US Bond Market Week In Review: The Bond Market Sees Weak Growth
This week’s column will focus exclusively on various yields and segments of the treasury market for one reason: the bond market does not think the economy will grow meaningfully in the foreseeable future.
Let’s start by comparing the yield curve on January 4 with that of Friday’s close:
The following maturities have declined by the following amount of basis points: 2-year: 28; 5-year: 48; 7-year: 48; 10-year: 38 and 30-year: 30.These data points, in and of themselves, are concerning.Part of the rise is the safety bid. But bonds rally when traders see little growth. And, given the weak initial 3Q GDP read, there is plenty of support for that thesis.
Interestingly, the 30-2 spread has moved little during this time:
Instead, the curve flattened ~50 BP in 2H15 and ~35 basis points in 4Q15. Now, the big moves are coming from the belly of the curve: the 10-2 and 5-2 spread:
The 10-2 spread has come in about 60 basis points while the 5-2 spread has declined ~80.
Treasuries rally when growth prospects are weak and inflationary pressures are minimal. Put more concisely, the treasury market thinks the Fed is pretty close to done for now. Maybe they’ll increase rates in 2H16. Maybe.
Disclosure: None
Although the bond market does indeed see weak growth, it is mostly concerned with low inflation. Because inflation and growth USUALLY go hand in hand, there is a common misconception that the bond market prices to growth. In reality it prices for inflation. This is how we saw soaring long-term rates in the late 70s, when the U.S. economy was moribund. This is also why we saw fairly low rates during the past two expansions. When inflation and growth diverge, the long end of the curve has priced to inflation.
This is logical because the very reason investors usually demand higher yields for longer dated bonds is due to the erosion of purchasing power caused by inflation. If we saw 3.0% GDP and 1.0% inflation, long rates would remain fairly low. If we saw 0.0% GDP and 3.5% inflation, long rates would soar. History supports this as well.
Nice article showing that demand for bonds is keeping rates low, with charts to prove a flattening is possibly coming.