Goldman Sachs has been banging on the short-bond-drum for months now, so it's no surprise they're banging their chest today:
Towards the end of April, we argued that the end of the rally in bond markets was nearing. We first recommended being short 10-year US Treasuries, and subsequently also 5-year German government bonds. After a rough start, both trades performed well. The UST trade reached its target and we recommended taking profit on May 29. As the sharp move higher in yields works its way through other asset classes, the tactical risk-reward has declined. We continue to recommend being short 5-year German BOBL for a 60bp, but raise the trailing stop to 35bp (the trade was opened at 31bp).
Using generic securities, 10-year UST yields have risen from a low of 1.62% on May 1 to around 2.1% currently, while 5-year BOBL have moved from 28bp to about 50bp over the same period. Over the past month total returns on 7-10-year maturity bonds (computed using EFFAS indices) have been -2.7% in the US, and around -2.0% in Germany, taking the corresponding year-to-date total return down to -1.3% and flat respectively. At the 10-year maturity, US government bond yields are now back at the middle of a broad 1.5%-2.5% range in place since the Summer of 2011.
Our bond valuation models (Sudoku and GS Curve) and a separate study of the determinants of US Treasury yields, which explicitly accounts for the impact of the cumulative QEs, Fed policy ‘guidance’, uncertainty and the European crisis (see the next section for more details), indicate that 10-year Treasury yields should currently be trading in the upper half of this range (i.e., between 2.1% and 2.5%), taking into account the decline in systemic risks and the brightening US economic outlook. Our model estimates (and, consistently, our forecasts) show 10-year Treasuries reaching 2.5% in the second half of this year, with German Bunds trading at 1.75%.