The dramatic rise of the 10 year Treasury yield above 4% in recent weeks likely marks a peak level for the benchmark rate in this cycle, according to Patrick Saner, head macro strategy at insurance giant Swiss Re.
Saner thinks the jump in long-term yields isn’t a cause for alarm due to a “looming bond crisis,” such as a deluge of coming U.S. Treasury supply this quarter or issues around creditworthiness after Fitch Ratings cut America’s credit rating to AA+ from AAA.
Instead, his team at the 160-year-old Swiss Re thinks higher yields have been driven by inflation, specifically, its slow retreat and the U.S. economy’s resilience despite the Federal Reserve’s historic pace of rate hikes.
“Our analysis shows that deficits, the amount of government bond supply and country-specific monetary policy choices have not mattered much for US 10-year yields BX:TMUBMUSD10Y, at least for now,” Saner wrote in a Wednesday client note.
“What appears to have driven 10-year yields most is the market pricing in a higher ‘neutral’ nominal policy rate across advanced economies.”
Markets are implying a higher “neutral rate,” or the level in which monetary policy isn’t viewed as stimulating or restricting the economy.
Bloomberg, Macrobond, Swiss Re Institute
The yields on the 10-year Treasury matters to the economy because it is a key benchmark used to price trillions of dollars in debt, from landlords seeking property loans to the government and major corporations looking to borrow to help fund their operations.
A “neutral” U.S. rate would be where the Fed’s short-term policy rate isn’t too restrictive or accommodative for the economy, essentially a “guidepost” of monetary policy that since 1974 had been moving lower from 4%, according to the Brookings Institution.
Swiss Re is forecasting a 10-year Treasury yield of 3.6% for the end of 2023 and a 3.2% rate for 2024. The 10-year Treasury yield BX:TMUBMUSD10Y was pegged at 4.25% on Wednesday, near its highest levels since 2008, according to Dow Jones Market Data.
Saner’s team thinks further upside for the 10-year yield likely is capped because much of the Fed’s monetary policy tightening already has occurred and U.S. economic growth is likely to slow in the second half of the year.
However, if wages and core inflation see a sustained uptick and the economy revs up, he thinks it could lead to higher interest rates.
Stocks were mixed Wednesday as investors digested minutes of the Fed’s July meeting, where central bankers opted to hold rates steady in a range of 5.25%-5.5%, the highest level in 22 years.
Read: Fed minutes show ‘most’ officials continue to worry about ‘significant upside inflation risks’
The Dow Jones Industrial Average DJIA was up 0.1%, the S&P 500 index SPX was off 0.1% and the Nasdaq Composite Index COMP was 0.3% lower, according to FactSet, at last check.
See: How higher-for-longer U.S. rates are unfolding as investors fret over rising yields