Treasuries in a “steep fall”?

Associated Press reports this morning that “Treasurys [sic] bonds are in a steep fall,” as “Investors expect the tax-cut deal to boost economic growth but also widen the budget deficit.” This idea, which is definitely the prevailing meme at the moment, deserves closer scrutiny.

Here’s a 5 year chart of the yield on the 30 year US Treasury bond. When the yield is rising, that means the price is falling, and vice versa:

The yield is still below where it was in the first quarter of 2010, and well below the highs of 2006 and 2007.

It will be interesting to look at traders’ current activities in the futures market when the data becomes available.  If this “selloff” is anything like the 1Q2010’s, large speculators could be pushing yields temporarily higher.  In our view, that’s a potentially risky trade if the first quarter’s experience–not to mention the past twenty years’ experience in Japan–is any indication.  While the proposed components of the tax cut compromise are positives at the margin, its effects on the real economy will not be sufficient or lasting enough to push real interest rates or economic growth much higher. 

As for inflation fears? Fuggedaboudit.  Commodity markets, apart from some actual temporary shortages, are giving a head fake, as low interest rates, increasing investor demand, and leveraged Ponzi speculation create artificial scarcities. Even if some projected supply constraints in 2011 turn out to be valid, in the longer term, we’re entering a right-shoulder-level future, in which we think that current nominal yields on Treasuries will look pretty healthy ex-post.

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