19 Feb 2020
With ultra-low bond yields and corporate spreads, could US Treasury yields hit zero? This was the question one client asked Stephen Snowden at a recent Artemis event.
My view about the rate environment we’ll be facing was brought into even tighter focus at a recent Artemis event. A client asked whether I thought US 10-year Treasury yields could hit zero. That put me on the spot. Although Europe and, to a lesser extent, Japan have already trodden this path I don’t want to be the bond manager who proclaims Treasury yields will continue to trend down all the way to zero.
But it did make me reinforce my central view about the overall direction of yields. In my answer, I said that yields were more likely to hit zero than to get back up to 3%. That, in itself, is a punchy statement when you consider recent history but not when you look at the wider trend.
To be fair, it wasn’t that long ago that 10-years were at 3%. At the start of 2019, the Federal Reserve (Fed) had been on a tightening spree and guidance was to expect further rate rises. But those rate rises seem almost quixotic in the cold light of the Fed’s own inflation target, let alone the rhetoric coming from the Oval Office.
The yield curve flattened dramatically over 2019, in what could be described as a return to trend. And although 10-year Treasuries had drifted back up towards 2% at the end of 2019, a scenario in which they hit 3% still seems far off.
It could be argued that quantitative easing (in all its forms), plus the dramatic increase in fiscal spending since Donald Trump took the presidency are a classic recipe for longer-dated Treasury yields rising. But a counter-argument is that these taps have been on for some time, employment and consumer sentiment are healthy and the economy is ticking along – yet we haven’t seen any signs of inflation stirring.
Add to that the Fed’s loosening of its inflation targeting and the case for steepening is pushed out – probably beyond the next presidential election.
But back to 10-year Treasuries. These returned to a tightening pattern at the start of 2020, albeit driven by risk aversion. In the band between zero and 3%, it’s more difficult to see them reaching the upper range from here. Spreads continue to tighten across a range of maturities.