An interesting chart from the IMF showing the components of the 10-year Treasury yield. Note how oxymoronic credit risk (in pink) crept into the “risk-free” 10-year rate starting around the collapse of Bear Sterns. The IMF opines on what has driven yields from their 2.33 percent October low,
In sum, this analysis suggests that fiscal concerns
do not appear to have led to a higher cost of
funding during the most recent run-up in nominal
bond yields. Rather, improving growth prospects
and higher term premia are the main factors pressuring
long-term rates higher. Furthermore, QE2
does not appear to have contained long-term rates.
While the anticipation of QE2 initially led to a
sharp compression in term premia, that impact was
either fleeting or has been more than offset by other
It’s an interesting exercise and just imagine where rates would be had not the FED effectively funded over 60 percent of the Q4 deficit. We believe Treasury yields are now one of the most distorted prices in the world. Except for the massive flight to quality during the financial collapse, foreign central bank recycling of BoP surpluses and now the Fed have been the marginal buyer of Treasuries (maybe not all 10-years) since mid-last decade. In fact, the Fed and foreign buyers effectively purchased the entire stock of new Treasury issuance in Q4.
Alan Greenspan even blamed foreign central banks for distorting interest rates and contributing to the housing bubble. Newsweek writes,
From early 2001 to June 2003, the Fed cut the overnight fed-funds rate from 6.5 percent to 1 percent. The idea was to prevent a brutal recession following the “tech bubble”—a policy Greenspan still supports. The trouble arose when the Fed started raising the funds rate in mid-2004 and mortgage rates didn’t follow as they usually did. What unexpectedly kept rates down, Greenspan says, were huge flows of foreign money, generated partially by trade surpluses, into U.S. bonds and mortgages.
So you think the distortion of the most important component of the credit allocation mechanism has anything to do with the credit crisis, the enabling of $1.5 TN budget deficits, and now why the private sector is hesitant to make long-term mortgages? We certainly do and look forward to seeing this chart updated
after if the Cen Banks stop buying Treasuries.
Could it also be why the President is finally getting religion on the country’s fiscal position? We’re not certain where this all ends up, but it is certainly going to get very interesting. Stay tuned.
(click here if chart is not observable)
I agree with your opinion regarding price distortion over the last year or two. But, it’s also interesting to note the secular decline in real yields over the last decade (with the inflation premium remaining roughly constant). I believe this reflects a declining real return on capital investment (caused by shifts in both the demand [down] and supply [up] of capital; the prior a function of investment opportunites, the latter a function of global demographics). It seems like a phenomenon that will impact returns in the physical and capital markets for years to come, and reflects a downshift in real and nominal global GDP going forward.
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can you please provide the link to the paper where this came from?
It’s on page 57 of the April 2011 Global Financial Stability Report:
Click to access text.pdf
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Its interesting to note that despite the relatively low yields of the 10 year note rate, residential mortgage rates, and number of transactions are still down. This is in large part to the tightening of credit markets and lending criteria. In addition the regulatory environment and uncertainty in navigating all the new laws have hampered loan orginations. Unfortunately this has a direct correlation and negative effect on the housing recovery. All the inventory and lower prices are almost irrelevant when it is difficult to get approved for financing.
can you find (non-credit) term premium, credit risk premium, and inflation compensation REAL TIME in Bloomberg Terminal or anywhere else?
Woojin, I am not certain, but don’t think so. You may try and construct your own. Thanks for your comments.
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Very interesting,thank you
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