The bond market revolt

The rise in Treasury yields accelerated over the past week, with 10-year Treasuries closing at 1.54% on Thursday and 10-year TIPS at -0.60.

10-Year TIPS & Treasury Yields

A sharp fall in daily new COVID-19 cases has fueled optimism about a rapid re-opening of the US economy.

USA: Daily New COVID-19 Cases

As well as fears of higher inflation.

10-Year Breakeven Inflation Rate

What the sell-off means

Investors are selling Treasuries at a faster rate than the Fed (and banks) are buying, out of fear of accelerating capital losses. Fixed coupons have been badly affected, with iShares 20Year+ Treasury Bond ETF (TLT) showing a loss of 13% over the past 6 months. But even inflation-protected bonds have lost value in anticipation of higher real interest rates, with PIMCO’s 15 Year+ TIPS Bond ETF (LTPZ) falling more than 6%.

20 Year+ Treasury Bond ETF (TLT) & 15 Year+ TIPS Bond ETF

The Fed response

The Fed is likely to respond by weighting purchases towards longer maturities. The 10-year Treasury yield has already started to anticipate this, falling to 1.39% by Friday’s close.

10-Year Treasury Yields

Source: CNBC

The result is a 16 bps fall in the real 10-year yield, to -0.76% on Friday (1.39-2.15).

Conclusion

Fed purchases are expected to suppress long-term Treasury yields over the next few months, with inflation breakeven rates continuing their upward trend, while real yields remain negative.