By One of the biggest factors behind the surge in U.S. Treasury yields this week is difficult to measure precisely. However, the Federal Reserve Bank of New York has made an attempt to quantify it.
According to estimates from the regional Fed bank, the “term premium” on 10-year Treasurys has climbed back above zero for the first time in nearly two years. The term premium represents the additional compensation that investors demand for holding this security due to uncertainties surrounding it. Although it currently remains lower than the levels seen between 2009 and 2014, this suggests that there is still room for the term premium to rise. Will Compernolle, a macro strategist at FHN Financial in New York, believes that achieving a 10-year yield of 5% would be relatively easy to accomplish given the current circumstances.
The Shift in Certainty
Compernolle explains that the term premium was negative from 2017 to 2021 due to the high level of certainty regarding inflation and the federal funds rate. However, the situation has changed, and uncertainties have emerged regarding how long the Fed will pause once it reaches its terminal rate and where inflation will stabilize.
Rising yields: The Impact and Causes
Since the Federal Reserve’s policy announcement on September 20, long-dated Treasury yields have been reaching multi-year highs. The central bank reaffirmed its “higher-for-longer” stance on interest rates during this announcement, which has added to the upward pressure on yields. Furthermore, risks of inflation stemming from oil prices and increased Treasury issuance to address the U.S. fiscal deficit are contributing factors to the recent selloffs in the U.S. government-debt market, which currently stands at approximately $25 trillion.
As a result of these developments, the 10-year and 30-year yields ended Tuesday’s session at 4.801% and 4.936%, respectively. These are the highest closing levels observed since August-September of 2007.
Wednesday’s Trading Session: A Breather in the Selloff
Wednesday’s trading session provided a much-needed break from this week’s selloff in the market. The yields on the 10- and 30-year bonds dropped to as low as 4.69% and 4.85%, respectively, following the release of data showing that U.S. private-sector employment only rose by 89,000 in September. However, it’s important to note that the ADP report, which is not a reliable predictor of the official jobs report due on Friday, caused these wide swings in the market. This indicates a lack of confidence and aimlessness in trading activities, and investors are now searching for a new anchor.
Yields and Stock Indexes
In New York’s morning trading session, yields on all bonds except for the 1-, 2-, and 6-month T-bills were lower. The 1-year yield (BX:TMUBMUSD01Y) experienced a decline, fueled by increasing expectations of no action from the Federal Reserve in November and December. On the other hand, the major U.S. stock indexes (DJIA SPX COMP) showed mixed results.
Investor Sentiment and Congressional Dysfunction
Despite some buyers stepping in on Wednesday, many investors are still hesitant to enter the market amidst the ongoing selloff. As the saying goes, “An object in motion stays in motion,” and it seems that no one wants to take a position before the market stabilizes.
The recent dysfunction in Congress, exacerbated by the removal of House Speaker Kevin McCarthy, is also contributing to higher yields. When there is uncertainty about the government’s ability to remain open or meet its financial obligations, investors demand higher concessions when purchasing securities. Consequently, this creates further upward pressure on yields.
The Potential for a Higher Term Premium
In this current environment, an increase in the term premium, which represents the added uncertainty in the market, could make Treasury bonds more attractive as a safe haven. The lack of certainty about future events makes investors seek refuge in the stability of Treasurys. Therefore, it’s plausible that the higher term premium will restore the allure of Treasurys as a safe investment option.
Ultimately, the market remains unpredictable, and investors are closely watching for any signs that could shape their future strategies.
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