Tighter monetary policy and inflation threat push 10-year yield above 1.6% for the first time since June
While abrupt, the increase was long awaited by those on Wall Street who argued over the summer that yields should be lower. Investors pay attention to Treasury yields partly because they serve as a benchmark for interest rates in the economy. They are also an important economic gauge, reflecting expectations for the level of interest rates set by the Fed which are themselves determined by growth and inflation forecasts.
Some of the rally that dragged the 10-year yield from its recent high of 1.749% in March reflects lower growth expectations. But most purchases that strike analysts as either tactical or opportunistic are bound to end in decline as trading activity picks up and the Fed moves closer to the first step in toughening policy: its $120 billion monthly bond-buying. The act of rolling back the program.
In line with expectations, the Fed indicated strongly at its September meeting that it could begin reducing its bond purchases as early as November. Officials also indicated that they may raise short-term interest rates from their current levels of near zero as soon as next year.
In the weeks that followed, investors responded by selling all manner of Treasuries, causing ripples in the markets, including gains in the dollar and declines in tech stocks.
Yields have risen on short-term bonds, which are particularly sensitive to the outlook for Fed-set rates. But they’ve also moved on to longer-term bonds, leading investors to think the Fed will be able to raise rates even after its initial move.
According to analysts, other factors helped fuel the sell-off. The drop in new Covid-19 cases has raised hopes that more workers may soon return to their offices to boost the economy. An agreement in Congress to raise the US debt limit in December shrugged off a near-term economic threat. Meanwhile, dwindling supplies, rising energy prices and strong consumer spending have raised inflation expectations.
Tapering is likely a big reason why yields have risen, but another is inflation, which “may have some leg up on it,” said Larry Milstein, head of government and agency trading at RW Pressprecht & Co.
Friday’s jobs data did little to replace these calculations. Before the report, some analysts thought the Fed might reconsider its tapering timeline if the economy added less than 200,000 jobs in September. Actual job benefits, it turns out, fell short of that limit. But the upward revision in earlier months still gave traders confidence that the Fed would stick to its plans.
Many investors and analysts expect the Treasury yield to continue rising from here. Some have long predicted that the 10-year yield would end the year at 2%, sticking with that forecast, even though it fell to 1.173% in August.
Others, however, caution that investors may be underestimating the economic risks going forward, including the possibility that rising energy costs and supply constraints begin to weigh on growth.
“Look at the trends over the past two months, and perhaps the 2022 markets outlook makes sense,” Jim Vogel, interest rate strategist at FHN Financial, wrote in a Friday note to clients. “Look ahead over the next four months, and the prospects for sustained GDP recovery are already beginning to dwindle.”
Write to Sam Goldfarb at [email protected]