BofA says US rates longs have largely exited, with curve positioning shifting bearish and flatter

Overview

This BofA Securities "US Rates Watch" report focuses on positioning, fund flows, and cross-border official capital flows in the US rates market. Its core conclusion is that the previous longs have largely exited across all maturities of the US Treasury curve, shorts now dominate and are mostly in the money, and overall positioning is bearish; meanwhile, higher yields are attracting renewed fixed income inflows, but the money is favoring aggregate bonds, short-duration government bonds, and IG credit rather than long-duration government bonds.

Core views

The report argues that US rates should be traded in a "mildly bearish duration, flattening curve" positioning framework. Although out-of-the-money longs have declined sharply, residual out-of-the-money longs still remain in TU, TY, and WN, keeping an upward bias in rates. CTA shorts are already relatively crowded, especially at the long end, and future behavior will depend on volatility: if futures continue to fall in a low-volatility environment, shorts may continue to increase; if volatility rises, shorts may cover. Active funds remain underweight UST and overweight MBS and IG, and recent outperformance of IG and MBS versus UST reinforces that allocation bias.

Analysis framework

The report combines futures positioning proxies, CTA beta, active fund relative-to-benchmark regressions, CFTC asset manager and non-commercial positioning, fund flows, MoF data, TIC data, Fed custody holdings, and foreign RRP to assess US rates positioning direction, curve bias, inflow structure, and the potential impact of Japan-related official flows on UST.

Methodology notes

• Positioning analysisFutures positioning proxy

  Infer new longs, long liquidation, new shorts, and short covering from open interest and changes in rates direction, weighted by contract duration.

  The report uses this indicator to judge whether out-of-the-money longs have been closed, whether shorts are dominant, and how net positioning changes across maturities. Historically, this indicator is contrarian to duration: when net out-of-the-money positioning is long, rates are more likely to move higher over the following months.

• Systematic strategy analysisCTA beta / CTA momentum

  Measure how crowded systematic positions are using CTA exposure to duration and curve factors.

  The report notes that CTA shorts are stretched and have recently migrated from the front end toward the long end; however, historical testing shows that CTA curve signals do not have a clear predictive power for future rate or curve moves.

• Fund allocation analysisAgg fund PCA and regression

  Use PCA or regression beta of active fund performance versus benchmarks to infer relative allocation to UST, MBS, IG, duration, and the curve.

  The report uses this framework to conclude that active Agg funds are underweight UST, overweight MBS and IG, and relatively neutral on the curve.

• Cross-border flow analysisTracking MoF, TIC, Fed custody, and foreign RRP

  Assess whether JPY intervention triggered UST selling by tracking Japanese investor trades, US custodial holdings, and official-sector cash proxies.

  The report concludes that recent data do not yet show large, sustained official UST sales matching the suspected intervention scale, but if future intervention requires bond sales approaching $100bn, the impact on the UST market could be more meaningful.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• US Treasuries

  The report's core asset, influenced by positioning cleanup, fund inflows, and Japanese capital flows.

  Strengths

  Higher yields are attracting inflows, and recent foreign private bond holdings have risen, indicating some dip buying.

  Weaknesses

  Active funds remain underweight UST, futures positioning is broadly bearish, and residual out-of-the-money longs still leave rates biased higher.

  Comparison

  Compared with MBS and IG, UST have recently been weaker, and active funds are more inclined to overweight spread assets.

  Risks

  If JPY intervention triggers larger UST sales, or if rate-hike expectations continue to rise, UST demand could come under pressure.

• MBS

  One of the overweight targets for active Agg funds.

  Strengths

  MBS have outperformed UST, supporting active fund performance and the overweight bias.

  Weaknesses

  If rate volatility rises or the spread environment weakens, overweight gains may give back.

  Comparison

  More favored by active funds than UST.

  Risks

  Rate volatility, prepayment risk, and spread widening.

• IG credit

  An important destination for fixed income inflows and active fund overweighting.

  Strengths

  IG is one of the areas with the clearest recent inflow and overweight increase, and it has recently outperformed UST.

  Weaknesses

  Credit spread assets are more sensitive to risk appetite.

  Comparison

  More supported by allocation flows than UST.

  Risks

  If macro risk rises or credit spreads widen, IG overweight positions could weigh on performance.

• US fixed income funds

  An important channel for measuring whether higher yields are attracting capital back in.

  Strengths

  Last week's inflows totaled $18bn, significantly above the 12-week average pace.

  Weaknesses

  Inflows are concentrated in Agg, short-duration government bonds, and IG, while long-duration government bonds still see outflows, indicating limited duration appetite.

  Comparison

  Short-duration and aggregate bonds are stronger than long-duration government bonds.

  Risks

  If rates continue to rise or hike expectations increase, long-duration funds may remain under pressure.

• JPY / Japanese investor flows

  A cross-border variable affecting the potential supply and demand balance for UST.

  Strengths

  Current Fed custody and foreign RRP data do not yet show large, sustained official UST selling.

  Weaknesses

  Japanese private investors sold UST in both February and March, and suspected JPY intervention may require the use of reserve assets.

  Comparison

  Observed custody and RRP changes are small relative to the suspected intervention size.

  Risks

  If future intervention requires UST sales approaching $100bn, it could create a significant headwind for the UST market and front-end spread positions.

Key data

• Curve-o-meterDuration 44, Curve 56The dashboard shows duration is slightly short and the curve is slightly flattening-biased.
• Weekly inflows to US fixed income funds$18bnAbout 2 times the 12-week pace, led by Agg, short-duration government bonds, and IG, with outflows from long-duration government bonds.
• UST sales by Japanese private investorsSold $14bn in March, sold $18bn in FebruaryMoF data show banks were the main sellers, while pensions and life insurers also sold.
• Estimated size of suspected JPY interventionAbout $72bn, implying $40-50bn of UST salesThis is BofA JPY strategists' estimate; the report says Fed data have not yet confirmed sustained official selling of a similar scale.
• Change in Fed custody holdingsDown $23bn versus the prior week as of the week ending May 13, and down $10bn versus the week before the potential interventionThe magnitude of the move is well below the potential intervention size, and foreign RRP was broadly stable.
• Japanese MoF deposits at other central banks and in the Fed foreign repo pool$162bnThe report believes the vast majority may be in the Fed foreign repo pool.
• Higher potential shock thresholdUST sales approaching $100bnThe report argues that if further JPY intervention requires this scale of sales, it could have a more pronounced impact on the UST market.

Impact & implications

For investors, the implication is that the main risk in the US Treasury market is not just a technical rebound after long liquidation, but also the tension among residual out-of-the-money longs, crowded shorts, renewed short-duration inflows, and Japanese official flows. Higher yields are bringing in capital, but the preferred positioning remains defensive and short duration; if volatility rises, crowded CTA shorts may cover, whereas continued rate upside in a low-volatility environment could lead shorts to expand further. On the cross-border side, current evidence is insufficient to prove that JPY intervention has caused large-scale UST selling, but if the intervention size expands further, it could become a headwind for UST demand and front-end spread positions.

Risks

• CTA shorts are already crowded, and rising volatility could trigger short covering and a reversal in rate direction.
• Residual out-of-the-money longs may continue to be forced out as rates rise, amplifying selling pressure.
• A renewed Fed hike expectation entering market pricing could continue to suppress duration demand.
• If further JPY intervention requires selling UST, overseas official demand may weaken.
• Active funds are concentrated overweight MBS and IG, so performance could suffer if spread assets pull back.
• Long-duration government bond funds continue to see outflows, showing that maturity preference remains fragile.

What to watch

• US Treasury futures open interest and rate changes over the next few weeks to judge whether new shorts continue to build or whether shorts cover.
• Changes in volatility, because whether CTA shorts continue largely depends on volatility.
• The duration structure of US FI fund flows, especially whether long-duration government bonds turn from outflow to inflow.
• TIC data for confirmation of the regional sources of March overseas UST selling.
• Whether Fed custody holdings and foreign RRP show a sustained decline matching the scale of JPY intervention.
• Whether MBS and IG continue to outperform UST and support active fund overweighting.
• Front-end swap spreads, because the report says they can be used to cross-check whether official UST selling is impacting the market.