Is The Rise In The 10-Year Treasury Rate Noise Or Signal?

If your historical perspective is defined the last several months, the recent jump in the benchmark 10-year Treasury rate looks significant. But a longer term view suggests otherwise. That will change if rates continue to rise, but at the moment the backup in yield still looks like one more installment of a long-running trend of fluctuation within a sliding trend.

The 10-year rate has been sliding for several decades, interrupted by periodic jumps that eventually faded. Is this time different? It may be if, as some economists predict, inflation is set to accelerate and effectively end the era of disinflation/deflation that’s endured since the mid-1980s.

The complicating factor is that inflation will accelerate in the immediate future due to so-called base effects. The year-over-year changes in inflation that compare prices today (and for the next several months) vs. the spring of 2020, when the pandemic was raging, will be unusually large. These comparisons say less about hotter inflation vs. reflecting the temporary deflation that prevailed a year ago when the coronavirus first roiled the economy.

The real test is how inflation fares once the base effects wash out of the data. It’s tempting to look at one-month or three-month changes for an early clue, but there’s too much noise in these short periods to use these numbers as a guide. That leaves the more reliable one-year trend. But even here there will probably be more noise than signal until the second half of this year.

Meanwhile, the forecasts are all over the map. For example, David Roche, president of Independent Strategy, sees forces aligning that will drive inflation higher over the next several years. The combination of sharply higher government spending, unleashed pent-up consumer demand, a rebounding economy and other factors will drive the process, he explains.

“My own view is that we will see inflation of probably 3% or 4% by the middle of next year and that is completely inconsistent with, say, US 10-year bond yields being at 1.6%. That yield could easily double, and when it does, then you come to the crunch point that markets are going to experience,” he predicts.

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Disclosures: None.

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