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As supply increases, inflation persists, and neutral interest rates rise, the appeal of US Treasuries as a portfolio hedging tool is diminishing, according to the top executive of Citi Group's Australian business.
Mark Woodruff, CEO of Citi Australia, said that a 10-year US Treasury yield at 5% typically constitutes an ideal hedge against equity allocations, but the current market environment of rising consumer prices and interest rates has weakened demand.
"Demand for hedging products has increased somewhat, but the situation has been slightly different in this cycle," Woodruff said Tuesday in an interview on the sidelines of Citi's Australia and New Zealand Investment Conference in Sydney.
"There are still some issues in the bond market that need to be worked through. We are facing increasing supply, rising neutral rates — these pressures in themselves make bonds less easy to serve as a hedge than in previous cycles," Woodruff said.
These remarks reflect a shifting market view on the role of safer sovereign bonds such as US Treasuries in portfolios. In previous years, rising stock-bond correlation prompted some investors to turn to other investments, including hedge fund exposure, credit, and commodities.
In September, during a brutal global bond selloff, the US 10-year Treasury yield hit its highest level since 2007, partly due to higher energy costs driving up inflation.
"Central banks around the world are facing higher neutral rates. Inflation has been quite stubborn, and what we need to ensure is that inflation expectations are not entrenched," he said.
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