What's driving the recent rise
in long-term Treasury yields?

Key takeaways:

• The surge in long-term Treasury yields since the start of monetary policy easing has left many investors perplexed about the direction of interest rates.
• A look at inflation expectations and real yields can help investors understand the factors that are pushing long-term Treasury yields higher.

November 20, 2024 – The 10-year Treasury yield has risen approximately 80 basis points since the Federal Open Market Committee meeting in September when the Fed enacted a bigger-than-usual half percentage-point cut in the Fed funds target rate. This surge has been exceptionally erratic, particularly considering the start of monetary policy easing, leaving many investors unsure about where interest rates will go next. As of this writing, the 10-year Treasury yield hovers above its 200-day moving average.

The recent uptick in yields might reflect a delicate interplay of structural forces, shifting market narratives, and a discordant economic backdrop that continues to inject volatility into the markets. Understanding the forces behind higher long-term yields requires dissecting the components with a significant impact on interest rate movements: inflation expectations and real yields.

The accompanying chart illustrates that the rise in yields is the consequence of multiple factors, not a singular outcome. Specifically, stronger-than-expected economic data, such as the rise in the Citigroup Economic Surprise Index, alongside the potential for sustained productivity. There’s also more uncertainty about rising debt levels and deficit spending, with increased issuance of U.S. government bonds likely to push up term premiums.

Investors have tempered expectations for future Fed rate cuts. Recall that earlier this year, the market was expecting 10 interest rate cuts through 2025. Current expectations call for approximately just three cuts through 2025.

The combined impact of various crosscurrents has driven up real yields and inflation expectations. This also helps explain why equity investors are likely justified in their reproach toward current stock valuations. However, investors may take comfort because the recent rise in yields presents a valuable opportunity to gain high-quality fixed-income investments, particularly for those investors facing re-investment risk because of holding excess cash.