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BlackRock downgrades US Treasurys in anticipation of Democratic win

Asset manager BlackRock downgraded U.S. Treasurys in anticipation of a "blue wave" in the Nov. 3 U.S. election that could result in more federal spending and inflationary pressure.

"Markets are increasingly reflecting a unified Democratic government outcome that may lead to a significant fiscal expansion," Mike Pyle, BlackRock’s global chief investment strategist, and his team wrote in an Oct. 26 note. "This electoral outcome would bring forward the market pricing of the higher inflation regime that we were already reflecting in our strategic asset views."

BlackRock now has an underweight rating on nominal U.S. Treasurys and is overweight Treasury inflation-protected securities.

Pyle with BlackRock said he expects fiscal stimulus measures pushed by a Democratic Congress, if they are victorious in next week's election, to put upward pressure on Treasury yields, but any move up would be limited by the Federal Reserve.

"We already expected rising inflation over the next few years, as production costs rise and the Fed has pledged to allow inflation overshoots and let the labor market run hot," Pyle wrote. "The monetary-fiscal policy revolution may also place greater political constraints on the Fed's ability to lean against inflation. We see the prospects of a unified Democratic government accelerating the market pricing of these dynamics."

On Oct. 22, long-dated U.S. Treasury yields settled at their highest levels since early June, and the spread between the 2-year and 10-year note was its widest since February 2018.

Those longer yields fell Oct. 26. Ten-year Treasury yields settled at 0.81%, down 4 basis points from Oct. 23, while 30-year yields dipped five points to 1.59%. Those yields are down 99 basis points and 70 basis points, respectively, from a year ago.

Equities on Oct. 26 fell "as virus anxiety runs wild," said Edward Moya, senior market analyst with OANDA.

"Europe's second wave is accelerating and unleashing a new round of restrictions, while the US is poised to see record hospitalizations," Moya said.

The S&P 500 fell 1.86% to 3,400.97 on Oct. 26, its biggest one-day drop since Sept. 23, when it dipped more than 2.37%.

"The vicious increase in coronavirus infections and virus-related lockdowns have added to concerns over the lack of progress on U.S. fiscal stimulus as well as election uncertainty," Fawad Razaqzada, a market analyst with ThinkMarkets, wrote in an Oct. 26 note. "Investors have been forced to scale back their optimistic recovery projections that they had been pricing in since the initial lockdowns back in March as they realize the road to recovery will be bumpier and longer than initially thought."