The yield on the 10-year Treasury bill hit 1.35% on Monday, the highest in a year. And it got a lot of attention, because this shift in the bond market is a sign that the rest of the economy is starting to change in a big way.
Investors are basically saying, if you want me to lock my money in a bond for the next 10 years, you’re going to have to sweeten it up. They say this because they see things that could mess up the deal – things that could cost them profits.
“The first thing that leads [interest] initially rates predicted significantly higher levels of inflation, ”said Rick Rieder, investment manager for global fixed income at BlackRock.
Inflation eats away at investment returns. So yields have to rise to compensate for that, and that’s what happened with bonds. Investors foresee a rebound in the economy and believe inflation will accelerate.
Even today, the Federal Reserve has pushed back on that idea, said Win Thin, global head of foreign exchange strategy at Brown Brothers Harriman.
“The main source of underlying inflation comes from the labor market, wages. And we have 10 million unemployed, 20 million who are on unemployment benefits. There is literally no wage pressure right now, ”he said.
But there is still something else that is pushing bond yields up.
“The recent measures are motivated by optimism or growing expectations of further short-term fiscal stimulus,” said Matthew Luzzetti, chief US economist at Deutsche Bank.
So investors think, eh, we’re really going to get a big boost, and maybe that will actually work. Maybe it will work so well that the economy will grow so fast that the Fed may need to step in sooner to eventually cool things down.
“Investors have built up expectations that the Fed will raise rates even more aggressively than before,” Luzzetti said.
Now when bond rates go up quickly like this it can cause minor panics in the stock market because now all of a sudden stocks just aren’t that good. We have seen it in recent days. But if you take a step back, these bond market numbers tell a story about the pace of the recovery.
“Most important has been the realization that the economy is coming back very quickly and the anticipation that the vaccine creates significant capacity for the economy to reopen,” Rieder said.
This is good news for everyone, not just the bond market.
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