The US Treasury bond hit a new all-time record low yield today at 1.34%, besting the level of 1.37% on July 8, 2016 in the aftermath of the Brexit vote. New-low yields don’t come around all that often, so let’s dig a little deeper into what’s going on.
#1: While the global economic effects of COVID-19 may have been the proximate cause of this new low, it is important to remember that the downward trend line for US yields has been in place for almost 40 years. Here is the Treasury yield chart from 1962 to yesterday’s close:
Three thoughts on that image:
- If this were a stock price chart, you’d assume it was going to zero. As in 0% (or negative) interest rates, and the comps (Japan, Germany) would support your thesis.
- Trillion-dollar annual deficits (i.e. supply) don’t seem to matter to bond investors. Nor does the fact that the S&P 500 now yields 50 basis points more than 10-years, for that matter.
- The trend to “new all-time lows” started in 2002 and these always come with a specific catalyst: Gulf War II (2002 – 2003), Financial Crisis (2008), Greek Debt Crisis (2012), Brexit (2016) and now COVID-19 (2020). Once the catalyst runs its course, rates do rise again.
Bottom line: new low yields are not like new highs for stocks in that they do not automatically build on themselves over many months or years. Rather, once a new low is in the record books yields tend to hover at/around those levels until whatever threat caused them to decline finally abates.
#2: Today’s new low on yields was NOT caused by new lows in future inflation expectations. Here is the long-term chart for 10-year Treasury Inflation Protected Securities (TIPS) expected future inflation:
What we see here:
- This is all the ammunition any Fed hawk needs to push back against rate cuts this year. 2020 is not (yet) like 2008 or even 2016.
- Since 10-year yields of 1.34% are well below expected future inflation, buying Treasuries here may deliver a negative real return if held to maturity and TIPS spreads are wrong about future inflation.
- Worth remembering: while 10-year Treasuries may have made a new low yield today, 10-year German bunds did not (-0.51% today, low of -0.71% last year).
Bottom line: today’s new low Treasury yields means one thing – investors are fearful of risk assets. That yields are now below expected inflation means the move is not necessarily due to recession concerns since TIPS inflation spreads are not also at new lows.
Summing up: be careful about using today’s new yield low as an example of market concerns about future economic growth. It is more likely a function of risk-off investor behavior combined with longer term trends. The former is likely to be transitory, but the latter is unlikely to end here.