The yield on 10-year Treasury bonds rose above 1.3% four times on Wednesday before closing just below 1.28%. The securities continued to trade in that range on Thursday. This comes despite the Federal Reserve’s efforts to suppress the cost of borrowing.
Fixed-income investors are clearly pricing in a general reflation of the economy this year that will produce growth rates not observed since the late 1990s.
We expect a growth rate of 6.1% this year — an upward revision from 5.4% — and the yield on the 10-year U.S. Treasury to reach 1.5% in the near term.
This not an isolated event. Bond and equity markets in the U.K. and Canada are also responding to the prospect of a vaccine-induced revival of consumer demand as their central banks continue to add to their balance sheets.
And this is not the first time that 10-year yields have gone up while the Fed was accumulating long-term securities. The taper tantrum of June 2013 was the most recent example of investors reacting to possible changes in policy because of improved growth.
Nevertheless, the Fed is likely to continue its weekly asset purchases, if only because lower interest rates are needed to finance the cost of cleaning up after the pandemic. The Fed currently purchases $120 billion in assets per month — $80 billion in Treasury bonds and $40 billion in mortgage-backed securities. One could anticipate increased purchases should the circumstances require or if the Fed thinks that the market is getting out ahead of itself.
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