Investors should pile into short-term bonds as markets wake up to the reality that the Fed is going to stay aggressive, BlackRock says

• Investors may want to look to short-term bonds as stocks sell off amid fears of a hawkish Fed, per BlackRock.
• US 2-year treasury yields jumped near 15-year highs this week as equities retreated.

As the Federal Reserve signals a more hawkish policy path ahead and inflation stays hot, BlackRock says short-term bonds may be an attractive option as the year-to-date rally in stocks fizzles.

US 2-year Treasury yield jumped near 15-year highs of 4.9% this week as investors placed bets on more rate hikes by the Fed.

Traders on Friday were digesting January's core Personal Consumption Expenditure (PCE) data, the US central bank's preferred inflation gauge, which came in hotter than expected. Core PCE increased 0.6% from a month earlier, the most since June.

"We think investors are realizing that sticky core inflation may mean the Fed hikes rates further – and holds them there for longer – than markets had expected," Jean Boivin, Head of BlackRock Investment Institute, wrote in a research note this week.

Boivin added: "Fixed income finally offers 'income' after yields surged globally. This has boosted the allure of bonds after investors were starved for yield for years."

Short-term debt allows an investor to preserve capital amid market volatility, the note reads, while investment-grade credit can hold up in a recession as well.

However, BlackRock's Boivin says to steer away from broad exposure to longer-term bonds for now.

"In the old playbook, long-term government bonds would be part of the package as they historically have shielded portfolios from recession. Not this time, we think," Boivin added. "The negative correlation between stock and bond returns has already flipped, meaning they can both go down at the same time."