US yield curve steepest since 2015 on stimulus hopes

A sell-off in 30-year Treasuries has pushed the US yield curve — which shows the difference between short- and long-term government bond yields — to its steepest level in more than five years.

Investors said the development reflected the prospects of a large additional injection of economic stimulus from the Biden administration, along with the stronger global growth expected as vaccination drives gather pace. 

The difference between the yields on the 30-year Treasury and the shorter-term five-year note reached 147.3 basis points on Thursday, the widest since October 2015.

The gap between benchmark 10-year and two-year Treasury yields, another widely watched portion of the curve, reached its widest point since 2017. 

“This is due to a rise in inflation expectations and the market’s belief that a fairy large fiscal stimulus is on the way,” said Leslie Falconio, senior fixed-income strategist at UBS Global Wealth Management. 

Market measures of inflation expectations have surged since the start of the year, following two run-off elections that tipped control of Congress to the Democratic party and provided President Joe Biden a path to push through a significant relief package.

One metric derived from US inflation-protected government securities — the so-called 10-year break-even rate — has since climbed to 2.18 per cent, its highest level since 2018.

Some investors are sceptical that Mr Biden’s $1.9tn proposal will be passed in full, but the prospects of additional aid — coupled with a Federal Reserve that has pledged to keep policy rates tethered near zero for the foreseeable future — has prompted economists to pencil in higher growth.

“Economic activity is going up and it is already going to be fairly strong,” said Tom Porcelli, chief US economist at RBC Capital Markets. “More stimulus just makes the already strong number stronger.”

Even without another round of stimulus, Mr Porcelli predicts the US economy will expand at least 5 per cent this year. Additional funds and better containment of the coronavirus could lead to a rebound that is “much stronger”, he said. 

Setbacks on vaccines may spoil this outlook, however, and cap the rise in longer-dated Treasury yields at least in the near-term, Subadra Rajappa, head of US rates strategy at Société Générale, warned.

“You need some level of confidence on vaccine dissemination as well as the broader trajectory of herd immunity before [10-year Treasury yields] can break out above 1.2 per cent,” she said. 

The benchmark 10-year yield now hovers at 1.14 per cent, having traded around 0.9 per cent as recently as December. The 30-year has risen to around 1.93 per cent, having been 1.65 per cent at the start of the year.

Ms Falconio said she expects “pockets of pullback”, given how lofty the growth and inflation expectations investors have so far priced in.

“When yields rise like this, the ability to disappoint and have yields come down becomes greater. The curve will continue to steepen, but it won’t be in a straight path,” she said. “Now, it is going to be the ‘show-me’ market.”