Rates: Escape Velocity

Ben Bernanke coined the phrase "escape velocity" in 2010, essentially saying that there needed to be plenty of oomph to growth, so the gravitational forces of deflation were left behind. Although an aspiration at the time, two years later, the Fed was discussing how best to taper bonds. The metaphor is quite apt again, for both the economy and the bond market.

Source: Former Federal Reserve Chairman Ben Bernanke

The big driver here goes beyond reflation to an inflation spurt

It was only a month ago that the US 10-year threatened to break below 1%. Crucially it didn't, and indeed at the time, we noted that, if it did, it would not be down for long.

But since then, not only has it held above 1%, but that platform facilitated a leap to 1.5% in the space of just a few weeks. The tail end of that saw a 15 basis points rise in yield in intra-day trading in just a day (that's pretty big, by the way, if you're not a bond guru).

And this move had nothing to do with supply pressure, by the way. It was and still is all about the build of a reflection theme. Moreover, it is a reflation theme with a very significant tint of an inflation spurt, one that may prove to be more persistent than many had thought possible.

Morphing the deflationary tail risk to one of inflation - we like that one

The Federal Reserve has, in a very persistent way, managed to morph the deflation tail risk into an inflation one - a risk they prefer to deal with. Moreover, aiming in that direction ticks other important boxes, such as growth and implied employment objectives. For bonds, though, this is a dangerous game, as inflation is a bond investor's worst enemy.

In fact, inflation is a significant risk for any security that pays the holder a set fixed amount with regularity into the future; inflation just eats away the value of that in real terms. Hence the rise in yields as compensation for higher inflation expectations. As we face a growth and inflation combination of at least 6% and 3%, respectively, it should be no surprise for us to be looking for 2% as the next big level to aim for on the US 10yr Treasury yield.

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