Treasury yields not adding up

August 26, 2009

What is going on with U.S. Treasury yields? Can nothing nudge them from their current low-laying perch? Something seems very out of whack, but let’s just agree not to call it a conundrum.

There’s plenty out there that should be ratcheting up interest rates. The U.S. stock market has been on fire, with the S&P 500 still hovering near its best levels since October, the White House is projecting $9 trillion in debt over the next 10 years,  the economy is showing signs of improvement (a bond very unfriendly development), and a flood of new debt is already washing over the U.S. Treasury market

In fact, the U.S. Treasury sold $42 billion of newly minted two-year notes on Tuesday with little trouble and will dump another $39 billion of five-year notes later today. And this after a record quarterly refunding, $75 billion big ones, hit the market just two weeks ago. Just how much supply does it take to convince investors to start charging higher interest rates?

The chart below shows the trajectory of the 10-year Treasury yield. The most recent peak of 3.85% was Aug. 7, before the refunding and before the Fed’s announcement on its Treasury purchase program winding down.  It’s about 40BPs lower now.

us10ychart

Compare this with the S&P 500. It closed at 1010 that day. It’s currently trading at 1031.

sp500chart

This doesn’t look sustainable, but the question is what has to give. The government’s bean counters most likely are hoping it’s stocks since such low yields make swelling budget deficits a little easier to swallow and easier to defend.


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