calm. REIT prices bottomed between February and May, around when the 10-year yield was settling in the range of 2.8 percent to 2.9 percent, according to Bloomberg Intelligence analyst Jeffrey Langbaum.

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“REIT investors got confident that this was the level, and that REITs could work with rates at this level,” he said.

Duration Risk

ETF buyers are also taking on duration risk by piling into longer-dated bond funds. Fixed-income funds that hold securities that mature in at least 10 years are on pace for their fourth consecutive month of inflows and the best month since April. The iShares 20+ Year Treasury Bond ETF, known as TLT, took in $1.6 billion last week, the most since September 2017.

It’s “indicative of this almost irrational fear of risk, and the irony is TLT is very risky,” said Mark Hackett, chief of investment research at Nationwide Funds Group. “The way that duration works is if you have a spike in rates, you could lose capital at a pretty high rate.”

Rate-sensitive utilities stocks are also seeing love. Utilities ETFs have only had two months of outflows this year and have taken in more than $80 million so far this month, the most since June, Bloomberg data show. What’s more, not a single utilities-focused ETF has seen net outflows in September, even as the Federal Reserve gears up to raise rates again.

Utilities Rise

The largest ETF tracking the utilities sector, the Utilities Select Sector SPDR Fund, ticker XLU, has gained nearly 15 percent from its February lows even with U.S. 10-year Treasury yields essentially at 3 percent once again.

That move combined with weakness in bank stocks and record short positions from speculators on 10-year Treasuries signals the path of least resistance for yields is lower, according to Matt Maley, an equity strategist at Miller Tabak & Co.

“Long-term interest rates are going to have a very tough time breaking above that key 3 percent level in any significant way,” he wrote in an email. “In fact, we believe all of these developments are telling us that long-term rates will move lower over the intermediate-term.”

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