For the first time in over four years (since January 2014), the 10-year U.S. Treasury bond yield has topped 3%. This time, though, things are a lot different. What does the recent rise in Treasury yield mean to investors?
First of all, a Treasury yield is the percentage of return on investment on the U.S. government’s debt obligations. As Investopedia explains, it can also be described as the interest rate the government pays to borrow money for a length of time.
Rates do not have a wide dispersion, but any change is considered significant. The 10-year Treasury is an economic indicator; its yield tells investors more than just their return on investment.
The 10-year Treasury bond yield matters because it is used as a proxy for other financial matters, such as mortgage payments, auto loans, and signaling investor confidence. Typically, Treasury yields rise when the price of bonds falls, so an increase in yields is generally seen as a sign of investors moving into the riskier stock market and therefore is a sign of confidence in the economy. But when market confidence is low, prices go up to match increased demand for this relatively “safe” investment.
This week’s happenings, though, might be a different case. This jump in Treasury yields is the result of the Federal Reserve raising rates, rather than something driven by economic confidence.
Investors faced with a measly 2.5% return on Treasuries were forced into the stock market, pushing stocks even higher. Since this increase was prompted by the Federal Reserve’s actions and that rising yields can make bonds more attractive and discourage borrowing and investing, there is some concern that stocks will collapse.
To investors, that’s why the 3% level is significant. This increase means that borrowing costs are on the way up. For Wall Street, it’s a warning that higher interest rates might affect corporate profits and that faster inflation is approaching.
CNN Money reports that the Federal Reserve is expected to increase short-term interest rates at least 5 times in the next two years, in an effort to “tap the breaks”. This action will likely lead to higher rates on more long-term treasuries.
Another warning is that short-term rates have also been rising. The difference in yields between short-term bonds and the 10-year note is narrowing, creating what’s known as a flattening yield curve. If short-term rates move higher than long-term rates, the yield curve is headed toward inversion. This is traditionally a sign of impending recession. But don’t panic yet.
A break of round numbers can be misleading, so it is wise to wait for confirmation of a break before reading too much into a few trades. There will likely be people looking to buy the 10-year note just below the 3% yield (as it indicates the top of a more long-term standing range) as well as looking to sell as a stop loss on a breakout above that level.
Conventionally, traders say that the third attempt at any significant point of support or resistance is more likely to succeed than the second (which is this one), so don’t be surprised if yields are pushed back down; a break just above 3 will attract a lot of buyers, decreasing yields before the breakout is established.
According to the Congressional Budget Office, the U.S. budget deficit is poised to surpass $1 trillion by 2020. Meanwhile, the Federal Reserve is cutting down its balance sheet, meaning the amount of net new debt is set to surge in the coming years.
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