Citigroup expects the yield curve to "sharply" steepen and recommends shorting longer-term U.S. Treasuries
Citigroup strategists advise investors to short long-term U.S. Treasuries, citing that the risks of the U.S. fiscal bill are considered "expensive." They expect the yield curve to steepen significantly and recommend preparing for an expansion of the spread between 5-year and 30-year Treasuries through six-month forward contracts. The strategists predict that by 2034, the average U.S. budget deficit will reach 6% to 7% of GDP, and the ratio of public debt to GDP will increase to 118%
According to the Zhitong Finance APP, Citigroup strategists recommend betting on the poor performance of long-term U.S. Treasuries, citing the risks of what they call an "expensive" U.S. fiscal bill. Led by Dirk Willer, the strategists suggest that investors prepare for an expansion of the spread between 5-year and 30-year U.S. Treasury bonds through six-month forward contracts, with a target for interest rates raised from the current 40 basis points to 90 basis points.
In a report dated May 8, these strategists wrote: "We are shifting from tariffs to fiscal narratives, as President Trump has been focused on writing tax cuts into the books." They noted that the risk is that "the U.S. Treasury yield curve will steepen significantly again."
This weekend, Republican lawmakers are set to engage in difficult negotiations over their proposed large-scale tax reform bill. Major committees hope to advance the bill early next week. U.S. Treasury Secretary Scott Pruitt is pushing for the Republican-led Congress to complete the bill by July 4.
The strategists wrote: "Given the desire not to let low-income Americans bear the cost of the trade war, we believe there will be relatively aggressive attempts at tax cuts. This could be fiscally concerning, as the budget deficit will not only be large but may also rely on aggressive economic growth forecasts, aggressive cost-cutting estimates, and aggressive tariff revenues."
Citigroup expects that by 2034, the average U.S. budget deficit will reach 6% to 7% of GDP, and the ratio of public debt to GDP will increase by 20% to 118%. This calculation is based on an average nominal economic growth rate of 3.8% and $750 billion in spending cuts (partly offset by $260 billion in tariff revenues).
The strategists predict that for every one percentage point increase in the debt supply as a share of GDP, the yield on 10-year U.S. Treasuries could rise by as much as 20 basis points. However, they noted that the calculations are "highly unstable."
