Uncertainty remains in the Federal Reserve's policy path, mid-term U.S. Treasuries are favored by traders

According to the Zhitong Finance APP, bond fund managers at BlackRock, PGIM (Prudential Investment Management), and other Wall Street institutions are sticking to trading strategies that may continue to profit even if the Federal Reserve's policy path deviates again due to economic surprises.

The preparation phase before the Fed's first interest rate cut in nine months has driven the U.S. Treasury market to record its largest annual gain since the pandemic forced the Fed to lower loan rates to near zero, providing substantial returns for market participants. However, when Fed Chairman Jerome Powell finally announced the long-awaited rate cut last Wednesday, he emphasized the need to balance the risks of a crack in the labor market with rising inflation risks.

This further reinforced market confidence in a viable strategy: buying intermediate-term Treasuries. This strategy can provide interest payments and is less affected by price volatility caused by rapid reversals in economic outlook.

Christian Hoffmann, a portfolio manager at Thornburg Investment Management, stated, "In the long run, the economy is likely to weaken, and interest rates will probably be lower." However, he added that uncertainty remains, as "it is becoming increasingly difficult to infer the Fed's response from data trends."

In recent months, as U.S. companies prepared to cope with the impact of the trade war initiated by President Trump, hiring has slowed sharply, supporting the Fed's decision to cut rates again. At the same time, other parts of the U.S. economy remain robust, and the Trump administration's tariff policies may reignite inflation, which is currently stubbornly above the Fed's 2% target.

At the press conference following last Wednesday's interest rate decision, Powell referred to the 25 basis point rate cut as a "risk management cut" and stated that policymakers would make decisions "meeting by meeting," although their forecasts indicate that there may be two more cuts this year. Powell's remarks dampened some market expectations and pushed up yields on bonds of various maturities, as some investors had expected the Fed to initiate a more aggressive rate-cutting cycle.

Russell Brownback, Deputy Chief Investment Officer of Global Fixed Income at BlackRock, stated that market dynamics favor focusing on the so-called "mid-point of the yield curve," which is approximately 5-year Treasuries. This segment of bonds has been one of the best-performing ranges this year, with the Bloomberg 5-7 Year U.S. Treasury Index returning about 7%, higher than the overall market's 5.4% increase.

Greg Peters, Co-Chief Investment Officer of PGIM's Fixed Income Division, expressed a similar view. He pointed out that the fixed interest payment levels of these bonds are high enough to profit through leverage, known as "positive spread." At the same time, as the maturity date approaches, they can also bring capital appreciation, "positive spread and rolling yield: this is the dream of bond investors." This strategy can, to some extent, buffer the risks of inflation surges or stronger-than-expected economic data, which could force the Federal Reserve to change its policy path. The latest interest rate forecasts from the Federal Reserve have shown significant divergence in opinions.

Overall, forecasts indicate that the Federal Reserve is expected to cut rates by 25 basis points in each of the next two meetings in 2025, and by 25 basis points in 2026 and 2027, which is lower than the pricing in the futures market. Against this backdrop, some investors have begun to close out trades established in anticipation of rate cuts, such as the strategy team at Natixis SA in France, which ended its bullish recommendation on two-year U.S. Treasury bonds last Thursday.

Andrew Szczurowski, a portfolio manager at Morgan Stanley Investment Management, stated that the current market pricing may be more accurate than the Federal Reserve's forecasts. He believes that the Federal Reserve tends to protect the labor market and will continue to lower borrowing costs, thereby providing room for the bond market to maintain its upward trend.

The Eaton Vance Strategic Income Fund, managed by Andrew Szczurowski, has achieved a return of 9.5% this year, outperforming 98% of its peers. He stated, "You have indeed missed part of the market, but there is still upside potential." "This is a market suitable for selective bonds."