The benchmark 10-year Treasury touched 4% today. That’s the highest yield since October 31, 2008, according to Treasury data.
It marks a minor milestone, although it’s hardly a surprise, as we discussed in today’s previous post. In the wake of last week’s robust gain for March nonfarm payrolls, the market’s focus has turned to interest rates, exit strategies and the supply and demand trends for government bonds. “The market is acknowledging an economy that’s producing jobs and may be gaining momentum,” Derrick Wulf, portfolio manager with Dwight Asset Management, tells Reuters.
Meantime, today’s auction for inflation-linked Treasuries was reportedly met with strong demand. The implication: the market’s eager to hedge future inflation risk. Nonetheless, the Treasury market’s 10-year inflation forecast (nominal less inflation-linked Treasury yields) remains subdued. Based on today’s closing yields, the market predicts inflation will be an annualized 2.31% for the decade ahead. That’s slightly higher compared with recent weeks, although it’s below levels reached in February.
Speaking of inflation, the San Francisco Fed today advised that a weak housing market hasn’t distorted pricing signals overall. The bank advised today in its Economic Letter that low inflation overall reflects economic weakness. The bank’s report offers additional support for keeping interest rates low, explaining:
Weakness in the housing market has reduced the inflation rate of the housing components of core inflation. Yet, this very substantial decline in the rate of housing inflation has not been isolated. Rather, it is indicative of a much wider decrease in inflationary pressures observed since the peak of the financial crisis. Even if we take housing out of core PCEPI, inflation has come down substantially over the past 1½ years. As a consequence, there is little reason to reduce the emphasis on core inflation as the main gauge of underlying price pressures in the economy. Recent core inflation trends reflect substantial and widespread disinflationary pressures, which, as Liu and Rudebusch (2010) point out, is likely due to a large amount of slack in the economy.
The real question is whether the bond market will accept this explanation. The front line here is the pricing of long rates, over which the Fed has relatively little control. It’s too soon to say if today’s rise over 4% in the 10-year is indicative of a new round of skepticism in the fixed-income market or just statistical noise. But the subject, at least, is now on the table for “discussion.”