This is the biggest risk BlackRock sees in the bond market

The world's largest asset management firm sees a hazard emerging from today's rising interest rate environment — one which could create painful losses for investors.

Michael Fredericks, who manages the BlackRock Multi-Asset Income Fund, is telling investors to protect themselves against holding bonds, particularly shorter-term ones, because as rates increase their values generally decline.

"We're not running a lot of duration. We haven't been. We've been particularly concerned about positioning at the front end of the curve," said Fredericks recently on CNBC's "Futures Now."

He believes the market may have started to bake in a much higher trajectory than what was conveyed during the Federal Reserve's decision on rates last Wednesday. Fredericks also said Fed policy will likely have an out-sized impact on the front end of the curve.

To cope with the risk, Fredericks' is betting against Treasury futures at the two and five year point of the yield curve, while betting on longer-term instruments on the back end. He predicts bond prices, which trade inversely to their yield, will likely be held down by a slower rate of long-term GDP growth.

Currently, the two year Treasury is trading near its highest levels since August 2009, while the five-year treasury is sitting around six year highs. That dynamic spells higher returns for bond investors, but puts upward pressure on borrowing costs.

Fredericks' fund, which is up more than nine percent over the past year, is now betting more on bank loans and collateralized loan obligations (CLOs), citing the strength of recent economic data and investor demand.

BlackRock predicts there's a 50 percent chance that the Fed will raise interest rates again June. That would be the third time since last December.

Fredericks also questioned whether President Trump's election win and rhetoric is responsible for the stock market surge. The Dow Jones Industrial Average has soared by more than 14 percent since then.

"It wouldn't have been my base case that in the middle of March that we wouldn't be talking about fiscal stimulus, we wouldn't be talking about impending tax cuts, but these have really kind of fallen off the radar," added Fredericks. "I'll assume they will come back to the front burner at some point. But, those really haven't been driving markets higher."

He noted the real culprit behind the rally has been the economic picture, which has been a bright spot.

"We're surprised ourselves on how strong the incoming economic data has been," said Fredericks. "Is this or is this not a Trump rally? I do wonder whether the market is not so focused on 2017 P/E multiples, but looking out a little bit further to 2018 or 2019."

Fredericks isn't just concentrating on the bond market. He also encouraged U.S. investors to look at equities overseas.

"We've come a long way really quickly. The valuations, we do think, are a bit of a headwind. At the margin, we've been taking money out of U.S. equities with a preference towards European stocks," he said.

Contact Futures Now

  • Showtimes

    Watch Futures Now Tuesdays & Thursdays 1p ET exclusively on cnbc.com!

Sponsor Links

  • CME Group brings buyers and sellers together through its CME Globex electronic trading platform and trading facilities in New York and Chicago.

  • Take your trading to the next level with a platform that lets you trade stocks, options, futures and forex all in one place with no platform or data with no trade minimums. Open an account with TD Ameritrade and get up to $600 cash.