US: 10-year nominal Treasury rates to rebound toward 1.75% in Q3 – Morgan Stanley

Rising yields and a steepening curve – the closely watched gap between short- and long-term rates – generally reflect optimism about growth, while falling yields and a flattening curve typically foreshadow a slowdown ahead. Treasury yields have fallen recently, but investors concerned about slowing economic growth may be overlooking other key factors at play in government bond markets, according to Lisa Shalett, Chief Investment Officer, Wealth Management at Morgan Stanley reports.

Why are Treasury yields falling?

“Treasuries have become disconnected from fundamental market conditions due to extreme technical factors that are keeping rates low. These include: Central-bank bond-buying. Slower issuance. Non-US bond-buying. Pension-fund rebalancing.”

“Recent investor behavior in response to falling yields could pose risks. Perhaps misinterpreting the temporary drivers of low rates, investors have recently pumped up valuations of secular growth stocks, especially in technology sectors that account for a growing percentage of major indexes like the S&P 500.”

“Investors should watch for 10-year nominal Treasury rates to rebound toward 1.75% in this third quarter. Rather than chase tech stocks higher, we urge investors to focus on stock-picking, emphasizing earning fundamentals and free cash flow. The financial sector, in particular, stands out as a quality and value-oriented hedge against rising rates.”